Globalization in Trouble – Part II

Globalization appears to have weathered the storm of the financial crisis, but it may be poised for a tumble. According to economist David Dapice, many developing nations, whose economies often depend heavily on exports, cannot sustain themselves without the willing consumption of their goods by the developed world. But with a pullback in aggregated demand among developed nations, the prognosis for growing consumption is not good. Even worse, multinational corporations see roadblocks to growth at every corner – from local restrictions to weak intellectual property rights to anemic growth prospects. There are structural problems too. Trade imbalances between the US and China and currency dislocations are but a few. Importantly, free trade works well when there is relatively full employment. With rising unemployment globally, the tendency toward protectionism is bound to rise. Indeed, there are signs that it may already be here. All of which is to say, the path of globalization may continue, but it will be fraught with bumps and potholes for some time to come. – YaleGlobal

Globalization in Trouble – Part II

Will tough economic times make developed nations shy away from globalization?
David Dapice
Monday, February 15, 2010

Desperate times, desperate measures: Rising unemployment could lead to rising protectionism with globalization in peril

CAMBRIDGE: Thus far in the global financial crisis it would appear that globalization has suffered few dents. While there have been some protectionist measures, trade continues relatively unfettered, if at lower levels. However, this may only be a false calm, as the clouds on the horizon suggest an impending backlash against greater integration and openness.

Maintaining an open global system is a political decision. It requires support from relevant groups in major countries. The financial crisis has sharpened doubts among many groups in the US and other rich countries about the wisdom of continuing the current system. Why? Because there is no longer clearly a benefit to playing by the existing rules!

Consider the situation from the point of view of a median or typical US family. Their real income was higher in 1999 than in any year after 2000. Private sector jobs have shrunk in the past decade. Real wages and benefits are not higher than five years ago. If there is an invisible hand, it has not been helping the typical American family for some time.

Consider the average investor. The real S&P 500 (a stock index representing larger US companies, including most multinationals) is lower in real terms now than in 1997 – and that is after a 60 percent recovery in stock prices from the low point of last year. Normally, stock prices rise when their competition (bonds) offer a lower interest rate. But bond rates were much higher in 1997 than now. It is not monetary stringency but anxiety over future growth that is holding down stock prices.

Consider a CEO in a multinational. If you run an oil company, you look at the reserves held by the top fifteen oil companies in the world and not one is a western multinational. If you are a software, music or film executive, you see piracy and controls on distribution in emerging markets, along with hacking attacks that threaten to unravel your business model. If you are a drug company, you see counterfeit drugs and frequent infringement of patents, even for non-life threatening diseases. If you are an average OECD exporter or even local supplier, you see China with a $20 billion a month trade surplus and a weakening currency against its trading partners, refusing to stop accumulating outlandish amounts of foreign currency reserves except to buy up raw materials while hoarding theirs. Depending on methodology, current estimates of China’s currency undervaluation differ, from a low of 10 percent to a high of nearly 50 percent – but few doubt that the Yuan should have risen in the last year instead of falling with the dollar.

Consider the intellectuals like Larry Summers or Paul Krugman, arguing that the game is stacked with state purchasing, managed exchange rates and other distortions. They are openly asking if free trade in the current environment makes sense. They should. The case for free trade relies on reasonably full employment. If unemployment is persistently high, it may be better for a country to use its workers somewhat inefficiently to produce for the home market than to import lower-cost goods from elsewhere. If the savings in unemployment compensation and crime, health, etc. expenditures are averted, the difference in production costs may be much less.

The financial crisis was caused by many things, but it could not have developed as it did without gaping external imbalances. The US imported much more than it exported; China exported a great deal more than it imported, and then lent to the US where weak regulators and feckless risk management in financial institutions combined to create too much debt of doubtful quality. It is now clear that US households will save more and spend less as they work down their mountains of debt, which are still near historic highs. This will restrain growth for many US companies unless they can find growth overseas. Yet when they try to sell overseas, they often run into offset or technology transfer requirements that, combined with weak patent and intellectual property protection, means that their trade secrets and proprietary technologies will be used against them by those who paid little to get them. And it is not only high-tech industries that are under threat – even basic industries face some draconian domestic policies. For example, China is adding immense amounts of electrical generating capacity and effectively requiring that the equipment be made in the country.

It is not surprising that nationalism should be mixed with globalization, but the world may be close to a breaking point where “globalization with Chinese (or some other nation’s) characteristics” is viewed as so unfavorable that there is a strong push back. Initial signs of punitive tariffs on tires or shoes (in the EU) or steel are but a small taste of what might come. The 2005 Congressional bill to put a 27.5 percent tariff on all Chinese goods never became law, but is a hint at what could happen in the current climate.

There is one more element that is important in the re-examination of globalization. When companies were rooted in a community, they tended to incorporate the values and priorities of the places they lived in. This was reflected in executive to median pay ratios that were relatively modest. As financial capital has overwhelmed industrial capital, more and more companies seem to be rootless. If it is cheaper to set up in Mexico or Asia, it is done without much internal debate. This has happened during a period of rising inequality in pay. For some time, the pressure on manufacturing jobs was offset by more women working, by construction and finance jobs, and by relatively full employment. However, these adaptations are no longer working and employment gains going forward are likely to be slow. This is leading many outside of the usual academic and labor communities to wonder if the “rising tide” is lifting only a few boats. It would not be surprising if there were pressure to reduce the footloose nature of companies, though how that would be done without widespread collateral damage is still a puzzle.

Where does this leave globalization? It is likely to continue but in a more fragmented and contentious way than in the past. Ordinary people in rich countries are not benefitting and suspect there is a fixed game. Western multinationals face a difficult future with constrained growth prospects. Developing country companies have growing domestic markets but uncertain access to foreign markets, given the developing backlash against perceived unfairness. The knowledge that protectionism in the 1930s brought about disaster has so far been a deterrent. But will governments mired in deep recession and high unemployment continue to be wise? If they do start to balkanize global markets, economic growth will not be impossible, but it will be much slower and less sustainable. On the other hand, if neither real incomes nor jobs and wealth grow in the rich countries, it is hard to see how the poor nations will be able to rely on an export-led growth model. There may be a modest amount of decoupling possible, but in the end, we are all doomed to the same boat. If the “two tens” of 10 percent US unemployment and 10 percent Chinese growth are not compatible, which will fall? Until a new coalition for globalization emerges in the rich countries, it may be a bumpy ride.


David Dapice is associate professor of economics at Tufts University and the economist of the Vietnam Program at Harvard University’s Kennedy School of Government.

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