Saturday, December 30, 2006

Financial Innovation

The Risk Business December 30, 2006; Page A10

The Dow Jones Industrial Average closed yesterday near an all-time high, up 17% for the year. Long-term bond yields rose this year but remain remarkably low given the Federal Reserve's short-term rate ratchet to 5.25% from a low of 1%. Economic growth has slowed but remains solid. And by some measures financial market volatility is at lows not seen in a decade -- the Dow, for example, is still adding to its longest stretch (910 days) without a one-day decline of 2% or more since 1900.

All of this stability naturally fills people with dread. It has led to a round of questioning about why, in an undeniably dangerous world, risk premiums seem to have drained out of whole classes of financial assets. Has Mr. Market become complacent, and so set himself up for a fall? What is everyone missing?

When someone tells us that the old rules don't apply anymore, we tend to check our wallets. But this is not to say that nothing ever changes. One of the things that has changed over the past 30 years is the extraordinary extent of financial innovation. When it comes to the decline of risk premiums and financial stability, securitization and the use of derivatives have both played an unsung role.

The very word "derivatives" produces a remarkable range of reactions, not all of them polite or rational. Warren Buffett has long described them in apocalyptic terms. Regulators think "risky" and dream of untilled pastures to monitor. The average newspaper reader, meanwhile, sees the word and understandably moves on to the next story.

Derivatives can be very complex, but they are fundamentally a tool for hedging financial risk. Say your business has borrowed money with a floating interest rate. Rates go down, and you decide you'd rather lock in today's rates than risk having them move against you in the future. You could borrow new money at a fixed rate and pay off your debt.

Or you could engage in a form of derivative known as a "swap." In a swap, you exchange your obligation to pay a floating rate for a commitment to pay a fixed rate of interest. Your actual debt doesn't change, but the other party in the swap has contracted with you to pay you the difference between the floating-rate interest and the fixed rate you've agreed upon -- if rates move higher. Likewise, if rates go down further, you would pay your swap counterparty the difference.

Through this basic mechanism, all kinds of risk in an economy can be shifted around, often to everyone's benefit. The risks haven't disappeared, but almost by definition they tend to shift toward whoever feels they can best bear them. Perhaps, in the example above, the counterparty has a reason for wanting exposure to interest-rate movements. Perhaps he has a risk of his own he is trying to mitigate. Perhaps he simply disagrees about where rates are going.

Take another, very real, example of a small-town bank in the mortgage business. By the nature of things, it is heavily exposed to the shifting fortunes of the local economy. If a plant nearby closes, it could be hit with defaults that could overwhelm its capacity to lend. To compensate for this risk, it may raise interest rates, or lend less, or both. But suppose it can sell the mortgages on its books to another bank or some other party. It gives up the income from the mortgages, but it gets new capital in return while also lowering its exposure to the local economy.

The purchaser may then hold the mortgages, or package them into securities with thousands of other mortgages and sell them to investors. These "securitized" mortgages are less exposed to any one town than that small bank was, which may make the security less risky overall. The small bank, meantime, has more money to lend, or to invest in assets that are less likely to crash along with the local economy. The buyers of the securities get the income from the mortgage interest and the bank gets money to lend.

The sum of a myriad of these transactions over the economy means that everything moves a little faster. Credit becomes marginally cheaper and more plentiful. Risk is dispersed to those who feel they can better afford it. Thus does the supposedly non-productive financial sector of the economy provide fuel for future growth. Seemingly obscure transactions lower the cost of capital to businesses and consumers and spread risk in a way that decreases the danger of catastrophic financial accidents.

None of which means financial accidents won't happen. Market players sometimes bet wrong -- there are always two sides to a transaction, and one party can always miscalculate its ability to withstand an adverse event. Just ask the investors in Amaranth Advisers, which bet wrong on energy prices.

More broadly, danger always exists from abrupt government policy shifts, especially from monetary mismanagement; think of the Asian crisis of the late 1990s. Another such danger can come when government subsidies push too much risk from a single sector such as housing into just two companies (Fannie Mae and Freddie Mac). Two of the biggest current risks, in our view, are the chance of U.S. tax increases and that the Fed may still have underestimated the inflationary pressures it let loose in 2004 and 2005.

But these are not reasons to fear derivatives and other financial innovations. Risk is still out there. But as we leave a successful financial year and enter a new one, take comfort in the fact that all that buying, selling, swapping, trading and securitization of risk has actually made the financial system less risky.

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Tuesday, December 26, 2006

Growth of Wages and Benefits

The Wages of Growth To lift worker incomes, cut the corporate tax rate. Tuesday, December 26, 2006 12:01 a.m. The latest reports on wages and income have been rolling in, and with them we can discount one more canard about the current economic expansion--namely, that wages are stagnant and workers are doing far more poorly than they did in that second Age of Pericles known as the 1990s.

Over the past year, the real average wage for non-supervisory employees has risen 2.8%. That equates to about a $1,200 increase in purchasing power for the typical household this year. Last year, real median household income was also up 1.1% after inflation. This rise in take-home pay helps to explain how Americans have had the disposable income this Christmas shopping season to pay $600 for PlayStation 3 computer games and $150 for the Kid-Tough Digital Camera for three-year-olds.

It is true that income and wages are still about 2% below the peak they hit in 2000 before the dot-com bust and recession. But a new Treasury Department analysis finds that, measuring from the start of the peak of each expansion, wages so far in this decade's cycle are running ahead of the recovery pace during the 1990s. Thus the "stagnant wages" story can join the "jobless recovery," the "outsourcing" crisis and the runaway budget deficit as other tales of woe that have all turned out to be evanescent.

Why are wages finally starting to show smart gains for workers? First, the labor market is tight with very low unemployment (4.5% nationwide), giving workers more bargaining power. Second, the big spike in energy prices in recent years raised the cost of living and offset nominal pay hikes, but energy costs have declined since Labor Day and those lower costs translate into higher real wage gains. Third, the surge in business capital spending that began in 2003 with the passage of the investment tax cuts has increased the capital to labor ratio that is a major driver of wage increases over time.

Contrary to popular myth, worker benefits have also been rising, not falling. Yes, many companies are changing to more sustainable 401(k)s from traditional pensions, and most are passing along some of the costs of rising health insurance to workers in co-pays and higher premiums. But the Labor Department measures employer pay packages and finds that fringe benefits paid to workers have risen 39% since 2000, or nearly twice the 22% rate of increase in nominal wages.

Take-home pay would be rising even faster if the cost of health benefit plans hadn't climbed by 65% since 2000. Health insurance now costs the average employer $2 an hour per employee--money that could otherwise be paid in wages. But that $2 still goes toward benefits, not into corporate profits.

All told, the pattern of wage growth this decade isn't all that different from that of the 1990s. Wage increases always lag behind economic growth, corporate profits and productivity gains. In the 1990s in fact, workers didn't enjoy really big paycheck gains until 1997. This isn't to disparage the 1990s, but only to point out that those who assail this decade's gains either have short memories or political agendas.

We certainly agree with those who'd like to do more to lift worker paychecks, so here are two ideas. First, make the Bush tax cuts permanent. If Congress lets them expire in 2010, as many Democrats are urging, the average family will suffer the equivalent of a $2,000 a year pay cut.

Second, slash the corporate income tax. A recent study for the American Enterprise Institute by economists Kevin Hassett and Aparna Mathur examined 72 nations over 22 years and found that "wages are significantly responsive to corporate taxation." In today's global economy, capital migrates across national borders away from high-tax nations to places where tax systems are less punitive. Workers suffer when capital flees, and job and wage growth slow.

Many political leaders have adapted to this reality, which is why the average corporate tax rate across the globe has fallen over the past 25 years to an average of about 30% from 50%. The AEI study finds that, if the U.S. were to cut its 35% corporate tax to the OECD average of 30%, American manufacturing workers would gain nearly a 10% pay raise dividend within five years, which is the equivalent of roughly a $3,500 a year pay boost.

Some on the political left have other ideas for raising wages, such as more and easier unionization, more trade and tariff barriers, or a government takeover of employer health care. But all of these would make the U.S. more like Old Europe, where job growth is far slower than it is here. Now as ever, policies that keep the economy growing and employers hiring will lift wages for everyone.

Copyright © 2006 Dow Jones & Company, Inc. All Rights Reserved.

Platform Companies and The Evolving Economy

Welcome to Sizzle Inc.

By JONATHAN R. LAING

A CLOUD HANGS OVER THE U.S. ECONOMY and stock market, even though both have enjoyed a spirited recovery since 2003.

Bears worry that a serious recession lies ahead, spurred by overleveraged consumers cutting their spending in response to a collapse in home prices. Longer term, gloomsters bemoan the U.S.' huge current-account deficit, a reflection, they insist, of America's lust for consuming more than it produces and spending more than it saves. Only the kindness of strangers (mostly Chinese and other Asian central bankers buying U.S. debt securities) lets Uncle Sam continue his profligate ways.

Inevitably, all this will end in a vale of tears, the pessimists argue. They foresee an economic ice age. First, foreigners will withdraw their largess, sending the dollar plummeting and interest rates soaring. Meanwhile, all the good manufacturing jobs will have been outsourced overseas, leaving the average Joe in Dallas, Dubuque or Denver bereft of economic opportunity. Grim stuff, indeed.

[graphic]

But such opinions aren't shared by everyone. In fact, an international research boutique called GaveKal views these forebodings as poppycock. To the firm, the much-ballyhooed U.S. current-account deficit is largely a product of antiquated statistical measures that mainly miss the favorable impact of surging U.S. corporate cash flow and profitability. Likewise, no housing bust impends, according to GaveKal, a respected strategic adviser to some of the globe's largest financial concerns, including some of Wall Street's largest mutual funds. In fact, third-quarter federal data indicate, the consumer has never been more flush on a net-worth basis, with stock gains more than offsetting the flattening of homeowners' equity.

NOR IS WALL STREET POISED on a precipice. Stocks actually are cheap by many measures, says GaveKal. And shares of a certain type of nimble and tech-minded U.S. multinational could rise the most in coming years.


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GaveKal asserts that the global economy is on the cusp of a decades-long deflationary boom that will lift America and much of the emerging world to unprecedented prosperity. In a book entitled Our Brave New World, the research outfit even invites derision by asserting that, these days, "things are indeed different."

The optimism arises from a clutch of profound economic changes that GaveKal's founders, Frenchman Charles Gave, his Hong Kong-based son, Louis-Vincent, and British financial writer Anatole Kaletsky (the firm's name is a contraction of the principals' last names) argue have been largely ignored by most commentators. GaveKal's central aperçu revolves around a business model that has evolved in advanced nations, such as the U.S., Sweden and Great Britain. They call it the "platform company."

These corporations concentrate on high-value-adding functions in which knowledge and technology are paramount. The platform company farms out to low-cost manufacturers at home and, increasingly, abroad low-return, volatile portions of its operations, including manufacturing. In essence, they are focused as much on the sizzle as the old multinationals were on the steak. "Instead of producing everywhere to sell products around the world, the platform company harnesses endemic global overcapacity and cheap information transmission to produce almost nothing directly, but sell everywhere," Charles Gave says in an interview at his loft apartment in Manhattan's trendy Soho district.

Although privately held Ikea, for example, has a worldwide presence, it largely consists of a bunch of furniture designers in Gothenburg, Sweden. Then there's Apple (ticker: AAPL), which is minting money from the development and distribution of its iPod line, while relying on Asian manufacturers to produce it. Motorola (MOT), Hewlett-Packard (HPQ), Dell (DELL) and tool and appliance maker Black & Decker (BDK) are among the companies that have embraced the model with signal success. Software outfits, likewise, are increasingly using low-wage Indian programmers to write codes for routine, nonproprietary portions of new programs. And IBM (IBM) is relying heavily on India to boost its outsourcing presence.

The implications of this trend are vast, according to GaveKal. For one thing, platform companies trim risk by fobbing off the most cyclical parts of their business. If sales hit an air pocket, the platform firm merely reduces its orders to, say, a Chinese supplier, rather than shoulder the financial burden of liquidating inventories, laying off workers and perhaps having to take a punishing restructuring charge on idle plants and equipment.

GaveKal partner Steven Vannelli says that companies are reluctant to discuss the scope of their platforming for public-relations and competitive reasons. Yet their financials often afford telltale indications of their embrace of the strategy. Most tend to generate more cash then they did in the past. Likewise, revenue per employee surges as plant, property and equipment on the asset side, and debt on the liability side, dwindle on corporate balance sheets.

Capital instead is poured into research and development and worker training. Working-capital requirements swoon, as the need to finance inventories disappears, and platform companies pressure their foreign suppliers to accept slower payment for goods.

The platform model seems to be behind the surge in U.S. corporate profitability in recent years, whether measured by net income or cash-flow margins. For one thing, platform companies have reduced capital-spending needs, thus slashing their debt-service burdens. Motorola has seen its capital spending fall from 80% of its cash flow in 2001 to just 12% this year. In the past decade, its net investment in property, plants and equipment has dropped from more than 30% of its assets to 5%.

At the same time, research and development spending has soared in the platform economy. It's crucial, of course, for companies outsourcing in China to stay one step ahead of the local manufacturers because theft of intellectual property is rife in the Middle Kingdom. This year, the U.S. will spend some $330 billion on research and development, versus No. 2 China's $136 billion. And the Chinese number is inflated mightily by U.S. and European multinationals, which have shifted some less critical research operations there.

FOR MANY PLATFORM companies, R&D now dwarfs capital spending. At Danaher (DHR), a maker of tools, sensors and testing equipment, research spending jumped from an amount equal to 150% of capital outlays in 2001 to one equivalent to more than 300% last year. And the ratio of R&D to capex has zoomed in the high-tech arena. At semiconductor company Analog Devices (ADI), it's now about 6-to-1, versus 1.5-to-1 in 2001.

The advent of China and other developing nations as the modern world's workshop is a Faustian bargain. In return for their new prominence, these countries are willingly importing much of the risk and cyclicality from platform economies like the U.S. Reliance on manufacturing is eminently preferable to that most risky of activities -- agriculture. Indeed, millions of unneeded farm workers are streaming into Asian cities, seeking better jobs. "In effect, China is trading job growth for the profits flowing to U.S. and other platform economies," Louis-Vincent Gave notes of a phenomenon that he has closely tracked from GaveKal's office in Hong Kong.

And this trend is in its early stages. More than 300 million agricultural workers figure to move to industrial areas on China's eastern and southern coasts over the next two decades. Similar migration patterns are evident in India, Vietnam, the Philippines, Indonesia and Malaysia.

[folks]
From left: GaveKal's Steven Vannelli, Charles Gave and Louis-Vincent Gave argue that Corporate America and the U.S. economy in general are far healthier than many pundits believe.

Thus, there's little indication that Beijing will slow its prodigious spending on manufacturing and logistical infrastructure like roads, ports and industrial parks, despite huge overcapacity in many of its domestic industries. China may have more than 300 car makers and 3,000 ball-bearing outfits, but each local entrepreneur is eager to accept cheap government financing and continue to grow, regardless of profitability. Perversely, each figures he will survive the Chinese economy's inevitable shakeout only by being deemed "too big to fail," Louis-Vincent asserts. Such operators become easy pickings for the West's platform companies.

THE MASSIVE REORDERING of the global economy engendered by the platform model is an unalloyed good, according to GaveKal. Productivity is enhanced. And intellectual property and knowledge is harnessed to garner the higher returns that accrue to breakthrough products and technologies.

GaveKal developed the platform concept after noting global economic developments that seemed inexplicable on their face. Perhaps most important was a quite noticeable drop in economic volatility or swings in growth in many post-industrial Western economies. Annual swings in industrial production or non-farm employment since the 1950s have traced a telling pattern. Beginning in the early-'90s, jagged peaks and valleys begin to flatten at relatively favorable levels.

U.S. consumer delinquency rates on mortgages, credit cards and auto debt plunged from over 6% of the totals outstanding at the beginning of the '90s to 1.5% to 2.5% over the past decade, even as consumers leveraged their household balance sheets to unprecedented levels and "subprime" transactions became common.

Meanwhile, corporate earnings went on a tear. After-tax profits and cash flow as a percentage of gross domestic product are at record levels, exceeding 8.5% and 15%, respectively, according to the Bureau of Economic Analysis. "The platform model seemed to offer the clearest explanation as to what was happening," says Charles Gave. "We first noticed these economic changes in Sweden in the mid-'90s, but now the U.S. has embraced the change full-hilt."

High on every pessimist's list is America's yawning and growing current-account deficit, which represents mostly our negative balance of trade with the rest of the globe, supplemented by the difference in income that U.S. and other nations earn on investments in each other. The nation's current-account shortfall, which has steadily worsened since the early '90s, is expected to equal about 7% of GDP this year -- a banana-republic level.

THE CONVENTIONAL WISDOM holds that foreign central banks eventually will tire of sopping up the sea of excess dollars generated by chronic U.S. trade deficits and stop buying debt from Uncle Sam. If this happened, interest rates would soar, and the dollar would tumble. Or foreigners recycling excess dollars into American stocks and bonds would end up controlling most of the U.S. economy. Warren Buffett, for one, argues that America is well on its way to becoming a sharecropper society -- hocking its family jewels to finance insensate consumption.

To GaveKal, such doomsday prophesies are silly. For starters, even if one assumes that the current-account deficit will stay at its current level for some time, this would pose no particular peril, in the firm's view. U.S. household net worth, including stock and bond holdings, the value of private businesses and homeowner equity, stands at $54 trillion, according to the latest Federal Reserve data. This is far larger and is growing far faster than the $2.5 trillion we owe the rest of the world (in excess of U.S. asset holdings abroad).

So instead of saying that this year's expected current-account deficit of $800 billion is 7% of GDP, it's more to the point to say that it's slightly less than 1.5% of national wealth. U.S. net national wealth has risen over the past 50 years at a steady 5% to 6% per annum in nominal terms. At a current national net-wealth growth rate of about $3 trillion a year, the U.S. generates more than enough assets to cover the $800 billion it must borrow abroad. The current U.S. ratio of net foreign debt to national net worth is 4.6%. That hardly bespeaks impending doom.

According to GaveKal, quirks in international trade accounting paint a misleadingly melancholy picture. Trade measurements do a much better job of capturing the flow of physical products, which can be precisely measured by shipping manifests, than that of services, America's strong suit. Much of the latter involve the dark matter of intellectual property, such as consulting, training and financial-management services that often move electronically and are uninvoiced.


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Of even greater moment is the fact that trade statistics measure dollars per sale, rather than the profits derived from sales, according to GaveKal. The sale in the U.S. of a $700 Dell computer might generate a negative trade balance of $450, representing the purchase from Asian companies of various components shipped for assembly in the U.S. Yet that same transaction might generate only a $30 profit for the Asian vendors working on slender margins, while the American companies -- Dell for its mark-up, Microsoft for its software and Intel for its microprocessor -- might realize a profit of about $250. The U.S. comes out a big winner, even though, through the prism of the trade balance, it appears to be sucking wind.

Pessimists also worry that the foreign capital flowing into the U.S. is being squandered on consumption, rather than being spent on the productive capacity necessary to make the nation competitive on the trade front. America is deemed to be eating its seed corn by wasting recycled trade surpluses from China and the like on cheap mortgages, flat-screen TVs and lids of cocaine.

GaveKal vigorously disputes this notion. In fact, much U.S. consumption goes toward health care (an investment in human capital, according to the firm) and education. "Who can calculate in a knowledge economy the importance of the U.S.' superior university system, for example?" asks Charles Gave. "Not when you realize that important global enterprises like Google, Cisco and Sun Microsystems literally emerged from the dormitories and labs at Stanford University."

Likewise, Corporate America's world-leading spending on research and development -- the aforementioned $330 billion a year -- counts as consumption, not investment, under generally accepted accounting principles. R&D is treated as an intermediate cost and expensed annually, rather than as a capital item to be written down over several years. Yet research can yield revenue for years to come.

THERE'S LITTLE WONDER why foreign nations are willing to finance the U.S. trade deficit. America boasts cutting-edge technology, high-margin companies and enviable productivity growth, plus liquid financial markets, political stability and strong private-property protection.

A platform economy is inherently less volatile than a developing one like China's, which is high in both growth and risk. That's a big plus for wealthy investors. Only severe capital controls in nations like China, which force businessmen to remit their excess trade dollars to central banks, keep even more private investment capital from streaming into the U.S.

"The big risk is not that foreigners will lose their appetite for U.S. assets, but that Americans will refuse to sell assets to foreigners," Charles Gave notes acidly. The greenback was pummeled this year after Congress wouldn't permit Dubai to keep a controlling stake in a company managing key U.S. seaports and when a Vietnam trade-normalization bill was delayed. Currency markets abhor impediments to the free flow of investment capital.

Yet GaveKal foresees no impending collapse for the buck. In fact, it expects the dollar to strengthen over the next year or so. The greenback, after all, is the basic medium of exchange and font of liquidity for the global economy, and promises to remain so for years because of Washington's political, military and economic might.

In fact, it was the large U.S. current- account deficits of the past decade or so that permitted the global economy to emerge relatively unscathed despite the 1995 Mexican peso collapse, the 1997 Asian financial meltdown, the 1998 Russian ruble crisis, the 2001 tech meltdown and the recent surge in commodity prices.

[chart]
The Telltale Charts: Over the past few decades, U.S. corporate profitability and cash flow have risen sharply, while gyrations in industrial output have moderated and swings in non-farm payrolls have plunged. Meanwhile, the credit-delinquency rate has plummeted, despite a rise in subprime loans. The cause, according to the GaveKal research firm: the rise of a new kind of business model that bodes well for the future.

As GaveKal's Anatole Kaletsky has observed, while U.S. trade deficits have consistently grown over the past 20 years, the global economy has enjoyed unprecedented stability and growth. And the U.S., Britain and other chronic trade-deficit lands have significantly outpaced Japan, Germany, Saudi Arabia and some other nations with surpluses.

THE RESEARCH HOUSE also thinks that U.S. stocks are still dramatically underpriced, despite their recovery since the 2000-2002 bear market. A key to this is the stability that platform companies have injected into the economy and which shows up in corporate earnings and the financial markets themselves. An indication is seen in the collapse in yield spreads between low- and high-risk bonds. Or take a gander at the Chicago Board Options Exchange Volatility Index. The VIX closed around 10 Thursday -- less than half its level three years ago.

This new stability alone would argue for a jump in price-to-earnings ratios from the current level around 16 for the S&P 500. When risk premiums fall, stocks rise. GaveKal also contends that the recent jump in corporate profit margins and returns on invested capital isn't yet fully reflected in stock prices. And, the firm argues, the growing adoption of platform strategies in the U.S. argue against a serious reversion to the mean.

In addition, the supply of common stock in the U.S. is beginning to shrink as a result of heavy corporate share buybacks and a frenzy of leveraged buyouts. This development is hardly surprising to GaveKal. Platform companies require far less capital because they concentrate on product development and sales, leaving to parties abroad the heavy financial lifting entailed by manufacturing.

Meanwhile, a huge global pool of capital has developed from rising corporate cash generation and the prodigious savings rates in China and elsewhere in the developing world. "It's thus no mystery," Charles Gave maintains, "why buyouts are escalating when folks can borrow at 6% and buy S&P companies that earn an average of around 9% on their cash flow divided by their market price. That's a 50% return on your money. That alone argues for a melt-up in U.S. stock prices."

A MELTDOWN IN U.S. housing prices could play hob with such a scenario by crushing consumer demand. GaveKal doubts that housing prices will fall much, however.

For one thing, the U.S. consumer is no more levered with mortgage debt than households in, say, Great Britain, Australia and the Netherlands. For another, over the past eight years, real housing price growth in Ireland, the U.K., Spain, Sweden, France, Australia and the Netherlands have all outpaced that of the U.S. Nor has the housing markets in Britain or Australia suffered any major ills, even though the central banks in both countries tightened earlier and more aggressively than the Fed, causing more of an economic slowdown than the U.S. has yet experienced.

Housing bears tend to ignore the favorable impact of the increased stability that platform economics have brought to the U.S. True, America has lost manufacturing jobs as a result of outsourcing abroad. But blue-collar workers -- the employees most at risk in an economic downturn -- now make up just 9% of the workforce.

U.S. jobs are still increasing nicely, particularly in higher-paying managerial, administrative and professional categories. More workers now are ensconced in the recession-resistant service economy and have the additional security of a working spouse and the prospect of parental financial assistance in a pinch. This, perhaps, explains why consumer delinquencies have dropped so drastically.

CHARLES GAVE DOESN'T deny that his Brave New World platform economy could come a cropper. The biggest risk is protectionism, fanned by demagogic politicians bemoaning the U.S. loss of jobs to China and other countries. A large tax boost or monetary-policy mistake could threaten GaveKal's scenario, too. And, of course, a major war could imperil the huge U.S. global asset base so painfully accumulated since World War II.

Optimism is often a tougher sell than bearishness. But, based on the trends of the past half-century, GaveKal's argument looks like one worth buying.

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A Globalization Perspective

December 24, 2006

To Have and Have Not

MAKING GLOBALIZATION WORK

By Joseph E. Stiglitz.

358 pp. W. W. Norton & Company. $26.95.

Fifteen years ago, the world seemed headed irresistibly toward economic integration. Developed, developing, formerly Communist and even still-Communist nations (like China and Vietnam) had embraced markets and plunged into the global economy.

Joseph E. Stiglitz, a former Yale, Princeton and Stanford professor, spent most of the 1990s atop the commanding heights of this globalizing economy, first as the chairman of Bill Clinton’s Council of Economic Advisers and then as chief economist at the World Bank. After returning to academia with a position at Columbia, Stiglitz became one of three recipients of the 2001 Nobel Memorial Prize for his research on the economics of information.

Now, as enthusiasm about economic integration has waned, Stiglitz has emerged as one of globalization’s most prominent critics. Even while he was at the World Bank, he clashed repeatedly with his counterparts at the International Monetary Fund and the United States Treasury over what he called their “market fundamentalism.” His “Globalization and Its Discontents” (2002) included sharp criticisms of international economic institutions, in particular the I.M.F. for its handling of the East Asian financial and currency crises of 1997-98.

The book, which sold widely, was hailed by globalization skeptics and hotly debated by economists, some of whom found Stiglitz’s criticisms exaggerated, unfair and unduly personal. Still, the novelty of an eminent economist and former high-ranking public official making a passionate assault on the international economic order put Stiglitz at the center of the globalization debate.

His new book extends the discussion of “Globalization and Its Discontents” but largely avoids the polemical tone. One can, in fact, judge these two books by their covers. The earlier work showed a flame streaking across a stark black background. The soft white jacket of “Making Globalization Work” features three earth-eggs resting in a vulnerable nest. Stiglitz appears to have gone from flamethrower to mother hen. Even the title suggests a transition from flashy dissent to constructive engagement. And indeed, this book is a concise and enlightening treatment of international economic problems, along with much less convincing proposals for reform.

Stiglitz walks the reader through a series of issues, from trade and intellectual property rights to global warming and the role of the multinational corporation. Each of the book’s chapters frames a problem, provides some analysis and proposes solutions. On page after page, Stiglitz argues that globalization holds out great promise as a force for good, but that the rules of the present international economic order are designed and enforced by the rich nations to serve their interests. As a result, they are inequitable and inefficient.

Developed countries manipulate international trade rules to protect their factories and farmers from more efficient producers in the developing world, Stiglitz tells us. Multinational corporations evade responsibility for the damage they do. Meanwhile, the international financial system, led by the I.M.F., rewards improvident lenders (the wealthy) and penalizes hapless debtors (the poor).

Stiglitz often invokes the concept of negative externalities: the costs that some individuals, firms or nations impose on others. A factory that skimps on pollution control, for instance, may increase its profits, but it harms the rest of society. The polluter is responding to incentives without having to pay the cost of its activities. Similarly, interest groups in developed nations benefit from favorable treatment by their governments, but these favors victimize people in developing nations who are trying to compete. It is bad enough, Stiglitz says, that thousands of wealthy American cotton farmers get billions of dollars in government subsidies; it is even worse that this depresses the world price of cotton, further impoverishing millions of African cotton farmers.

When the pursuit of private gain causes social losses, government should force the perpetrators either to stop or to help repair the damage, Stiglitz argues. This is the rationale for pollution control, fisheries management, public health restrictions and other familiar regulatory measures. “Making Globalization Work” calls repeatedly for action to avoid or redress the impact of externalities — in trade, corporate activity, the environment and financial and monetary affairs.

Stiglitz uses his command of economic logic to good effect, offering clear discussions of dozens of complex issues, from patent law to abuses in international trade. Many critics complain that drug companies overcharge poor countries, but Stiglitz goes further and makes a convincing case that this is not only immoral but also economically inefficient. Poor countries should be charged less than rich countries: if people willing to pay for medicines are unable to buy them, an existing demand goes unmet, which, in economic terms, is wasteful. Drug companies’ pursuit of private gain results in an inefficient allocation of resources and a social loss. Stiglitz won the Nobel for exploring how uncertainty and poor information can make markets fail. Here he takes evident pleasure in showing how an examination of incomplete markets can make corrective government policies desirable.

Many of Stiglitz’s criticisms are uncontroversial. He is hardly alone in believing that economic opportunities are not widely enough available, that financial crises are too costly and too frequent, and that the rich countries have done too little to address these problems. But he can be one-sided, as in his unstinting praise for East Asian development policies that often repressed labor and restricted democracy, and in his tendency to absolve developing-country governments of almost all blame for their problems. He is even weaker in his policy proposals.

Stiglitz argues throughout that powerful special interests have distorted the world economic order and the international institutions that run it. His preferred solutions are large-scale reforms in existing international institutions and the creation of new institutions like a global reserve system — to make trade fairer, to allocate reserves more equitably, to discourage despotism and corruption. But why would the national governments that, after all, still run the world want to do any of these things? And why should we expect new institutions to be any less biased, any less subject to special-interest pressures, than existing ones?

It is hard to disagree with Stiglitz’s intentions. Yet he seems to assume that bumping policies up to the international level will make world economic institutions less captive to the special interests he abhors — though democratic control of policy is more likely at a national than an international level, since most national politicians must face elections. Even if focusing on national policies (for example, what the United States should do in the I.M.F.) is difficult, it may be a more promising avenue for reform than Stiglitz’s new and improved international organizations.

“Making Globalization Work” is an optimistic book, offering the hope that global society has the will or the ability to address global problems and that international economic integration will ultimately prove a force for good. Certainly Stiglitz is right that the world would benefit from a concerted effort to address problems of the environment, poverty and disease. However, his proposals are almost utopian in their reliance upon good will, enlightened public opinion and moral imperatives to overcome selfish but deeply entrenched private or national interests that do not share his goal of making globalization work for as many countries and as many people as possible.

Stiglitz has given us a well-written and informative primer on the major global economic problems. He helps his readers understand exactly what is at stake. Nonetheless, for all its good intentions, “Making Globalization Work” is probably not a workable blueprint for the future.

Jeffry A. Frieden is a professor of government at Harvard University and the author of “Global Capitalism: Its Fall and Rise in the Twentieth Century.”

Copyright 2006 The New York Times Company

Radical Egalitarianism

December 24, 2006

Affirmative Distraction

THE TROUBLE WITH DIVERSITY

How We Learned to Love Identity and Ignore Inequality.

By Walter Benn Michaels.

243 pp. Metropolitan Books/Henry Holt & Company. $23.

A lot of progressive politics today, Walter Benn Michaels complains, involves denouncing and apologizing for “bad things that happened a long time ago.” Government has its ___ History months and ___ Pride days. Business its diversity consultants and “heritage management firms.” Academia has its anti-hate rallies, dedicated, Michaels writes, “to combating a position that no one actually holds.” If these are familiar polemical targets, that is because, roughly since the term “political correctness” started appearing in national newsmagazines around 1990, conservative intellectuals have subjected the concepts of “diversity” and “identity politics” to a steady ideological barrage.

Like his predecessors, Michaels holds affirmative action at universities in low esteem, wants to get rid of race-based scholarships and worries that our diversity obsession — preoccupied as it is with race — “perpetuates the very concepts it congratulates itself on having escaped.” But his complaint with identity politics is ultimately a different one. Michaels is a self-described man of the left, a professor of English at the University of Illinois, Chicago. In his snide and occasionally incisive book, he insists that fighting over race and gender is not an outgrowth of leftist egalitarianism but an alternative to it, a kind of progressives’ consolation prize, “at best a distraction and at worst an essentially reactionary position.” The real problem the left ought to be dealing with is what Michaels calls “class,” by which he means inequalities of income and wealth.

Now, diverse societies do appear less able, or less inclined, to redistribute money than homogeneous ones. The Harvard economists Alberto Alesina and Edward Glaeser have argued that American racial heterogeneity explains about half the gap between American and European welfare spending, and Thomas and Mary Edsall’s 1991 classic “Chain Reaction” described how a backlash against the civil rights movement resulted in a waning public willingness to support the welfare state through taxes. But this is not Michaels’s subject. In fact, he doesn’t believe race is a meaningful concept, either biologically or culturally, and he deals only in passing with the day-in, day-out politics of legislating for racial, ethnic and gender balance.

What interests Michaels is the ideology of diversity, particularly as it is enunciated in universities. For him, this ideology has a basic “trick” to it: “It treats economic difference along the lines of racial and sexual difference, thus identifying the problem not as the difference but as the prejudice (racism, sexism) against the difference.” As long as no one wishes ill to the poor, and as long as the poor are not made to feel inferior, there are no grounds for complaint, and no basis for attacking capitalism (or “neoliberalism,” as Michaels sometimes calls it). Diversity keeps the left barking up the wrong tree.

Michaels has a point. Diversity can be a powerful tool of self-legitimation for the rich. “A society free not only of racism but of sexism and of heterosexism,” he writes, “is a neoliberal utopia where all the irrelevant grounds for inequality (your identity) have been eliminated and whatever inequalities are left are therefore legitimated.” It makes sense that today’s Harvard undergraduates, as Michaels notes, should be more content with affirmative action than with a proposed campus maid service, which would reveal their economic advantages to others and to themselves. (Only 3 percent of students at selective universities come from the bottom socioeconomic quarter.) One sees why the liberal embrace of affirmative action has done nothing to dispel the Democratic Party’s image as elitist, and why the conservative claim that affirmative action waters down educational quality has not been accompanied by any conspicuous flight from universities. In Michaels’s view, universities are serving an extra-educational function, laundering privileges into qualifications.

So Michaels is not surprised that “multiculturalism could go from proclaiming itself a subversive politics to taking up its position as a corporate management tool ... in about 10 minutes and without having to make the slightest adjustment.” Newspapers focus on the millionaire bond trader who won a $12 million settlement when she sued Morgan Stanley for sexism in 2004, or on the female employees now suing Wal-Mart on the grounds that they make marginally less than their male co-workers — but not on the gap between Wal-Mart workers and Morgan Stanley ones, who earn 60 times as much.

Michaels does not so much develop an argument as state a point of view, which he then riffs on. One such riff is to describe various defenders of the diversity ideal as a “police force” for, the “human resources department” of and the “research and development division” of capitalism and the right. It is not clear whether he thinks diversity advocates play this role as well-meaning dupes or as cynical accomplices. Most of those who share Michaels’s diagnosis and his anger tend to run this argument in the opposite direction, to show that corporate America has, for a pittance, sold the country out to race radicals, feminists and gay activists. Indeed, this is the essence of much populist conservatism.

What makes this book different is its single-minded materialism. Race, culture, history, language, love — all that is not money melts into air. Michaels is fascinated by an episode of the reality show “Wife Swap,” in which a rural woman can’t stand the Park Avenue apartment she has traded into. “We find ourselves believing that run-down shacks in the woods are just as nice as Park Avenue apartments,” he writes, “especially if your husband remembers to thank you for chopping the wood when you get home from driving the bus.” He dismisses the complaints of the upper-middle-class residents of Alpharetta, Ga. — profiled in a New York Times series on class — that there’s not much diversity of income in their neighborhood. “The value of mixing rich people and poor people,” he says, “is real only if it contributes to the poor people becoming less poor, which is to say, if it decreases economic diversity.” Michaels brings up the impending extinction of the Mati Ke language of Northern Australia only to dismiss as sentimental any disquiet over it. “We ought to spend less time worrying about the disappearance of languages,” he writes, “and more time worrying about the disappearance of any credible alternative to unfettered capitalism.”

Michaels is vague about what his alternative to capitalism would look like, aside from a few details — universal child care, eliminating funding imbalances in public schools and abolishing private ones altogether. There is not so much a radical program here as a radical mood — one of nostalgia for the revolutionary politics of yesteryear. Michaels laments that since the cold war, “ideology’s claims to truth have come to seem irrelevant.”

But have they? More likely, the problem is that the ideological style of argument — of pitting an untainted abstraction such as “equality” or “progress” or “democracy” against the messy realities of complex modern societies — has come to seem dangerous. The main thing that capitalism and the diversity movement have in common is pragmatism. They draw their legitimacy from the spectacular failure of alternatives, not from their own freedom from internal contradictions. That is why people tolerate mending, not ending, diversity programs, and why they are a bit deaf, just now, to egalitarian schemes. Once burned, twice shy.

Christopher Caldwell, a contributing writer for The New York Times Magazine, is at work on a book about immigration, Islam and Europe.

Copyright 2006 The New York Times Company

Saturday, December 23, 2006

Competing Spheres of Influence

In Hoc Anno Domini December 23, 2006; Page A8

When Saul of Tarsus set out on his journey to Damascus the whole of the known world lay in bondage. There was one state, and it was Rome. There was one master for it all, and he was Tiberius Caesar.

Everywhere there was civil order, for the arm of the Roman law was long. Everywhere there was stability, in government and in society, for the centurions saw that it was so.

But everywhere there was something else, too. There was oppression -- for those who were not the friends of Tiberius Caesar. There was the tax gatherer to take the grain from the fields and the flax from the spindle to feed the legions or to fill the hungry treasury from which divine Caesar gave largess to the people. There was the impressor to find recruits for the circuses. There were executioners to quiet those whom the Emperor proscribed. What was a man for but to serve Caesar?

There was the persecution of men who dared think differently, who heard strange voices or read strange manuscripts. There was enslavement of men whose tribes came not from Rome, disdain for those who did not have the familiar visage. And most of all, there was everywhere a contempt for human life. What, to the strong, was one man more or less in a crowded world?

Then, of a sudden, there was a light in the world, and a man from Galilee saying, Render unto Caesar the things which are Caesar's and unto God the things that are God's.

And the voice from Galilee, which would defy Caesar, offered a new Kingdom in which each man could walk upright and bow to none but his God. Inasmuch as ye have done it unto one of the least of these my brethren, ye have done it unto me. And he sent this gospel of the Kingdom of Man into the uttermost ends of the earth.

So the light came into the world and the men who lived in darkness were afraid, and they tried to lower a curtain so that man would still believe salvation lay with the leaders.

But it came to pass for a while in divers places that the truth did set man free, although the men of darkness were offended and they tried to put out the light. The voice said, Haste ye. Walk while you have the light, lest darkness come upon you, for he that walketh in darkness knoweth not whither he goeth.

Along the road to Damascus the light shone brightly. But afterward Paul of Tarsus, too, was sore afraid. He feared that other Caesars, other prophets, might one day persuade men that man was nothing save a servant unto them, that men might yield up their birthright from God for pottage and walk no more in freedom.

Then might it come to pass that darkness would settle again over the lands and there would be a burning of books and men would think only of what they should eat and what they should wear, and would give heed only to new Caesars and to false prophets. Then might it come to pass that men would not look upward to see even a winter's star in the East, and once more, there would be no light at all in the darkness.

And so Paul, the apostle of the Son of Man, spoke to his brethren, the Galatians, the words he would have us remember afterward in each of the years of his Lord:

Stand fast therefore in the liberty wherewith Christ has made us free and be not entangled again with the yoke of bondage.

This editorial was written in 1949 by the late Vermont Royster and has been published annually since.

URL for this article: http://online.wsj.com/article/SB116683723149258305.html
Copyright 2006 Dow Jones & Company, Inc. All Rights Reserved

Thursday, December 21, 2006

A Moral Arguement With Some Big Holes

December 17, 2006

What Should a Billionaire Give – and What Should You?

What is a human life worth? You may not want to put a price tag on a it. But if we really had to, most of us would agree that the value of a human life would be in the millions. Consistent with the foundations of our democracy and our frequently professed belief in the inherent dignity of human beings, we would also agree that all humans are created equal, at least to the extent of denying that differences of sex, ethnicity, nationality and place of residence change the value of a human life.

With Christmas approaching, and Americans writing checks to their favorite charities, it’s a good time to ask how these two beliefs — that a human life, if it can be priced at all, is worth millions, and that the factors I have mentioned do not alter the value of a human life — square with our actions. Perhaps this year such questions lurk beneath the surface of more family discussions than usual, for it has been an extraordinary year for philanthropy, especially philanthropy to fight global poverty.

For Bill Gates, the founder of Microsoft, the ideal of valuing all human life equally began to jar against reality some years ago, when he read an article about diseases in the developing world and came across the statistic that half a million children die every year from rotavirus, the most common cause of severe diarrhea in children. He had never heard of rotavirus. “How could I never have heard of something that kills half a million children every year?” he asked himself. He then learned that in developing countries, millions of children die from diseases that have been eliminated, or virtually eliminated, in the United States. That shocked him because he assumed that, if there are vaccines and treatments that could save lives, governments would be doing everything possible to get them to the people who need them. As Gates told a meeting of the World Health Assembly in Geneva last year, he and his wife, Melinda, “couldn’t escape the brutal conclusion that — in our world today — some lives are seen as worth saving and others are not.” They said to themselves, “This can’t be true.” But they knew it was.

Gates’s speech to the World Health Assembly concluded on an optimistic note, looking forward to the next decade when “people will finally accept that the death of a child in the developing world is just as tragic as the death of a child in the developed world.” That belief in the equal value of all human life is also prominent on the Web site of the Bill and Melinda Gates Foundation, where under Our Values we read: “All lives — no matter where they are being led — have equal value.”

We are very far from acting in accordance with that belief. In the same world in which more than a billion people live at a level of affluence never previously known, roughly a billion other people struggle to survive on the purchasing power equivalent of less than one U.S. dollar per day. Most of the world’s poorest people are undernourished, lack access to safe drinking water or even the most basic health services and cannot send their children to school. According to Unicef, more than 10 million children die every year — about 30,000 per day — from avoidable, poverty-related causes.

Last June the investor Warren Buffett took a significant step toward reducing those deaths when he pledged $31 billion to the Gates Foundation, and another $6 billion to other charitable foundations. Buffett’s pledge, set alongside the nearly $30 billion given by Bill and Melinda Gates to their foundation, has made it clear that the first decade of the 21st century is a new “golden age of philanthropy.” On an inflation-adjusted basis, Buffett has pledged to give more than double the lifetime total given away by two of the philanthropic giants of the past, Andrew Carnegie and John D. Rockefeller, put together. Bill and Melinda Gates’s gifts are not far behind.

Gates’s and Buffett’s donations will now be put to work primarily to reduce poverty, disease and premature death in the developing world. According to the Global Forum for Health Research, less than 10 percent of the world’s health research budget is spent on combating conditions that account for 90 percent of the global burden of disease. In the past, diseases that affect only the poor have been of no commercial interest to pharmaceutical manufacturers, because the poor cannot afford to buy their products. The Global Alliance for Vaccines and Immunization (GAVI), heavily supported by the Gates Foundation, seeks to change this by guaranteeing to purchase millions of doses of vaccines, when they are developed, that can prevent diseases like malaria. GAVI has also assisted developing countries to immunize more people with existing vaccines: 99 million additional children have been reached to date. By doing this, GAVI claims to have already averted nearly 1.7 million future deaths.

Philanthropy on this scale raises many ethical questions: Why are the people who are giving doing so? Does it do any good? Should we praise them for giving so much or criticize them for not giving still more? Is it troubling that such momentous decisions are made by a few extremely wealthy individuals? And how do our judgments about them reflect on our own way of living?

Let’s start with the question of motives. The rich must — or so some of us with less money like to assume — suffer sleepless nights because of their ruthlessness in squeezing out competitors, firing workers, shutting down plants or whatever else they have to do to acquire their wealth. When wealthy people give away money, we can always say that they are doing it to ease their consciences or generate favorable publicity. It has been suggested — by, for example, David Kirkpatrick, a senior editor at Fortune magazine — that Bill Gates’s turn to philanthropy was linked to the antitrust problems Microsoft had in the U.S. and the European Union. Was Gates, consciously or subconsciously, trying to improve his own image and that of his company?

This kind of sniping tells us more about the attackers than the attacked. Giving away large sums, rather than spending the money on corporate advertising or developing new products, is not a sensible strategy for increasing personal wealth. When we read that someone has given away a lot of their money, or time, to help others, it challenges us to think about our own behavior. Should we be following their example, in our own modest way? But if the rich just give their money away to improve their image, or to make up for past misdeeds — misdeeds quite unlike any we have committed, of course — then, conveniently, what they are doing has no relevance to what we ought to do.

A famous story is told about Thomas Hobbes, the 17th-century English philosopher, who argued that we all act in our own interests. On seeing him give alms to a beggar, a cleric asked Hobbes if he would have done this if Christ had not commanded us to do so. Yes, Hobbes replied, he was in pain to see the miserable condition of the old man, and his gift, by providing the man with some relief from that misery, also eased Hobbes’s pain. That reply reconciles Hobbes’s charity with his egoistic theory of human motivation, but at the cost of emptying egoism of much of its bite. If egoists suffer when they see a stranger in distress, they are capable of being as charitable as any altruist.

Followers of the 18th-century German philosopher Immanuel Kant would disagree. They think an act has moral worth only if it is done out of a sense of duty. Doing something merely because you enjoy doing it, or enjoy seeing its consequences, they say, has no moral worth, because if you happened not to enjoy doing it, then you wouldn’t do it, and you are not responsible for your likes and dislikes, whereas you are responsible for your obedience to the demands of duty.

Perhaps some philanthropists are motivated by their sense of duty. Apart from the equal value of all human life, the other “simple value” that lies at the core of the work of the Gates Foundation, according to its Web site, is “To whom much has been given, much is expected.” That suggests the view that those who have great wealth have a duty to use it for a larger purpose than their own interests. But while such questions of motive may be relevant to our assessment of Gates’s or Buffett’s character, they pale into insignificance when we consider the effect of what Gates and Buffett are doing. The parents whose children could die from rotavirus care more about getting the help that will save their children’s lives than about the motivations of those who make that possible.

Interestingly, neither Gates nor Buffett seems motivated by the possibility of being rewarded in heaven for his good deeds on earth. Gates told a Time interviewer, “There’s a lot more I could be doing on a Sunday morning” than going to church. Put them together with Andrew Carnegie, famous for his freethinking, and three of the four greatest American philanthropists have been atheists or agnostics. (The exception is John D. Rockefeller.) In a country in which 96 percent of the population say they believe in a supreme being, that’s a striking fact. It means that in one sense, Gates and Buffett are probably less self-interested in their charity than someone like Mother Teresa, who as a pious Roman Catholic believed in reward and punishment in the afterlife.

More important than questions about motives are questions about whether there is an obligation for the rich to give, and if so, how much they should give. A few years ago, an African-American cabdriver taking me to the Inter-American Development Bank in Washington asked me if I worked at the bank. I told him I did not but was speaking at a conference on development and aid. He then assumed that I was an economist, but when I said no, my training was in philosophy, he asked me if I thought the U.S. should give foreign aid. When I answered affirmatively, he replied that the government shouldn’t tax people in order to give their money to others. That, he thought, was robbery. When I asked if he believed that the rich should voluntarily donate some of what they earn to the poor, he said that if someone had worked for his money, he wasn’t going to tell him what to do with it.

At that point we reached our destination. Had the journey continued, I might have tried to persuade him that people can earn large amounts only when they live under favorable social circumstances, and that they don’t create those circumstances by themselves. I could have quoted Warren Buffett’s acknowledgment that society is responsible for much of his wealth. “If you stick me down in the middle of Bangladesh or Peru,” he said, “you’ll find out how much this talent is going to produce in the wrong kind of soil.” The Nobel Prize-winning economist and social scientist Herbert Simon estimated that “social capital” is responsible for at least 90 percent of what people earn in wealthy societies like those of the United States or northwestern Europe. By social capital Simon meant not only natural resources but, more important, the technology and organizational skills in the community, and the presence of good government. These are the foundation on which the rich can begin their work. “On moral grounds,” Simon added, “we could argue for a flat income tax of 90 percent.” Simon was not, of course, advocating so steep a rate of tax, for he was well aware of disincentive effects. But his estimate does undermine the argument that the rich are entitled to keep their wealth because it is all a result of their hard work. If Simon is right, that is true of at most 10 percent of it.

In any case, even if we were to grant that people deserve every dollar they earn, that doesn’t answer the question of what they should do with it. We might say that they have a right to spend it on lavish parties, private jets and luxury yachts, or, for that matter, to flush it down the toilet. But we could still think that for them to do these things while others die from easily preventable diseases is wrong. In an article I wrote more than three decades ago, at the time of a humanitarian emergency in what is now Bangladesh, I used the example of walking by a shallow pond and seeing a small child who has fallen in and appears to be in danger of drowning. Even though we did nothing to cause the child to fall into the pond, almost everyone agrees that if we can save the child at minimal inconvenience or trouble to ourselves, we ought to do so. Anything else would be callous, indecent and, in a word, wrong. The fact that in rescuing the child we may, for example, ruin a new pair of shoes is not a good reason for allowing the child to drown. Similarly if for the cost of a pair of shoes we can contribute to a health program in a developing country that stands a good chance of saving the life of a child, we ought to do so.

Perhaps, though, our obligation to help the poor is even stronger than this example implies, for we are less innocent than the passer-by who did nothing to cause the child to fall into the pond. Thomas Pogge, a philosopher at Columbia University, has argued that at least some of our affluence comes at the expense of the poor. He bases this claim not simply on the usual critique of the barriers that Europe and the United States maintain against agricultural imports from developing countries but also on less familiar aspects of our trade with developing countries. For example, he points out that international corporations are willing to make deals to buy natural resources from any government, no matter how it has come to power. This provides a huge financial incentive for groups to try to overthrow the existing government. Successful rebels are rewarded by being able to sell off the nation’s oil, minerals or timber.

In their dealings with corrupt dictators in developing countries, Pogge asserts, international corporations are morally no better than someone who knowingly buys stolen goods — with the difference that the international legal and political order recognizes the corporations, not as criminals in possession of stolen goods but as the legal owners of the goods they have bought. This situation is, of course, beneficial for the industrial nations, because it enables us to obtain the raw materials we need to maintain our prosperity, but it is a disaster for resource-rich developing countries, turning the wealth that should benefit them into a curse that leads to a cycle of coups, civil wars and corruption and is of little benefit to the people as a whole.

In this light, our obligation to the poor is not just one of providing assistance to strangers but one of compensation for harms that we have caused and are still causing them. It might be argued that we do not owe the poor compensation, because our affluence actually benefits them. Living luxuriously, it is said, provides employment, and so wealth trickles down, helping the poor more effectively than aid does. But the rich in industrialized nations buy virtually nothing that is made by the very poor. During the past 20 years of economic globalization, although expanding trade has helped lift many of the world’s poor out of poverty, it has failed to benefit the poorest 10 percent of the world’s population. Some of the extremely poor, most of whom live in sub-Saharan Africa, have nothing to sell that rich people want, while others lack the infrastructure to get their goods to market. If they can get their crops to a port, European and U.S. subsidies often mean that they cannot sell them, despite — as for example in the case of West African cotton growers who compete with vastly larger and richer U.S. cotton producers — having a lower production cost than the subsidized producers in the rich nations.

The remedy to these problems, it might reasonably be suggested, should come from the state, not from private philanthropy. When aid comes through the government, everyone who earns above the tax-free threshold contributes something, with more collected from those with greater ability to pay. Much as we may applaud what Gates and Buffett are doing, we can also be troubled by a system that leaves the fate of hundreds of millions of people hanging on the decisions of two or three private citizens. But the amount of foreign development aid given by the U.S. government is, at 22 cents for every $100 the nation earns, about the same, as a percentage of gross national income, as Portugal gives and about half that of the U.K. Worse still, much of it is directed where it best suits U.S. strategic interests — Iraq is now by far the largest recipient of U.S. development aid, and Egypt, Jordan, Pakistan and Afghanistan all rank in the Top 10. Less than a quarter of official U.S. development aid — barely a nickel in every $100 of our G.N.I. — goes to the world’s poorest nations.

Adding private philanthropy to U.S. government aid improves this picture, because Americans privately give more per capita to international philanthropic causes than the citizens of almost any other nation. Even when private donations are included, however, countries like Norway, Denmark, Sweden and the Netherlands give three or four times as much foreign aid, in proportion to the size of their economies, as the U.S. gives — with a much larger percentage going to the poorest nations. At least as things now stand, the case for philanthropic efforts to relieve global poverty is not susceptible to the argument that the government has taken care of the problem. And even if official U.S. aid were better-directed and comparable, relative to our gross domestic product, with that of the most generous nations, there would still be a role for private philanthropy. Unconstrained by diplomatic considerations or the desire to swing votes at the United Nations, private donors can more easily avoid dealing with corrupt or wasteful governments. They can go directly into the field, working with local villages and grass-roots organizations.

Nor are philanthropists beholden to lobbyists. As The New York Times reported recently, billions of dollars of U.S. aid is tied to domestic goods. Wheat for Africa must be grown in America, although aid experts say this often depresses local African markets, reducing the incentive for farmers there to produce more. In a decision that surely costs lives, hundreds of millions of condoms intended to stop the spread of AIDS in Africa and around the world must be manufactured in the U.S., although they cost twice as much as similar products made in Asia.

In other ways, too, private philanthropists are free to venture where governments fear to tread. Through a foundation named for his wife, Susan Thompson Buffett, Warren Buffett has supported reproductive rights, including family planning and pro-choice organizations. In another unusual initiative, he has pledged $50 million for the International Atomic Energy Agency’s plan to establish a “fuel bank” to supply nuclear-reactor fuel to countries that meet their nuclear-nonproliferation commitments. The idea, which has been talked about for many years, is widely agreed to be a useful step toward discouraging countries from building their own facilities for producing nuclear fuel, which could then be diverted to weapons production. It is, Buffett said, “an investment in a safer world.” Though it is something that governments could and should be doing, no government had taken the first step.

Aid has always had its critics. Carefully planned and intelligently directed private philanthropy may be the best answer to the claim that aid doesn’t work. Of course, as in any large-scale human enterprise, some aid can be ineffective. But provided that aid isn’t actually counterproductive, even relatively inefficient assistance is likely to do more to advance human wellbeing than luxury spending by the wealthy.

The rich, then, should give. But how much should they give? Gates may have given away nearly $30 billion, but that still leaves him sitting at the top of the Forbes list of the richest Americans, with $53 billion. His 66,000-square-foot high-tech lakeside estate near Seattle is reportedly worth more than $100 million. Property taxes are about $1 million. Among his possessions is the Leicester Codex, the only handwritten book by Leonardo da Vinci still in private hands, for which he paid $30.8 million in 1994. Has Bill Gates done enough? More pointedly, you might ask: if he really believes that all lives have equal value, what is he doing living in such an expensive house and owning a Leonardo Codex? Are there no more lives that could be saved by living more modestly and adding the money thus saved to the amount he has already given?

Yet we should recognize that, if judged by the proportion of his wealth that he has given away, Gates compares very well with most of the other people on the Forbes 400 list, including his former colleague and Microsoft co-founder, Paul Allen. Allen, who left the company in 1983, has given, over his lifetime, more than $800 million to philanthropic causes. That is far more than nearly any of us will ever be able to give. But Forbes lists Allen as the fifth-richest American, with a net worth of $16 billion. He owns the Seattle Seahawks, the Portland Trailblazers, a 413-foot oceangoing yacht that carries two helicopters and a 60-foot submarine. He has given only about 5 percent of his total wealth.

Is there a line of moral adequacy that falls between the 5 percent that Allen has given away and the roughly 35 percent that Gates has donated? Few people have set a personal example that would allow them to tell Gates that he has not given enough, but one who could is Zell Kravinsky. A few years ago, when he was in his mid-40s, Kravinsky gave almost all of his $45 million real estate fortune to health-related charities, retaining only his modest family home in Jenkintown, near Philadelphia, and enough to meet his family’s ordinary expenses. After learning that thousands of people with failing kidneys die each year while waiting for a transplant, he contacted a Philadelphia hospital and donated one of his kidneys to a complete stranger.

After reading about Kravinsky in The New Yorker, I invited him to speak to my classes at Princeton. He comes across as anguished by the failure of others to see the simple logic that lies behind his altruism. Kravinsky has a mathematical mind — a talent that obviously helped him in deciding what investments would prove profitable — and he says that the chances of dying as a result of donating a kidney are about 1 in 4,000. For him this implies that to withhold a kidney from someone who would otherwise die means valuing one’s own life at 4,000 times that of a stranger, a ratio Kravinsky considers “obscene.”

What marks Kravinsky from the rest of us is that he takes the equal value of all human life as a guide to life, not just as a nice piece of rhetoric. He acknowledges that some people think he is crazy, and even his wife says she believes that he goes too far. One of her arguments against the kidney donation was that one of their children may one day need a kidney, and Zell could be the only compatible donor. Kravinsky’s love for his children is, as far as I can tell, as strong as that of any normal parent. Such attachments are part of our nature, no doubt the product of our evolution as mammals who give birth to children, who for an unusually long time require our assistance in order to survive. But that does not, in Kravinsky’s view, justify our placing a value on the lives of our children that is thousands of times greater than the value we place on the lives of the children of strangers. Asked if he would allow his child to die if it would enable a thousand children to live, Kravinsky said yes. Indeed, he has said he would permit his child to die even if this enabled only two other children to live. Nevertheless, to appease his wife, he recently went back into real estate, made some money and bought the family a larger home. But he still remains committed to giving away as much as possible, subject only to keeping his domestic life reasonably tranquil.

Buffett says he believes in giving his children “enough so they feel they could do anything, but not so much that they could do nothing.” That means, in his judgment, “a few hundred thousand” each. In absolute terms, that is far more than most Americans are able to leave their children and, by Kravinsky’s standard, certainly too much. (Kravinsky says that the hard part is not giving away the first $45 million but the last $10,000, when you have to live so cheaply that you can’t function in the business world.) But even if Buffett left each of his three children a million dollars each, he would still have given away more than 99.99 percent of his wealth. When someone does that much — especially in a society in which the norm is to leave most of your wealth to your children — it is better to praise them than to cavil about the extra few hundred thousand dollars they might have given.

Philosophers like Liam Murphy of New York University and my colleague Kwame Anthony Appiah at Princeton contend that our obligations are limited to carrying our fair share of the burden of relieving global poverty. They would have us calculate how much would be required to ensure that the world’s poorest people have a chance at a decent life, and then divide this sum among the affluent. That would give us each an amount to donate, and having given that, we would have fulfilled our obligations to the poor.

What might that fair amount be? One way of calculating it would be to take as our target, at least for the next nine years, the Millennium Development Goals, set by the United Nations Millennium Summit in 2000. On that occasion, the largest gathering of world leaders in history jointly pledged to meet, by 2015, a list of goals that include:

Reducing by half the proportion of the world’s people in extreme poverty (defined as living on less than the purchasing-power equivalent of one U.S. dollar per day).

Reducing by half the proportion of people who suffer from hunger.

Ensuring that children everywhere are able to take a full course of primary schooling.

Ending sex disparity in education.

Reducing by two-thirds the mortality rate among children under 5.

Reducing by three-quarters the rate of maternal mortality.

Halting and beginning to reverse the spread of H.I.V./AIDS and halting and beginning to reduce the incidence of malaria and other major diseases.

Reducing by half the proportion of people without sustainable access to safe drinking water.

Last year a United Nations task force, led by the Columbia University economist Jeffrey Sachs, estimated the annual cost of meeting these goals to be $121 billion in 2006, rising to $189 billion by 2015. When we take account of existing official development aid promises, the additional amount needed each year to meet the goals is only $48 billion for 2006 and $74 billion for 2015.

Now let’s look at the incomes of America’s rich and superrich, and ask how much they could reasonably give. The task is made easier by statistics recently provided by Thomas Piketty and Emmanuel Saez, economists at the École Normale Supérieure, Paris-Jourdan, and the University of California, Berkeley, respectively, based on U.S. tax data for 2004. Their figures are for pretax income, excluding income from capital gains, which for the very rich are nearly always substantial. For simplicity I have rounded the figures, generally downward. Note too that the numbers refer to “tax units,” that is, in many cases, families rather than individuals.

Piketty and Saez’s top bracket comprises 0.01 percent of U.S. taxpayers. There are 14,400 of them, earning an average of $12,775,000, with total earnings of $184 billion. The minimum annual income in this group is more than $5 million, so it seems reasonable to suppose that they could, without much hardship, give away a third of their annual income, an average of $4.3 million each, for a total of around $61 billion. That would still leave each of them with an annual income of at least $3.3 million.

Next comes the rest of the top 0.1 percent (excluding the category just described, as I shall do henceforth). There are 129,600 in this group, with an average income of just over $2 million and a minimum income of $1.1 million. If they were each to give a quarter of their income, that would yield about $65 billion, and leave each of them with at least $846,000 annually.

The top 0.5 percent consists of 575,900 taxpayers, with an average income of $623,000 and a minimum of $407,000. If they were to give one-fifth of their income, they would still have at least $325,000 each, and they would be giving a total of $72 billion.

Coming down to the level of those in the top 1 percent, we find 719,900 taxpayers with an average income of $327,000 and a minimum of $276,000. They could comfortably afford to give 15 percent of their income. That would yield $35 billion and leave them with at least $234,000.

Finally, the remainder of the nation’s top 10 percent earn at least $92,000 annually, with an average of $132,000. There are nearly 13 million in this group. If they gave the traditional tithe — 10 percent of their income, or an average of $13,200 each — this would yield about $171 billion and leave them a minimum of $83,000.

You could spend a long time debating whether the fractions of income I have suggested for donation constitute the fairest possible scheme. Perhaps the sliding scale should be steeper, so that the superrich give more and the merely comfortable give less. And it could be extended beyond the Top 10 percent of American families, so that everyone able to afford more than the basic necessities of life gives something, even if it is as little as 1 percent. Be that as it may, the remarkable thing about these calculations is that a scale of donations that is unlikely to impose significant hardship on anyone yields a total of $404 billion — from just 10 percent of American families.

Obviously, the rich in other nations should share the burden of relieving global poverty. The U.S. is responsible for 36 percent of the gross domestic product of all Organization for Economic Cooperation and Development nations. Arguably, because the U.S. is richer than all other major nations, and its wealth is more unevenly distributed than wealth in almost any other industrialized country, the rich in the U.S. should contribute more than 36 percent of total global donations. So somewhat more than 36 percent of all aid to relieve global poverty should come from the U.S. For simplicity, let’s take half as a fair share for the U.S. On that basis, extending the scheme I have suggested worldwide would provide $808 billion annually for development aid. That’s more than six times what the task force chaired by Sachs estimated would be required for 2006 in order to be on track to meet the Millennium Development Goals, and more than 16 times the shortfall between that sum and existing official development aid commitments.

If we are obliged to do no more than our fair share of eliminating global poverty, the burden will not be great. But is that really all we ought to do? Since we all agree that fairness is a good thing, and none of us like doing more because others don’t pull their weight, the fair-share view is attractive. In the end, however, I think we should reject it. Let’s return to the drowning child in the shallow pond. Imagine it is not 1 small child who has fallen in, but 50 children. We are among 50 adults, unrelated to the children, picnicking on the lawn around the pond. We can easily wade into the pond and rescue the children, and the fact that we would find it cold and unpleasant sloshing around in the knee-deep muddy water is no justification for failing to do so. The “fair share” theorists would say that if we each rescue one child, all the children will be saved, and so none of us have an obligation to save more than one. But what if half the picnickers prefer staying clean and dry to rescuing any children at all? Is it acceptable if the rest of us stop after we have rescued just one child, knowing that we have done our fair share, but that half the children will drown? We might justifiably be furious with those who are not doing their fair share, but our anger with them is not a reason for letting the children die. In terms of praise and blame, we are clearly right to condemn, in the strongest terms, those who do nothing. In contrast, we may withhold such condemnation from those who stop when they have done their fair share. Even so, they have let children drown when they could easily have saved them, and that is wrong.

Similarly, in the real world, it should be seen as a serious moral failure when those with ample income do not do their fair share toward relieving global poverty. It isn’t so easy, however, to decide on the proper approach to take to those who limit their contribution to their fair share when they could easily do more and when, because others are not playing their part, a further donation would assist many in desperate need. In the privacy of our own judgment, we should believe that it is wrong not to do more. But whether we should actually criticize people who are doing their fair share, but no more than that, depends on the psychological impact that such criticism will have on them, and on others. This in turn may depend on social practices. If the majority are doing little or nothing, setting a standard higher than the fair-share level may seem so demanding that it discourages people who are willing to make an equitable contribution from doing even that. So it may be best to refrain from criticizing those who achieve the fair-share level. In moving our society’s standards forward, we may have to progress one step at a time.

For more than 30 years, I’ve been reading, writing and teaching about the ethical issue posed by the juxtaposition, on our planet, of great abundance and life-threatening poverty. Yet it was not until, in preparing this article, I calculated how much America’s Top 10 percent of income earners actually make that I fully understood how easy it would be for the world’s rich to eliminate, or virtually eliminate, global poverty. (It has actually become much easier over the last 30 years, as the rich have grown significantly richer.) I found the result astonishing. I double-checked the figures and asked a research assistant to check them as well. But they were right. Measured against our capacity, the Millennium Development Goals are indecently, shockingly modest. If we fail to achieve them — as on present indications we well might — we have no excuses. The target we should be setting for ourselves is not halving the proportion of people living in extreme poverty, and without enough to eat, but ensuring that no one, or virtually no one, needs to live in such degrading conditions. That is a worthy goal, and it is well within our reach.

Peter Singer is the Ira W. DeCamp professor of bioethics at the Center for Human Values at Princeton University. He is the author of many books, including most recently “The Way We Eat: Why Our Food Choices Matter.”

Copyright 2006 The New York Times Company