Economic Globalization

Sociology 2, Class 10

Copyright © 2013 by Evan Schofer

Do not copy or distribute without permission

Announcements• Announcements

– Midterm next class: Feb 12• Bring something to write with!

– Ideally something erasable– And, bring a spare… just in case!

• Midterm review sheet on course website

– NO SECTION on Tuesday-Friday during week of midterm!!!

• Agenda• Finish up trade & trade agreements• The 2008-present economic crisis

Midterm Info• Topic coverage:

– All class lecture material• Lecture notes on course website

– All readings up through Week 5– Commanding Heights video, Episodes 1 & 3

• Available via course web page…

– Exam Format: • Closed book / closed notes• Mix of short answer/multiple choice, medium length,

and perhaps one short essay question.

Review: Trade• Benefits of trade:

• Trade is like a magic technology– Transforming one product into another: grain into 60” TVs!

• Trade can produce “win/win” situation– Each country producing what it does best / most efficiently

• Rodrik: Why doesn’t everyone love trade?• 1. Trade causes economic/social disruption

– Jobs lost in some industries, gained in others– Less-efficient industries wither, workers displaced

• 2. Benefits diminish as trade barriers get lower– We already have very free trade. – Making it “more free” is disruptive, but benefits are small

• 3. Low skill workers get hurt again and again– Unless there is “safety net” & job training to help workers.

Benefits of Trade / Investment• Who benefits from global trade/investment?

– 1. Many benefit from greater economic growth• The wealthy usually benefit most…

– 2. Consumers benefit from cheap imports– 3. Multi-national corporations, because they can

move operations to wherever is cheapest– 4. Companies & workers in highly efficient

export-oriented companies – Trade mean more jobs and profits

– 5. Investors can invest where profits are big– Ex: individuals, pension funds, Hedge funds

– 6. Companies that can get cheap credit from foreign banks

Problems of Trade / Investment• Who might oppose global trade & investment?

– 1. Corporations in industries that will face greater international competition• Example: steel & auto industries in the US

– 2. Workers in industries that will face competition• And labor unions more generally…

– 3. People & governments concerned about:• Potential for economic crises• Loss of state autonomy

– Pressure to please foreign capital; loss of domestic ownership

• Difficulty regulating global capitalism– Environmental problems, sweatshops, etc.

Barriers to Trade / Investment• Definition: Protectionism = blocking foreign

imports or capital flows• Definition: Liberalization = opening up

markets to greater trade or investment• Also called “opening up markets” • Note: different from typical use of “liberal” in US

Barriers to Trade• Strategies for protectionism• Tariffs – taxes on imported goods and

services• Example: The US government can impose a $2,000

tax on Japanese cars• Fewer people will buy Japanese cars, imports will

decrease

• Quotas – a government-imposed numeric limit on imports

• Example: The US may allow only 500,000 Japanese cars to be imported in any given year.

Barriers to Trade• Strategies for protectionism (continued)• “Non-tariff” barriers – A government

regulation that indirectly limits trade or makes it more expensive– Example: Strong agricultural subsidies make it

hard for foreign imports to compete• Subsidy = giving government money to producers• Tariffs make imported goods more expensive;

subsidies make the domestic ones cheaper…

– Example: The US may impose complex agricultural inspections of imported fruit• Could be legitimate, or a sneaky way to stop trade

Barriers to Investment• Strategies for protectionism (continued)• 4. “Foreign ownership” laws – laws that

limit the ability of foreigners to buy companies• Example: US government could require owners of

corporations to be US citizens

• 5. “Capital controls” – laws to prevent the rapid withdrawal of capital/investment

• Example: Law requiring invested capital to remain in the country for one year

– Thus, preventing rapid capital flows out of a country.

Removal of Barriers• How do trade/capital barriers get removed?

• “Liberalization” or “opening markets”

– Answer: When governments agree to remove them…• In direct negotiation with other countries• Or, via international treaties & organizations

– GATT; NAFTA; WTO.

Removal of Barriers• Bilateral trade negotiations & treaties:

• Two countries negotiate trade & investment barriers• Ex: The US negotiates with China

– “You reduce tariffs on American cars, and we’ll reduce import quotas on Chinese textiles”

• Multilateral trade agreements • When groups of countries negotiate together to

reduce barriers• NAFTA – North American Free Trade Agreement• GATT & WTO

– GATT = “General Agreement on Tariffs and Trade”– WTO = World Trade Organization

– “Trade war”: when countries raise barriers due to disputes…

Example: Bi-Lateral Trade Negotiations

• South Korea, U.S. May Hold Farm Trade Talks in March

• SEOUL (Reuters) - The United States and its seventh-largest trading partner began talks on a free trade agreement in June 2006. It would be the biggest free trade deal for the United States since the North American Free Trade Agreement was signed in 1992.

• Agriculture has been one of the toughest sectors to negotiate in a free trade deal between two countries, especially because of intense opposition from South Korean farmers to market liberalization. South Korea's farm ministry repeated Seoul's position that it would continue to insist on exempting rice under a bilateral free trade deal. ``Rice should be excluded."

• South Korea and the United States recently failed to resolve the dispute over U.S. beef imports, which Washington said could threaten the free trade pact.

– Exceprt: New York Times 2/21/07

Free Trade Agreements: NAFTA• NAFTA: A 3-way treaty between US,

Canada, Mexico• Reduced tariffs & removed some investment barriers• Caused worries of huge unemployment in US…

• NAFTA Consequences:• US: 140,000 textile jobs lost to Mexico; but more jobs

created in other industries• Canada: significant job losses (500,000?) mostly due

to increased imports from US• Mexico: 600,000 new textile jobs; growth of

maqiladora factories; Mostly offset by other job losses– Imports & investment from US increased

• Not as good a supporters hoped; not as bad as opponents feared…

Free Trade Agreements: WTO• The GATT & WTO: dozens of countries sitting

down together every few years to negotiate• WTO is a ‘formalization’ of the GATT (General

Agreement on Tariffs and Trade) in 1995

– Ex: “Uruguay Rounds” refer to a series of meetings of 123 countries from 1986-94• Agreement on big reduction on tarrifs for most of world

– Ex: “Doha Round” of negotiations• Initiated in 2001 in Doha, Qatar• Intended goal: address concerns of poor countries• Talks have stalled in part because poor countries have

taken a stand against US/EU agricultural subsidies

Problems With Trade Agreements• 1. Rich/powerful countries have advantages

in negotiating trade agreements• Huge advantage in bilateral negotiations• And, rich countries have dominated agenda of WTO

• 2. Trade agreements aren’t always very democratic

• Industry groups often have lots of influence over trade negotiators. Citizens not so much.

• Social concerns not always addressed– Environment, worker safety, etc.

• Big question: can we design a better system for managing globalization?

Globalization and Governance• Issue: Can we do anything about the negative

consequences of globalization– Including the 2008-present economic crisis

• Stiglitz recommends we “reform governance”• What does he mean?

• Governance: Ruling, governing, or managing• Sovereignty: Supreme power or authority to

govern a territory; • Being free from external control• The US government has total sovereignty if no external

political body can make rules/laws in its territory• Related term: autonomy

Governance and Financial Crises• Who can respond to help when international

crises emerge?– 1. Large / rich countries

• US bailed out Mexico in 1994• US has taken some steps to stabilize other countries

following crisis in 2008– Some of the Fed’s “bailout” was directed to stabilize foreign

banks, in hopes of avoiding a global collapse

– 2. Intergovernmental organizations (IGOs)• IMF provided loans to S. Korea, Indonesia, Brazil during

the Asian crisis & following contagion• The European Union (EU) & IMF “bailed out” Greece &

Ireland

The Vicious Cycle of Financial Crisis

Loss of Confidence

Plunging Currency & Economy

Financial Problems

(people, banks, companies)

Adapted From Krugman 2008 Ch 4

Foreign investors sell stocks &

currency; pull out money;

stop lending

plunging economy bankruptcies, unemploymentDropping currency hard to pay off debt in other currencies;

People worry,Investors and lenders get

nervous

Issue: How to stop crises?• 1. Free market economists: Austerity

• Austerity: Governments cut spending, reduce debt• Let banks fail, let companies go bankrupt• “Purge the rottenness”… things will eventually rebound

• 2. Keynesians: Governments and can help– Including international actors like the European Union

• Governments can regulate banks to prevent crises• Government bail-outs can stop panics, calm investors• Governments can rescue banks, even companies (GM)• Governments can take on debt, spend to create jobs

and avoid deflationary spiral• Result: Recession rather than depression

Issue: How to stop crises?• Who is right – Keynes or Hayek?• Economic research on Great Depression and

2008 crisis mostly supports Keynes• Countries that regulated their banks more tended to

have fewer problems– Deregulation in Iceland & Ireland resulted in disasters

• Austerity worse recession lower tax revenues– Some countries trying to “save” ended up in more debt than if

they had borrowed and spent to boost their economies– Austerity can be “self-defeating” (“Paradox of thrift”)– Ex:

http://johnquiggin.com/2011/12/20/blogging-the-zombies-expansionary-austerity-reanimation/

– NOTE: foolish government actions can make things worse. Example: Ireland

Stopping the Cycle of Financial Crisis

Loss of Confidence

Plunging Currency & Economy

Financial Problems

(people, banks, companies)

Adapted From Krugman 2008 Ch 4

Governments can borrow & spend

to boost economy

Governments can rescue companies/banks, provide a “safety net” to protect the unemployed & poor

Governments can promise bail-outs, so

investors don’t panic

Governance and Sovereignty• Issue: When IMF or EU bails countries out,

they often impose conditions• This encroaches on the sovereignty of a nation• If you are desperate for help and ask for $ from IMF,

you’ll agree to anything… including giving up control…

– Ex: IMF demands states cut spending, reduce social services... Goal, to reduce debt.• Many have criticized the IMF for causing poor nations to

cut government services

– Ex: EU/Germany put harsh requirements on Greece before lending money• Greeks had to cut budget, etc…

Global Crisis 2008-present• Crisis is a combination of several problems

– Krugman: “The Sum of All Fears”

– Bursting housing bubble• In US and other countries

– Bank runs (mainly “shadow banks”)• Collapse of “credit markets”• People, businesses, & governments can’t borrow

money they need… forced to “cut back”. Recession!

– Liquidity trap• Even at zero interest rates, US economy is depressed

– Currency (& debt) crises• Countries/firms have trouble paying off loans

Crisis: Transmission/Contagion• Issue: US-based crisis spread outward

through the globalized economy– Lots of recent interesting research on the issue…

– 1. Transmission mechanisms• Many banks and companies around the world bought

“toxic” assets (CDOs) created by US banks• Banks lent to companies/countries that are in trouble• Result: Financial systems of many countries have

taken huge losses… billions upon billions!– Many banks have failed– Banks stopped lending causing shortage of credit, globally

• Without access to credit, more bankruptcies recession/unemployment

Crisis: Transmission / Contagion• 1. Transmission (cont’d)

– Hedge funds took huge losses on toxic assets– Similar to events that destroyed LTCM in 1998– Ex: Failure of MF Global, a large hedge fund

• Hedge funds forced to sell their own assets as collateral for borrowed funds

• This “deleveraging” (selling assets to reduce debt) caused markets to drop globally

– Trade as a transmission mechanism• Recession in US (and elsewhere) reduced demand for

goods• This means US trading partners can’t sell as much

– Profits fall, they have a recession too!

Transmission: Global lending• From Irwin 2010 (Washington Post)

Crisis: Transmission / Contagion• 2. Contagion

– Fears of bank failures and other problems spread around the globe…• Bank runs• Stock market & currency market crashes, etc…• Even concerns that governments wouldn’t be able to

pay back their debts! (Sovereign debt crises)

Crisis: Sovereign Debt Crises• Issue: Transmission/contagion resulted in

severe recessions in many countries• Recession = slowing economy less tax revenue• Governments must borrow more to maintain services

– Keynes: ideally spend MORE to avoid depression

– What if a country has so much debt that banks (& other governments) worry they can’t pay it back?• Lenders get nervous… either charge more interest or

refuse to lend money at all…– If interest rates get too high, they’ll go into a “death spiral”

because they can’t pay every-growing interest

• Result: Sovereign debt crisis: Government can’t pay back its loans… may go bankrupt (“default”)

The 2008 Crisis: Greece• Greece: became heavily indebted

• Voters & unions wanted lots of gov’t services, low taxes• 2009: debt = 400billion, budget deficit 14% of GDP• 2012: Debt reaches 160% of GDP

– International investors feared (correctly) that Greece couldn’t pay back further loans• Raised interest rates they charged Greece (over 12%)• Result: Interest payments spiraled upward, making

debt even worse… (“death spiral”)

– EU and IMF arranged a loan package (145 billion) at a lower interest rate to avoid panic• Required Greece to massively cut spending• And, that didn’t solve the problem…

Interest rates for debt to Greece/Ireland

The 2008 Crisis: Ireland• Ireland: Crash was triggered by bank failures

• Very different than Greece– Ireland didn’t have much government debt initially

– Banking system fell apart (much like US)– Recently-deregulated banks did foolish things– Partly: buying tons of “toxic” securities from the US– Partly: irresponsible lending in housing bubble that crashed

– Hoping to “save” its banks, Ireland agreed to bail them out using government funds (!)

– About $68 billion in an economy with GDP of 180 Billion

– After that, mechanics of debt crisis are the same…• Irish debt was HUGE; Lenders feared default• Began to charge higher interest rates. Death spiral!

The 2008 Crisis: Ireland• The EU/IMF offered emergency loans to

Ireland• $112 billion at nearly 6% interest rate• And, EU required massive cuts to government services• NY Times: “Dublin has said it would try to cut its budget

deficit to 3 percent of gross domestic product by 2014, from 32 percent now “

– Question: Why did IMF bail out Ireland/Greece• Mainly to reduce likelihood of future contagion• Spain & Portugal have similar problems• EU/IMF hope to convince international banks &

investors not to panic.

Interest rates for debt to Greece/Ireland

Reading: Krugman: Hole in Europe’s Bucket• Greece, where the crisis began, is no more than a grim sideshow. The clear and

present danger comes instead from a sort of bank run on Italy, the euro area’s third-largest economy. Investors, fearing a possible default, are demanding high interest rates on Italian debt. And these high interest rates, by raising the burden of debt service, make default more likely.

• It’s a vicious circle, with fears of default threatening to become a self-fulfilling prophecy. To save the euro, this threat must be contained. But how? The answer has to involve creating a fund that can, if necessary, lend Italy (and Spain, which is also under threat) enough money that it doesn’t need to borrow at those high rates. Such a fund probably wouldn’t have to be used, since its mere existence should put an end to the cycle of fear. But the potential for really large-scale lending, certainly more than a trillion euros’ worth, has to be there.

• And here’s the problem: All the various proposals for creating such a fund ultimately require backing from major European governments, whose promises to investors must be credible for the plan to work. Yet Italy is one of those major governments; it can’t achieve a rescue by lending money to itself. And France, the euro area’s second-biggest economy, has been looking shaky lately, raising fears that creation of a large rescue fund, by in effect adding to French debt, could simply have the effect of adding France to the list of crisis countries.

• The bitter truth is that it’s looking more and more as if the euro system is doomed.

2008 Financial Crisis• Issue: International institutions are struggling

to come up with strategies to address the crisis

• We don’t know if it is winding down… or will spread through other parts of Europe or the rest of the world

• Either way: the increasing importance of intergovernmental organization (EU, IMF) will raise further question about who should have a voice in running them…

The $1,000,000 Question• What should we do about globalization?

• What are our options?• What option is best?

• Reading: Rodrik… The Political Trilemma of Globalization

• Like a dilemma, but with 3 options

– Background: Bretton Woods (1945-1970) was an era of moderate globalization• Can’t go back to that exactly… but what should we do?

The Political Trilemma of the World Economy

Hyperglobalization (Extreme economic

integration)

Democratic Politics

Nation-State

(National Sovereignty)

Global GovernanceGive up nation-state,

organize politics globally. (Vote for a

UN president?)

Golden Straightjacket

Give up democracy, states must do what markets want… or

capital will flee!

The Bretton Woods CompromiseLimit globalization so countries have more

freedom to choose policies their citizens want

From Rodrik 2011 Ch 9

Rodrik’s Advice: Capitalism 3.0• 1. Markets must be deeply integrated in

systems of governance• “The idea that markets are self-regulating received a

mortal blow in the recent financial crisis and should be buried once and for all”

• Belief in the “magic of markets” is dangerous– Markets always require social institutions to support them– Markets and governments are 2 sides of the same coin

– In short: we either need stronger global governance to regulate global markets…

– i.e., a more powerful World Bank, EU, IMF

• AND/OR, we need to limit globalization through sensible regulation of markets

Rodrik’s Advice: Capitalism 3.0• 2. Democratic governance is mostly built

around nation-states (for now)• Global governance is hard to build… especially to make

it democratic• Currently, global governance isn’t strong enough to

properly regulate global capitalism

– Therefore, we shouldn’t pursue hyperglobalization• Instead, aim for “moderate globalization”• Countries should limit trade/capital flows to some extent

– To protect industries/jobs– To avoid undesirable social effects of globalization

Limiting globalization?• Can we limit globalization?

• Or, is globalization an unstoppable force?– Ex: Friedman’s “golden straightjacket”

• What does the historical evidence say?– Many countries have succeeded without totally

embracing the “straightjacket”• Ex: Scandinavian countries have kept their welfare

states… and prospered• Ex: China substantially limited capital flows & trade

– Until its economy became very strong…

Conclusion: Foxes and Hedgehogs• Two kinds of thinkers:

– From Isaiah Berlin; developed by Tatlock 2005

– Hedgehogs: View the world through the lens of a single defining idea• Often driven by a specific ideology• Apply the same solution to every problem

– Foxes: Thinkers who draw on a wide range of ideas and experiences to draw conclusions• “Pragmatists” who acknowledge that the world is

complex… • Come up with solutions tailored to a specific problem

– Tatlock: Foxes do way better than hedgehogs…

Conclusion: Foxes and Hedgehogs• Markets are a useful tool• Government regulation is a useful tool• We run into problems when these tools get

repackaged into ideologies: HEDGEHOGS!• Markets are the best solution to all problems

– Extreme free-market ideology. Belief in the “magic of markets”

• Government planning is the solution to all problems– Ex: Soviet communism

– The best leaders are FOXES… employing markets and regulation as needed• And, recognizing the strengths and weaknesses of both!