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Unfinished business

How September 11th and the early successes in Afghanistan have

changed the debate in America about Saddam Hussein

Dec 6th 2001

BACK in 1998, when he was merely a dean at Johns Hopkins University, Paul Wolfowitz visited CapitolHill to give some bad-tempered views to a congressional committee. This was 42 days after United Nationsweapons inspectors gave up trying to make Saddam Hussein comply with all the disarmament obligationsclamped on him at the end of the 1991 Gulf war. Mr Wolfowitz's target was the pusillanimity of the Clintonadministration. Lacking a serious policy on Iraq, grumbled the then dean, the administration persisted in

pretending that sanctions were keeping Saddam in a “strategic box”, and that the only alternative to the pretence was to march American troops into Baghdad. This, he insisted, was not true. There was a safer wayto rid Iraq of its dictator.

The safer way was to help the Iraqi people to free themselves. This could be done by creating a secure

enclave in southern Iraq similar to the semi-free Kurdish zone in the north. Here a provisional government,defended by American air power and special forces, could build support against the regime, seize Iraq'slargest oilfield, and provide a haven for refugees and defecting soldiers. This would, confessed Mr Wolfowitz, be a formidable undertaking and not without opponents in the UN Security Council. But onceAmerica's seriousness of purpose became clear, Saddam's regime might swiftly unravel.

Mr Wolfowitz is now back at the Pentagon as America's deputy defence secretary. The vision that he andothers set out three years ago has not come to pass—not, that is, in Iraq. But something like it is taking placein Afghanistan. There, America's forces have so far avoided bloody engagements on the ground. TheTaliban regime has been unravelled by American air power, augmented by special forces, with localopposition armies invading from the safe enclave of territory controlled by the Northern Alliance. It has

worked in Afghanistan. Could it work in Iraq? And should it be tried?

In this special report

• Suddenly, in Bonn• » Unfinished business «• Stage one almost done, time to start planning stage two - Fighting terrorism

Related items

• Biological weapons: A viral bust-upDec 6th 2001• Stage one almost done, time to start planning stage two - Fighting terrorismDec 6th 2001

Sour triumph

More than ten years have passed since George Bush senior sent American forces to drive Mr Hussein'sinvading army out of Kuwait. After they did so, Mr Bush decided not to pursue Iraq's troops to Baghdad.Although he called on the Iraqi people to overthrow Mr Hussein themselves (and, he now says, confidentlyexpected the dictator to fall), changing the Iraqi regime was never a formal aim of that war. “All of us”, Mr Bush wrote recently, “underestimated Saddam's cruelty and brutality to his own people, which keeps him inoffice.”

If it was right to leave Mr Hussein in office in 1991 and the decade that followed, why remove him now?Three things have changed. First, another Bush is president. As Mr Hussein allegedly tried to assassinate thesenior George Bush in 1993, his son may be said to have unfinished family business in Iraq. Second, there is

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a recognition that the policy of sanctions and arms inspections designed to keep Mr Hussein in his “box” isfailing. The inspectors had to leave in 1998 with their job unfinished. The sanctions have ruined Iraq withouteither weakening Mr Hussein's grip or making him take the inspectors back.

The third change is September 11th. Although an Iraqi agent is said to have twice met Mohammed Atta, thelead hijacker, in Prague, no publicised “smoking gun” yet connects Iraq with the twin towers or the anthraxletters. But Iraq and terrorism are connected in Mr Bush's mind. “If anybody harbours a terrorist, they're aterrorist,” he said last week. “If they fund a terrorist, they're a terrorist...if they develop weapons of massdestruction that will be used to terrorise nations, they will be held accountable. And as for Mr SaddamHussein, he needs to let inspectors back in his country, to show us that he is not developing weapons of massdestruction.”

It will take more than words. Mr Hussein has proved many times that he would sooner put up with economicsanctions and military strikes than dismantle his terror weapons. After the Gulf war, the UN trussed Iraq in acat's cradle of resolutions requiring Mr Hussein to stop developing weapons of mass destruction and accepta monitoring programme under which a UN commission (Unscom) would make sure that it remained free of them. Until 1998, the inspectors had access to Iraq, where they were able to discover much about its illicitweapons efforts and to dismantle most of what they discovered. Even so, Iraq was obstructive from the start.

At first, for example, it denied having had a nuclear-weapons programme. But between 1991 and 1994inspectors found and dismantled a secret network of some 40 nuclear-research facilities, including threeuranium-enrichment programmes, plus evidence that Iraq had begun to develop a radiological weapon (ie, a“dirty bomb”). Only in 1995, after a defector told almost all, did Iraq admit having launched a programme inAugust 1990 to develop a nuclear weapon within a year.

Iraq also said that it had never tried to make weapons using VX nerve agent. But in 1995 it at last admittedto having made four tons of the stuff (though Unscom thinks it had imported enough material for 200 tons).It denied having a biological-weapons programme. But then it owned up to a research programme. Later stillit said that this had in fact been a full-fledged weapon programme under which it had produced botulinum,

anthrax, aflatoxin and clostridium, along with bombs and warheads to deliver these toxic agents. Althoughrequired to destroy all missiles with a range of more than 150km, Iraq is believed to have hidden up to adozen Scud-type missiles of the sort it fired at Saudi Arabia and Israel in the Gulf war.

A box full of holes

In 1998, Iraqi obstruction reached a point where Unscom's executive chairman, Richard Butler, feltcompelled to pull out his inspectors. The response of the Clinton administration (with Britain in tow) wasOperation Desert Fox, four days of bombing and missile strikes designed to destroy targets associated withIraq's weapons-building activities, weaken the regime and reduce Iraq's capacity to threaten its neighbours.

This was no pinprick: the Americans reckon these attacks killed or wounded about 1,400 members of Iraq's praetorian Republican Guard and other units. But Mr Hussein stayed in power; and the inspectors stayed out.

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When the Kurds rose, this happenedAP

By the time of Mr Bush's election, America's policy was a mess. Ten years of sanctions had cost Iraq some$150 billion of forgone oil revenues, curbing Mr Hussein's ability to rebuild his arsenal and intimidate hisneighbours. But the box in which America hoped to keep him was full of holes: Mr Hussein has enjoyedimproving relations with almost all his neighbours. And the sanctions have meanwhile caused immensesuffering. Although food and medicine are formally exempt, Iraq's impoverishment has on some estimatestrebled the death rate among under-fives since 1990, a calamity which Mr Hussein has purposelyexacerbated, refusing to order the medicines and food Iraqi children need, in order to acquire a propagandaadvantage over his tormentors.

Before September 11th, America and Britain, stalwarts of the sanctions policy and the only enforcers of theso-called “no-fly” zones above Iraq, faced growing isolation in the Security Council. Last week, thischanged. Having previously resisted, the Russians agreed to replace the presentsanctions regime with “smartsanctions”, the UN's third attempt at adjustment. In 1996 Iraq accepted a plan that lets it use oil revenues to

buy food and medicine under UN supervision. And in 1999 a resolution offered to suspend sanctions onnon-military imports if Iraq co-operated with arms inspectors.

It is hoped that the smart sanctions will come into effect next May. They will allow Iraq to import freely,except for a long list of military-related goods which its neighbours will be asked to intercept at its borders.Although Iraqi oil revenues will still be supervised by the UN, the change is designed to focus sanctions onIraq's weapons ambitions and minimise collateral damage to the civilian economy. But will this changesatisfy Mr Bush if—as seems certain—Mr Hussein continues to keep the weapons inspectors at bay?

That looks unlikely. Mr Bush has already warned Mr Hussein that if he keeps the inspectors out he canexpect new punishment. And with America now fully re-engaged against “rogue regimes”, the temptation to

pile military pressure on top of the sanctions is strong. But how?

Templates and temptations

On closer inspection, Iraq does not fit so easily into the Afghan template. Its battered army is still aconsiderable force: Mr Hussein's Republican Guard alone numbers almost 100,000 well-armed men.Vulnerable from the air, the Iraqis would not last long against an invading American army, in the unlikelyevent of a big one being sent to do serious battle against them. But there is no equivalent in Iraq of anAfghan Northern Alliance with the numbers, weapons or motivation to do the grunt work for America on theground.

After the Gulf war, Iraq's Kurds rose against Mr Hussein. Swiftly crushed, they are now penned into a semi-

autonomous northern enclave, lightly armed but protected mainly by the no-fly zone that extends down tothe 36th parallel (see map). The chance that they might again invade Mr Hussein's heartland is small. TheKurds are divided between the rival parties of Masoud Barzani and Jalal Talabani, whose fratricidal strife in1996 led to the collapse of CIA operations in the enclave. The two Kurdish leaders have since promised to

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work together, but although both are members of the Iraqi National Congress (INC), Iraq's umbrellaopposition group, they also maintain links with Baghdad.

Even united, the Kurds may make reluctant liberators. All their enclave's neighbours—Syria, Turkey andIran—have restive Kurdish minorities and would resist any change that might encourage the emergence of an independent Kurdistan. Turkey is nervous enough about the separatists of the PKK who find shelter in theexisting enclave. Knowing that they will never achieve formal independence, but having enjoyed autonomyfor a decade, some Iraqi Kurds calculate that they have little to gain from reintegration as a minority withinliberated Iraq.

That is why advocates of a Wolfowitz-style strategy concentrate on the south, the focus of Shia Muslimopposition to Mr Hussein's predominantly Sunni regime. Like the Kurds, many Shias rose up after the Gulf war, and were crushed with the same brutality. The south is also protected by a no-fly zone, up to the 33rd

parallel, but this is an area where Iraqi security forces operate openly and organised opposition is weak. SoAmerica would have to raise, arm, train and insert an opposition army more or less from scratch.

Assembling such a force from the loose confederation of opposition groups that make up the INC wouldtake a very long time. Although America's Congress has passed an Iraq Liberation Act, which wouldauthorise it, the United States has not yet given any military training to Iraqi opposition groups in exile.

If the military potential of the Iraqi opposition is in doubt, so is its ability to form a coherent successor regime. In 1999, when he was still in charge of America's forces in the Middle East, Anthony Zinni, themarine general trying now to organise a truce in Palestine, warned Congress that a fragmented anddisintegrating Iraq could pose greater dangers to the region than a Saddam-ruled Iraq still safely in that

“box”.

Some such calculation plainly influenced George Bush senior's decision not to support the Kurdish and Shiauprisings that followed the liberation of Kuwait, although he had called for them himself. A perennial worryin Saudi Arabia is that if Iraqi Shias broke loose from Baghdad some might line up with Iran, or inspiresecessionist dreams among the Shias of the Saudis' eastern province. And America has long assumed (aswhen it “tilted” towards Saddam in the Iran-Iraq war of the 1980s) that in the zero-sum politics of the Gulf aweaker Iraq is liable to mean a stronger Iran, the other nuclear-ambitious regional power it seeks to“contain”.

Apart from this, the ramifications of a renewed American attack on Iraq could well extend beyond the

region. America might be hard put to win the support of many big countries other than Britain, and maybe of any. It is unlikely that NATO would again invoke Article 5, as it has in Afghanistan. An Iraqi war mightthus put America back into its unilateralist box, which would not help it in the wider war against terror, andmight complicate several of its other foreign-policy objectives, such as winning Russian co-operation for missile defences.

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Until September 11th the military difficulties entailed in removing Mr Hussein, and the uncertainties thatwould follow, argued for caution. But the fairly swift successes in Afghanistan have changed the terms of debate in Washington.

Those who want to dislodge him now challenge all the preceding assumptions. Yes, Iraq has deep ethnic andreligious divides, but nothing to rival the tribal fissiparity of Afghanistan, where a post-Taliban governmentis nonetheless beginning to take shape. Iraq's army is better at digging in than the rag-tag Taliban (it was

bombed for six high-precision weeks in 1991), but America's aerial weapons are a decade cleverer than theywere then. The opposition may be a shambles; but is not Mr Hussein a bloodstained dictator, hated beyondhis inner circle, whom his people will gladly drag down the moment an opportunity arises? America's Araballies, although they see Mr Hussein as a threat, say vehemently that they oppose a new onslaught on hisregime, and that the Arab “street” would revolt; but once the superpower was “on a roll”, as one StateDepartment official puts it, would these allies really stand in its way?

Today the debate in Washington dwells less on whether to remove Mr Hussein than on when and how. As tohow, the plan that Mr Wolfowitz set out three years ago is not the only one: assassination, from land or air,has failed before but may one day succeed. As to when, the administration's unanimous message is that thereis no rush. The Afghan victory must be made secure first, and even then Iraq need not be next on the list. A

harder question, on which there is less agreement, is why.

A deterrable monster?

America went to war in 1991 to rescue Kuwait and remove Mr Hussein's hand from the West's oilpipe. If American forces are now permanently in Saudi Arabia and Kuwait, this threat exists no longer. Nor—

pending new evidence of an Iraqi hand in September 11th—is America's “war on terrorism” sufficientground for war on Iraq. The regime harbours a few semi-defunct Palestinian terror groups and murders itsown dissidents abroad. But Mr Hussein would have to be madder even than he is thought to be to risk international terrorism with America in its present mood. The strongest case for removing him therefore

rests on his search for weapons of mass destruction, especially the biological ones that might be mostdifficult to track down even if the inspectors returned.

Smile, and be a villain

How bad would it be for Mr Hussein to acquire the nuclear or biological weapons he craves? His would not be the first nuclear-armed dictatorship; and Stalin's was surely no less mad, bad or dangerous. In NorthKorea, the West has relied on deterrence-cum-incentives to keep a potential nuclear menace at bay. Mr Hussein, admittedly, has shown that he is reckless as well as ruthless. He invaded Iran; he invaded Kuwait;and he fired missiles at Tel Aviv even though he knew Israel to have the bomb already. But he can also be

deterred: he never dared to use his chemical weapons against the Israelis or Americans. Besides, say some of those who counsel deterrence, an oil-rich and technically advanced country such as Iraq will one day join theexpanding nuclear club no matter who is president. Why risk war now to stave off the inevitable?

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These are strong arguments. But most depend on the idea that removing Mr Hussein before he acquires hisweapons of mass destruction would entail many risks: a price in American lives, the possibility of leavingIraq even worse off and the danger of destabilising America's friends in the Middle East. Before September 11th, it was accepted that these unavoidable costs outweighed the possible benefits. Now, some Americanshave concluded from the terror attacks on New York that their own power does not deter every vengeful or fanatical foe, and they have concluded from events in Afghanistan that America can win wars far from homewithout paying a heavy butcher's bill. As much gruesome history attests, the last war is seldom a reliableguide to the next.

In Lula's footsteps

Dilma Rousseff is cruising towards victory on the coat-tails of a

popular president. But there is more at stake in October’s election

than meets the eye

Jul 1st 2010 | SÃo Paulo

AT THE moment only one thing matters to Brazilians: the performance of the national football team in theWorld Cup, where lifting the trophy for the sixth time is considered almost a right. Even a normally hard-working city like São Paulo, where supermarkets open at 7.00am and heavy traffic is a way of life, came to astandstill for Brazil’s matches. Across the country factories, offices and even health posts shut down. But thecountry’s politicians are limbering up for a different contest. On July 6th the campaign for October’s generalelection formally kicks off. It will be the first presidential election since democracy was restored in the1980s in which the name of Luiz Inácio Lula da Silva does not appear on the ballot. But Lula, Brazil’s

president since 2003, is nevertheless the dominant figure in the campaign.

For the past 18 months he has put all his efforts into trying to get Dilma Rousseff, his former chief of staff,elected as his successor. She is not an obvious presidential candidate: an efficient though notoriously bad-tempered administrator, she only joined Lula’s Workers’ Party (PT) in 2001. She has never before stood for elected office. But several more senior figures in the PT were forced out of politics by a corruption scandalduring Lula’s first term, and others have proved electoral flops.

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Barely known to the public at the outset, Ms Rousseff spent half of the past year recovering from lymphaticcancer. Despite all these handicaps, she has risen inexorably in the opinion polls. This month she overhauled

the opposition’s standard-bearer, José Serra, formerly the governor of São Paulo state, for the first time (seechart 1). The only other plausible candidate is Marina Silva, a long-time member of the PT who is standingfor the small Green Party. Like Lula, she was born in poverty, but she fell out with him over what she seesas his government’s failure to defend the environment.

The election has now become Ms Rousseff’s to lose. Her rise in the polls shows that Lula has been able totransfer his own extraordinary popularity to her. A former trade-union leader, Lula has a rapport withordinary Brazilians that no other politician enjoys. But he can also point to solid accomplishments. He has

presided over both a steady increase in economic growth which is now—conveniently—reaching newheights, and a sharp reduction in poverty. Even allowing for an expected slowdown, the economy will havegrown by around 8% in the year before the vote. The polls show that roughly 75% of Brazilians approve of

the job Lula has done. Alexandre Marinis, a political consultant in São Paulo, notes that recent electionsshow a close correlation between the president’s popularity and his candidate’s success.

All this makes Mr Serra’s job exceptionally hard. A minister in the government of Fernando HenriqueCardoso, Lula’s predecessor, he trumps Ms Rousseff in political experience and has been an effectivegovernor of São Paulo, the country’s second-most-powerful job. His supporters are counting on hisopponent to make gaffes. But Ms Rousseff is looking increasingly assured. And he is struggling to make hisexperience count in an election where most Brazilians—especially in the country’s poorer areas—wantcontinuity.

To see why, visit places like Jardim Iguatemi, a favela (a self-built settlement) straggling over steep hills onthe eastern extremity of São Paulo. Bordered by forest, it is an hour and a half’s drive from the city centre.Mr Serra’s state government built a big new school and a health clinic there. But it is the president whocommands the sympathy of many residents. They credit Lula with Bolsa Família, a programme under which12m of the poorest Brazilian families get a monthly stipend of up to 200 reais ($111), paid to mothers

provided they keep their children in school and take them for health checks. His government also opened afree technical college nearby in Itaquera. “He’s made a big effort. He thought a lot about concrete

problems,” says Milene Ribeiro, a single parent of three children, whose ambition to be a teacher wasfrustrated when she had to drop out of university for lack of funds. “Living here so far from the world, wehave to vote for someone who will do something for us,” says Quitéria de Souza, a separated mother of threegirls.

The statistics of social progress in Brazil are remarkable. The number of people living in poverty has fallen by 20m under Lula, from 49.5m (or 28.5% of the total) in 2003 to 29m (16% of the total) in 2008, accordingto calculations by Marcelo Neri, a social-policy expert at the Fundaçao Getulio Vargas, a university.Although the world recession and its brief impact in Brazil temporarily halted the progress, it did not reverse

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it. Using different criteria, Ricardo Paes de Barros of the Institute for Applied Economic Research, agovernment-linked body, paints a similar picture. He finds that the number of Brazilians too poor to feedthemselves properly has fallen from 17% of the population in 2003 to 8.8% in 2008.

Levelling the playing field

At the same time Brazil’s notoriously unequal distribution of income is becoming a bit less so (see chart 2).The Gini coefficient, a standard statistical measure of inequality, has fallen steadily since 2001 (though itremains very high by international standards). Over that period the income of the poorest 10% of the

population has grown at 8% a year, while that of the richest tenth has grown at only 1.5% a year, accordingto Mr Paes de Barros.

In various ways Brazil is starting to become a more homogeneous society. Regional inequality has beendiminishing, too: average income in the poor north-east has been growing faster than the national average. Amajority of Brazilians (some 52%, up from 44% in 2002) now belong to what marketers call social class C,or the lower-middle class, meaning that they have a monthly household income of between 1,064 and 4,561reais.

This progress stems from a mixture of faster economic growth and government policies. Though there isdebate about the details, around half of the fall in poverty comes from higher income from employment.Better social policy accounts for a big share of the fall in inequality—or at least of the narrowing of the

bottom of the pyramid. Bolsa Família has been particularly effective in helping the poorest.

How much of the credit does Lula deserve for all this? His government turned Bolsa Família from a small-scale experiment into the world’s biggest conditional cash-transfer programme. He also raised the minimumwage by two-and-a-half times since 2003, taking its purchasing power to its highest level since 1979. Thishas not destroyed jobs: some 13m new jobs in the formal (ie, legally registered) economy have been createdsince 2003. Lula is also proud of a government programme under which 12m people in rural areas havegained access to electricity, and another programme that provides subsidised housing for the poor. Aboveall, the polls suggest, he has given poorer Brazilians a new sense both of self-esteem and that their government is not just for the rich.

But faster economic growth and the social transformation are also the result of longer-term trends. Mr

Cardoso’s two governments tamed inflation, creating the stability that has allowed credit, investment and jobs to grow. And part of the fall in inequality (which began in 2001, before Lula took office) stems from a big effort over the past quarter of a century to expand Brazil’s previously woeful education. The averageBrazilian worker now has 8.3 years of schooling, up from 6.1 in 1995.

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Certainly Lula deserves praise for not imitating the economic populism of some of the other left-wingleaders who have come to power in Latin America over the past decade. Broadly speaking, his governmenthas stuck to the responsible macroeconomic policies that have kept inflation low. After some

procrastination, it has also continued the progress in education. His education minister, Fernando Haddad,has introduced standardised national tests of schoolchildren, for example. And as Ms Rousseff points out,the government has respected the contracts under which private companies, including foreign ones, haveinvested in Brazil.

The state and the nation

The question the candidates have to answer in the next three months is how to sustain Lula’s legacy and build on it. There is broad political consensus about economic stability, the importance of education and, toa degree, on social policies (Mr Serra would maintain Bolsa Família, for example). Apart from foreign

policy (which matters to some Brazilians but not to the mass of voters), the differences between the twomain candidates are sharpest over the role of the state in the economy.

In many ways Lula has been a lucky president. Brazil has benefited hugely from China’s industrialisation.

China’s appetite for foodstuffs and iron ore has boosted Brazil’s exports, helping growth and eliminating the balance-of-payments troubles that so often dogged the country in the past. But this has masked someimportant weaknesses that Lula did not fix, and may even have exacerbated.

Mr Serra likes to say that Brazil holds three negative world records: it has the highest interest rates in theworld, the heaviest tax burden of any emerging country and one of the lowest rates of public investment. Allof these, he has argued, stem from an “obese” federal government that is spending too much on public-sector jobs for its supporters. He says he would slash wasteful public spending, leaving room for interestrates to fall (the Central Bank’s benchmark rate is 10.25%). That in turn would allow the real, which isovervalued, to weaken, helping manufacturers cope with competition from China. He would simplify andreform the labyrinthine tax system. The aim would be to boost investment, both public and private, so that

Brazil could take greater advantage of the opportunity granted by its commodity boom, which will not lastforever.

The shortfall in investment means that, by common consent, Brazil cannot sustain this year’s growth spurt.If the economy is to continue to expand at 5% a year, Brazil needs to double its annual investment ininfrastructure, to 4% of GDP, according to Marcelo Carvalho of Morgan Stanley, an investment bank.

The airports are clogged. Off Santos, Brazil’s biggest port, a line of ships queuing to load stretches to thehorizon. The lack of good roads and railways adds to the costs of business. This year soyabean-growers inMato Grosso, an inland state, spent up to 38% of their revenues just on getting their crop from the farm tothe docks, according to José Roberto Mendonça de Barros, an economic consultant in São Paulo. Under

Lula, the price of electricity for industrial users has more than doubled.

The government has cautiously allowed private investment in roads, railways and ports. But airports are run by an inefficient state body. Such mismanagement is a luxury Brazil can ill afford—if only because it willneed to handle visitors to the football World Cup, to be held in the country in 2014, and the Olympic games,in Rio de Janeiro two years later.

Meanwhile, the government is spending more and more on pensions. Fábio Giambiagi, an economist at the National Development Bank (BNDES), notes that although only 6% of Brazilians are of pensionable age,the country spends 11.3% of its GDP on them; in the United States, by contrast, the 12% of the populationwho are pensioners receive around 6% of GDP. Spending on pensions for private-sector workers in theformal economy has tripled as a share of Brazil’s GDP since 1988. This is partly because the economy grewquite slowly (until recently), but mainly because of the generosity of the pension regime. Many affluentBrazilians retire in their 50s, and many pensions have risen steeply because they are tied to the minimumwage.

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The result is that the federal government bails out the national pension system to the tune of 1.5% of GDP.Mr Giambiagi points out that the number of pensioners will grow by about 4% a year for the next ten years.Provided the economy grows at a similar rate and the next government slows the rise in the minimum wage,the pension burden will be just about manageable. But it reinforces Brazil’s inequalities. Mr Paes de Barrosnotes that the government transfers ten times more money to pensioners than to children. He is advising thethird candidate, Ms Silva, the only one who talks much about pension reform.

Banking on industrial policy

The government’s critics also worry about the implications of a big expansion of the role of state banks(Brazil has three large ones). This came about partly as a result of the world financial crisis, when private

banks temporarily cut back their lending. But the BNDES, in particular, has become an important agent of industrial policy under Lula. Over the past two years the federal government boosted the bank’s capital basewith two long-term loans worth 180 billion reais. Its annual lending has reached 4.5% of GDP, and should

be double its 2008 level by year’s end. Its loans are mainly long-term (for up to 30 years), with priority for infrastructure, investment in industry and services and seed money for innovation. They cost around half of the Central Bank’s benchmark interest rate.

The BNDES has given big loans to state-owned electricity companies (revived by Lula) and to Petrobras,the government-controlled oil giant. But it has also financed takeovers by big private companies, both athome and abroad, creating national champions in businesses ranging from food to pulp and paper. EduardoGiannetti, an economist in São Paulo, worries that all this involves big, but opaque, subsidies (of perhaps 8

billion to 12 billion reais a year, he thinks) while extending government influence over business.

Luciano Coutinho, the BNDES’s president (who is tipped to be finance minister if Ms Rousseff wins),insists that the bank deploys professional techniques of credit analysis and dismisses as a “conservativefiction” the notion that its loans are governed by political criteria. The bank’s role is transitional, he says,until private capital markets develop long-term savings and lending instruments.

Ms Rousseff champions industrial policy—indeed her critics see her as more dirigiste than Lula, whoseinstincts are pragmatic. But Mr Coutinho says that this does not involve a return to the big Brazilian stateand the high tariff protection of the 1960s and 1970s, as the critics charge. Brazil’s economy is more opentoday. Mr Coutinho says his inspiration comes from Asian countries such as South Korea and China (thoughaverage tariffs are still higher in Brazil than in those countries).

This debate is most intense over how to develop the vast new oil deposits found deep beneath the Atlantic in2007. Their discovery followed Mr Cardoso’s decision to open up the oil industry to competition and subjectPetrobras to market discipline (though the company continues to be controlled by the government, amajority of its shares are publicly traded).

Since Lula’s administration thinks it clear that there is much more oil to be found, it wants to change therules governing the industry. Instead of concessions under which oil companies pay royalties and taxes butkeep the oil they extract, in any future fields the oil will belong to a new state company and Petrobras will bethe sole operator (though it can team up with partners under production-sharing agreements). These changesare embodied in four laws, though only one—allowing the government to vest oil deposits in Petrobras as away of increasing its capital—has so far been approved by Congress.

The government also hopes to create a national oil-supply industry. It is drawing up requirements thatequipment, from tankers to service platforms and drilling rigs, should be mainly locally produced. AlreadyPetrobras is doing much of its procurement locally, and officials point to a revival in Brazil’s shipbuildingindustry as an early success. Provided such restrictions are temporary, they may pay off for the oil industry.But there are risks. One is a repeat of the mistakes of the 1970s, when a government attempt to develop acomputer industry by banning imports cut Brazil off from new technology. Another is placing too muchstrain on Petrobras, which has also been required by the government to build four new refineries.

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Corbis

BLOCKS of flats or offices are under construction on nearly every street. New hotels and restaurants sprouton every corner, while shopping centres multiply in what were once shantytowns. Across the city,thoroughfares have been torn up to make way for new bus lanes and terminals. Such is the anarchic volumeof traffic that just crossing the street has become a time-consuming and perilous exercise. Lima, Peru's

capital of 8m people, is shedding its former air of provincial lassitude and turning into a bustling metropolis.

The city is the visible face of a boom that has made Peru South America's fastest-growing economy (seechart). That performance owes much to record prices for mineral exports. But newer export products, from

designer cotton T-shirts to mangoes and artichokes, are also flourishing. As well as trade, privateinvestment, growing at 20% a year, and domestic consumption are driving the economy forward at anaccelerating pace (in the year to February, GDP grew by 9.2%).

Thanks to high world prices for food and fuel, inflation has spiked to 5.5%, having been low for years. Nevertheless, the growth looks to be built on solid foundations. The national savings rate has risen to 24% of GDP, high by regional standards, and the government last year posted a fiscal surplus of 3% of GDP. A free-trade agreement with the United States is about to come into effect. In recognition of such achievements,Peru's debt was awarded an investment-grade credit rating last month by Fitch, a ratings agency.

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Yet there are paradoxes at the heart of the boom. Despite the growth, poverty has fallen only slowly. Andmany Peruvians are disgruntled. The president, Alan García, was once a radical populist who presided over hyperinflation and debt default in a first term in office in the 1980s. He returned to office in 2006 a reformedcharacter. But his people give him little credit for the strong economy. He is one of the least popular

presidents in Latin America, with an approval rating of just 26% in a poll taken in the main cities in April byIpsos-Apoyo, a pollster.

There are several reasons for the relatively slow fall in poverty. Although the number of formal-sector jobsis expanding at 9% a year, many Peruvians still labour in the informal sector of unregistered businesses,where productivity is low. Wages for the unskilled have been slow to rise.

A bigger reason is geography. The capital, the Pacific coastal strip and most of the north of the country areall thriving. The problem is the southern Andean region, where poverty reaches 70% of the population.Helped by tourism, mining and microcredit some Andean cities, such as Cajamarca, Cusco, Huaraz andHuancayo, are prospering. The big divorce is with the surrounding, often mountainous, countryside, wheremany Andean Indians remain trapped in subsistence farming on small plots. Whereas 60% of the labour force in Lima are waged workers, only 27% are in Apurímac, notes Efraín González, an economist at Lima'sCatholic University.

These unwaged people are often more or less cut off from the market economy. And it is market connectionsthat make economic growth “trickle down” to the poor, points out Richard Webb, a social researcher andformer central-bank governor. Enabling that to happen is thus a job for public policy. Better roads, educationand social policy are all needed.

At least in theory, Mr García's government recognises this. It has set an ambitious target of cutting povertyto 30% by the end of its term, in 2011. For the first time in three decades the state has money to invest—butit is finding it hard to do so.

With the help of the World Bank, the government has drawn up a new anti-poverty strategy which focuseson trying to end the malnutrition that affects 30% of Peruvian children, most of them in the southern Andes.It has ramped up social spending while trying to target it more closely on the poorest areas. But IvanHidalgo, the official in charge, accepts that a lack of good managers, especially in local governments, is

hindering this effort. He does not add that, in a misguided gesture, Mr García slashed salaries for top public-sector jobs.

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Similarly, money for public investment in roads or to help farmers lies unspent at all levels of government, partly because of fears of corruption. In another paradox, Peru has created “a culture of fiscal propriety”whose side-effect is that officials are ignoring a social emergency in the Andes, says Mr Webb.

Tackling this effectively means reforming the education and health ministries as well as local government.Mr García's government has made some effort to improve the performance of teachers, but has otherwisedone little. “It's a government that insists on investment and not on reforms,” says Julio Cotler, a sociologistat Lima's Institute of Peruvian Studies.

Like his predecessor, Alejandro Toledo, Mr García is handicapped by his unpopularity and by his lack of alegislative majority. In the presidential election, the southern Andes voted heavily for Ollanta Humala, a

populist former army officer. According to Ipsos-Apoyo, Mr Humala is today more popular than the president. “To be popular in Peru you need a populist discourse,” says Mr Cotler. “It doesn't get anyone outof poverty but it soothes people's rancour and resentments.”

Nevertheless, the economic boom is going hand in hand with a deeper cultural change. In the 1970s and1980s, Peru was a collectivist country: first a military government nationalised much of the economy andthen Mr García, in his first term, took over a chunk more, egged on by a powerful left-wing opposition.

Since then Peru has undergone a “capitalist revolution”, as Jaime de Althaus, a liberal journalist, argues in arecent book. This revolution is based not just on big mining companies, but on thousands of small-scalefarmers on the coast, who broke up their state co-operatives into commercial plots, and on small

businessmen in the shanty towns, who are exporting everything from clothes to electrical components.

When leftists complain the capitalism is “savage” they sometimes have a point: while some companies postrecord profits, many Peruvians work long hours for low wages with few labour rights. Away from Lima andthe north coast, which have embraced globalisation, many Peruvians cling to nationalist and statist attitudes,says Alfredo Torres of Ipsos-Apoyo. Unless the politicians do a better job of defending the capitalistrevolution and spreading its benefits, it will be threatened by the rancour of those who feel left out.

Scarcity amid abundance

Arguments over price controls

Apr 12th 2007 | caracas

ON THE last Saturday in March the broad Avenida Bolívar in the heart of Venezuela's capital wastransformed into an open-air, government-run “mega-market”. Shoppers, mainly from poorer parts of thecity, formed orderly queues to buy food at officially regulated prices—something that is often impossible inordinary shops. “How can there be scarcity in a country with so much land and resources?” asked Ramón

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Díaz, a pensioner, as he rested on a bench after doing his shopping. “Who controls the supply of meat? Theoligarchy has it monopolised.”

Who controls the food supply and why a fertile and oil-rich country should have problems getting food to its27m people are questions that pit the leftist government of Hugo Chávez against much of the private sector.Venezuela has one of the world's highest inflation rates (see chart). Food prices are rising even faster thanthe overall index. That is despite—or because of—the fact that food, medicines and basic services have beensubject to price controls since 2003. Meat, milk, black beans and sugar are among many products that, fromtime to time, disappear from the shelves—even those of Mercal, the government-run supermarket chain.Often, though, these goods can be found at much higher prices in the hands of street traders.

The government has a simple answer to the conundrum. “It's part of the curse of capitalism,” according toMr Chávez. In February he declared war on “hoarders and speculators”, issuing a decree mandating jailsentences of up to six years for anyone interfering with food supplies. The government promptly seized aslaughterhouse and a cold-store.

Related items

•

Venezuela: Glimpsing the bottom of the barrelFeb 1st 2007

Many businessmen and shopkeepers have a different view. They complain that controlled prices are set solow that they are obliged to sell at a loss. If they don't, they risk fines, temporary closure, expropriation or even imprisonment. In late March, for instance, the government temporarily closed 17 butchers' shops itaccused of breaking price regulations. Mr Chávez has said that if he has to take over the entire food industryhe will, although many Venezuelans doubt the government would be capable of running it.

Officials usually say that the problem is hoarding, not shortages. But Jorge Giordani, the planning minister,recently admitted that an overheating economy (it grew by over 10% last year) was causing inflation andscarcity. Public spending has doubled in the past two years. There are two other factors, says Pavel Gómez

of IESA, a Caracas business school: the price controls themselves, which have boosted demand and cutsupply, and an expectation that prices will rise further, leading people to bring forward purchases.

To make matters worse, the government recently curbed imports, ostensibly to protect local manufacturers.Some of them now complain that they cannot obtain the materials they need to make their products. Many

businessmen are reluctant to invest, citing uncertainty over Mr Chávez's intentions and lack of legal protection. In which case, say government supporters, the state should step into the breach. Expect moreshortages.

Pummelling the Palestinians

If the Israeli onslaught on the Islamists of Hamas silences them for

a while, it could alter the odds in Israel’s coming general election

Dec 30th 2008 | Jerusalem



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Reuters

“BY THE time we’re finished,” Israel’s deputy chief of staff, General Dan Harel, told a group of mayorsfrom towns close to the Gaza Strip on December 29th, “there won’t be a Hamas building left standing in

Gaza.” They could well believe him. In four days of bombing that began with a massive, sudden raid onDecember 27th, Israeli jets, unmanned drones and helicopters killed some 350 Palestinians, smashing offices

belonging to Hamas, the Islamist movement that has run the strip since booting out its secular Fatah rivals ayear-and-a-half ago, as well as police stations, ministry buildings, Gaza’s Islamic university, refugee campsand workshops. In a raid by 40 aircraft on December 28th, dozens of arms-smuggling tunnels under the

border with Egypt were destroyed.

The onslaught is meant to stop Hamas firing rockets at Israel. But the general predicted that “the worst isstill ahead”. UN agencies said between 50 and 90 of 300-plus killed in the first three days were non-combatants. If tanks and artillery enter the fray, civilian deaths may mount faster. In the past year, before thelatest onslaught, 420-plus Gazans had been killed in Israeli raids, at least a fifth civilian, according to

B’Tselem, an Israeli human-rights lobby.

In the first four days of “Operation Cast Lead”, four Israelis (including one soldier) were killed byPalestinian rockets, bringing the total number of Israeli civilian deaths at Hamas’s hands in 2008 to five.Three of the victims were struck down in the towns of Netivot, 12km (seven miles) east of Gaza, Ashkelon,11km up the coast, and Ashdod, a port, 30km north of the strip. Villages even farther away were hit.

Related items

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Israel’s defence minister, Ehud Barak, said the operation had been planned for months, long before a shakysix-month ceasefire with Hamas ran out on December 19th. Intelligence sources identified scores of Hamastargets in the densely populated territory, where 1.5m Palestinians, more than half of them refugees or their descendants, have been hemmed into the sandy coastal strip some 40km long.

Stopping or drastically reducing Palestinian rocket fire will be the political touchstone of this militarycampaign, as it was in the month-long war between Israel and Hizbullah, Lebanon’s well-armed Shiamovement, in the summer of 2006. At that time, Ehud Olmert, Israel’s prime minister, who is to step down

after an election on February 10th, had hoped that air raids would silence the missile launchers. Three weekslater, with a third of Israel virtually at a standstill because Hizbullah’s missiles are far more lethal thanHamas’s mostly home-made projectiles, a massive Israeli ground force was finally sent in but got boggeddown against Hizbullah’s dogged fighters. An eventual ceasefire left Hizbullah claiming victory and Israel’sgenerals and politicians locked in recrimination.







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“After Lebanon,” says Tzachi Hanegbi, chairman of the foreign affairs and defence committee of Israel’s parliament, “everyone understands that rocket fire can’t be silenced by air power alone.” But everyoneunderstands, too, that Hamas, completely outgunned from the air, seeks to lure Israeli ground troops into theheavily built-up Gaza Strip to engage them with street-fighting guerrillas. Hamas, too, has been preparinglong and hard for this showdown.

As in all its wars, Israel feels it is fighting against the clock. Its diplomats say they sensed an initial surge of approval, albeit muted, from many world capitals and even among moderate Arab governments. GeorgeBush’s administration has been plainly in Israel’s corner. But the high death toll and the prospect of a lotmore killing if the operation is “broadened and deepened”, to use Mr Barak’s words, could spur Europeangovernments to pay more heed to protests mounting in the Arab world.

Israel says it intends its armed incursions, if they come, to be brief and not to drag it into a renewedoccupation of the strip. If the Hamas regime collapses under the onslaught, so much the better, though thereis no certainty that the Fatah-led Palestinian Authority, forcibly ousted from Gaza by Hamas in June 2007

but still in charge in the Palestinians’ bigger West Bank, would be able to return to power.

If Hamas does stop firing rockets, Mr Barak’s standing could rise fast. Mr Olmert is formally still in charge

until a new government is formed after the election. But the Gaza operation is widely seen as Mr Barak’s.He and his Labour party have been trailing well behind the foreign minister, Tzipi Livni, and her Kadima party and Binyamin Netanyahu and his hard-right opposition Likud party. In desperation, before theonslaught, Mr Barak had mounted a campaign on billboards and on the internet, declaring himself “notnice”, “not cuddly” and “not trendy”. If Hamas’s rockets are silenced, albeit for a while, Israel’s voters maywarm to those harsh qualities.

Japan deserves credit for not intervening sooner Richard Koo our guest wrote on Sep 27th 2010, 21:06 GMT

THE recent Japanese intervention in the foreign exchange market is somewhat unfortunate for reasons not

fully appreciated abroad. When the Lehman shock hit Japan, its industrial production and GDP fell further than any other major country for two reasons. First, the yen went sky high to become the strongest currencyin the world, and second, its industry was concentrated in building quality durable goods the demand for which fell dramatically compared with non-durables or services. As a result, Japan’s industrial productionfell to the level of 1983, and its trade balance recorded a deficit for the first time in nearly 30 years. Thecollapsing production and employment also renewed domestic price deflation as well.

These economic indicators all justify Japanese intervention in the foreign exchange market, and the Swiss National Bank, facing a similar predicament, did not shy away from intervention at all. The People’s Bank of China also intervened massively to keep the Chinese currency from appreciating against the dollar.

Japan, on the other hand refrained from intervening for a full two years following the Lehman shock, eventhough its currency was at its all-time high in effective terms and its economy was suffering more than thatof any other country.

The country did not intervene because Prime Minister Taro Aso, who was leading Japan when Lehmancollapsed, was a student of history and knew what happened in similar circumstances during the 1930s. Atthat time, all the countries tried to pull themselves out of recessions by pushing their currencies lower inwhat is now known as competitive devaluation. That, in turn, prompted countries to put on protectionismwhich ended up devastating world trade.

Referring to this history, Aso argued that if a surplus country like Japan (even though at that time Japan wasrunning deficit) tries to weaken its exchange rate by intervening, it will give deficit countries ten times thereason to do the same which will surely push the world back into the 1930s again. Thus even though hisstance was extremely unpopular domestically for obvious reasons, he refused to intervene in the foreignexchange market.

http://www.economist.com/economics/by-invitation/contributors/Richard%20Koo

http://www.economist.com/economics/by-invitation/contributors/Richard%20Koo

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This stance toward intervention was fully shared by Mr Hirohisa Fujii, the first finance minister under thenew DPJ government and also a student of history. Even though his stance was bashed repeatedly by themedia and industry leaders, he argued that Japan will not pull the trigger for competitive devaluation. Mr

Naoto Kan, who is no student of history, initially flirted with the idea of pushing the yen lower when hesucceeded Mr Fujii as a finance minister. But he was quickly converted to his predecessors’ stance mostlikely by like-minded officials of the ministry.

In other words, Japan took it upon itself to stop the world from falling into the 1930’s scenario even thoughit was suffering more than those countries that created the financial disasters.

Unfortunately, none of this sacrifice was appreciated abroad or at home. No European or American officialsexpressed praise for Japan's NOT intervening. If such a praise was issued, Mr Kan might have refrainedfrom intervening on September 15, but none was forthcoming.

So after enduring two full years of strong yen, Japan finally decided that enough is enough. With the yencreeping even higher and most of the turmoil caused by the Lehman shock largely behind them, historiansretreated and gave way to realists who than decided to intervene. But the record still stands that during themost critical two years (September 15, 2008 when Lehman collapsed, to September 15, 2010, when the

intervention took place), Japan consciously sacrificed its interest in order to save the world.

It is hoped that one day, when a history of this crisis is written, someone would notice that the sacrificeJapan consciously made succeeded in keeping the history from repeating itself even though it camedangerously close to doing so.

Not good enough

Suing Arizona and bashing the Republicans will not solve

America's immigration problem

Jul 8th 2010

HOW often should you give a politician the benefit of the doubt—take what he says at face value, trust inthe sincerity of his motives, make allowances for the baffling complexities of his predicament? Never, saysthe jaded half of Lexington’s brain. Sometimes, answers the half that still likes words such as hope andchange and has a soft spot for Barack Obama. The president brings out this reaction in a lot of people. Polls

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Republican partners than this week’s move by the Department of Justice to invoke the supremacy clause of the constitution to strike down the new law in Arizona that gives the police wider powers to identify illegals.Arizona’s law is an abomination, says Tamar Jacoby, president of a pro-reform lobby, ImmigrationWorks,

but suing Arizona will baffle and anger the 60% of Americans who say they support it. Only the federalgovernment can fix what is wrong with immigration, she says—but not with a lawsuit.

Senator Graham, Senator McCain and John Kyl, Arizona’s junior senator, could form the nucleus of Republican support for a bipartisan reform of immigration next year. In theory, both parties will have aninterest in co-operating. Mr Obama needs to redeem his promise to Hispanic voters and Republicans need torestore their standing with a constituency whose power to swing elections grows with every passing year.But Mr Obama has put the noses of those who should be key allies out of joint. The instinct to give him the

benefit of the doubt may be understandable. But on this occasion, no need to give the man a break.

A muted normality

United Germany is becoming more comfortable in its skin

Mar 11th 2010

Better one thantwo

“GERMANY is plagued by a severe economic malaise and by uncertainty about its place in the world,”wrote The Economist in a special report in 2002. A lot has changed in eight years. These days Germanylectures other countries on economic management and sends troops to Afghanistan. It may still not be a“normal” country. But now that the Federal Republic is a matronly 60 and unification is approaching a post-adolescent 20, the likely shape of normality is becoming clearer.

Germany has become more at ease with itself. That became obvious during the football World Cup held inGermany in 2006, when its black, red and gold flag fluttered above cars and balconies as though patriotismhad never gone out of fashion. Atonement for Germany’s awful past is woven into the constitution and stillshapes foreign and domestic policies; it is one reason why Germany is Israel’s best friend in Europe. Butnow it is invoked less often as an excuse to avoid doing something that would otherwise make sense. The

economic crisis, ironically, has been a psychological boost; to Germans, the social-market economy looksmore like a solution than a cause.

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This portends a Germany that can be both more assertive and more useful to its allies. Its armed forces getinvolved in conflicts in the Balkans, the Middle East, Africa and Afghanistan, to which Germany is thethird-largest contributor of troops. In January, under pressure from America, it agreed to raise the maximumnumber of soldiers it could send to Afghanistan from 4,500 to 5,350 and to double its aid for civilianreconstruction.


• Sources and acknowledgments• Getting closer • Older and wiser • Inside the miracle• The green machine• Much to learn• What a waste• Steady as she goes• » A muted normality «• Offer to readers

Germany now defends its national interests more frankly, especially in Europe. Helmut Kohl, the chancellor who guided Germany to unification, was responsible for the last great act of self-denial, the surrender of theD-mark. The tone changed with his successor, Gerhard Schröder, who made it clear that Germany would notreach for its cheque book every time the European Union put out its hand. He also signed a deal to build agas pipeline from Russia that bypasses Poland and the Baltic states (and now works for the consortium thatis constructing it), suggesting that a more self-confident Germany would also be a more selfish one.

This marks a generational change. Responsibility is passing from the ‘68ers, moral prosecutors of the crimescommitted by their parents, to the youth of 1989, notes Joschka Fischer, whose progress from radical streetfighter to foreign minister sums up the arc of his generation. The next one has less need of the EU to keep it

on the straight and narrow, or of NATO to protect it from attack. Last summer Germany’s constitutionalcourt ruled that the EU lacked the democratic legitimacy to push European integration further.

Yet the ‘89ers face new anxieties that keep them hanging on to the old structures. Germans were the biggest beneficiaries of the post-war bargain under which Europe outsourced its security to America and used themoney it saved to build the welfare state, notes Jan Techau of the NATO Defence College in Rome. ButEurope is no longer the front line and America’s focus is shifting to the Pacific. Europeans fret that Chinaand America will make global decisions over their heads.

The answer to that is for the Europeans to speak with a more coherent voice and to strengthen their partnership with the Americans. Terrorism, climate change and the rise of China are probably best faced by

investing more in the main alliances, not less. But the alliances themselves are under strain from a variety of causes. It falls to Germany to help.

Angela Merkel, a more self-effacing character than Mr Schröder, has sent mixed signals. She wasinstrumental in securing the passage of the Lisbon treaty, which strengthens the EU’s role in justice,migration and foreign policy. Yet when it came to picking the first holders of the top jobs created by thetreaty—the president of the European Council, which represents heads of government, and the highrepresentative for foreign affairs—she joined her fellow leaders in choosing figures too puny to competewith them. In European emergencies Mrs Merkel has been watchful of German treasure and national

prerogatives. Like her predecessor, she wants a permanent seat for Germany on the UN Security Council.Germany is coming to resemble France in balancing European cohesion with the pursuit of national status,says Gunther Hellmann of Johann Wolfgang Goethe University in Frankfurt.

Once burned, always shy



















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Yet unlike the victors of the second world war it remains, in the words of Constanze Stelzenmüller of theGerman Marshall Fund, a “self-shackled republic”. Germany’s NATO partners see it as passive, reactiveand foot-dragging. Post-war pacifism remains vigorous. Germans respect their armed forces but a 2007survey by the Bundeswehr found that only 42% of the population were proud of their achievements,compared with 87% of Americans. Most want Germany to pull out of Afghanistan as soon as possible.

What is striking, however, is how little the Germans protest. Even though they disapprove of theAfghanistan operation, 60% accept that such missions are unavoidable, according to Allensbach, a pollingorganisation. Germany’s most popular politician is Karl-Theodor zu Guttenberg, the aristocratic defenceminister. Similarly, the EU inspires little enthusiasm, but few people doubt that Germany’s destiny lieswithin it. National pride is partly linked to a sense of international duty.

Germany’s friends no longer worry much that pride will ever become hubris again. A federal state with adeclining population embedded in democratic alliances is unlikely to be a threat. But they do fear that itssense of duty will flag. As Germany comes of age, it seems unsure whether to assume more responsibilitiesor merely more prerogatives. Its allies are depending on Germany to become wiser with age.

Kenya's crumbling government The great rift

Only greed and pressure from abroad now bind the ruling

politicians together

Apr 23rd 2009 | nairobi

AFTER the horrendous violence that followed Kenya’s flawed general election in 2007, the mediation of Kofi Annan, a former secretary-general of the United Nations, was acclaimed for pushing the two main

political parties into a coalition government. This at least stopped the bloodshed. Now, however, the deal isunravelling—fast. At a recent summit feuding government ministers could not even agree on what to discussin order to find common ground. The Orange Democratic Movement (ODM) of the prime minister, RailaOdinga, stomped out before the meeting had even begun, accusing President Mwai Kibaki’s Party of

National Unity (PNU) of blocking the agenda.

Among the foreign diplomats looking on, optimists refer to the squabbling coalition as an “unconsummatedmarriage”. The less charitable say Kenya does not have a functioning executive at all, just an unholy allianceof fierce rivals. A schedule of constitutional, electoral, judicial, security, land and economic reforms waslaid out in the original agreement between the two parties. A domestic tribunal to judge those responsible for the post-election mayhem was supposed to be set up and a truth commission established. Yet more than a

year later the ODM and PNU have failed to agree on any of these issues.

New corruption scandals, confined to no party, are regularly revealed by Kenya’s papers. With so manysenior figures from the main parties co-opted into the government—which has 94 ministers and deputies,each earning over $15,000 a month—Kenya has become almost a one-party state. Ministers constantlysquabble over pay, protocol, seniority and even who gets the best rooms at government get-togethers. Thechurches, NGOs and foreign diplomats are left to play the role of opposition, cajoling and threatening fromthe sidelines.

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The infighting and bickering have also confounded hopes for measures to tackle the causes of the post-election violence, or even the country’s increasing gang violence. For example, Mr Odinga backed calls for



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the resignation of the soldier turned chief of the police, Major-General Hussein Ali, after he had beenheavily criticised by human-rights groups and the UN over the activities of police death-squads. But Mr Kibaki, who appointed Mr Ali, has refused to let him go, despite an agreement to have a civilian head of the

police. This week clashes in central Kenya between villagers and gang members of a criminal sect known asthe Mungiki, who belong to the Kikuyu group, Kenya’s biggest, left another 40 or so people dead.

Parliament reconvened this week. The next elections are not due until 2012, but so grave is the impasse that politicians are already attending to their political futures rather than present troubles. Martha Karua, whoresigned as justice minister on April 6th in protest at Mr Kibaki’s decision to appoint judges withoutconsulting her, has said she will run for president. She gives press interviews, addresses crowds andlambasts the government she so recently abandoned as if a national poll were due for next week. Ms Karuais popular because she gives voice to the disgust felt by ordinary Kenyans towards their politicians. Her resignation is seen as a rare display of principle.

Unfortunately for Kenya, all that holds the coalition together now is mutual greed and pressure from abroad.Despite everything, foreign donor governments are nonetheless determined that the coalition should notcollapse entirely. They believe any government is better than none, fearing yet more violence.

Mr Annan may intervene again. Within a few months, unless the domestic courts deal with the matter properly, he promises to hand over to the International Criminal Court the names of ten people considered by a special Kenyan commission to be responsible for the post-election violence. The removal of thesefigures from Kenya’s politics, and even from the cabinet itself, might give a useful jolt to the country’sdysfunctional political system.

State pensions in Europe The crumbling pillars of old age

If governments and employers cannot be trusted to provide for oldage, who can?

Sep 25th 2003

ON TUESDAY September 23rd, Silvio Berlusconi, the prime minister of Italy, briefed employers and unionleaders on a long-anticipated plan to reform his country's state pension system. It is in dire need of reform.Italy has one of the lowest birth rates in the world and one of the most generous state pension schemes—anunsustainable combination that leaves an ever diminishing workforce paying for an ever rising number of

pensioners. Many other countries in Europe are saddled with similar problems, largely based on promisesmade before the workers who will pay for them were even born.

The Bank of Italy and Confindustria, the employers' association, say (rightly) that Mr Berlusconi's packagedoes not go nearly far enough. However, Italy's three main unions, the CGIL, UIL and CISL, think it goestoo far. They have threatened “a fighting response...a strike.”

If the package survives future labour unrest, it will at least have taken some steps in the right direction. For example, it proposes that from 2008 the mandatory retirement age be raised from 60 to 65, and that theminimum number of years to be spent in employment in order to qualify for a full state pension be liftedfrom 35 to 40. It also proposes scrapping the so-called seniority pensions that allow Italians to retire at 57 if they have worked for 35 years. The proposal is due to be approved by the Italian cabinet on September 29th

before being submitted to parliament.


• » The crumbling pillars of old age «

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Related items

• State pensions in Europe: Work longer, have more babiesSep 25th 2003

Attempts to trim state pensions in recent years have aroused the anger of workers across Europe. On June3rd this year France was virtually closed by a nationwide strike against the government's proposed pensionchanges, on the same day that Austrians brought their country to a halt over pension reform. Normally amodel of cosily consensual industrial relations, Austria saw more than a million people take to the streets todemonstrate their grievances over pensions.

In France and Italy, political leaders have repeatedly backed down when strikes over pension reform havethreatened to paralyse their countries. In 1995 the then French prime minister, Alain Juppé, lost his job over the issue. Leaders in Austria, Germany and Spain have avoided strikes largely by avoiding serious attemptsat reform, muddling through in the meantime with timid tinkering that does not touch the fundamentals.

This year, however, has been significantly different. The French prime minister, Jean-Pierre Raffarin,claiming grandiloquently that the pensions issue was “about the survival of the republic”, pushed throughunpopular reforms and managed to keep his job. So too did Wolfgang Schüssel, his Austrian counterpart.

Gerhard Schröder, the German chancellor, has not yet taken steps as radical as his two neighbours', but hemay soon have to do so. On August 29th, an advisory panel recommended that he gradually cut pension

payments by as much as 10% in real terms over the coming years, and that he progressively raise theretirement age from 65 to 67.

You pay as they go

Europe's state-administered pension systems are, for the most part, financed on a pay-as-you-go (PAYG) basis. There is no huge pot out of which future obligations can be met. Those in work pay (via a tax on their

current wages) for the pensions of those who have retired. In Italy and Austria, public pensions gobble up asmuch as 15% of GDP annually; in France and Germany the figure is about 12%. By 2040, saysCommerzbank, a German bank, some governments' overall unfunded pension liabilities will be three timestheir country's GDP, if nothing is done before then. The bank goes on to say that the PAYG schemesunderlying most state pensions would see their practitioners thrown in jail if they were private operations.

The outlook for state pensions is not equally dire across Europe. Britain, the Netherlands, Scandinavia andSwitzerland, for example, have already shifted much of their pension burden from what is known as the first

pillar (the state) to the second pillar (the employer), and even in places to the third pillar (the individual pensioner-to-be). In Britain and America, government spending on pensions accounts for only 5-6% of GDPa year.

Pay-as-you-go systems were introduced as long ago as 1889 by Otto von Bismarck, Germany's chancellor.They worked well for as long as the active workforce vastly outnumbered the retirees—as they did inBismarck's day. The retirement age then was 70, and the average life expectancy was 48.

But life expectancy has been rising now for 300 years, and it rose particularly quickly in the second half of the 20th century. Between 1950 and 1995, average life expectancy in Britain increased from 69.2 years to76.2, and in France from 66.5 to 77.1. Moreover, it has not stopped rising yet. Between 2000 and 2020 theremaining life expectancy of a 65-year-old male in Germany is expected to increase from 12.1 years to 14.9.

This ageing of the population is being combined with falling birth rates, a relatively new phenomenon.During the baby boom of the 1960s—between 1960 and 1965—the overall birth rate in the European Unionwas 2.7 children per woman, comfortably above the rate of 2.1 required to maintain the size of the

population. By 1995, however, that rate had fallen dramatically to 1.5 children per woman. In Italy, thefigure is even lower. In a paper published this week, David Willetts, the British Conservative Party's

https://www.economist.com/node/2085219

https://www.economist.com/node/2085219

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spokesman on pensions, wrote that Europe's pension problem “is not life expectancy. It is birth rates.Europe's working-age population is set to fall by 40m, or 18%, by 2050.”

Low birth rates are an old-world phenomenon. America has a much higher birth rate and a higher rate of

immigration. (Immigration, however, does not boost populations as much as is sometimes assumed, becauseimmigrants tend to have few children in their new country.) At the moment, the EU's population is some90m greater than America's. But by 2050 America could have 40-60m more people than today's EU member states.

Germany and Austria illustrate the remorseless consequences of this demographic pincer movement. Seven-tenths of Germans' pensions still come from the Bismarckian state system. Last year the levy on wages to

pay for this, half of it from workers and half from employers, was 19.1%. Today, fewer than three workerssupport each German pensioner. But if current ageing and fertility trends continue, that figure could behalved by 2030.

In Austria, had Mr Schüssel not fought for his government's reform, workers would have been obliged tochannel almost half of their wages into the state pension scheme in 20 years. Under those circumstances, anyAustrian with portable skills would almost certainly choose to take them elsewhere.

Pretend it's painless

As the pension time-bomb has ticked away, European governments have become more imaginative infinding methods to cut back on the promises of the state pension system. Their main aim has been to makethe cuts seem as painless as possible, and to encourage people to save on their own for their retirement.

Governments are, for instance, prolonging the number of years that a person has to work in order to qualifyfor a full state pension. This is proving to be one of the least unpopular reforms—people are more unhappyabout increases in contributions or cutbacks in benefits—except in France. There the increase in the number of years that public-sector employees must work in order to qualify for a pension (from 37.5 to 40, and later to 42, the same as the requirement in the private sector) was the most controversial part of this year's reform

bill.

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Another step that is being taken in order to ease the pressure on state pensions is to switch any indexation of the benefits from wage inflation to price inflation. France was one of the first to do this (in 1993), but thereform applied only to the private sector. As wages tend to rise by more than prices, the move was inevitablyaccompanied by a rush aux barricades.

A more simple reform is to raise the retirement age. This year Austria decided to increase its retirement agefor men gradually from 61.5 to 65 years, and for women from 56.5 to 60 years. Italy is now planning to raiseits retirement age to 65—though Giancarlo Fontanelli of Inpdap, the social-security agency for public-sector workers, would like 70 to be the retirement age for everyone. And Germany, which has already raised its

retirement age from 63 to 65, may yet go further. Bert Rürup, an economist on Mr Schröder's advisory panel, is proposing it be raised in monthly increments to 67 between 2011 and 2035.

Putting more in the pot

As the extent of the pensions crisis began to unfold, a number of countries set up reserve or buffer funds tohelp them pay the bills. The earliest funds were created in the 1960s and 1970s in America, Canada andJapan, but they were designed as a safeguard for the social-security system as a whole, not specifically for

pensions. The funds set up by Belgium, France and Ireland over the past decade, on the other hand, werespecifically intended to back their PAYG schemes.

The French buffer fund, the Fonds de Réserve pour les Retraites (FRR), was set up in 1999 with the aim of raising as much as €150 billion ($172 billion) by 2020 to help finance public pensions for the following tenyears. September 12th this year was the closing date for applications from private-sector firms to manage the27 separate pools into which the €16.6 billion that the FRR has so far managed to accumulate has beendivided. There was no shortage of candidates for the jobs.

Governments in Europe have also tried to encourage their citizens to save for themselves by sweetening newindividual savings schemes with tax breaks. In 2001, for example, Sweden allowed its workers to put 2.5%of their wages (out of their 18.5% payroll-tax contribution) into an individual account.

In the same year, Germany introduced the Riester pension, named after Walter Riester, the labour minister responsible for the reform. This gives German workers the option of putting 1% of their pay into their ownretirement account, a percentage that is to rise in steps to 4% by 2008. The Riester scheme has failed to takeoff as planned, though, despite generous subsidies to encourage low-earners and parents with dependent

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children to take part. Some say the scheme is too hard to understand; others claim that savers are still tooscarred by the recent bear market.

Occasionally governments are more blunt. Either they increase the mandatory contributions to the pensionsscheme—in 1997, for example, the Netherlands increased the pensions levy on wages from 15.4% to18.25%, and Finland introduced an employee contribution in addition to the existing employer's contributionin 1993—or they reduce the pension benefits, a move as detested as any increase in the tax. In Austria, for example, benefits for new pensioners will be cut by 13.5% next year, and Austrians retiring early will suffer cutbacks in their pension benefits.

The corporate option

European governments hoping that corporations will solve the pensions crisis for them will be disappointed.The problems experienced by American and British companies' pension funds in recent years are a stark warning to countries trying to make the switch from public- to private-sector pension provision.

Most American and British companies' employee pension funds were set up as defined-benefit schemes,

schemes that promise to pay a given pension at a given age. This left the companies to assume the risk if thefunds' returns proved insufficient to meet those defined obligations. And sure enough, after the prolonged bear market, huge holes have been appearing in companies' pension funds. Not surprisingly, companies have been scrambling to convert their existing pension plans into so-called defined-contribution schemes, wherethe full pension cost is predictable.

Even so, some 44m Americans are still covered by defined-benefit plans, and American companies' pensionfunds now have a combined deficit (the amount by which the value of the scheme's assets falls short of thecurrent value of the pensions they are pledged to pay in future) of about $400 billion. Many firms havestarted to make large contributions to bridge some of the gap and to satisfy statutory requirements. Last year,for example, they pumped $31.6 billion into their pension funds. This year they would have had to pay an

estimated $125 billion in top-ups if the rules on pension-fund solvency had not been relaxed.

Pension obligations have become a huge drag on corporate earnings and, as such, they are threatening theAmerican economy's timid recovery. Two bills currently in Congress are seeking to provide relief while stillmaintaining the health of corporate pension funds. On September 17th, the Senate's finance committee votedto give companies some relief on their pension funding, a move that could save them about $60 billion over the next three years. A bill introduced by Republicans in the House of Representatives would save them onlyabout $25.5 billion over the next two years.

The Confederation of British Industry puts the shortfall in British corporate pension funds at £160 billion($265 billion). Companies such as Sainsbury's, Marks & Spencer, HSBC, BT and GlaxoSmithKline are

closing their defined-benefit schemes to new employees and replacing them with defined-contribution plans.This switch has cost British employees up to £1.6 billion a year in pension payments, according to CloseWealth Management, an investment manager. About 900,000 people have seen their defined-benefit plansclosed down and their employers substantially reduce their contribution to the alternative (defined-contribution) plan, sometimes by as much as half.

Funding for yourself

With the expansion of defined-contribution plans, which lumber the individual with the investment risk of his or her pension, the distinction between the second and third pillars of support is blurring. So it makesmore sense for people to organise their own pension plans instead of leaving them up to an employer, withwhom they are less and less likely to remain for the whole of their working life. What's more, with anindividual private retirement account people are free to decide for themselves when to stop working. Everyextra year of work increases their pension pot.

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So Europe should look to Latin American countries, which pioneered this do-it-yourself approach byintroducing individual retirement savings accounts. In 1980, Chile set up a funded scheme to replace thecountry's bankrupt PAYG system. The scheme requires workers to pay 10% of their annual income into

private retirement accounts, which they own and control. About 5.6m Chileans are contributing to thescheme, although it is compulsory only for the 3m of the country's workforce who are in full-timeemployment.

Other Latin American countries have introduced similar, though less comprehensive reforms. Mexico, for instance, introduced obligatory, privately managed retirement-savings accounts for its private-sector workersin 1997. Bolivia, one of the poorest countries in the region, replaced its state pension system in 1997 with

private retirement savings accounts. Bolivians, like Chileans, now pay 10% of their wages into this pensionscheme. El Salvador introduced a system very similar to the Chilean model in 1998, and Colombia,Argentina and Uruguay have also partially privatised their systems.

If private contributions to retirement savings accounts are not mandatory, as they are in Latin America, thereis concern that, left to their own devices, individuals may not save enough for their old age. The Associationof British Insurers warns that there is a £27 billion gap between what people in Britain are saving and whatis needed for them to enjoy a comfortable retirement. (About one-third of Britons are not saving anything at

all, while a good part of the rest save for holidays or cars but not for their long-term welfare.)

One solution is to introduce an element or two of compulsion. In Britain, for instance, the government couldmake its stakeholder pensions, a new low-charge private investment scheme, compulsory for all employees.Likewise, Germany's Riester pension could become mandatory for employees there.

Of course, the transition from the first to the third pillar cannot happen overnight. The longer a PAYG pension system has been going, and the more generous its benefits, the bigger the build-up of implicit debtin the system. Because of this heavy transitional burden, no country with a large PAYG scheme can make arapid switch to a privatised alternative. For one thing, that would impose a double burden on the currentworking generation. They would have to build up their own funded pension at the same time as they pay

today's pensioners for previous governments' promises.

When younger members of the workforce feel the full weight of the burden they are being expected to carry,they may start to protest, and so provide a political counterweight to the ageing voters who are determined to

protect their own entitlements at the expense of those coming after them. Alternatively, of course, younger people could remove the need to fund a pension for themselves by returning to the oldest pension plan onthe planet—a large number of children. That, of course, would solve the birth-rate problem too.

What cannot be said in five minutes

Jul 20th 2010, 11:37 by J.B. | KABUL

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WEARY

international conference-goers could be forgiven for pinching themselves to remember they were not inTokyo, Paris, Bonn—or indeed any of the nine cities around the world where foreign ministers have beenmeeting over the past nine years to discuss all things Afghanistan.

The themes were all wearily familiar, particularly to anyone who attended the London meeting held inJanuary this year, at which the international community called for progress on state-building, tacklingcorruption and training the Afghan National Army (ANA). Sitting around a huge table in the Afghan foreignministry, the 68 delegates were given five minutes each to say what mattered to them. For some it was moreeffective spending of foreign aid money. Others called for a greater focus on overhauling Afghanistan’scorrupt judiciary. But, with the exception of the Iranian foreign minister who went amusingly off-message(and well over his five minutes) with a rant about international forces being the cause of rising insecurity,

the delegates did not say anything to set the pulse racing. In fact, about the only novelty value in Tuesday’sconference was the fact that of all the meetings held since 2001, it was the first to be held in Afghanistanitself.

The hope is that this might prove to the world that, nine years after the international community descendedon the pile of rubble made by 30 years of war, Afghanistan’s government is on the way towards being ableto look after itself. That day cannot come soon enough for most of the foreign ministers sitting around the

big table in Kabul. Many of them are struggling to justify this government’s expense, in foreign blood andtreasure, to the public back home. Hillary Clinton, America’s secretary of state, did not shrink frommentioning the possibility of failure: “Citizens of many nations represented here, including my own, wonder whether success is even possible—and if so, whether we all have the commitment to achieve it.”

Sadly for Afghanistan, the majority view among diplomats and the country’s long-term observers is thatsuccess is probably not possible. The foreign powers are thought to lack the stamina it would take to standup an Afghan government capable of withstanding a resilient insurgency while holding its own in a regionof meddlesome neighbours. With that gloomy assumption in mind, most of the five-minute speechessounded absurdly beside the point. Hamid Karzai, Afghanistan’s president, said the country is so wellendowed with mineral wealth (30% of its untapped resources are worth between $1 trillion-3 trillion,according to him) and so well placed in the region that it can become “the Asian Roundabout” for trade.

Much faith was vested in the ANA, which is being rapidly enlarged while its standard of training is

improved. The hope is that better recruitment and training, along with a similar build-up of the Afghan National Police, will allow for a transition to full Afghan control of the armed forces by 2014. But, again,the growing band of pessimists have little faith that the ANA—which still struggles to recruit southernPushtuns—will ever be able to control the provinces of the rebellious south.

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The two fields could provide gas worth $4 billion a year. As Israel’s energy bill is $10 billion—more than5% of GDP—the gas would sharply improve the country’s trade balance. Indeed, Tamar should supply allIsrael’s domestic gas needs, both for industry and household consumers, for at least 20 years. Leviathan’sreserves should be available for export.

This is where Greece may come in. The two countries, cold and distant in the past, have suddenly become bosom friends. Israeli military aircraft, no longer welcome in Turkish skies, are training over Greece inconcert with the Greek air force. The two prime ministers, Binyamin Netanyahu, an arch-capitalist, andGeorge Papandreou, a socialist scion, have exchanged cosy visits. Israeli businessmen and tourists who onceflocked to Turkey are switching to Greece. Recent diplomatic talks in Jerusalem included a session withIsrael’s petroleum commissioner. Israel sees Greece not only as a gas purchaser but also as a European hubfrom which Israeli gas could be sold and piped on.

But Greece may not sign on the dotted line until Israel has agreed with Lebanon and Cyprus on where a border is to be drawn in the sea, demarcating each country’s economic exclusion zone. Israeli and Lebaneseministers have already traded accusations and threats. Tension has risen since Iran began offering to helpdevelop Lebanon’s share of the undersea wealth.

The Israelis say they are close to agreeing with Cyprus on a “median line” to let them share some of theseabed between them; as economic exclusion zones generally extend 200 miles (322km) out to sea, there isan overlap. The Israelis then intend gingerly to approach Lebanon, though the two countries are formally ina state of war, in the hope eventually of holding a UN-backed international arbitration.

Meanwhile, the Israelis have run a string of buoys into the sea off the coastal border point between Israeland Lebanon. But the Lebanese say they are angled too far northward. The Israelis point out that Tamar and

Leviathan (see map) are anyway well south of the line that Lebanon claims as the correct maritime one.

In any event, unlike Mari-B, where a derrick standing on the sea floor pumps up the oil, Tamar andLeviathan will present no target above the waterline for anti-Israeli guerrillas from outfits such as Hizbullah,

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the Lebanese Shia party-cum-militia. Nearly 2,000 metres deep, the wells will be installed and operated byrobot-like machines capable of withstanding the intense underwater pressure.

The Palestinians, especially in Gaza, are watching developments twitchily. A decade or so ago, British Gaswanted to work with the Palestinian Authority to develop the Marine field off Gaza; most or all of the gaswas to be sold to Israel. But Ariel Sharon, when he was Israel’s prime minister, vetoed the project,ostensibly on security grounds, and the field lies unexploited.

A big bonus for poor Israelis?

Back on land, a committee of experts appointed by the finance minister has recommended a steep rise in thegovernment take on successful gas or oil finds. A series of tax breaks and low royalties would mean, thecommittee found, that Israeli citizens would do poorly out of their country’s natural resources byinternational standards. So the committee proposed progressive taxes on profits that could mean thegovernment taking 66% of profits on flourishing gasfields. Oil and gas executives, apparently backed by theAmerican administration, are complaining loudly. The offshore consortium has retained legions of lobbyistsand public-relations people to make its case.

Lined up against them are civil-society campaigners such as Michael Melchior, who hailed therecommendations as “a significant step in the right direction”. As a former chief rabbi of Norway and later an Israeli politician linked to the Labour party, he is urging the government to follow Norway’s example by

putting the state’s share of profits into a sovereign wealth fund and earmarking the income for socialwelfare. “A one-time chance,” he says, “to bring truly historic change to Israeli society.”

China's stockmarketSand in the gears

A new tax hits the euphoric Chinese bourses

May 31st 2007 | shanghai

COULD it really be that easy? This week China abruptly raised the “stamp duty” it levies on share purchases. For a day or so, the increase seemed to accomplish what dire warnings by Chinese officials couldnot—a fall in China's bubbly stockmarket. On May 30th prices on the Shanghai Composite Index dropped

by 6.5%. But they promptly regained 1.4% by the end of the following day.

For months, the authorities have been as eager as any bear for a market decline. In the past jawboning had

some effect. But recently a swelling throng of retail buyers, and even many experienced bankers, have feltsure the government would not seriously spoil their party until after the Olympic games to be held in Beijingnext summer.

To support this theory they cite the unwillingness of the authorities to do anything with great bite. Interestrates have been raised twice this year, but not by much. The issuance of new mutual-fund shares was cappedin December, but the restrictions ended when share prices dropped in February. There have been threats of acapital-gains tax, and brokers must now tell the hordes of new customers packing into their offices that

prices can fall as well as rise. But brokers say that as long as prices go up, their customers do not care. Theonly message they heed is the one on the tape.

Related items

• Chinese bankruptcy: Euthanasia for companiesMay 31st 2007



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The tripling of the stamp tax, to 0.3%, makes the position of regulators abundantly clear. But the duty failsto address why valuations in China have become unhinged. For a market to work effectively it needsinformation. In China corporate disclosure is weak. There is a desperate need for regulatory pressure to force

public companies to say more about what they do and to tell the public, not just a tiny pool of connectedinvestors. Encouraging information, however, is not a Chinese speciality.

Conversely, China needs fewer regulatory restraints on the investment options available to its citizens. Itshould allow them to invest more freely abroad, or in commercial paper and bonds. Instead it tries to widenopportunities by encouraging public offerings, priced to jump on issuance. This has dangerously stokeddemand.

Suppose the authorities were to find a way to bludgeon the stockmarket, knocking, say, a quarter off share prices. That would inflict misery on the new investor class, and valuations would still not be particularlycheap. The best way to curb the excesses of China's sharebuyers is to give them somewhere else to put their money.

Battle of the bourses

Exciting times for an ancient industry

Nov 18th 2005

After a little reflection, it ought to be no surprise that financial exchanges—the marketplaces where shares,commodities, options and futures are bought and sold—are as old as capitalism itself, and maybe a bit older.Capitalism, after all, requires that capital be raised, priced and allocated. The Amsterdam stock exchange,which claims to be the world’s oldest, dates from 1602, when it was established for the trading of shares inthe Dutch East India Company. Trading in futures and options began there a few years later.

You might expect industries this old to have settled into maturity long ago, with arthritic structures,established habits and a whiff of stately decline. Not this one. For one thing, it is booming—especially inderivatives. On the Chicago Mercantile Exchange (CME), an average of 5.2m futures and options contractsa day were traded in September 2005, 45% more than a year before. Daily volumes now sometimes brush10m. And upheaval has become the norm. Several exchanges have given up their old, mutual status infavour of a stockmarket listing. Exchanges have merged with one another, looked for new markets for their

products and developed new products for their markets. Be ready for more of all this in 2006.

Underlying these trends is rapid technological change, which means that trades in an ever-broadening set of financial instruments can take place anywhere, any time, and faster than ever. Funnily enough, in some waysthis technological shift makes the trading industry shed some of the image that has made it look, well, a bit

brash for one of such advanced years. Think of derivatives traders especially and you may imagine fortunes being made and lost in a whirl of coloured jackets, frantic hand signals and screamed buy and sell orders. Inmost exchanges this open-outcry system has either already vanished or is being supplanted by electronicmethods. But the same technological forces that are making trading quieter are shaking up the industry.

In 2006 these shifts will continue in at least two main ways. First, some big exchanges will probably buyothers, large or small. In Europe, it would be a surprise if the fate of the London Stock Exchange (LSE)were not settled soon. The LSE wants to stay independent, and has rebuffed informal advances fromGermany’s Deutsche Börse and from Euronext (which controls the Brussels, Lisbon and Paris stock exchanges as well as venerable Amsterdam). Deutsche Börse’s attentions faded when its shareholdersrebelled, forcing out its chairman and chief executive. Euronext’s management still looks keen—though its

shareholders do not. Macquarie Bank of Australia has shown an interest too. Conceivably, Deutsche Börsecould try again; or it might look at Switzerland’s SWX, which its new chief executive used to run and withwhich it owns Eurex, a derivatives business.

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Mergers may be in the air across the Atlantic too. For instance, ties between the CME and the ChicagoBoard of Trade (CBOT) have been getting closer. The two old Chicago rivals already have a commonclearing operation, which, say some, amounts to most of a merger already. Even if the CME does not tie theknot with its neighbour, it might well use its heft to buy elsewhere. It certainly has the wherewithal: itsshares, floated at $35 in 2002, were fetching $340 in October 2005.

The second trend is geographical spread, as exchanges expand their operations far beyond their home turf.The question is, what works best? One strategy is to take a share of the market from local incumbents. Eurexhas tried to do this in Chicago. The New York Mercantile Exchange would like its new London floor towrest trading in Brent crude-oil futures from the local International Petroleum Exchange. It is hard to makethis work, because in trading liquidity is everything, and siphoning it away from a liquid incumbent isnotoriously hard. It has been done before: Eurex’s predecessor won trading in German government-bondfutures from Liffe, now part of Euronext, in 1998. But that was an exception.

The same technological forces that are making trading quieter are shaking up the industry

An alternative strategy will prove more fruitful: the creation of satellite trading hubs in different parts of theworld, to exploit existing products more fully rather than try to steal business in which others are

entrenched. Technology now allows a given contract to be bought and sold anywhere, not just on onetrading floor in one city. The hubs allow exchanges to tap new sources of liquidity and thus to increaserevenue without increasing costs by very much. The CME, for instance, has set up trading hubs in Europeand Asia, to enable its own products to be bought and sold on its Globex trading system 24 hours a day.

There is more to watch out for. Derivatives exchanges will offer one new future or option idea after another.And the exchanges will have to battle not only with each other but also sometimes with their customers— mainly financial institutions—which are seeking cheaper ways of trading. So much for maturity.

The tea-partiers' little red book

Sep 23rd 2010, 15:53 by Lexington

MY PRINT column this week argues that under the influence of the tea-party movement too manyAmericans have begun to turn admiration for the Declaration of Independence and the Constitution into aform of worship, and that this is unfortunate. I know it is a trifle impertinent for a Brit to say such things,and I am bracing for the tar and feathers. But there are, of course, many Americans who say so too, and oneof those I spoke to whilst writing my piece deserves more attention than the column was able to give him.Michael Klarman, who teaches constitutional history at the Harvard Law School, was a lot ruder than Idared to be when he gave a "constitution day" lecture to John Hopkins last week.

Professor Klarman made four main points about what he calls "constitutional idolatry". They are (1) that the

framers' constitution represented values that Americans should abhor or at least reject today; (2) that thereare parts of the constitution America is stuck with but that are impossible to defend based on contemporaryvalues; (3) that for the most part the Constitution is irrelevant to the current political design of the nation;and (4) that the rights that are protected today are mostly a result of the evolution of political attitudes, not of courts using the Constitution to uphold them.

Point (1) is surely unarguable: the protection of slavery, the restriction of suffrage and so on. Point (2): twosenators per state regardless of population, restricting the presidency of a nation of immigrants to those bornin America; (3) beyond Congress, the courts and the executive branch today's political system includes afourth branch, the administrative state, which the framers could never have imagined and which is almostcertainly "unconstitutional" in many ways but which no court will ever strike down; (4) when the SupremeCourt has ruled to uphold rights it has generally been motivated by changing public opinion, not by a textualstudy of the Constitution. Judges, Mr Klarman says, are too much a part of contemporary culture to take

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Sadly, I cannot yet point to a transcript of Mr Klarman's provocative lecture. But before you head off to our offices in Washington, DC, with your tar and feathers, allow me to suggest heading instead for a certaininstitution of higher learning on the banks of the Charles River in Cambridge, Mass. It has long been full of dangerous revolutionaries.

Asylum-seekers

Mar 25th 2010

The UN High Commissioner for Refugees reckons that 377,160 people sought asylum in industrialisedcountries last year, almost exactly the same number as in 2008. The number of asylum-seekers rose in 19countries and fell in another 25. The fall was sharpest in southern Europe, where almost a third fewer peoplesought refuge last year than in 2008. America remained the most favoured destination, receiving 49,020applications in 2009. The number of people seeking refuge in Nordic countries rose by 13%. More asylum-seekers came from Iraq than from any other country during 2008. But last year Iraqis were outnumbered byAfghans, 26,800 of whom sought asylum in rich countries, 45% more than during 2008.

A coming test of virtue

Once a byword for financial busts, Latin America has so far

escaped this credit crunch unscathed. But for how much longer?

Apr 10th 2008 | miami

WHEN Latin Americans get together with bankers on American soil it has usually been to seek succour for their sickly economies. Yet at the annual meeting of the Inter-American Development Bank (IDB) in Miami

this week, the relative health of the participants was reversed. Thousands of empty flats in gleaming newskyscrapers clustering around Miami's downtown hotels bear witness to the severity of the housing-market

bust in South Florida. Distracted by their own losses, the investment bankers were in subdued mood or stayed away. The Latin Americans, for their part, were preening themselves over the vigour of their owneconomies. They hope they have “decoupled” from their giant neighbour to the north.

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Are such hopes justified? Latin America is doing better than at any time since the 1960s. Economic growthhas averaged over 5% a year since 2004, inflation has been generally low, direct investment is arriving inrecord quantities, and the region's current account and fiscal accounts are both in surplus. Of course theaverage conceals wide (and widening) variations. But to the surprise of some, the credit crunch has so far had little discernible effect. Indeed, as world prices for many of Latin America's key commodity exportscontinue to rise, the pace of growth has even accelerated in some countries.

Interest-rate cuts in the United States have prompted a number of investors there to buy higher-yieldingLatin American shares and bonds. Most Latin American stockmarkets have been holding up relatively well.The region's sovereign bonds are no longer tracking junk bonds up north; spreads (ie, the premium over theyield on American Treasury bonds) have risen barely more than one-and-a-half percentage points since lastJuly, while those on American junk bonds have risen five times as much. This month Fitch, a credit-ratingagency, raised Peru's bonds to investment grade.

Related items

• Mexico's energy reform: RegenerationApr 10th 2008• Free trade with Colombia: CountdownApr 10th 2008•

Venezuela: Strategic moveApr 10th 2008• Ecotourism in Peru: Rumble in the jungleApr 10th 2008• Brazil's economy: This time it will all be differentJan 17th 2008• The world economy: Test of staminaApr 12th 2007

But strains and anxieties are starting to emerge. Higher world prices for energy and food mean that inflationis edging up. That is testing the policy regime (of inflation targets and flexible exchange rates) that hasunderpinned the achievement of price stability in many countries over the past decade. Several central

banks, including those of Chile and Colombia, have missed their inflation targets. Some have begun totighten interest rates. Brazil's Central Bank is widely expected to raise rates on April 16th, ending threeyears of monetary easing. But this may cause currencies to strengthen further, causing difficulties for

exporters just when the current-account surplus is narrowing; Brazil is expected to post a current-accountdeficit of perhaps 1% of GDP this year, for example.

Meanwhile, the troubles in the outside world are raising doubts about growth. So far the best guess is that amild recession in the United States and a slowing world economy will cut growth in Latin America this year

by one point, to 4.5%. Commodity-exporting South America should be relatively unscathed. Even inMexico, where four-fifths of exports go to the United States, the economy has remained surprisingly robust.But Mexico's economy still moves in tandem with industrial production north of the border, and this may













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have further to fall. Production is currently flat; in 2001, when both countries were last in recession, it fell by5%.

The real worry is 2009. A prolonged recession in the United States would be costly for Mexico, CentralAmerica and the Caribbean; they would receive less in remittances from migrants and fewer tourists, as wellas exporting less. Since that kind of slump would prompt slower growth in Europe and Asia, prices for manycommodities would fall, hitting South America too. In such a situation, capital flows to Latin Americawould almost certainly diminish.

The question is whether Latin America's governments have the policies in place needed to counteract aslowing world economy, notes Andrés Velasco, Chile's finance minister. “In Chile the answer is yes,” hesays. The government has saved some $15 billion of its windfall copper revenues, and can spend thiswhenever the economy needs stimulation. To a much lesser extent, this goes for Mexico, Peru and somesmaller countries, too. Mexico's government has launched a public-works programme that will add perhaps1% of GDP to growth this year. In small and poor Honduras, where migrant remittances account for aquarter of GDP, the government is preparing a similar programme, says Rebeca Santos, the finance minister.At the other extreme, Venezuela, which has used its oil revenue to ramp up public spending and is running afiscal deficit amid bonanza, will be stretched.

Some economists argue that other countries should do more to imitate Chile's rigorously counter-cyclical policies. In a paper prepared for the bankers' meeting (“All that glitters may not be gold”), the IDB'sresearch department notes that 77% of the extra tax revenues generated by higher growth are being spent inways that create new entitlements, rather than being invested or saved. It argues that almost two percentage

points per year of Latin America's recent growth, and much of the improvement in its fiscal and externalaccounts, is the result of good fortune (favourable world conditions) rather than better management.

Maybe so. But whatever the cause, most of the region's economies are much more robust than they were.For most countries, a repeat of past collapses is “very unlikely”, concedes Santiago Levy, the IDB's chief economist. “But that's not the relevant question. The real issue is what we need to do to preserve reasonable

growth” in a harsher environment. This means tackling Latin America's traditional weaknesses in education, productivity and technology. Optimists argue that this is starting to happen, thanks to the past few years of growth and stability. Sceptics are yet to be convinced.

The Americas

Chinese leapfrog

Jan 22nd 2008

JUST as sports fans care deeply about their team’s position in the league, countries feel the same about their

economic ranking. In 2007, there was much leapfrogging in league tables, with America often a loser toChina. China's exports exceeded America’s for the first time last year. Yet more table-topping is expected in2008. However, China may be less proud to overtake America as the world’s largest carbon-dioxide emitter.But measured per person, the average Chinese will be responsible for much lower emissions than theaverage American.

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Leapfrogging or piggybacking?

The economies of India and China are not as sophisticated as they

appear

Nov 8th 2007

THE back of Gopal Raj's book “Reach for the Stars” carries a black-and-white photograph of the nose cone

of a sounding rocket, carried on the back of a bicycle. The book chronicles the unlikely beginnings of India'sspace programme, which launched its first rocket in 1963 from Thumba, a fishing village in the state of Kerala. Thumba was chosen as the launch site in preference to another location whose name translated as“White Elephant Island”.

The programme's founder had little patience for scoffers. “One is often told that such and such a thing is toosophisticated” for a developing nation, he wrote. But “I have a dream, a fantasy maybe, that we can leapfrogour way to development.”

India's path since then has remained idiosyncratic. The skills demanded by its industries are those of a muchricher country. This can be shown, roughly, by statistics; more sharply by anecdote. General Electric'stechnology centre in Bengalooru (formerly Bangalore), to pick one, is working on advanced propulsionsystems for jet engines. India's Tata Consultancy Services (TCS) produces the software for Ferrari's FormulaOne cars. India's drugmakers offer 60,000 finished medicines; only three countries produce a bigger volume.


• Transcending the genre• » Leapfrogging or piggybacking? «• Running fast• E-hinterland•

Splendid miscegenation• Does not compute• Offer to readers• Imitate or die• Sources and acknowledgments

















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• Consumer champion• Old parts, but a new whole• For all the PCs in China

China's evolution also has its peculiarities. In 1964, recently estranged from its Soviet patron, it devoted alarger share of its GDP (1.7%) to R&D than it ever has since. But after the decade-long Cultural Revolution,this is how one study described the state of its industry on the eve of Deng Xiaoping's economic reforms in1978: “vans and transformers that failed to keep out rainwater, sewing machines that leaked oil onto thefabric, power tillers rusting outside a factory that churned out fresh batches of unwanted inventory”.

Now, according to Dani Rodrik of Harvard University, China's exports are as sophisticated as those of acountry three times richer. The goods it sells to America overlap to a surprising extent with the merchandiseAmerica buys from members of the OECD, a club of rich democracies, argues Peter Schott of Yale. By thismeasure, China's exports are more highly evolved than those of Brazil or Israel.

Particularly stunning is the growth of China's exports of information and communication technology (ICT),a category covering high-tech staples, such as telecoms equipment, computers, electronic components, andaudio and video equipment. In 2004, the OECD reports, China passed America to become the world's

biggest exporter of such goods (see chart 2).

Xu Zhijun, now head of marketing for Huawei, China's leading vendor of telecoms equipment, recalls the“distrust and doubt” he faced from 1998 to 2001. The customers he courted would not believe the productswere Huawei's own: “We had to make 100 or maybe 1,000 times the efforts of an American or Europeancompany.” Kiran Mazumdar-Shaw, boss of Biocon, an Indian biopharmaceutical company, describes asimilar progression: “In the early days, we were taken with a big pinch of salt in India. Now we are

beginning to upset the big guys. We have nuisance value. That means we are successful.”

A sliver of riches

How big is the technological gap between America and China? Forty-five nanometres, about 1/2,000th of the width of a human hair. That, at least, is the answer you might reach if you visit Semiconductor Manufacturing International Corporation (SMIC), China's leading maker of silicon chips. The company wasfounded in 2000 by Richard Chang, a Taiwan-born American citizen, who spent 20 years working for TexasInstruments. Having built chip foundries or “fabs” in Taiwan, Italy, Japan and elsewhere, he decided to dothe same in China.

Two measurements sum up the stature of a chipmaker: the diameter of the silicon wafers it turns out (bigger is better), and the scale at which it etches them (the smaller the better). Prior to 2000, China could make 6-inch (15cm) wafers, good enough for washing machines perhaps, but more than a decade behind the state of







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the art. SMIC now boasts two factories that can make 12-inch wafers, as big as any in the industry.Moreover, it can etch circuits at a scale of 90 nanometres; just 45 nanometres behind the industry's leaders.

SMIC's Shanghai fabs defy the stereotype of China's labour-intensive assembly lines. Its wares are notglued, stitched or soldered; they are coated, patterned, etched, doped, annealed, plated and polished. Wagesaccount for no more than 5% of the cost of chipmaking: it is the capital not the labour that steals the show.

Cassettes of wafers move from one expensive piece of kit to the next on overhead tracks, picked and placed by robotic arms. First coated with a thin insulating film and a light-sensitive layer, the silicon is lined upunder a “mask”, which leaves some bits exposed to a beam of ultraviolet light, other bits protected. The

beam inscribes a pattern, like strap marks on a sunbather, which is then etched into the chip by a jet of plasma. The etch-marks expose the silicon beneath, which is then implanted with phosphorus or boran.These impurities, or “dopants”, transform silicon from its natural state as an insulator—a tidy latticework of atoms with no loose electrons—into its famous modern role as a semiconductor, permitting electrons to stopor go as the chip designer pleases.

Thanks to its prodigious output of electronic gear, China is now the biggest market for integrated circuits inthe world. All the laptops and handsets, as well as the refrigerators and air conditioners, rolling off its

production lines have chips inside. But China's foundries can satisfy only a tiny fraction of that demand.Their supply amounts to $3.1 billion, whereas China's demand is $62 billion. The supply shortfall couldreach $112 billion by 2010.

This gap is one reason why Lee Branstetter of Carnegie Mellon University and Nicholas Lardy of thePeterson Institute for International Economics caution economists like Mr Rodrik not to overestimate China.China's firms have not managed “to leapfrog ahead and bend or even suspend the law of comparativeadvantage”. China is where electronic goods are made, not where much of the value is added.

As is so often the case, Apple's iPod is the best example. The 30-gigabyte video version was manufacturedin China by Inventec, a Taiwanese company. It sold for about $224 wholesale in 2005. But where did that

money go? Three economists—Greg Linden of the University of California, Berkeley, together with JasonDedrick and Kenneth Kraemer of the University of California, Irvine—have peered into the white box tofind out. Of the iPod's 424 parts, they reckon 300 cost one cent or less. The display module was worth about$20, but that was made in Japan by Toshiba-Matsushita. China did assemble all these bits and pieces and testthem. But that accounted for just $3.70 of the iPod's value. The largest bite was claimed by Apple: about$80 in gross profit.

Perhaps only 15% of the value of China's electronic and IT exports is added in China, Messrs Branstetter and Lardy think. The rest is imported. Look again at China's trade figures for ICT: exports amounted toalmost $300 billion in 2006, the highest in the world. But imports were $226 billion. China had a tradesurplus in computers, video cameras, TVs and telephones; but it had a deficit of $92 billion in electronic

components, including semiconductors, integrated circuits and audio and video parts.

China fetches low prices for its high technologies. The TV sets it sold in 2003 were worth about $73 a unit,according to Mr Rodrik's numbers. Malaysia's were worth twice that. The machinery America buys fromother members of the OECD, according to Mr Schott, is four times as expensive as the stuff it buys fromChina.

China's high-tech firms are cheap; they are also not very Chinese. None of the top ten, by 2005 revenues,was native-born. Foreign firms owned one-fifth of the assets in the ICT sector in 2004, accounted for thelion's share of exports, provided 16% of the employment and claimed 20% of the earnings. The wages they

pay stay in China; as do whatever profits they reinvest. But their know-how stems from overseas. SomeChinese firms may soon make their mark in high-tech industries, Messrs Lardy and Branstetter argue. Butthe transition of the economy “from net importer of technology-intensive goods to net exporter is likely totake many decades.”

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Mr Karnik thinks it little exaggeration to say that companies are either born as product companies or asservice companies, not both. Scribes want to become better scribes. To become a poet, you probably need to

be born as one.

Learning to live with Big Brother

The second article in our series looks at the new technologies for

collecting personal information, and the dangers of abuse

Sep 27th 2007

IT USED to be easy to tell whether you were in a free country or a dictatorship. In an old-time police state,the goons are everywhere, both in person and through a web of informers that penetrates every workplace,community and family. They glean whatever they can about your political views, if you are careless enoughto express them in public, and your personal foibles. What they fail to pick up in the café or canteen, theylearn by reading your letters or tapping your phone. The knowledge thus amassed is then stored on millionsof yellowing pieces of paper, typed or handwritten; from an old-time dictator's viewpoint, exclusive access

to these files is at least as powerful an instrument of fear as any torture chamber. Only when a regime fallswill the files either be destroyed, or thrown open so people can see which of their friends was an informer.

That old-time data: East Germany's filesAP

These days, data about people's whereabouts, purchases, behaviour and personal lives are gathered, stored

and shared on a scale that no dictator of the old school ever thought possible. Most of the time, there isnothing obviously malign about this. Governments say they need to gather data to ward off terrorism or

protect public health; corporations say they do it to deliver goods and services more efficiently. But theubiquity of electronic data-gathering and processing—and above all, its acceptance by the public—is stillastonishing, even compared with a decade ago. Nor is it confined to one region or political system.

In China, even as economic freedom burgeons, millions of city-dwellers are being issued with obligatoryhigh-tech “residency” cards. These hold details of their ethnicity, religion, educational background, policerecord and even reproductive history—a refinement of the identity papers used by communist regimes.

Related items

• Terrorism and civil liberty: Is torture ever justified?Sep 20th 2007• Civil liberties under threat: The real price of freedomSep 20th 2007• Privacy: Information overlordJan 18th 2007







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Britain used to pride itself on respecting privacy more than most other democracies do. But there is notmuch objection among Britons as “talking” surveillance cameras, fitted with loudspeakers, are installed,enabling human monitors to shout rebukes at anyone spotted dropping litter, relieving themselves against awall or engaging in other “anti-social” behaviour.

Even smarter technology than that—the sort that has been designed to fight 21st century wars—is beingused in the fight against crime, both petty and serious. In Britain, Italy and America, police areexperimenting with the use of miniature remote-controlled drone aircraft, fitted with video cameras andinfra-red night vision, to detect “suspicious” behaviour in crowds. Weighing no more than a bag of sugar and so quiet that it cannot be heard (or seen) when more than 50 metres (150 feet) from the ground, the

battery-operated UAV (unmanned aerial vehicle) can be flown even when out of sight by virtue of theimages beamed back to a field operator equipped with special goggles. MW Power, the firm that distributesthe technology in Britain, has plans to add a “smart water” spray that would be squirted at suspects, infusingtheir skin and clothes with genetic tags, enabling police to identify them later.

Most of the time, the convenience of electronic technology, and the perceived need to fight the bad guys,seems to outweigh any worries about where it could lead. That is a recent development. On America'sreligious right, it was common in the late 1990s to hear dark warnings about the routine use of electronic

barcodes in the retail trade: was this not reminiscent of the “mark of the beast” without which “no manmight buy or sell”, predicted in the final pages of the Bible? But today's technophobes, religious or otherwise, are having to get used to devices that they find even spookier.

Take radio-frequency identification (RFID) microchips, long used to track goods and identify family pets;increasingly they are being implanted in human beings. Such implants are used to help American carerskeep track of old people; to give employees access to high-security areas (in Mexico and Ohio); and even togive willing night-club patrons the chance to jump entry queues and dispense with cash at the bar (in Spainand the Netherlands). Some people want everyone to be implanted with RFIDs, as the answer to identitytheft.

Across the rich and not-so-rich world, electronic devices are already being used to keep tabs on ordinarycitizens as never before. Closed-circuit television cameras (CCTV) with infra-red night vision peer down atcitizens from street corners, and in banks, airports and shopping malls. Every time someone clicks on a web

page, makes a phone call, uses a credit card, or checks in with a microchipped pass at work, that personleaves a data trail that can later be tracked. Every day, billions of bits of such personal data are stored, sifted,analysed, cross-referenced with other information and, in many cases, used to build up profiles to predict

possible future behaviour. Sometimes this information is collected by governments; mostly it is gathered bycompanies, though in many cases they are obliged to make it available to law-enforcement agencies andother state bodies when asked.

Follow the data

The more data are collected and stored, the greater the potential for “data mining”—using mathematicalformulas to sift through large sets of data to discover patterns and predict future behaviour. If the public hadany strong concerns about the legitimacy of this process, many of them evaporated on September 11th 2001

—when it became widely accepted that against a deadly and globally networked enemy, every stratagemwas needed. Techniques for processing personal information, which might have raised eyebrows in theworld before 2001, suddenly seemed indispensable.

Two days after the attacks on New York and Washington, Frank Asher, a drug dealer turned technologyentrepreneur, decided to examine the data amassed on 450m people by his private data-service company,Seisint, to see if he could identify possible terrorists. After giving each person a risk score based on name,religion, travel history, reading preferences and so on, Mr Asher came up with a list of 1,200 “suspicious”individuals, which he handed to the FBI. Unknown to him, five of the terrorist hijackers were on his list.

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The FBI was impressed. Rebranded the Multistate Anti-Terrorism Information Exchange, or Matrix, Mr Asher's programme, now taken over by the FBI, could soon access 20 billion pieces of information, all of them churned and sorted and analysed to predict who might one day turn into a terrorist. A new version,called the System to Assess Risk, or STAR, has just been launched using information drawn from both

private and public databases. As most of the data have already been disclosed to third parties—airlinetickets, job records, car rentals and the like—they are not covered by the American constitution's FourthAmendment, so no court warrant is required.

In an age of global terror, when governments are desperately trying to pre-empt future attacks, such profilinghas become a favourite tool. But although it can predict the behaviour of large groups, this technique is“incredibly inaccurate” when it comes to individuals, says Simon Wessely, a professor of psychiatry atKing's College London. Bruce Schneier, an American security guru, agrees. Mining vast amounts of data for well-established behaviour patterns, such as credit-card fraud, works very well, he says. But it is“extraordinarily unreliable” when sniffing out terrorist plots, which are uncommon and rarely have a well-defined profile.

By way of example, Mr Schneier points to the Automated Targeting System, operated by the AmericanCustoms and Border Protection, which assigns a terrorist risk-assessment score to anyone entering or

leaving the United States. In 2005 some 431m people were processed. Assuming an unrealistically accuratemodel able to identify terrorists (and innocent people) with 99.9% accuracy, that means some 431,000 falsealarms annually, all of which presumably need checking. Given the unreliability of passenger data, the realnumber is likely to be far higher, he says.

Those caught up in terrorist-profiling systems are not allowed to know their scores or challenge the data. Yettheir profiles, which may be shared with federal, state and even foreign governments, could damage their chances of getting a state job, a student grant, a public contract or a visa. It could even prevent them fromever being able to fly again. Such mistakes are rife, as the unmistakable Senator “Ted” Kennedy found to hiscost. In the space of a single month in 2004, he was prevented five times from getting on a flight because thename “T Kennedy” had been used by a suspected terrorist on a secret “no-fly” list.

Watching everybody

Another worry: whereas information on people used to be gathered selectively—following a suspect's car,for example—it is now gathered indiscriminately. The best example of such universal surveillance is thespread of CCTV cameras. With an estimated 5m CCTV cameras in public places, nearly one for every teninhabitants, England and Wales are among the most closely scrutinised countries in the world—along withAmerica which has an estimated 30m surveillance cameras, again one for every ten inhabitants. EveryBriton can expect to be caught on camera on average some 300 times a day. Few seem to mind, despiteresearch suggesting that CCTV does little to deter overall crime.

In any case, says Britain's “NO2ID” movement, a lobby group that is resisting government plans tointroduce identity cards, cameras are a less important issue than the emergence of a “database state” inwhich the personal records of every citizen are encoded and too easily accessible.

Alongside fingerprints, DNA has also become an increasingly popular tool to help detect terrorists and solvecrime. Here again Britain (minus Scotland) is a world leader, with the DNA samples of 4.1m individuals,representing 7% of the population, on its national database, set up in 1995. (Most other EU countries haveno more than 100,000 profiles on their DNA databases.) The British database includes samples from one inthree black males and nearly 900,000 juveniles between ten and 17—all tagged for life as possible criminals,since inclusion in the database indicates that someone has had a run-in with the law. This is because inBritain, DNA is taken from anyone arrested for a “recordable” offence—usually one carrying a custodialsentence, but including such peccadillos as begging or being drunk and disorderly. It is then stored for life,even if that person is never charged or is later acquitted. No other democracy does this.

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In America, the federal DNA databank holds 4.6m profiles, representing 1.5% of the population. But nearlyall are from convicted criminals. Since January 2006 the FBI has been permitted to take DNA samples onarrest, but these can be expunged, at the suspect's request, if no charges are brought or if he is later acquitted. Of some 40 states that have their own DNA databases, only California allows the permanentstorage of samples of those charged, but later cleared. In Britain, where people cannot ask for samples to beremoved from the database, it was recently proposed that the best way to prevent discrimination is thereforeto include the whole population in the DNA database, plus all visitors to the country. Although this approachis commendably fair, it would be extremely expensive as well as an administrative nightmare.

In popular culture, the use of DNA has become rather glamorous. Tabloids and television dramas tell storiesof DNA being used by police to find kidnappers or exonerate convicts on death row. According to a pollcarried out for a BBC “Panorama” programme this week, two-thirds of Britons would favour a new lawrequiring that everyone's DNA be stored. But DNA is less reliable as a crime-detection tool than most

people think. Although it almost never provides a false “negative” reading, it can produce false “positives”.Professor Allan Jamieson, director of the Forensic Institute in Glasgow, believes too much faith is placed init. As he points out, a person can transfer DNA to a place, or weapon, that he (or she) has never seen or touched.

Wiretapping is too easy

More disturbing for most Americans are the greatly expanded powers the government has given itself over the past six years to spy on its citizens. Under the Patriot Act, rushed through after the 2001 attacks, theintelligence services and the FBI can now oblige third parties—internet providers, libraries, phonecompanies, political parties and the like—to hand over an individual's personal data, without a court warrantor that person's knowledge, if they claim that the information is needed for “an authorised investigation” inconnection with international terrorism. (Earlier this month, a federal court in New York held this to beunconstitutional.)

Under the Patriot Act's “sneak and peek” provisions, a person's house or office can likewise now besearched without his knowledge or a prior court warrant. The act also expanded the administration's abilityto intercept private e-mails and phone calls, though for this a court warrant was supposedly still needed. Butin his capacity as wartime commander-in-chief, George Bush decided to ignore this requirement and set uphis own secret “warrantless” eavesdropping programme.

The outcry when this was revealed was deafening, and the programme was dropped. But in August Mr Bushsigned into law an amendment to the 1978 Foreign Intelligence Surveillance Act, allowing the warrantlessintercept of phone calls and e-mails if at least one of the parties is “reasonably believed” to be outsideAmerica. So ordinary Americans will continue to be spied on without the need for warrants—but no one is

protesting, because now it is legal.

Where's your warrant?

According to defenders of warrantless interception, requiring warrants for all government surveillancewould dramatically limit the stream of foreign intelligence available. Privacy should not be elevated aboveall other concerns, they argue. But would it really impede law-enforcement that much if a judge wasrequired to issue a warrant on each occasion? Technology makes wiretapping much easier than it used to be

—too easy, perhaps—so requiring warrants would help to restore the balance, say privacy advocates.

Britain has long permitted the “warrantless” eavesdropping of its citizens (only the home secretary'sauthorisation is required), and few people appear to mind. What does seem to worry people is the sheer volume of information now being kept on them and the degree to which it is being made accessible to anever wider group of individuals and agencies. The government is now developing the world's first national

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children's database for every child under 18. The National Health Service database, already the biggest of itskind in Europe, will eventually hold the medical records of all 53m people in England and Wales.

Even more controversial is Britain's National Identity Register, due to hold up to 49 different items oneveryone living in the country. From 2009, everybody is to be issued with a “smart” biometric ID card,linked to the national register, which will be required for access to public services such as doctors' surgeries,unemployment offices, libraries and the like—leaving a new, readily traceable, electronic data-trail. America

plans a similar system, with a string of personal data held on a new “smart” national driver's licence thatwould double up as an ID.

Companies are also amassing huge amounts of data about people. Most people do not think about whatinformation they are handing over when they use their credit or shop “loyalty” card, buy something online or sign up for a loan. Nor do they usually have much idea of the use to which such data are subsequently put.

Not only do companies “mine” them to target their advertising more effectively, for example, but also togive their more valued (ie, higher-spending) customers better service. They may also “share” their data withthe police—without the individual's consent or knowledge.

Most democratic countries now have comprehensive data-protection and/or privacy laws, laying down strict

rules for the collection, storage and use of personal data. There is also often a national information or privacy commissioner to police it all (though not in America). Intelligence agencies, and law-enforcementauthorities often as well, are usually exempt from such data-protection laws whenever national security isinvolved. But such laws generally stipulate that the data be used only for a specific purpose, held no longer than necessary, kept accurate and up-to-date and protected from unauthorised prying.

That all sounds great. But as a series of leaks in the past few years has shown, no data are ever really secure.Laptops containing sensitive data are stolen from cars, backup tapes go missing in transit and hackers can

break into databases, even the Pentagon's. Then there are “insider attacks”, in which people abuse the accessthey enjoy through their jobs. National Health Service workers in Britain were recently reported to have

peeked at the intimate medical details of an unnamed celebrity. All of this can lead to invasions of privacy

and identity theft. As the Surveillance Studies Network concludes in its recent report on the “surveillancesociety”, drawn up for Britain's information commissioner, Richard Thomas, “The jury is out on whether

privacy regulation...is not ineffective in the face of novel threats.”

Boiling the frog

If the erosion of individual privacy began long before 2001, it has accelerated enormously since. And by nomeans always to bad effect: suicide-bombers, by their very nature, may not be deterred by a CCTV camera(even a talking one), but security wonks say many terrorist plots have been foiled, and lives saved, throughincreased eavesdropping, computer profiling and “sneak and peek” searches. But at what cost to civil

liberties?

Privacy is a modern “right”. It is not even mentioned in the 18th-century revolutionaries' list of demands.Indeed, it was not explicitly enshrined in international human-rights laws and treaties until after the secondworld war. Few people outside the civil-liberties community seem to be really worried about its loss now.

That may be because electronic surveillance has not yet had a big impact on most people's lives, other than(usually) making it easier to deal with officialdom. But with the collection and centralisation of such vastamounts of data, the potential for abuse is huge and the safeguards paltry.

Ross Anderson, a professor at Cambridge University in Britain, has compared the present situation to a“boiled frog”—which fails to jump out of the saucepan as the water gradually heats. If liberty is erodedslowly, people will get used to it. He added a caveat: it was possible the invasion of privacy would reach acritical mass and prompt a revolt.

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If there is not much sign of that in Western democracies, this may be because most people rightly or wrongly trust their own authorities to fight the good fight against terrorism, and avoid abusing the data they

possess. The prospect is much scarier in countries like Russia and China, which have embraced capitalisttechnology and the information revolution without entirely exorcising the ethos of an authoritarian statewhere dissent, however peaceful, is closely monitored.

On the face of things, the information age renders impossible an old-fashioned, file-collecting dictatorship, based on a state monopoly of communications. But imagine what sort of state may emerge as the best brainsof a secret police force—a force whose house culture treats all dissent as dangerous—perfect the art of gathering and using information on massive computer banks, not yellowing paper.

The geography of recession

Dec 23rd 2009, 14:47 by The Economist | WASHINGTON

THE Census Bureau has released its latest state population estimates, covering 2009, and the effects of recession are clear. Internal migration has plummeted; only 340,000 Americans changed states between2008 and 2009, down from 612,000 from 2004 to 2005. This is a bit of a departure from historical trend.

Typically, migration is countercyclical—people move more when economic hardship hits. From 2000 to2001, for instance, the number of domestic migrants in the country increased fourfold.

But this time around, many households are constrained by trouble in housing markets. One in four households with mortgages owe more to the bank than their house is worth. That makes relocation difficultto impossible, and the resulting decline in mobility suggests that labour market recovery will take longer than is normally the case.

But Americans aren't entirely immobile, and the patterns of movement are revealing. There are big trend breaks in migration for bubble hotspots like Nevada, Arizona, and Florida. In 2006, 141,000 Americansmoved to Florida. In 2009, over 31,000 moved out. Nevada also saw a shift from massive inflow of

domestic migrants to outflow, while Arizona saw its rate of inmigration slow to a trickle.

Other areas—primarily those with the lowest unemployment rates—experienced a relative boom. Therewere positive trend changes in the Washington, DC area, in Massachusetts, and in Texas and Oklahoma,three of the strongest labour markets amid recession. Interestingly, these population shifts are likely to beself-reinforcing, as inmigration supports local housing markets and businesses, thereby widening the gap

between the recovering areas and the laggards.

There were some surprises in the data, as well. In particular, California. The state continued to suffer a netloss of domestic migrants in 2009, but it was the smallest loss since 2001, and it was down steeply from theoutflow of 313,000 Californians in 2006. All told, California enjoyed an increase in population of nearly

400,000 people, up from the prior year and the highest total since 2002.

One obvious factor slowing population outflow from California is the extent of the bubble collapse in thestate. Many of those who would like to leave the state, and particularly the inland metropolitan areas whereunemployment rates are above 15%, cannot sell their homes.

But it's not impossible to imagine that the housing bust has helped the Golden State in some ways.Outmigration peaked mid-decade as home prices soared beyond the reach of many middle-class households.The steep decline in home prices suddenly makes California, with its many natural amenities, an attractive

bargain. And many of those who left California earlier in the decade decamped to Nevada and Arizona,where conditions are currently as bad as or worse than the economic situation in California (and without thescenic coastline and nice weather).

As housing markets and labour markets will continue to show the effects of the bubble collapse andrecession for years to come, it's unlikely that the population shifts underway have run their course. One thing

http://www.census.gov/Press-Release/www/releases/archives/population/014509.html

http://www.census.gov/Press-Release/www/releases/archives/population/014509.html

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seems clear, despite the general stuck-ness of many American households—the country is going to look a lotdifferent after the recession than it did before.

Distrust, in all around

As America prepares for a possible attack on Saddam Hussein’s

Iraq, Muhammad Khatami, the reformist president of

neighbouring Iran, faces inescapable quandaries. Iran stands to

benefit from the ousting of Mr Hussein, but any co-operation with

America may be thwarted by Mr Khatami’s conservative opponents

Aug 15th 2002

Karzai makes friends with KhatamiAFP

IN RETURN for staying neutral in the 1991 Gulf war, Iran persuaded Saddam Hussein to surrender somedisputed territory and to start releasing the Iranian prisoners he had been holding since the two countries

fought in the 1980s. More than a decade on, Iran’s leaders are hoping to exploit Mr Hussein’s renewedvulnerability. But neutrality may now be harder to maintain. Much as they hate the idea of American troopson their western border, helping George Bush in Iraq could be a last chance for the clerical regime to stayoff the president’s list of condemned countries.

Ayatollah Baqer al-Hakim, a Tehran-based Iraqi dissident with followers among Iraq’s Shia majority, isdeeply involved in the Iranian-Iraqi-American imbroglio. America now wants Mr Hakim’s co-operation ingenerating a popular uprising in Iraq, but he and his small army need Iran’s permission to do so.

The Americans are anxious to avoid a repeat of the fiasco after Mr Hussein’s defeat in 1991: an American-incited rebellion among Iraqi Shias came to a tragically bloody end when Mr Hakim’s men (and members of

Iran’s Revolutionary Guard) crossed the border, and an alarmed America withdrew its support for theventure. When Mr Hakim’s brother returns later this week from talks with American officials and other Iraqiopposition leaders, he will no doubt tell the Iranians what America now expects of them.

Related items

• Iraq and America: The case for war Aug 1st 2002• Iran in turmoilJul 23rd 2002• A survey of America's world role: Building countries, feeling generousJun 27th 2002• Ever more perilous isolationMay 27th 2002• Iran and America: Stop-start-stop talksMay 2nd 2002

• Toppling SaddamMar 11th 2002• Alienating IranFeb 13th 2002

Ever since Mr Bush included Iran in his “axis of evil”, America’s pronouncements have been menacing, butvague. Earlier this month, Zalmay Khalilzad, one of Mr Bush’s senior foreign-policy advisers, made it clear















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