Aurora College Economics HSC Study Day, Sydney, Thursday, July 27, 2017
Globalisation is very much in the news. You won’t need me to tell you that the quite remarkable political developments around the world in recent times – Britain’s surprise decision to leave the European Union, Donald Trump’s unexpected election as US President and, here, the resurrection Pauline Hanson’s One Nation at last year’s federal election – represent to a significant extent a backlash against globalisation. This is a shock to many governments, which is causing them to reconsider their economic policies. Today I want to talk about these recent developments rather than just revise the syllabus. But let’s start by reminding ourselves what that much used and abused word “globalisation” means.
Definition
The OECD defines globalisation as “the economic integration of different countries through growing freedom of movement across national borders of goods, services, capital, ideas and people”.
That’s a good definition, but I like my own: globalisation is the process by which the natural and government-created barriers between national economies are being broken down.
A process
With this definition I’m trying to make a few points. The first is that globalisation is a process, not a set state of being. Because it’s a process, it can go forward – the world can become more globalised – or it can go backwards, as national governments, under pressure from their electorates, seek to stop or even reverse the process of economic integration. This is just what Donald Trump promised to do in last year’s US presidential election. Just how much he actually tries to reduce America’s economic links with the rest of the world – and how much success he’s likely to have – remains to be seen.
Among the advocates of globalisation there has tended to be an assumption that the process of every greater integration is inevitable and inexorable. That was always a mistaken notion, but this has become more obvious since Brexit and the election of Trump. First, the British have voted to reduce their degree of economic integration with the rest of Europe – a decision most outsiders see as involving a significant economic cost to the Brits’ economy. Second, the Trump Administration has withdrawn from the Trans Pacific Partnership, an agreement between the US and 11 other selected countries (including Australia) to reduce barriers to trade between them. Third, the Trump Administration has withdrawn from the Paris global agreement on reducing greenhouse gas emissions.
Climate change
Climate change, but the way, is an unusual example of a global problem that can be fixed only by a global response – sufficient emissions reduction by sufficient large-emission countries. Individual countries, such as Australia, can contribute to the combined effort, but there is nothing smaller countries can do by their own efforts to reduce the effects of climate change on them. Only a concerted effort by many countries will make a difference to global warming. Economists recognise this as an example of market failure they call a “free-rider problem”. If everyone else pulls their weight then it won’t matter if I don’t bother helping because I’ll still benefit. The trouble with this thinking, of course, is that if too many people think the same way, the improvement doesn’t happen and everyone loses out.
Earlier globalisation
But to get back to the point that the process of globalisation is and always was reversible, people should know this because this isn’t the first time the process of globalisation has occurred. The decades leading up to World War I saw reduced barriers and greatly increased flows of goods, funds and people between the old world of Europe and the new world of America, Australia and other countries. But this integration was brought to a halt in 1914 by the onset of a world war. And the period of beggar-thy-neighbour increases in trade protection, to which countries resorted in response to the Great Depression of the early 1930s, greatly increased the barriers between national economies. Indeed, you can see that, in the years after World War II, the many rounds of multilateral tariff reductions brought about under the GATT – the General Agreement on Tariffs and Trade, which has since turned into the World Trade Organisation – were intended to dismantle all the barriers to trade built up in the period between the wars.
The channels of globalisation
The four main economic channels through which the world’s economies have become more integrated are:
Trade in goods and services
Finance and investment
Labour
Information, news and ideas.
Trade is probably the channel that gets most attention from the public. Donald Trump’s populist campaigning against globalisation has focus on the belief that America’s greater openness to trade – particularly with developing countries – has caused it to lose many jobs, particularly in manufacturing, as cheaper imports caused many domestic producers to lose sales, or as factories have been moved offshore to countries where wages are lower, without America receiving anything much in return. These sentiments would be shared by many voters for One Nation.
Surprisingly, financial globalisation didn’t get as much blame as it could have for the global financial crisis and the Great Recession it precipitated. Although the crisis began in America, caused by unwise lending for homes that many borrowers couldn’t afford, compounded by the proliferation of highly contrived derivatives, it quickly spread to most other countries. This spread of trouble from America to the rest of the world was caused by two main factors: first, the world’s financial markets are highly integrated, which meant that many European banks had bought securities and derivative contracts that were revealed as toxic and threatened to bring those banks down. Second, the globalisation of the internet and the news media meant news of wobbling banks was transmitted almost instantaneously to the living rooms of homes in countries across the world. This continued for several weeks, causing a world-wide shock to businesses and consumer confidence. This, indeed, was the main channel through which the crisis reached Australia.
But it’s easier for Australians to remember that the global crisis of 2008 was preceded by the Asian financial crisis of 1997-98, indicating that our highly integrated global financial markets are prone to crises – crises which invariably spill over from the “financial economy” of borrowing and lending, saving and investing, to the “real economy” of producing and consuming goods and services. The push by the G20 to strengthening the capital and liquidity requirement imposed on the world’s banks, though the Basel agreements, is intended to make financial markets more stable.
Most countries have not liberalised the flow of labour into their economy in the way they have the other factors of production. Although increasing numbers of people are fleeing their country to escape war, famine and persecution, many choose the country they’d like to arrive at on economic grounds. Many voters object to the inflow of immigrants, whether they be boat people arriving in Australia, Mexicans crossing the border to the US, or Poles taking advantage of the European Union’s single market to look for jobs in Britain. Immigration seems to have been a major motive for some Brits voting in favour of Brexit.
Income distribution and the gains from trade
One of economists’ core beliefs is that there are mutual gains from trade. Provided the exchange of goods is voluntary, each side participates only because it sees some advantage for itself. This is undoubtedly true, but in the era of renewed globalisation we’ve been reminded that, though the gains may be mutual, they are not necessarily equal. Some countries do better than others.
Similarly, the benefits to a country from its trade aren’t necessarily equally distributed between the people within a country. When, for example, a country imports more of its manufactured goods because they are cheaper than its locally made goods, all the consumers who buy those goods are better off (including all the working people), but many workers in the domestic manufacturing industry may lose their jobs.
Another factor that has been working in the same direction is digitisation and other technological change which, in its effect on employers’ demand for labour, seems to be “skill-biased” – that is, it tends to increase the value of highly skilled labour, while reducing the value of less-skilled labour. It seems likely that, between them, trade and technological trade have worked to shift the distribution of income in America, Britain and, to a lesser extent, Australia, in favour of high-income families and against many middle and lower-income families.
The unwelcome surprise many politicians and economists have received from the high protest votes for Brexit, Trump and One Nation is causing them to wonder if too little has been done to assist the workers and regions adversely affected to retrain and relocate, and too little to ensure the winners from structural change bear most of the cost of this assistance.
The factors promoting globalisation
I want to make a last point arising from my definition that “globalisation is the process by which the natural and government-created barriers between national economies are being broken down”. It’s that some of the barriers between national economies are government-created – such as restrictions on the free flow of goods and services, money and people – but the biggest barriers have been natural: the physical distance between countries which, historically, has increased the time and cost involved in moving goods, travelling and communicating between them. Historically, most services weren’t able to be traded across national borders.
This means the process of globalisation is being driven by two, quite separate factors: decisions by governments to lower the barriers between economies they themselves have erected – deregulation – and technological advance that is lowering the natural barriers between economies by lowering the cost of freight, travel and communication. Improvements in diesel engines and this size of tankers, the invention of shipping containers and the jumbo jet, are examples. Then there are advances in telecommunications which have hugely reduced the cost of telephone calls, and the development of computers and the internet, which allows instantaneous global communication at negligible cost. These advances have turned the provision of many digitisable services from non-traded to traded.
It suits many people who are part of the backlash against globalisation to blame the loss of jobs wholly on the actions of government and, in particular, on the signing of trade agreements. This way, they can tell themselves that getting the government to abrogate its trade agreement will return the world to the way it was. What they fail to realise is that many of the jobs lost from particular industries were lost not because of trade but through automation and computerisation. But governments can do little to halt technological change. Even if new protective barriers were raised – greatly increasing the prices of the protected goods – the rebuilt factories would be much more highly automated and employ far fewer workers than they used to.
So governments can, by reverting to protectionism, attempt to reverse the tide of globalism. But, since so much of the tide is driven by advances in digital technology, it’s likely many barriers between economies will to continue to shrink.
Shares of the World Economy, 2016
GWP Exports Population
China 18 11 19
United States 16 11 4
Euro area (19 countries) 12 26 5
India 7 2 18
Japan 4 4 2
Advanced economies (39) 42 64 15
Developing economies (153) 58 36 85
100 100 100
Source: IMF; GWP based on purchasing power parity
