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Subject: Macroeconomics

Market-Supporting Institutions
Between 1991 and 1997, U.S. firms raced to Eastern Europe in search of markets and investment opportunities and immediately became aware of a major obstacle. The institutions that make the market function relatively smoothly in the United States did not exist in Eastern Europe. For example, the capital market, which channels private saving into productive capital investment in developed capitalist economies, is made up of hundreds of different institutions. The banking system, venture capital funds, the stock market, the bond market, commodity exchanges, brokerage houses, investment banks, and so on, have developed in the United States over hundreds of years, and they could not be replicated overnight in the formerly Communist world. Similar problems exist in the Chinese economy. While the Chinese equity market has grown rapidly in the last decade that growth has been accompanied by problems with weak governance and lack of transparency. These issues discourage investments by western firms. Many market-supporting institutions are so basic that Americans take them for granted. The institution of private property, for example, is a set of rights that must be protected by laws that the government must be willing to enforce. Suppose the French hotel chain Novotel decides to build a new hotel in Moscow or Beijing. Novotel must first acquire land. Then it will construct a building based on the expectation of renting rooms to customers. These investments are made with the expectation that the owner has a right to use them and a right to the profits that they produce. For such investments to be undertaken, these rights must be guaranteed by a set of property laws. This is equally true for large business firms and for local entrepreneurs who want to start their own enterprises. China’s ambiguous property rights laws may also be problematic. While farmers can own their own homes, for example, all rural land is collectively owned by villages. Farmers have the right to manage farmland, but not own it. As a result, transfer of land is difficult. Similarly, the law must provide for the enforcement of contracts.

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Subject: Macroeconomics
In the United States, a huge body of law determines what happens if you break a formal promise made in good faith. Businesses exist on promises to produce and promise to pay. Without recourse to the law when a contract is breached, contracts will not be entered into, goods will not be manufactured, and services will not be provided. Protection of intellectual property rights is also an important feature of developed market economies. When an artist puts out a record, the artist and his or her studio are entitled to reap revenues from it. When Apple developed the iPod, it too earned the right to collect revenue for its patent ownership. Many less developed countries lack laws and enforcement mechanisms to protect intellectual property of foreign investments and their own current and future investors. The lack of protection discourages trade and home-grown invention. For example, in late 2007, China, in recognition of some of these issues, began drafting a new set of laws for intellectual property protection.

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