What the financial meltdown means for the future of globalization

There’s been a lot of chatter recently over what the global financial crisis and impending recession means for the future of globalization. You see, critics have latched onto the recent failures of markets as the perfect argument for why we need to curb international economic integration.

Although many economists strongly argued for the impending dominance of emerging economies, I think the ongoing global financial crisis has really shown us that these developing countries have not decoupled from the developed ones. We haven’t seen an unwinding of the US current account deficit, for instance, and in fact, in the last month, there has been a flight to safety to the dollar.

Thus, one detail to keep in mind is that while the relative growth of these emerging economies is quite impressive, their absolute economic power still does not yet rival that of the US, Japan, EU, etc for dominance. Furthermore, the spread of the global financial crisis to emerging economies (salient examples include Russia and China) signal that these markets have not achieved a degree of magnitude large enough to have decoupled from developed markets.

So what’s really at stake here? It’s pretty much accepted science that globalization, taken as a whole, has helped mankind to an unimaginable extent. That’s not really being debated now. But that doesn’t mean there aren’t losers.
For me, one salient question is whether globalization helps or hurts the poor. But what makes this debate so difficult is that both sides tend to pick and choose their evidence. For instance, depending on whether the poverty line is set at $1/day or $2/day, income inequality can be made to appear like it is shrinking (using the former) or expanding (using the latter). The same goes for calculating income distribution using household surveys (increasing income gap) versus national accounts (decreasing income gap).

Thus, there is this ever-shifting line in the sand for determining when globalization helps and when it hurts. So I think this debate really becomes a framing problem. That is, are we talking about a Rawlsian “veil of ignorance”, a bottoms-up view where gains for the majority must not come from losses to the minority, or a Millsian utilitarian approach to social welfare, a top-down view where the greatest good to the greatest number of people is what counts.

What we find from behavioral economists is that the Rawlsian paradigm (anti-globalization in this context) may be hard to fight, as “people are reluctant to harm some people in order to help others, even when the harm is less than the forgone help. Although there were certainly authors who championed the all-powerful forces of free markets to do good, I tend to side with the critics who say we need to move beyond utter reliance on markets.

“Most academic agree that markets, by themselves, do not lead to efficiency; the question is whether government can improve matters,” said Economics Nobel Laureate Joseph Stiglitz. When it comes to alleviating poverty and income inequality, I believe the government must be a force greater than the invisible hand.

Now, with any discussion on globalization, we can’t help but talk about China. As I read the gushing hyperboles on China, one big question I keep asking myself is “Can anyone compete with China?” They have an enviously high savings rate, a huge foreign reserves warchest, and the world’s largest population. Obviously, they do not hold a comparative advantage in everything (especially in industries requiring heavy skilled labor), but, some economic models indicate China’s growth will lead to some global losers, such as Singapore, the Phillipines, much of South Asia, and Europe.

We also know from recent research that Africa hasn’t been able to compete with China. Yet the only recipe for growth for many of these lower-end third-world countries, such as India, is an export model based on labor-intensive manufacturing. Ironically, China’s wild success with this model may remove it as a long-term competitor, as we’ve already seen wage rates on the coast skyrocket. Thus, there just may be hope yet for other countries looking for a piece of the pie.

A related question is if China’s rise detract investment elsewhere? Would Vietnam be more seeing higher growth if it wasn’t so close to such a global star? Upon closer introspection, I would argue this is not the case if global savings is liquid and we do not presume there is only X dollars to go around. Now that China is moving into more skilled industries, textiles may move to Vietnam, and thus, investors may move capital (that they may not have invested at all otherwise) there to seek higher returns. One caveat that many of the author failed to explore, furthermore, is that China’s growth means a burgeoning middle class (45% of its population by 2020 some estimate) that will stimulate global demand and consumption.

Another topic definitely worth addressing is the rise of multinationals from emerging markets. An Economist “special report” on globalization from this Sept said that 62 of the global Fortune 500 are from emerging markets this year, up from 31 in 2003, and expected to “rise rapidly.” Here’s why this trend is significant: we are no longer seeing globalization as a one-way street from the developed to the developing world. Rather, these emerging markets are actually investing and expanding into the US and Europe. Take Lenovo, which bought out IBM and discarded the IBM logo last year, confident that its Chinese-brewed brand was good enough to go global.

One surprising study from a couple months ago is turning the idea that China’s growth harms American workers (by depressing wages or even shuttering jobs) on its head. A must read!

I would say globalization, either through trade or capital flows, cannot pull a country out of poverty. Two-thirds of India’s children drop out of school before 8th grade. And thus, social improvements (such as education and healthcare) and physical infrastructure improvements (roads, telecom, energy grid, etc) need to be prioritized by the government, and this in turn enables globalization to power the engines.

I think an interesting lens to examining globalization’s impact on emerging markets is to look at the differences behind China and India, where China’s recent growth has been doubled that of India. Before doing the readings, I had thought it was mainly due to the greater trade liberalization of China. But China has fundamentally better infrastructure, not just socially and physically, but also in regulatory and financial aspects. Other reasons for why China has achieved greater success include the lack of protectionism for small-scale industries, looser labor laws, and the most intellectually-surprising possibility, a more homogeneous society (Sweden and Japan are similar models).