Structural Reform and Economic Policy Edited by Robert M. Solow Structural Reform and Economic Policy This is IEA conference volume no. 139 This page intentionally left blank Structural Reform and Economic Policy Edited by Robert M. Solow Massachusetts Institute of Technology Cambridge, MA, USA in association with the INTERNATIONAL ECONOMIC ASSOCIATION © International Economic Association 2004 All rights reserved. No reproduction, copy or transmission of this publication may be made without written permission. No paragraph of this publication may be reproduced, copied or transmitted save with written permission or in accordance with the provisions of the Copyright, Designs and Patents Act 1988, or under the terms of any licence permitting limited copying issued by the Copyright Licensing Agency, 90 Tottenham Court Road, London W1T 4LP. Any person who does any unauthorized act in relation to this publication may be liable to criminal prosecution and civil claims for damages. The authors have asserted their rights to be identified as the authors of this work in accordance with the Copyright, Designs and Patents Act 1988. First published 2004 by PALGRAVE MACMILLAN Houndmills, Basingstoke, Hampshire RG21 6XS and 175 Fifth Avenue, New York, N.Y. 10010 Companies and representatives throughout the world PALGRAVE MACMILLAN is the global academic imprint of the Palgrave Macmillan division of St. Martin’s Press, LLC and of Palgrave Macmillan Ltd. Macmillan® is a registered trademark in the United States, United Kingdom and other countries. Palgrave is a registered trademark in the European Union and other countries. ISBN 1–4039–3646–3 This book is printed on paper suitable for recycling and made from fully managed and sustained forest sources. A catalogue record for this book is available from the British Library. Library of Congress Cataloging-in-Publication Data Structural reform and economic policy / edited by Robert M. Solow. p. cm. Includes bibliographical references and index. ISBN 1–4039–3646–3 1. Economic policy. 2. Manpower policy. 3. Labor market. I. Solow, Robert M. II. International Economic Association. HD87.S78 2004 339.5—dc22 2004041590 10987654321 13 12 11 10 09 08 07 06 05 04 Printed and bound in Great Britain by Antony Rowe Ltd, Chippenham and Eastbourne Contents The International Economic Association vii Acknowledgements ix List of Contributors xii List of Abbreviations and Acronyms xiii 1 Introduction 1 Robert M. Solow 2 Structural Reforms and the Macroeconomy: The Role of General Equilibrium Effects 9 Hans Gersbach 3 Is Fiscal Policy Possible? Is It Desirable? 23 Robert M. Solow 4 Institutional Interactions in Open Economies: Implications for EMU 41 Markus Knell 5 Structural Reforms in Labour and Product Markets and Macroeconomic Performance in the European Union 67 Karl Pichelmann and Werner Roeger 6 Structural Reforms Addressed to the Labour Market and Macroeconomic Policies 97 Edmond Malinvaud 7 Macroeconomic Fluctuations and the Timing of Labour-Market Reform 119 Gilles Saint-Paul 8 Debt, Deflation and Declining Growth: New Challenges to the Japanese Economy 131 Takatoshi Ito v This page intentionally left blank The International Economic Association A non-profit organization with purely scientific aims, the International Economic Association (IEA) was founded in 1950. It is a federation of some sixty national economic associations in all parts of the world. Its basic purpose is the development of economics as an intellectual discipline, recognizing a diversity of problems, systems and values in the world and taking note of methodological diversities. The IEA has, since its creation, sought to fulfil that purpose by pro- moting mutual understanding among economists through the orga- nization of scientific meetings and common research programmes, and by means of publications on problems of fundamental as well as of current importance. Deriving from its long concern to assure pro- fessional contacts between East and West and North and South, the IEA pays special attention to issues of economies in systemic transi- tion and in the course of development. During more than fifty years of existence, it has organized more than a hundred round-table confer- ences for specialists on topics ranging from fundamental theories to methods and tools of analysis and major problems of the present-day world. Participation in round tables is at the invitation of a specialist programme committee, but thirteen triennial World Congresses have regularly attracted the participation of individual economists from all over the world. The Association is governed by a Council, composed of representa- tives of all member associations, and by a fifteen-member Executive Committee which is elected by the Council. The Executive Commit- tee (2002–05) at the time of the Lisbon Congress was: President: Professor János Kornai, Hungary Vice-President: Professor Bina Agarwal, India Treasurer: Professor Jacob Frenkel, Israel Past President: Professor Robert Solow, USA President-elect: Professor Guillermo Calvo, Argentina Other members: Professor Maria Augusztinovics, Hungary Professor Eliana Cardoso, World Bank Professor Duardo Engel, Chile vii viii The International Economic Association Professor Heba Handoussa, Egypt Professor Michael Hoel, Norway Professor Jean-Jacques Laffont, France Professor Andreu Mas Colell, Spain Professor Kotaro Suzumura, Japan Professor Alessandro Vercilli, Italy Advisers: Professor Fiorella Kostoris Padoa Schioppa, Italy Professor Vitor Constâncio, Portugal Secretary-General: Professor Jean-Paul Fitoussi, France General Editor: Professor Michael Kaser, UK Sir Austin Robinson was an active Adviser on the publication of IEA Conference proceedings from 1954 until his final short illness in 1993. The Association has also been fortunate in having secured many outstanding economists to serve as President: Gottfried Haberler (1950–53), Howard S. Ellis (1953–56), Erik Lindahl (1956–59), E.A.G. Robinson (1959–62), Ugo Papi (1962–65), Paul A. Samuelson (1965–68). Erik Lundberg (1968–71), Fritz Machlup (1971–74), Edmund Malinvaud (1974–77), Shigeto Tsuru (1977–80), Victor L. Urquidi (1980–83), Kenneth J. Arrow (1983–86), Amartya Sen (1986–89), Anthony B. Atkinson (1989–92), Michael Bruno (1992–95), Jacques Drèze (1995–99) and Robert M. Solow (1999– 2002). The activities of the Association are mainly funded from the sub- scriptions of members and grants from a number of organizations. Support from UNESCO since the Association was founded, and from its International Social Science Council, is gratefully acknowledged, particularly for specific help for the Lisbon Congress. Acknowledgements The Congress was held on 9 to 13 September 2002 in the Centro Cul- tural de Belém, Lisbon, at the invitation of the Ordem dos Economis- tas de Portugal, and was attended by 1,100 registered participants. The Opening Session was addressed by the President of the Republic of Portugal, HE Senhor Jorge Sampaio, and by the newly-appointed Minister of Finance, HE Senhor Manuela Ferreira Leite; the IEA Pres- ident, Professor Robert M. Solow, delivered a paper, ‘Is Fiscal Policy Possible? Is it Desirable?’ (Chapter 3 in this volume). The programme comprised twenty invited lectures and three invited panels – on ‘Growth in Developing and Transition Economies’ (arranged by the Global Development Network), on ‘Poverty Dynamics and Insurance’ (organized by the European Development Research Network) and on ‘The Turkish Financial Crisis’ (prepared by the Turkish Economic Asso- ciation). There were 198 contributed papers, a selection of which have been included with Invited Lectures in the four volumes of the Congress proceedings: Bina Agarwal and Alessandro Vercilli (eds), Psychology, Rationality and Economic Behaviour: Challenging Standard Assumptions. Alan V. Deardorff (ed.), The Past, Present and Future of the European Union. Edward Graham (ed.), The Role of Foreign Direct Investment and Multilateral Corporations in Economic Development. Robert M. Solow (ed.), Structural Reform and Economic Policy. Studies generated by the Global Development Network are published in Gary McMahon and Lyn Squire (eds), Explaining Growth: A Global Research Project (IEA Conference Volume no. 137). The scientific responsibility for the selection papers was in the hands of an International Programme Committee chaired by Robert M. Solow, with the following members: Bina Agarwal, India Victor Becker, Argentina Maria Augusztinovics, Hungary Miguel Beleza, Portugal ix x Acknowledgements Enrique Bour, Argentina Andrea Ichino, Italy Juan Camilo Cardeñas, Firella Kostoris Colombia Padoa-Schioppa, Italy Elinana Cardoso, Brazil Valery Makarov, Russian Vitor Constâncio, Portugal Federation Vittorio Corbo, Chile Andreu Mas-Colell, Spain Jacques Drèze, Belgium Mustapha Nabli, Tunisia Jean-Paul Fitoussi, France Ademola Oyejide, Nigeria Marc Flandreau, France Adrian Pagan, Australia Augustin Fosu, Kenya Luis Servén, USA Jacob Frenkel, Israel José Silva Lopes, Portugal Hans Gerbach, Germany António Simões Lopes, Gene Grossman, USA Portugal Seppo Honkapohja, Finland Hans-Werner Sinn, Germany Peter Howitt, Canada Kotaro Suzumura, Japan A National Scientific and Organizing Committee was convened by the Ordem dos Economistas de Portugal, under the chairman- ship of its President, António Simões Lopes who, with Amilcar Theias, Carlos Queiroz and Luisa Ahrens Teixeira (Executive Director of Mundiconvenius) formed an Executive Committee: Mário Abreu José Freire de Sousa Luis Miguel Beleza José Silveira Godinho Daniel