Authors: Thomas L. Friedman
A deeper process of reform was required-a process I would call reform retail.
I Can Only Get It for You Retail
What if regions of the world were like the neighborhoods of a city? What would the world look like? I'd describe it like this: Western Europe would be an assisted-living facility, with an aging population lavishly attended to by Turkish nurses. The United States would be a gated community, with a metal detector at the front gate and a lot of people sitting in their front yards complaining about how lazy everyone else was, even though out back there was a small opening in the fence for Mexican labor and other energetic immigrants who helped to make the gated community function. Latin America would be the fun part of town, the club district, where the workday doesn't begin until ten p.m. and everyone sleeps until midmorning. It's definitely the place to hang out, but in between the clubs, you don't see a lot of new businesses opening up, except on the street where the Chileans live. The landlords in this neighborhood almost never reinvest their profits here, but keep them in a bank across town. The Arab street would be a dark alley where outsiders fear to tread, except for a few side streets called Dubai, Jordan, Bahrain, Qatar, and Morocco. The only new businesses are gas stations, whose owners, like the elites in the Latin neighborhood, rarely reinvest their funds in the neighborhood. Many people on the Arab street have their curtains closed, their shutters drawn, and signs on their front lawn that say, “No Trespassing. Beware of Dog.” India, China, and East Asia would be “the other side of the tracks.” Their neighborhood is a big teeming market, made up of small shops and one-room factories, interspersed with Stanley Kaplan SAT prep schools and engineering colleges. Nobody ever sleeps in this neighborhood, everyone lives in extended families, and everyone is working and saving to get to “the right side of the tracks.” On the Chinese streets, there's no rule of law, but the roads are all well paved; there are no potholes, and the streetlights all work. On the Indian streets, by contrast, no one ever repairs the streetlights, the roads are full of ruts, but the police are sticklers for the rules. You need a license to open a lemonade stand on the Indian streets. Luckily, the local cops can be bribed, and the successful entrepreneurs all have their own generators to run their factories and the latest cell phones to get around the fact that the local telephone poles are all down. Africa, sadly, is that part of town where the businesses are boarded up, life expectancy is declining, and the only new buildings are health-care clinics.
The point here is that every region of the world has its strengths and weaknesses, and all are in need of reform retail to some degree. What is reform retail? In the simplest terms, it is more than just opening your country to foreign trade and investment and making a few macroeco-nomic policy changes from the top. That is reform wholesale. Reform retail presumes you have already done reform wholesale. It involves looking at four key aspects of your society-infrastructure, regulatory institutions, education, and culture (the general way your country and leaders relate to the world)-and upgrading each one to remove as many friction points as possible. The idea of reform retail is to enable the greatest number of your people to have the best legal and institutional framework within which to innovate, start companies, and become attractive partners for those who want to collaborate with them from elsewhere in the world.
Many of the key elements of reform retail were best defined by the research done by the World Bank's International Finance Corporation (IFC) and its economic analysis team led by its chief economist, Michael Klein. What do we learn from their work? To begin with, you don't grow your country out of poverty by guaranteeing everyone a job. Egypt guarantees all college graduates a job each year, and it has been mired in poverty with a slow-growing economy for fifty years.
“If it were just a matter of the number of jobs, solutions would be easy,” note Klein and Bita Hadjimichael in their World Bank Study, The Private Sector in Development. “For example, state-owned enterprises could absorb all those in need of employment. The real issue is not just employment, but increasingly productive employment that allows living standards to rise.” State-owned enterprises and state-subsidized private firms usually have not delivered sustainable productivity growth, and neither have a lot of other approaches that people assume are elixirs of growth, they add. Just attracting more foreign investment into a country also doesn't automatically do it. And even massive investments in education won't guarantee it.
“Productivity growth and, hence, the way out of poverty, is not simply a matter of throwing resources at the problem,” say Klein and Hadjimichael. “More important, it is a matter of using resources well.” In other words, countries grow out of poverty not only when they manage their fiscal and monetary policies responsibly from above, i.e., reform wholesale. They grow out of poverty when they also create an environment below that makes it very easy for their people to start businesses, raise capital, and become entrepreneurs, and when they subject their people to at least some competition from beyond-because companies and countries with competitors always innovate more and faster.
The IFC drove home this point with a comprehensive study of more than 130 countries, called Doing Business in 2004. The IFC asked five basic questions about doing business in each of these countries, questions about how easy or difficult it is to 1) start a business in terms of local rules, regulations, and license fees, 2) hire and fire workers, 3) enforce a contract, 4) get credit, and 5) close a business that goes bankrupt or is failing. To translate it into my own lexicon, those countries that make all these things relatively simple and friction-free have undertaken reform retail, and those that have not are stalled in reform wholesale and are not likely to thrive in a flat world. The IFC's criteria were inspired by the brilliant and innovative work of Hernando de Soto, who has demonstrated in Peru and other developing nations that if you change the regulatory and business environment for the poor, and give them the tools to collaborate, they will do the rest.
Doing Business in 2004 tries to explain each of its points with a few colorful examples: “Teuku, an entreprenuer in Jakarta, wants to open a textile factory. He has customers lined up, imported machinery, and a promising business plan. Teuku's first encounter with the government is when registering his business. He gets the standard forms from the Ministry of Justice, and completes and notarizes them. Teuku proves that he is a local resident and does not have a criminal record. He obtains a tax number, applies for a business license, and deposits the minimum capital (three times national income per capita) in the bank. He then publishes the articles of association in the official gazette, pays a stamp fee, registers at the Ministry of Justice, and waits 90 days before filing for social security. One hundred sixty-eight days after he commences the process, Teuku can legally start operations. In the meantime, his customers have contracted with another business.
“In Panama, another entrepreneur, Ina, registers her construction company in only 19 days. Business is booming and Ina wants to hire someone for a two-year appointment. But the employment law only allows fixed-term appointments for specific tasks, and even then requires a maximum term of one year. At the same time, one of her current workers often leaves early, with no excuse, and makes costly mistakes. To replace him, Ina needs to notify and get approval from the union, and pay five months' severance pay. Ina rejects the more qualified applicant she would like to hire and keeps the underperforming worker on staff.
“Ali, a trader in the United Arab Emirates, can hire and fire with ease. But one of his customers refuses to pay for equipment delivered three months earlier. It takes 27 procedures and more than 550 days to resolve the payment dispute in court. Almost all procedures must be made in writing, and require extensive legal justification and the use of lawyers. After this experience, Ali decides to deal only with customers he knows well.
“Timnit, a young entrepreneur in Ethiopia, wants to expand her successful consulting business by taking a loan. But she has no proof of good credit history because there are no credit information registries. Although her business has substantial assets in accounts receivable, laws restrict her bank from using these as collateral. The bank knows it cannot recover the debt if Timnit defaults, because courts are inefficient and laws give creditors few powers. Credit is denied. The business stays small.
“Having registered, hired workers, enforced contracts, and obtained credit, Avik, a businessman in India, cannot make a profit and goes out of business. Faced with a 10-year-long process of going through bankruptcy, Avik absconds, leaving his workers, the bank, and the tax agency with nothing.”
If you want to know why two decades of macroeconomic reform wholesale at the top have not slowed the spread of poverty and produced enough new jobs in key countries of Latin America, Africa, the Arab world, and the former Soviet Empire, it is because there has been too little reform retail. According to the IFC report, if you want to create productive jobs (the kind that lead to rising standards of living), and if you want to stimulate the growth of new businesses (the kind that innovate, compete, and create wealth), you need a regulatory environment that makes it easy to start a business, easy to adjust a business to changing market circumstances and opportunities, and easy to close a business that goes bankrupt, so that the capital can be freed up for more productive uses.
“It takes two days to start a business in Australia, but 203 days in Haiti and 215 days in the Democratic Republic of Congo,” the IFC study found. “There are no monetary costs to start a new business in Denmark, but it costs more than five times income per capita in Cambodia and over thirteen times in Sierra Leone. Hong Kong, Singapore, Thailand and more than three dozen other economies require no minimum capital from start-ups. In contrast, in Syria the capital requirement is equivalent to fifty-six times income per capita... Businesses in the Czech Republic and Denmark can hire workers on part-time or fixed-term contracts for any job, without specifying maximum duration of the contract. In contrast, employment laws in El Salvador allow fixed-term contracts only for specific jobs, and set their duration to be at most one year... A simple commercial contract is enforced in seven days in Tunisia and thirty-nine days in the Netherlands, but takes almost 1,500 days in Guatemala. The cost of enforcement is less than 1 percent of the disputed amount in Austria, Canada and the United Kingdom, but more than 100 percent in Burkina Faso, the Dominican Republic, Indonesia... and the Philippines. Credit bureaus contain credit histories on almost every adult in New Zealand, Norway and the United States. But the credit registries in Cameroon, Ghana, Pakistan, Nigeria and Serbia and Montenegro have credit histories for less than 1 percent of adults. In the United Kingdom, laws on collateral and bankruptcy give creditors strong powers to recover their money if a debtor defaults. In Colombia, the Republic of Congo, Mexico, Oman and Tunisia, a creditor has no such rights. It takes less than six months to go through bankruptcy proceedings in Ireland and Japan, but more than ten years in Brazil and India. It costs less than 1 percent of the value of the estate to resolve insolvency in Finland, the Netherlands, Norway and Singapore-and nearly half the estate value in Chad, Panama, Macedonia, Venezuela, Serbia and Montenegro, and Sierra Leone.”
As the IFC report notes, excessive regulation also tends to hurt most the very people it is supposed to protect. The rich and the well connected just buy or hustle their way around onerous regulations. In countries that have very regulated labor markets where it is difficult to hire and fire people, women, especially, have a hard time finding employment.
“Good regulation does not mean zero regulation,” concludes the IFC study. “The optimal level of regulation is not none, but may be less than what is currently found in most countries, and especially poor ones.” It offers what I call a five-step checklist for reform retail. One, simplify and deregulate wherever possible in competitive markets, because competition for consumers and workers can be the best source of pressure for best practices, and overregulation just opens the door for corrupt bureaucrats to demand bribes. “There is no reason for Angola to have one of the most rigid employment laws if Portugal, whose laws Angola adapted, has already revised them twice to make the labor market more flexible,” says the IFC study. Two, focus on enhancing property rights. Under de Soto's initiative, the Peruvian government in the last decade has issued property titles to 1.2 million urban squatter households. “Secure property rights have enabled parents to leave their homes and find jobs instead of staying in to protect the property,” says the IFC study. “The main beneficiaries are their children, who can now go to school.” Three, expand the use of the Internet for regulation fulfillment. It makes it faster, more transparent, and far less open to bribery. Four, reduce court involvement in business matters. And last but certainly not least, advises the IFC study, “Make reform a continuous process... Countries that consistently perform well across the Doing Business indicators do so because of continuous reform.”
In addition to the IFC's criteria, reform retail obviously has to include expanding the opportunities for your population to get an education at all levels and investing in the logistical infrastructure-roads, ports, telecommunications, and airports-without which no reform retail can take off and collaboration with others is impossible. Many countries today still have telecommunications systems dominated by state monopolies that make it either too expensive or too slow to get highspeed Internet access and wireless access, and to make cheap longdistance and overseas phone calls. Without reform retail in your telecom sector, reform retail in the other five areas, while necessary, will not be sufficient. What is striking about the IFC's criteria is that a lot of people think they are relevant only for Peru and Argentina, but in fact some of the countries that score worst are places like Germany and Italy. (Indeed, the German government protested some of the findings.)