OLPG : Overlapping Poor Generations Model

Author : Ketevani Kapanadze

What is Overlapping Generation model (OLG)?

While studying macroeconomics during my degrees I always had unanswered question on my mind. Why students are taught unrealistic models? The criticism arises about the realism and simplicity of economic models which are presenting in macroeconomics classes to students. Many models are criticized for being unrealistic, but I understood that if realism is added to the model they become too complex. For me OLG model seems much more realistic and simple at first glance. The most unambiguous side of the model is that time does not have the beginning and the end as it is assumed in many other models. Time goes forever and it is scientifically proven. Samuelson rediscovered this model in 1958. The model is formulated in such a way that individuals live for two periods. In the first period of life they are referred to as a young and in the second period of life they are referred to as the old. The second generation (young generation (t)) at time T=1 gives something (money, capital and etc.) to the first generation (old generation (t-1)) at time T=1, and when they get old (first generation (t)) at time T=2 then the third generation (young generation (t+1)) could give something to the second generation who are currently old at time T=2. Let’s simplify this puzzle and say that YOUNGS are CONSTANTLY making gifts to OLDS.

This model is mostly based on the common knowledge. Common knowledge of event A of households H is the circumstance when all households know A, moreover they all know that they know A, they all know that they all know that they know A, and so on. There is well known theorem by Aumman which emphasizes that two rational people with common knowledge of each other's beliefs cannot agree to disagree (never disagrees). If you thought time was going to come to an end the last young generation knowing that they were the last generation then they would refuse to give money to old because they were not going to get anything back when there were old. If everyone is rational and there are common knowledge that the world is going to end nobody would ever participate in the social security scheme.

What is Overlapping Poor Generations model OLPG?     

Now, I adapt this model in case of poor households. If at time T=1, when first generation born in a poor family and respectively h/she is poor, h/she is not able to make a gift to another generation which is old at time T=1, so previous generation (t-1) is not supported. Model assumes that people are rational under common knowledge, so OLG model will be modified to OLPG as follows; 

At time T=1 first generation has 3 apple and at time T=2 first generation is old and has apples from the previous period T=1, which is personal income accumulated from saving. To survive at T=2, h/she has to use his saving. Moreover he has common knowledge, knowing that at time T=2 second generation who are young is not able to give gift to him/her. So under these circumstances generations are overlapping but not their incomes, personal incomes are independent from each other’s. This is a specific case, when we are speaking about poor generations. We know that poverty is a cycle and it expands over generation. There is no end of the chain, since generation 1 saves only in purpose to consume. 

      

     The OLPG model has the following characteristics:   

•     Saving (t) =Investment (t) =Consumption (t+1) 
•     Consumption (C) plus saving (S) is equal to disposable income (DI)  
•     DI = Personal Income (PI) – Taxed Personal Income = PI for Poor People
•     Taxed personal income is around zero for poor people
•      C +S=PI 
•      C (t+1) = S(t)                                                         
•      PI (3 Apples)  = Consume 2 Apples + Save 1 Apple > Young (at time T=1)
•      PI (3 Apples)  = Consume 1 Apple > Old  (at time T=2)

         Graph 1. Example of OLPG model 

                                 Author's own elaboration

                                   

Graph 1 shows that generation lasts when they are young and old. So let’s say we are at time T=1, there is young and old generations. Young generation has 3 apples (household consumes 2 and save 1 because under common knowledge h/she knows that at time T=2 second generation who are young at that period will not endow them) and old ones have just 1 apple. Young households are incredible well off. They are working and more productive. But on the other hand, when they are old and retired and feeble they don’t have very much. 

Summing up, I basically modified OLG model to OLPG, in the specific case when households are poor and their utility maximization is saving oriented (in baseline model of OLG, households maximize their utility based on how much they consume today plus discounted future consumption). Poverty is mostly transferred from one to another generation. Many studies figured out that it is very hard to lift out of poverty if you were born into it (Moore, 2001; Heslop and Gorman, 2002; Bird, 2007). 

Chocolate is not as sweet as YOU think

Author : Ketevani Kapanadze

Nowadays millions of underage children are “employees” instead of being scholars, precisely 218 million (one of every seven) of them are working. These staggering statistics are from a new report by the International Labor Organization (ILO). There are in total 166 million child laborers under the age of 14 in Africa and 74 million of those risk their lives in hazardous works. Moreover, 2.12 million children were found in child labor in cocoa production.

Everyone loves chocolate, but not everyone recognizes darker side of chocolate. While some children enjoy the taste of chocolate the reality is rather different for African kids. The mainstream of chocolate is manufactured on the Ivory Coast and Ghana, respectively 40% and 30% of cocoa beans are grown in these areas. Netherland has the highest import share from Ivory Coast and also from Ghana. Then it is followed by 9 countries which are in the top-ten list of importing markets for a cocoa from West African countries.

Ivory Coast and Ghana together produce about 70% of the world’s cocoa supply. In Ghana, child labor was 33.9% in 2013 and it reached 79% in 2015. On the other hand, in Ivory Coast child labor was 26% in 2013 and in 2015 it became 50%. Obviously, child labor is on the rise in those countries. There is a huge increase in chocolates' demand and correspondingly in cocoa production. Moreover, higher poverty in West Africa is driving more children to work. Abidjan is the economic capital of Ivory Coast and it is well-known by the biggest cash crops in West Africa. The highest share of the cocoa plantation is found here. By 30 November 2012 the Abidjan Cocoa Declaration was signed with 29 big companies. The most familiar (European and US-based multinational) firms among signatories are Mars, Nestle, Cargill, and ADM. They buy cocoa usually from big suppliers but on the other hand, these suppliers purchase it from small farmers. The farmers who are the backbone of the cocoa industry tend to be small farmers. Mostly they are illiterate and the kids who are helping them to grow cocoa are less likely to attend school.

My analysis is based on survey research on child labor in West African cocoa growing areas of Ivory Coast and Ghana during 2013-2014. This survey is joint work of Tulane University and the US Department of Labor. I have studied only the data of Ghana because the survey was held in French in Ivory Coast. The age bracket with the highest frequency is 5-11 (40.39%) and the one with the lowest is 15-17 (25.6%) in Ghana. It is worth mentioning that all respondents are underage (below 18 years). About 84.78 % of respondents were engaged in the work at least one hour during the interview’s week. This implies that child labor is a big issue in Ghana that interferes with children ability to attend regular school. Those who work during underage are less likely to become educated. Among 35% of “employee” children left school at 14-15 and 30% left at 13. On the other hand, kids who were not involved in the work they did not drop out the school at all (0%).

Most importantly 68.61% of respondents have worked in cocoa farming during 2013-2014. And the approximate average time they usually spend per day on work in cocoa plantations was 4.2 hours. The average age of respondents who started working on cocoa farms for the first time was 9.5 years. About 90.29% of children did not receive the payment for the work (including kids who are working on the family's farms). Correspondingly, 75.96% of respondents replied that they do not want to become cocoa farmers. It has not escaped our notice that 62.6% of children have not even heard about child labor and 99.12% of them  have worked in cocoa farming during 2013-2014. It is the painful truth but still it is important to bear in mind that about 15.88% of children who have worked in cocoa farming have never tasted chocolate.

Diane and Kirkhorn (2005) showed that children who are around 13-14 were involved in hazardous activities in Ghana. They used sharp and big knives in cacao plantation and most importantly they worked with pesticides. Based on the survey data of Ghana I found out that respondents on the average have been injured 3.6 times in cocoa plantations. About 12.86% of respondents operated tools or machinery while working on cocoa farms and 18.68% of them got injured during performing their works. 

On one side big firms are competing for higher profits and on the other side thousands of cocoa farmers receive a smaller amount of share from the revenues. Furthermost the biggest part of the profit is gained after the beans are transferred to the world. While cocoa farmers and correspondingly workers (including underage children) get by on less than 1.90 US dollars a day, below the threshold of absolute poverty. In 2015, about 6% of the price of chocolate was collected by cocoa farmers because they do not have general knowledge about movements of cocoa prices on the international market. A small share is also accompanied by unstable cocoa prices. Rich crops for cocoa farms cause high supply and low prices, but on the other hand, if there are poor crops this lead to a decrease in supply which might increase the price. Unfortunately, small farmers cannot mitigate this volatility. The costs of price instability are economic uncertainty for millions of cocoa farmers. With narrow income and shortage of knowledge on market developments, the cocoa farmers are the losers in a money-spinning cocoa and chocolate industry.  

The Harkin–Engel Protocol which is known as a Cocoa Protocol is an international agreement aims to stop the worst form of the child labor in the production of cocoa which is the main component in chocolate. The protocol was signed in 2000-2001. As of 2015, it is unclear if the protocol worked or not. Still, there are some improvements in the area. For instance, the topic has been kept in the international debate and government has been sensitized. But in terms of real change we have seen no progress so far.

There is no rapid solution to the problem of uncontrolled child labor in West Africa. International Labor Organization (2003) stated that poverty and low incomes are main reasons of child labor in Ghana. Godwin (2000) emphasized that magnitude of poverty level affects the decision of child whether to become an “employee” or a scholar. Manzo (2005) focused on child slavery on cocoa farms in Ivory Coast. She mentioned that main factors of child slavery are high labor costs, unequal terms of trade, and capitalist expansion. However, all factors which Kate Manzo mentioned in her article I would name as a GREED!

So, have you ever thought who produced your eaten chocolates?!

See tables in Annex 
http://www.pdf.investintech.com/preview/b188a494-5d65-11e6-b7ef-002590d31986/index.html

Does trade openness reduce poverty? A view from transition economies

Author : Ketevani Kapanadze

 Trade openness has been one of the most important economic policies after moving from closed to an open economy. To which extent opening up to international trade affects extreme poor people is the key motivation for this dissertation. The poverty-trade openness relationship remains unclear in previous studies. Although considerable research has been devoted to the effect of trade liberalization on poverty, rather less attention has been paid to the impact of trade openness. This study examines whether potential key complementary factors, such as financial development, democratic governance, and technological capabilities maximize the gains from trade openness. Using a panel of transition countries over the period 1990-2013 and the Arellano – Bond system GMM estimator, the paper confirms the lack of importance of complementary factors. The robustness of the findings are examined in a number of ways.
Higher trade openness in its own is associated with an increase in extreme poverty. This result reflects that the costs of trade openness outweigh benefits for the poor. Besides, there is no significant estimated effect of trade openness on poverty reduction even if it is accompanied with well-developed financial sector and strong technological capabilities. The paper concludes that potential key complementarities do not appear in practice. Higher trade openness is associated with higher poverty when government becomes more democratic in transition countries, contrarily to what one might expect. The lack of complementarities can be explained by the limitations of potential benefits of trade openness on the poor. Greater openness to trade has negative consequences on poverty reduction and even these broad factors studied here are not enough to overrun the negative effect of trade on poverty reduction.