Globalization in Historical

Perspective (Continued)

Haggard / Naughton
IR/PS
September 2006
 Crisis: First World War

• The Global System of 1870-1914 was

shattered by World War I.
• The European countries at the core of
the global system threw themselves into
a devastating war, 1914-1919, thinking it
would be brief and decisive.
 Casualties were enormous.
Killed or wounded in WWI:
• France: Eleven percent (11%) of the total
population.
• Great Britain: Eight percent (8%).
• Germany: Nine percent (9%)
• The United States--which only entered the
land war in strength in 1918--one-third of
one percent (0.37%).
 Period 2: Interwar Retreat From
Globalization,1914-1945
A. International Regime:
• The victors tried to create a viable new
international order after WWI, but they
failed. The League of Nations created
was weak, and the US did not join.
• The UK was no longer the dominant
political or military power in the world
system. Economically weakened, it lost
the ability to provide capital or markets to
other economies.
New Powers Were Rising, But…
• The US became the largest and most
important economy, but it was unwilling
(and perhaps unable) to provide
leadership in the world economy.
• Germany, Russia, and Japan each rose in
relative strength, and each adopted
“innovative but aggressive and
nationalistic approaches to their
economies that largely rejected
globalization.” Conflict intensified.
 In each country, new demands
were made on political systems.
• In developing countries, colonialism was largely
discredited. If democracy is part of civilization in
the core, why not in the colony? If economic
growth is possible, why shouldn’t colonies grow,
become developed and thus equal?
• In Europe, governments became more
democratic, and were called upon to provide
economic security to their citizens. Social
expenditures rose and governments tried to
balance competing economic objectives (instead
of purely adhering to the gold standard “rules of
the game.”)
 Major Problems Emerged in Each
of the Main Economic Arenas
1. Trade growth slowed, and protectionism
increased.

3. The international monetary regime—the

gold standard—could not be
reconstructed on a sound basis.

5. International financial flows, based on

US lending, proved to be unstable.
 B. Trade: Slow Growth and
Increased Protectionism
• In an effort to protect new industries, late-
comers raised tariffs; while Europeans sought
to regain their lost competitive position.
• Reinforced by new nationalism, new nations
emerge in Eastern Europe, etc.
• US raised tariffs 1922 and again 1930 (Smoot-
Hawley), showing that the US was not willing
to be the guarantor of open markets that the
UK had been before the war.
• The Soviet Union dumped agricultural exports
to fund forced draft industrialization.
• Shrinking markets and trade worldwide.
 D. Monetary Regime: Back to
the Gold Standard?
• During WWI, most countries went off the gold standard
(they “suspended convertibility”). After the War,
everyone tried to return to the gold standard, but most
countries never achieved stable exchange rates, so the
purpose of the gold standard was defeated.

• UK: The Single Most Important Case.

– Despite wartime inflation and the weakening of its economy, the
UK returned to the gold standard by setting the British Pound at
the same value, in terms of gold, as before the war. That was
supposed to demonstrated that the Pound was “sound” and
“stable,” and insure the debtors repaid at full value. But the
result was that the currency (the Pound) was systematically
“over-valued” for trade purposes, contributing to the long-term
weakness of the British economy.
C. Capital Flows: Financial Fragility
• Germany was saddled with huge war
reparations payments to France and other
countries.
• U.S. Emerged as Largest International Lender,
with Germany one of the biggest borrowers.
• Indefinite chain of payments? The US lent to
Germany, so that Germany could make
payments to France. When German banks
failed, the system was shown to be extremely
fragile.
The Great Depression: The System
Collapsed
• Fragile Banking Systems Led to Financial
disorder and uncertainty (first Austria &
Germany, then in the US).
• The Stock Market in the US, having undergone a
remarkable bubble, then Collapsed.
• National governments struggled to deal with
plunging markets and declining trade.
• The existing problems of exchange rate
misalignment got worse, and were made worse
by bad monetary policy.
 Downward Spiral
International lending came to a halt, and exchange
rates were very uncertain—
Without an international payments system,
exports declined—
Overall economies shrank and unemployment
soared—
Countries tried to protect their weakened
economies by devaluing their currencies and
increasing tariffs (protectionism)—
Thus reducing trade even more, and leading to
another round of economic decline.
 Crisis: Great Depression Bred
Fascism and War

The prolonged crisis and war completely

destroyed the foundations of the old
world order, this time including the
European colonial empires.
It also created an unprecedented
opportunity for the victors to rebuild a set
of global institutions.
 Period 3: Postwar Growth and
National Reconstruction, 1945-
1975
The US took the lead, with the support and acquiescence
of the UK, in creating a new global political and
economic order after WWII. The new system included a
set of intentionally designed international institutions with
explicit rules, norms, and memberships.
Shaped by:
• The urgent need to avoid falling back into economic
disorder and Depression. Intentional effort to avoid the
mistakes, and draw the lessons, of the Inter-war Period.
• The Cold War rivalry between the US and the Soviet
Union
• The dominance of US economic power, which peaked at
this time. North America produced 45% of world
industrial output in 1953.
 A. International Regime:
A1. Multilateral Institutions:
• Most important economically are the
“Bretton Woods institutions”
• named for the town in New Hampshire, where the
agreements were hammered out in 1944. The
main authors were Harry Dexter White and John
Maynard Keynes from the US and UK respectively.
– International Monetary Fund (IMF)
– World Bank (International Bank for
Reconstruction and Development, IBRD)
 Other Multilateral Institutions
• A proposal for an “International Trade
Organization” was agreed at Bretton Woods,
but was rejected by the US Congress. In its
place, a General Agreement on Tariffs and
Trade (GATT) was improvised, which later
evolved into the World Trade Organization
(WTO).
• The United Nations and its panoply of
associated institutions.
• The regional development banks.
1B. Global Rivalry Between the US
and the USSR
Strategy of “Containment” and Cold War.

US adopted the Marshall Plan to rebuild Europe;

shifted policies to accommodate renewed
conservative ascendancy and rapid growth in
Japan.

Reconstruction of Germany and Japan was seen

as a component of broader strategy of
containment of the Soviet Union.
1C. This international system was
built on the assumption that
national governments would play a
stronger role in managing their
economies.

Development strategies, macroeconomic

management, and social security were
seen as basic jobs that governments must
perform.
 Interventionist Governments
• Were following “Lessons” of Inter-war Period.
– Government coordination needed to prevent chaos.
– Governments can foster industrial growth, raise
investment, accelerate growth.
– Agriculture and raw materials have declining prices,
no future.
• Most countries restricted capital movements.
• Developing Countries kept tariffs, to carry out
Import Substitution Industrialization (ISI). ISI
protected manufacturing, but raised the cost of
capital goods, and discouraged agriculture.
• Developed Countries protected agriculture.
1D. Many Countries “Dropped Out.”
• USSR, Eastern Europe, and China
drastically reduced their involvement with
the world system, but traded with each
other.
• Some of the countries following ISI (Import
Substituting Industrialization) significantly
reduced their involvement in world trade.
 B. Trade: Accelerated and Led
Economic Growth
Economic stability led to a strong revival of
international trade, notwithstanding the
interventionist management of many
national governments.

This is the period with the most rapid growth

in international trade of all four periods of
globalization.
Growth of World Trade and
Output, 1950-2000
10
9
8
7
6
5 Trade
4 Output
3
2
1
0
1950­1963 1963­1973 1973­1990 1990­2000
Developed Country vs. Developing
Country Dynamics
• Developed Countries—North America,
Europe, and Japan became more open to
trade in manufactures, but less open to
trade in agriculture. Developing countries
(following policies charter in the preceding
maps) became less open to trade in
manufactures.
• Partly as a result, an increasing share of
trade during this period was in
manufactures, and among the rich
countries.
 “Intra-Industry Trade”
• An increasing share of trade during this
period was among countries that are
similar in factor endowments.
• Rich countries—with abundant capital
endowments—exchanging similar
products with each other. E.g., US and
Germany selling each other automobiles
and industrial machinery.
• Not well explained by the theory of
comparative advantage.
But there was also steady, gradual
movement toward liberalization.
• Successive trade rounds lowered tariffs.
• Non-tariff barriers were reduced even
more.
• Capital controls among the developed
nations were steadily reduced.
• With one big exception: Limits on
migration remain strict. International labor
mobility declined almost to zero.
 C. Foreign Direct Investment and
Multi-national Corporations
FDI grew and multi-national corporations
expanded their reach during the 1950s
and 1960s.
However, this growth was from a very low
base immediately after WWII.
It was carried out predominantly of US firms.
It was later dwarfed by developments in the
1980s and 1990s.
 D. International Monetary Regime
• Bretton Woods designed a new system of
FIXED exchange rates. They were supposed to
be stable, but could be adjusted occasionally
when necessary.
• Called a “Gold-exchange standard,” it was
effectively a US dollar standard, in which most
currencies were fixed relative to the dollar.
• The IMF, as lender of last resort, would provide
short-term financing to countries to allow them to
maintain exchange rate stability.
 Capital Flows
In the immediate post-war period, most
countries imposed tight controls on capital
movements. These controls were only
gradually relaxed during the 1950s and
1960s.
Partly as a result, international capital flows
remained relatively small throughout this
period. In the 1970s, when capital flows
began to grow, it put the system under
great strain.
 E. Growth Accelerated
• Both Domestic Economies and Foreign
Trade grew rapidly.
• There existed a large stock of
accumulated technological and
organizational innovation--much of it in the
US--on which other nations could draw.
• Trade among developed countries grew
rapidly, as Europe began to catch up to
the US in per capita GDP.
Other Developed Countries Tended to
Catch up with the US in Period 3

Phase Three Phase Four

Europe

During Phase 4, Relative Positions did not change much; if anything, the US gained
in relative position, compared to most other developed countries.
• Almost all economies experienced growth
acceleration (the US less dramatically).
• Japan’s economy grew 10.4% per year
from 1950 through 1972, faster than any
economy had ever grown before.
• Economies that grew most rapidly were
those that expanded exports most rapidly.
Korea and Taiwan followed Japan’s
spectacular take-off.
 A Kind of Golden Age
• As of 1973, there were many reasons to be
highly optimistic about the remainder of the
century:
– Rapid growth had been widespread for over 20 years.
– Colonialism had been eliminated.
– World Wars and Depressions were over.
– The “secrets” of policy stability and growth emulation
seemed to have been discovered.
– New technologies were on the horizon.
• But….
Complex Crisis: Early 1970s to 1980
Much less serious than previous war-related
crises, but still prolonged disorder.
Arguably: Begins With Economics (or with
Vietnam)
Steady increase in capital flows eroded
previous system of national financial
controls. From 1971 onward, the
breakdown of the Bretton Woods system
of fixed exchange rates led steadily to a
new system of floating exchange rates.
 Bretton Woods system of fixed
exchange rates broke down.
• US developed persistent trade deficits.
• Other countries accumulated large dollar
reserves. Weakness of the US dollar led to
short-term capital flows out of US.
• Abrupt August 1971 “Nixon shock.” US
suspends convertibility of gold, imposes
temporary 10% import surcharge.
• Exchange rates re-aligned (Dollar devalued), but
it’s not enough. Early in 1973, the main
currencies began “floating” against the dollar.
Just temporary, but it has lasted for 30 years…
Followed by First Oil Crisis 1973
• OPEC triples oil prices (reflecting
underlying disequilibrium in that market).

• Followed by very significant slowdown in

global economic growth.
Capital Markets Adjust, Apparently
• Huge accumulations of dollars “offshore”
by petroleum exporters: growth of
Eurodollar market. Global liquid Capital
Flows increase dramatically.
• These dollars are lent to clients worldwide
at very attractive (cheap) interest rates.
• Developing countries, particularly Mexico
and Brazil, pile up large external debt. But
are able to maintain growth.
 A Second Oil Shock, 1978-79
• Just as the first oil shock was triggered by
Middle East political events, so was the
second:
– 1973 October War (Yom Kippur War,
Ramadan War).
– 1978 Collapse of Shah’s regime in Iran
(formerly US ally), Ayatollah Komeini to
power, Feb. 11, 1979
• And then, Dec. 24, 1979, Soviet Union
invades Afghanistan.
 Complex US Response
• Tightened relationship with Saudi Arabia, which
became US biggest oil supplier, biggest arms
customer, and chief supporter of the proxy war
in Afghanistan.
(Meanwhile, the Iraq-Iran War, 1980-1988 bled both
those countries dry, contributing to an exhausted
peace.)

• US adopted much tougher contractionary

economic policies; pushing up world interest
rates; slowing world growth; and eventually
pushing oil prices back down.
 Which ultimately led to a
developing country debt crisis.
• When the world economy slowed in the
early 1980s, and interest rates soared,
many developing countries were unable to
repay their debts.
• Widespread crisis and default led to the
“lost decade” of the 1980s in Latin
America in particular. Countries following
ISI strategies seem to do worse.
• Many developing countries moved away from ISI
strategies and accepted advice to open further
to international trade and investment.
• Different levels of economic performance during
this debt crisis tended to discredit previous
development models (especially ISI), and led to
a new orthodoxy, the “Washington Consensus,”
which called for less government intervention
and a more open international system.
 Period 4: Current Wave of
Globalization, c. 1980-present
A. International Context: Cold War began to
fade, as the Communist Bloc Crumbled.
1. December 1978, China launches economic
reforms, begins long march to market
economy.
2. July 1980 in Poland, Solidarity Labor Union
directly challenges Communist Party,
3. Early ’80s, leadership succession in Russia,
recognition that Afghanistan is disaster, etc.
By 1990 Communism had collapsed.
Leading to a new phase of US dominance,
even though its share of world output is far
less than in 1950.
Under US prodding, Bretton Woods
institutions began to push harder for
liberalization, and for deeper integration.
Rules began to extend into areas
previously considered domestic:
investment, services, intellectual property
rights and legal systems.
 Global Nuclear Arsenal, 1945-2004
80,000
Number of Warheads

60,000

40,000

20,000

0
1945 1955 1965 1975 1985 1995 2005

Source: Norris and Kristensen, Nuclear Notebook, SIPRI

 B. Trade
• Trade has continued to lead economic (GDP)
Growth.
• Surprisingly, the growth of trade has slowed
down somewhat, but so has GDP growth.
• New patterns of trade have emerged:
– Developing countries have increased their share.
– Trade increasingly involves manufactured goods,
while raw materials have declined in relative
importance.
– Trade and Foreign Direct Investment are increasingly
closely linked.
 Percent of GDP

0
5
10
15
20
25
30
35
40
1960

1962

1964

World
1966

1968

1970

1972

1974

1976

1978

1980

1982

1984

1986

1988
Low Income

1990

1992

1994

1996
Exports of Goods and Services

1998

2000
Middle Income

2002

2004
Growth of World Trade and
Output, 1950-2000
10
9
8
7
6
5 Trade
4 Output
3
2
1
0
1950­1963 1963­1973 1973­1990 1990­2000
 Composition of Trade
• Trade in manufactured goods is growing very
rapidly.
• Share of primary products in merchandise
exports has dropped to 18% by 1999 (8% food;
2% agricultural raw materials; 8% minerals
[including fuel]).
• Developing countries have emerged as major
exporters of all categories of industrial products.
Although 80% of developing country
manufactured exports come from eight
countries, which are still gaining share:
– China, Korea, Taiwan, Singapore; Mexico; Thailand,
Malaysia, Indonesia.
 A New Pattern of Trade
• Chains linking different stages of the production
process.
• Developed Country components account for
about 30% of their exports; Assembly in
Developing Country factories depends on these.
• Not well explained by traditional comparative
advantage, although these are the labor-
intensive steps in production process.
• Trade growth is closely linked to growth of
foreign direct investment (FDI).
 C. Rapid Growth of FDI and
International Capital Flows
• FDI includes both “greenfield” FDI (new
factories) and “mergers and acquisitions.”
(M&A). Investor must exercise some
control for investment to be direct.
• For developed countries, M&A dominates.
M&A peaked at over $1 trillion in 2000.
94% of this was in developed countries;
3.5% in Latin America, 2% in Asia. In
developing countries, most FDI is
greenfield.
 Billion US Dollars
IB

200
400
600
800

0
1,000
1,200
1980

1981

1982

1983

1984

1985

1986

1987

1988

1989

1990

1991

1992

1993

1994
Countries
Developed

1995

1996
World FDI Inflows

1997

1998

1999

2000
Countries
Developing

2001

2002

2003

2004
 Much Stronger Role of Multi-
National Corporations Goes with
Larger FDI
Greatly Increased Role of Multi-national Corporations.

Consolidation and increasing Concentration in many

industries. E.g., Automobiles: Top 10 MNCs, 69% of
world output in 1996, 80% in 1999. Same patterns in
tires, banks, pharmaceuticals.

Direct coordination of production, supply, sales and

marketing throughout global networks.
 D. International Monetary Regime
• System of floating exchange rates became
established for large developed countries.
Relative currency values fluctuate, and are
determined by supply and demand.
• This system has gradually spread to many
developing countries, although many still
peg their currencies to their most
important developed country economic
partner.
• Very different from the “Bretton Woods” system.
• Floating exchange rates are related to the much
greater size of international capital flows.
• Short-term capital flows have grown rapidly
since 1973, and are now enormous, more than
$1 trillion per day.
• Long-term portfolio investments—stocks and
bonds—have also grown dramatically.
• The world has become much more liquid during
the most recent period of globalization.
 E. Despite Globalization, Growth
has not Accelerated.
• Policy liberalization has occurred.
• International “best practice” institutions
have spread.
• Investment and trade have increased
dramatically.
• Technology “catch up” should occur.
• So we would expect growth to accelerate.
• But actually, outside Asia, growth has
actually slowed.
 Growth of World GDP per capita growth
(7-year trailing moving average)
4.0%

3.5%

3.0%

2.5%

2.0%

1.5%

1.0%

0.5%

0.0%
1955

1963

1969
1971

1977

1983
1985

1991

1997
1999
1961

1967

1975

1989

2003
1959

1973

1981

1987

1995

2001
1957

1965

1979

1993
Regional Growth of GNP per capita, 1961-2000
(Percent Per Year)
1960s 1970s 1980s 1990s
Developed Countries 4.4% 2.6% 2.4% 1.7%
East Asia (excl. Japan) 2.9% 4.5% 5.9% 6.0%
Latin America 2.6% 3.4% -0.8% 1.7%
South Asia 1.8% 0.7% 3.5% 3.2%

World 3.4% 1.8% 1.4% 1.2%

 Catch-up Has Not Occurred
• In 1870, real GDP per capita as percent of
that of the leading country (UK):
– Asia: 18%
– Latin America 23%
• In 1996, percent of leading country (US):
– Asia: 12%
– Latin America 22%
But Large Changes in the Distribution of
Global Output and Income have Occurred.
 Key Issues of Current Period
• Unfulfilled promise of globalization: why has
growth slowed?
• Do the global institutions still work? Do the core
countries still have sufficient commitment to
those institutions to make further progress?
• Is the global financial system adequate and
stable?
• What is the role of national political systems in
this globalized environment? Can democratic
countries shape the type of political and
economic system they want?
 Key Issues, Cont.
• Can the global system find a place for all the
“new-comers”? Can the system adapt to the
huge influx of inexpensive labor?
• Can the system work to alleviate global poverty?
• Is the system stable? How effectively can it
absorb the new economic and political
challenges since 2000? Is the “Washington
consensus” still applicable?
• Are there viable challengers to the US-
dominated global order?