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A joint initiative of Ludwig-Maximilians University’s Center for Economic Studies and the Ifo Institute for Economic Research Bulletin Volume 19 No. 1 January 2009 KEEPING AN EYE ON THE DRAGON China’s economy has been charging ahead like a dragon on steroids since seemingly forever. Now that the world’s economy stumbles, China’s is set to grow by merely 7.4 percent. No wonder that it attracts the attention of economists. One of the best in the field, Yin-Wong Cheung, will examine China’s interactions between capital flight and exchange rate while at CES. (page 7) THE PERSISTENCE OF BORDERS IFO NEWS (p. 4-5) As Marshall McLuhan once predicted, the world has turned into a global village. Or has it? As Nikolaus Wolf points out, location continues to matter, despite the massive decline in the costs of communications and transport. He examines why and how borders keep being so stubborn. (page 8) A VERY SPECIAL MUNICH SEMINAR (p. 2) NEW RESEARCH AREAS (p. 2) FEATURED RESEARCHERS Yin-Wong Cheung (p. 7) Jakob de Haan (p. 6) Karolina Ekholm (p. 8) Christina Gathmann (p. 3) Eric A. Hanushek (p. 2) Michael Hoel (p. 2) Evzen Kocenda (p. 6) Andreas Roider (p. 3) Dirk Schindler (p. 3) Hans-Werner Sinn (p. 2) Nikolaus Wolf (p. 8) Ian Wooton (p. 7) SKILLS TRANSFERABILITY How transferable are skills, in these times of fast-paced technological change? Have they become more or less transferable since the 1970s? These are some of the questions Christina Gathmann will delve into during her stay in Munich. (page 3) READ AND WEEP The various forecasts released by the Ifo Institute for the German, Eurozone and global economy all look grim. But do not despair: its Business Climate Index perked up a bit. (pages 4-5) THE STATE AS ULTIMATE OWNER Now that people can talk about nationalising banks and other companies without getting stoned in the process, it is worth paying attention to the implications. Evzen Kocenda is doing just that. (page 6) THE JOYS OF A SABBATICAL Ian Wooton is using his sabbatical to further pursue his studies of FDI determinants, international trade flows, international tax competition and other such goodies. (page 7) EDUCATIONAL POLICY UNDER UNCERTAINTY The fact that private insurance markets do not offer sufficient insurance againt human capital risk prompts households to over- or underinvest in education, according to research by Dirk Schindler. (page 3) HIGH-LEVEL APPOINTMENT CESifo Research Fellow Karolina Ekholm has been appointed Deputy Governor of Sweden’s Central Bank. (page 8) Online version of this issue available at www.cesifo.de Vol. 19, No. 1 • January 2009 A GUIDED TOUR TO THE CRISIS Sinn That must mean something when the students who flock to an event in order to stage a protest decide to stay for the duration and listen attentively. So it was at the University of Munich’s Grosse Aula, as Hans-Werner Sinn gave a lecture on the causes of the financial crisis and the prospects for the world economy in midDecember. Every staircase and aisle in the aula was crammed, the crowd spilling out onto the surrounding spaces. ties. This is the true cause of the real-estate bubble. a minimising of capital equity.” While limited liability laid the foundation for the establishment of incorporated companies, in the run-up to the crisis it was thoroughly abused by US investment banks. The banks’ shareholders were aware of the fact that a portion of any potential losses would be borne by the creditors and taxpayers, which fostered a gambling mentality that made them take greater risks. But it was not only Wall Street that engaged in the high-risk game: Main Street did as well. Normal homeowners also had the certainty that their liability did not include their salaries or other assets. For this reason they ignored their possible losses and concentrated only on their profit opportuni- Held within the Munich Seminar series, the lecture reviewed the origins of the current financial and economic crisis from a global and a German perspective, dissected the failures of watchdogs, policymakers, bank managers and investors, and delineated measures to avert a recurrence. The main cause, according to Mr Sinn, “is the limited liability of bank shareholders. This led to a generous dividend policy and Mr Sinn called for stricter capital equity requirements and for obliging the German banks to accept the capital offered in the rescue package. “Otherwise there’s no way to prevent a credit crunch”, he asserted. The banks would then have the necessary cushion in order to survive future crises. With an increase in the liability limits, the stockholders will demand more caution from their executive boards. This will result in more cautious business models and in compensation systems that place emphasis on sustainable success of the corporation. Such measures would have to be harmonised internationally in order to prevent what Mr Sinn calls a “laxity competition”, with each country outdoing the next in terms of deregulation. Watch the entire video (in German): www.cesifo-group.de/link/_semmuc/ms-20081215-Sinn.htm The former, co-ordinated by Michael Hoel of the University of Oslo, has the goal of promoting co-operation on theoretical and empirical research on all economic issues related to energy markets, climate change, and climate policy. Concerns about future climate change have increased significantly since the beginning of this century, and are likely to be strong also in the coming decades. The interests of the area’s researchers span a wide range of fields, including the design of climate policies and climate agreements, the promotion of renewable energy, and the functioning of fossil fuel markets. Policy intervention in the functioning of energy markets is often moti- 2 M. Hoel In keeping with the issues that shape our times, the CESifo Economics Research Network has established two new Research Areas: Energy and Climate Economics, and Economics of Education. E. Hanushek NEW RESEARCH AREAS IN CESIFO NETWORK vated by climate concerns, and an important aim of research in this area is to improve our understanding of the climate implications of various policies, both for policies that have climate change as their primary concern and policies with other primary objectives (such as e.g. energy security). The Economics of Education area, coordinated by Eric A. Hanushek, of Stanford University and former member of the CESifo Group Scientific Advisory Council, in addition to intensifying Bulletin research in the field, aims to correct the lack of intersection between the enormous research activity on the economics of education going on in both Europe and the United States by increasing interaction among researchers on both sides of the Atlantic. Both sides stand to gain. While the US has something to show for its world-class universities, countries such as Finland have something to teach the US regarding elementary and highschool education. The other areas in the Network are Employment and Social Protection, coordinated by Kai Konrad, Berlin; Applied Microeconomics, coordinated by Christian Gollier, Toulouse; Macro, Money and International Finance, coordinated by Paul De Grauwe, Leuven; Public Sector Economics, coordinated by Frederick van der Ploeg, Oxford; and Global Economy, coordinated by John Whalley, Western Ontario. Vol. 19, No. 1 • January 2009 EDUCATIONAL POLICY UNDER UNCERTAINTY SKILL TRANSFERABILITY Schindler Gathmann the moral hazard problem in learning effort, caused by skill-specific tax instruments, e.g. a graduate tax. Studying optimal tax and education policies in models with endogenous labor supply and educational investment under uncertainty can be a tricky thing. Dirk Schindler, of the University of Konstanz, points out the consequences of a fiscal externality, which is generated by incomplete insurance markets and self insurance by households. As private insurance markets typically do not offer sufficient insurance against human capital risk, households over- or underinvest in education in order to reduce their exposure to risk. In deriving the optimal education subsidies/taxes, income taxation as social insurance device creates a welfare-relevant tax revenue effect (fiscal externality), an externality that can have surprising effects on optimal tax and subsidy rates. In recent papers, Mr Schindler also shows that improving the quality of education by increasing public spending in the educational sector can provide exante insurance, i.e., a higher probability of success for any household, if the probability for graduating as a skilled worker depends on learning effort and quality of education. At the same time, enhancing educational quality mitigates Another field of interest Mr Schindler will pursue while at CES are taxinduced effects on the capital structure of multinational enterprises. He shows that minority ownership has opposite effects in case of tax avoidance by thin capitalisation via internal debt, i.e. related party debt, compared to standard wisdom in profit-shifting models (transfer pricing). In case of internal debt, a multinational will engage less in tax avoidance if there are minority partners. This is because minority partners benefit in full from tax avoidance by thin capitalisation, but only share part of its costs. A next step is now to analyze the combination of profitshifting by transfer pricing and tax avoidance by relying on internal debt, which creates ambiguous tax effects. Dirk Schindler is assistant professor of public economics at the University of Konstanz, where he also received his doctorate. He is also a member of a research group on profit-shifting in multinational enterprises at the Norwegian School of Economics and Business Administration in Bergen. INDUSTRIAL ECONOMICS EXPERTISE Roider Andreas Roider is full professor at the Department of Economics of the University of Heidelberg, Germany. He received his M.A. in Economics from the University of Bonn in 1998 and his doctorate from the Bonn Graduate School of Economics and the European Doctoral Program (EDP). In June 2003 he completed a PhD thesis on optimal contracting in and between firms. From 2003 until 2008 he was an assistant professor at the Department of Economics of the University of Bonn. He has been a visiting professor at the London School of Economics and Political Science (LSE), and Stanford Graduate School of Business. He is a research affiliate of the Centre for Economic Policy Research (CEPR, London), and an associated member of the Junges Kolleg of the North Rhine-Westphalia Academy of Sciences. His research interests are in the theory of economic incentives, institutional economics, behavioral economics, and experimental economics. Bulletin Skills, as Nobel laureate James Heckman stresses, are key to your job prospects. But how transferable are they, in these times of fast-paced technological change? This is one of the areas Christina Gathmann’s research will focus on while at CES. To go about it, her project first extends the traditional notion of general and specific skills by Becker and Mincer to include partially transferable skills, i.e. skills that are transferable to jobs that require similar tasks. Using this extended concept of human capital, the project then analyses whether skills have become more or less transferable since the late 1970s, based on rich data from Germany. Based on the study, the benefits and costs of technological change in terms of human capital can be calculated, something that has important implications for the design of labour market policy. In her most recent work in public economics, Ms Gathmann studies the effect of a country’s electoral system on public policies. Using newly collected data on Swiss cantons from 1890 and 2000, she shows that the switch from a majoritarian to a proportional system has strong effects on the electoral incentives of candidates and the composition of the legislature. Specifically, she finds that proportional systems tilt spending toward public goods like education and welfare benefits but decrease spending for targeted transfers like agricultural subsidies. However, she finds little evidence that proportional representation increases the size of government. These results have important consequences for electoral reform. They imply, for example, that better political representation in a proportional system does not necessarily come at the price of a larger public sector. Christina Gathmann holds a PhD from the University of Chicago and is currently a Post-Doctoral Fellow at Stanford University. Her research interests are in public economics, labour economics and applied econometrics. 3 Vol. 19, No. 1 • January 2009 IFO NEWS IFO ECONOMIC FORECAST 2009: GERMAN ECONOMY IN RECESSION On December 11 the Ifo Institute presented its economic forecast for the coming two years. The world economy is experiencing a massive downturn and the survey data points to a global recession in 2009. In Germany economic activity has been clearly in decline since the middle of 2008. In the first year half of the year, the economy once again experienced a strong recovery. But since the summer the massive worsening of the world economic environment became increasingly evident. The financial crisis grew much worse in the meantime. A clear decline in value added in Germany was first seen in the third quarter. The operating rate of the economy, however – using the Ifo capacity utilisation rate in manufacturing as a proxy – still stood clearly above its long-term average. The labour market situation has also remained surprinsingly robust, partly as a result of the flexible use of temporary employment and the depletion of overtime accounts. In the meantime, however, job offers have decreased and reports of shorter working hours have increased perceptibly. In the coming year, the business-cycle will point downward. The German economy, which because of its trade orientation had benefited from the strong upswing in the global economy, now is being particularly pulled under by the vortex caused by the financial crisis. As a result, economic output will continue to decline strongly. On average for the year, real GDP – unadjusted and also calendar-adjusted – will decline by 2.2 percent. In the wake of the world recession, exports will be reduced drastically. With declining capacity utilisation, collapsing profit outlooks and restrictive financing conditions, plant and equipment spend- 4 ing will decline sharply. Construction will also slide into negative territory with the exception of public-sector non-residential construction. Private consumption, despite increasing real average wages, will make only little progress due to the clear drop in employment and because the savings rate will remain high in light of the financial turmoil and the crisis in confidence. The inflation rate will average ca. 1% for 2009, and in individual months of the year it will even be noticeably below this mark. Stabilisation is not expected until 2010, with the gradual subsiding of the financial crisis and a slight improvement of the international environment. Because of the underhang, however, real GDP will still fall by ca. 0.2 percent, and calendar-adjusted by ca. 0.3 percent, on average for 2010. Despite all this, the output gap – with a potential rate of 1½ percent – will decline further. Labour demand will deteriorate in the forecast period. In the coming year the number of wage and salary earners will decline by 0.8 percent to ca. 40 million. In the course of 2009 some 540,000 additional people will register as unemployed. This will result in an average unemployment rate of 8.0 percent for the year. In 2010 this will continue so that the average number of unemployed will nearly reach the 4 million mark, which corresponds to a rate of 9.2 percent. CREDIT CONSTRAINTS REMAIN TIGHT The credit constraints for firms in industry and trade in Germany tightened again Bulletin in December and stayed unchanged in January. The trend towards more restrictive bank lending policies is here to stay. In construction, trade and manufacturing, the survey participants assessed bank policies as clearly more restrictive in December than in the previous month, and this did not improve much in January. In manufacturing the extent of the credit constraints is differentiated according to company size: of the larger firms now 44.4 percent complain of restrictive lending policies compared to 35.6 percent of medium-sized and 34.2 percent of small firms. Large firms, traditionally those who had the best access to credit, are now encountering credit constraints more often, evidently because they are particularly reliant on the larger private and state banks, which have been most affected by the financial crisis. Overall, the Credit Constraint Index stood at 39.8. Since spring 2003, in its regular surveys of German businesses in industry and trade, the Ifo Institute has queried companies’ assessments of bank lending policies. The special question on access to credit was added to the Ifo Business Survey because of the acute difficulties of the German banking system at that time and after a comprehensive analysis of the Japanese banking crisis. The monthly Ifo Business Survey, from which the Ifo Business Climate is calculated, is based on ca. 7,000 responses from firms in Germany. The special question on bank lending policies had been asked twice a year up to the August survey but will now be polled monthly. The results will be released monthly at a previously announced date under the name “Credit Constraint Indicator”. Vol. 19, No. 1 • January 2009 IFO WORLD ECONOMIC CLIMATE INDEX FALLS FURTHER The Ifo World Economic Climate worsened further in the fourth quarter of 2008, falling to its lowest level in more than twenty years. The decline is primarily the result of more unfavourable assessments of the current economic situation, but also of a worsening in the expectations for the coming six months. On the whole, the survey data point to a global recession. The cooling of the Ifo World Economic Climate has this time affected not only the major economic regions of North America, Western Europe and Asia but also Central and Eastern Europe, Russia, Latin America and Australia. In the US the current economic situation is regarded as very unfavourable, but the economic expectations for the coming six months are no longer quite so pessimistic as in the first half of the year. In Western Europe the economic climate indicator worsened again in nearly all countries. The assessments of the current situation have been clearly revised downwards. The economic situation is particularly unfavourable in Spain, Italy, Belgium and Ireland, according to WES experts. In Asia the assessments of the current situation as well as the six-month outlook have also been revised downwards. Particularly unfavourable appraisals of the economic situation were given in Japan, South Korea and Taiwan. Inflation expectations have peaked out worldwide. In nearly all regions the WES experts have reduced their inflation expectations for the coming six months. In contrast to the previous survey, a majority of WES experts now anticipate declining central bank interest rates. Long-term interest rates are also expected to fall in the coming six months. After having increased in value in recent months, the US dollar and the Japanese yen are now regarded as hardly overvalued. Thus the overvaluation of the euro has been corrected but according to the WES experts this process has not yet been concluded. Correspondingly they expect that the euro will lose value vis-à-vis the US dollar in the coming six months. CESIFO FORUM: CAUSES AND CONSEQUENCES OF THE FINANCIAL MARKET CRISIS Just two years ago after the real-estate crisis in the US began it has developed into a worldwide economic crisis. Numerous factors are listed as the cause: unethical credit brokers, naive homeowners, badly informed investors, information deficits between traders and banks, conflicts of interests of the rating agencies and much more. This list is followed by another with reform proposals: regulation of the banks and the rating agencies, higher capital reserve requirements, a stronger risk consciousness on the part of the banks, and more appropriate monetary policies. In the current issue of CESifo Forum, well-known economists give their views on all this. For Barry Eichengreen, University of California at Berkeley, the revision of the Basel II agreement is one of two reform approaches. The capital reserve requirements of internationally active banks must be oriented not only on banks’ own risk evaluation models but must also be compared with the former Basel I method (share of total assets). For the necessary capital reserves the higher share must then be chosen. A second reform proposal stresses the liquidity of financing and criticises the previous, too-one-sided orientation on the volatility of investments. Martin Hellwig, Max Planck Institute for Research on Collective Goods, explains that not only the misguided speculation with toxic US mortgages, but also the erroneous behaviour of market participants and systemic error were also responsible for the financial crisis. The approach of the policymakers to expand and increase financial oversight ignores, in his opinion, the fact that the present system of bank oversight has contributed to the downward spiral in the crisis: “If we wish to prevent repetitions of this experiment, we must fundamentally rethink the conceptual basis of bank regulation.” Bulletin For Ifo President Hans-Werner Sinn, policymakers must redefine the liability limitations of corporations by fixing strict minimum standards for capital reserves for the various types of banks, both in America and in Europe (see also page 2). Stricter rules will not hurt the economy, in his opinion. Equity is economically not more expensive than external capital, as the burden that the American government is now taking on proves. In this way no scarcity of financing can arise because the savings in the world suffices, independently of such rules, to finance investments. SLIGHT IMPROVEMENT IN IFO BUSINESS CLIMATE INDEX The Ifo Business Climate for industry and trade in Germany improved in January, albeit very slightly. Following a strong decline throughout last year, the Business Climate Index remains stuck at a low level. Its two components changed in different ways: Whereas the firms again assessed the current situation as worse, they are a little less sceptical about their business in the next six months. A cyclical turnaround cannot be derived from this. Manufacturers report yet again a worsened business situation. While fewer firms than in the past survey are negative regarding their business outlook in the next half year, on the whole they continue to expect a very unfavourable business development. With respect to exports, the surveyed firms also expect a largely unchanged downward trend. Capacity utilisation of machinery and equipment is considerably lower than last autumn. The firms are planning to reduce their staff. In retailing, by contrast, the business climate improved, with both the present situation as well as the outlook rated less negatively than in December. The index for wholesaling and construction rose marginally, while for construction the current situation appears less favourable but expectations a bit less negative. 5 Vol. 19, No. 1 • January 2009 MEASURING EFFECTS OF CHANGES IN THE TAX AND TRANSFER SYSTEM MUNICH SEMINARS v Kocenda Deutschlands große Tageszeitung In these times of increased state stakes in private companies, from banks to insurance companies and much in between, it is not unthinkable that the state will end up being the ultimate owner in some firms, even in those where a wealthy family has long been sitting at the top of the ownership pyramid. This, as Evzen Kocenda points out, deserves some study by economics scholars, as not much literature has been devoted to the subject. Corporate pyramids, ownership structures of vertically organised companies, are widespread around the world, and their presence is even more prevalent in emerging markets. While most of the literature on the topic considers a wealthy family at the top of a pyramid, much less attention has been paid to the state as the ultimate owner. Mr Kocenda’s research while at CES will focus on this gap. Another focus of his research will be corporate divestitures. These play an important role in advanced market economies, but they have been much less researched in emerging markets. At the same time, not enough attention has been paid to accounting for changes in ownership when analysing the effect of divestitures and controlling for endogeneity, selection and data attrition when analysing the effects of divestitures and ownership. Both aspects fall within the corporate performance area in Mr Kocenda’s research agenda. His recently published contributions to this area include articles on the effect of changes in ownership structure on the performance of large- and mediumsized Czech firms and the extent of the hidden state control over privatised firms. He has also written extensively on the topic of privatisation and he is co-author of the large survey on the effects of privatisation on corporate performance that is forthcoming in 2009 in the Journal of Economic Literature. Evzen Kocenda received his PhD in Economics from the University of Houston (1996) and currently is Professor of Economics at Charles University in Prague and Senior Researcher at the Economics Institute of the Czech Academy of Sciences (joint working place CERGE-EI). He has taught at New York University, Université Paris Dauphin, and AngloAmerican University (Prague). His other affiliations include the William Davidson Institute, CEPR, and EABCN. He has served as member of the editorial boards of the Journal of Comparative Economics, the Czech Journal of Finance and Economics (since 1998), and Economic Systems (since 2009). The main areas of his research include applied econometrics and European integration. sponsored by BMW Niederlassung München Wegweisend und voller Wertschätzung für Sie. Chaired by Hans-Werner Sinn (CESifo) and Marc Beise (Süddeutsche Zeitung) Monday, 6 pm, CESifo Conference Centre, Ludwig-Erhard-Hall, Poschingerstr. 5, Munich 2 February 2009 Frank-Jürgen Weise Chairman of the Board Federal Employment Office, Nuremberg Vom Arbeitsamt zum modernen Dienstleister – die Reform der Bundesagentur für Arbeit (From Employment Office to a Modern Service Provider – The Reform of the Federal Employment Office) 16 February 2009 Prof. Martin Hellwig Director at the Max Planck Institute for Research on Collective Goods, Bonn Die Auswirkungen der Finanzkrise (The Effects of the Financial Crisis) 20 April 2009* Prof. Ulrich von Alemann Institute for Social Sciences, University of Düsseldorf 4 May 2009 Prof. Ottmar Edenhofer Potsdam Institute for Climate Impact Research A Global Deal for the Climate? Risks, Challenges and Opportunities 18 May 2009* Prof. Axel Börsch-Supan Mannheim Research Institute for the Economics of Aging (MEA), University of Mannheim A SAFE HAND IN PUBLIC CHOICE Auerbach De Haan 15 June 2009* Jakob de Haan is Professor of Political Economy, University of Groningen, the Netherlands. He is also Scientific Director of SOM, the graduate school and research institute of the faculty of Economics and Business at the University of Groningen. He graduated from the University of Groningen, where he also got his PhD. He has published extensively on issues like public debt, monetary policy, central bank independence, political and economic 6 freedom and European integration. He is a member of the editorial board of Public Choice and European Union Politics, editor of the European Journal of Political Economy, and has been President of the European Public Choice Society. He has been visiting professor at the Free University Berlin, Kiel Institute, and the University of Munich. Bulletin Prof. David G. Blanchflower Dartmouth College 29 June 2009* Dr. Wulf H. Bernotat Chairman of the Executive Board E.ON AG * Topic to be announced. For details, please check the Munich Seminars webpage at www.cesifo-group.de/link/0010-MUNICHSEMINARS Vol. 19, No. 1 • January 2009 ON A RISING STAR ON THE EAST Wooton Cheung The more prominence China gains in the global economy, the more it attracts highquality research by economists. The fact that it surpassed Germany as top merchandise exporter, its status as one of the biggest lenders to the US, its huge foreign reserves and trade surplus, or whether its currency, the Renminbi, is undervalued or not, there is enough to keep researchers busy for quite a while yet. It is only fitting that Yin-Wong Cheung, a renowned econometrist and an acknowledged expert in exchange rate dynamics and Asian economic issues, should devote his attention to China as well. His 2007 book, The Economic Integration of Greater China—Real and Financial Linkages and Prospects for Currency Union (co-authored with M. Chinn and E. Fujii), examines the degree of economic and financial linkages within greater China using a variety of empirical measures of economic and financial relationships. Using this foundation, the authors evaluate the costs and benefits of a currency union in a comprehensive empirical study. The evidence suggests that a Chinese currency union would make sense. Another line of Mr Cheung’s recent research on China concerns the value of China’s currency and is motivated by the contentious policy debate over the possible undervaluation of the Renminbi against the US dollar. His most prominent research article is “The Overvaluation of Renminbi Undervaluation,” which systemically considers the undervaluation argument using an empirical framework built around the relationship between relative price levels and relative output levels across countries. Using rigorous time-series econometrics, Mr Cheung rejects the undervaluation argument or, more accurately, finds that undervaluation cannot be definitely demonstrated within standard boundaries of statistical inference. The results of this paper have been cited in the press, including The Economist and also in the US government 2007 Congressional Research Ser- SABBATICAL vice Report to the Congress, “China’s Currency: Economic Issues and Options for U.S. Trade Policy.” (Another of Mr Cheung’s papers on the topic is cited in one of the latest editions of The Economist.) In the article “Does the Chinese Interest Rate Follow the US Interest Rate?” Mr Cheung questions the “usual” wisdom that the adoption of a flexible Chinese Renmenbi exchange rate offers China a policy leeway to free her monetary policy from the US influences. Using several empirical approaches, Mr Cheung finds that there is no evidence of China’s monetary policy following the US’s even when the Renmenbi has a de facto peg to the US dollar. Thus, monetary policy independence is not a good reason to entice China to adopt a flexible Renmenbi exchange rate policy. A second theme of Mr Cheung’s recent research concerns real exchange rate volatility and exchange rate forecasting. His article “Empirical Exchange Rate Models of the Nineties: Are Any Fit to Survive?” reconsiders the classic finding in empirical international finance that structural exchange rate models of the 1970s forecasted so poorly that they are outperformed by a random walk. Contrary to articles in the 1990s thatfound support for forecasting with structural exchange rate models using new empirical methods, Mr Cheung, demonstrates that there is no model that could consistently outperform a random walk specification across different currencies and historical periods. The article has received considerable attention. During his visit at CES, Mr Cheung will continue his recent research on economic issues related to China. Specifically, he will examine the interactions between capital flights and exchange rates. Yin-Wong Cheung is a professor in the Economics Department at the University of California, Santa Cruz and a Guest Professor of the Shandong University. He is included in The America’s Registry of Outstanding Professionals. Bulletin Ian Wooton is Professor of Economics at the University of Strathclyde in Glasgow, having previously held posts at the University of Glasgow and the University of Western Ontario. He studied at the University of St Andrews and Columbia University, from which he received his PhD in 1982. Mr Wooton’s research focuses on international trade and he has published on many facets of that area including customs union theory, international factor migration, trade and the environment, economic geography, trade in services, and international tax competition. He has held visiting positions at several research institutions around the world and has served as a consultant to a number of governmental and international agencies. At present he is enjoying a year-long study leave following his tenure as Head of Department at the University of Strathclyde. Prior to his time in Munich, he will have spent extended periods at the University of Cape Town and at the Copenhagen Business School. Mr Wooton’s recent research includes work with Joseph Francois (Linz) on the effects of imperfect competition in intermediary services on international trade flows, as well as a number of papers with both Ben Ferrett (Loughborough) and Andreas Haufler (Munich) on the outcome of international competition to attract foreign direct investment (FDI). He has recently started a project, in collaboration with Strathclyde colleagues Julia Darby and Rodolphe Desbordes, on the determinants of FDI to developing countries. In 1999, Mr Wooton and Joseph Francois established the European Trade Study Group (ETSG) as a means of promoting research in international trade, especially for young European scholars. ETSG has now grown to be the largest annual international trade conference and will meet for its tenth anniversary in Rome in September. 7 Vol. 19, No. 1 • January 2009 THE PERSISTENCE OF BORDERS HIGH-LEVEL APPOINTMENT Wolf Ekholm Where is the Global Village? Despite the massive decline in the costs of communication and transport, location continues to matter big time. The spatial concentration of economic activity is hardly declining and trade across political borders is still much more costly than trade within such borders. Nikolaus Wolf, a CESifo affiliate from the University of Warwick, explores Germany’s changing borders as a spectacular long-run experiment. Using a large new data-set on regional trade flows across Central Europe since 1885 and state-of-the-art tools from the empirical trade literature, he first asks whether Germany was ever united prior to 1945. Did the country ever integrate over the many lines of internal fragmentation in terms of administration, culture, religion, or geography? Surprisingly, Germany started to become an economically integrated area only after 1918 and still then exhibited significant internal barriers to trade. The division of Germany in 1945 followed roughly an old, pre-existing fragmentation between East and West and turned it into a nearly impregnable border: the Iron Curtain. Next, the political unification in 1990 did not immediately remove that East-West divide. Indeed, the former Iron Curtain is fading away very slowly, and still matters for domestic trade flows today. This research (joint with Volker Nitsch) suggests that borders are by no means random lines but often follow deep, historical lines of fragmentation. Moreover, it highlights that the impact of political borders on trade can be highly persistent, even a generation after the border has been removed. It’s a long way to go to the Global Village. Bulletin Not least, how does the location of industry and services react to changing borders? The “New Economic Geography” developed in the wake of work by 2008 Nobel Prize laureate Paul Krugman suggests that even transitory historical events can have persistent long-run effects on patterns of location. Ex ante, there are many possible steady-state location patterns, and history or expectations rather than fundamental differences between locations will select one. The division and reunification of Germany can be used as a natural experiment to test such theories against data. A case study on the location of Germany’s major air hub (joint with Daniel Sturm and Stephen Redding) shows first how Frankfurt replaced Berlin as Germany’s air hub. Second, this research shows that the change in hub location is not explained in terms of changing fundamentals but by historical accident and major sunk costs that prevent a return to the pre-division pattern. This is powerful evidence that transitory shocks can have persistent effects on the location of key industries and services. Mr Wolf is also continuing his work in Munich with Peter Egger at the Ifo Institute exploring the impact of the opening of the Suez Canal on the volume and structure of international trade. Nikolaus Wolf is Associate Professor of Economics at the University of Warwick and RCUK Senior Research Fellow at the Centre for the Study of Globalisation and Regionalisation. He is also a Research Affiliate at CEPR and the CEP. He received his PhD from Humboldt University in 2003 and currently serves on the editorial board of Cliometrica and Explorations in Economic History. CESifo Research Fellow Karolina Ekholm has been appointed Deputy Governor of the Sveriges Riksbank, the central bank of Sweden and the world’s oldest central bank. She will take up her post in March 2009 for a six-year term. Ms Ekholm is a recognised authority on the effects of globalisation, in particular the location decisions of multinationals. In work conducted with Sascha O. Becker and Marc-Andreas Muendler, she examined the labour market effects of foreign investments by German and Swedish firms. The study, based on detailed firm-level information on the firms’ foreign activities and on worker-level information on the labour market characteristics of employees, used data with linked information on employers and employees, making it possible to estimate more precisely than previously what effects this expansion has on employment levels in the investing countries. Her work provided an insight into how many jobs are gained or lost in the home country for every job created by a multinational in an offshore location. Karolina Ekholm is Associate Professor at the Department of Economics, Stockholm University. Her research deals with international trade and international investment. She has carried out several studies on the causes and consequences of foreign direct investment and the expansion of multinational firms. She is also a member of the Swedish Fiscal Policy Council and of the scientific committee at the European Trade Study Group (ETSG). Munich Society for the Promotion of Economic Research (Münchener Gesellschaft zur Förderung der Wirtschaftswissenschaft, CESifo GmbH) is the international platform of Ludwig-Maximilians University and the Ifo Institute for Economic Research. President and CEO: Hans-Werner Sinn Address: CESifo, Poschingerstr. 5, 81679 Munich (Germany) Telephone +49 (0) 89/9224-1410, Fax: +49 (0) 89/9224-1409 Editor: Julio C. Saavedra. Ifo News provided by Annette Marquardt.