1. Chapter 13 The United States in the World Economy

2. Copyright ©2014 Pearson Education, Inc. All rights reserved.13-2 Learning Objectives Identify the major changes in U.S. economic relations that have led to more attention towards bilateral and plurilateral agreements. Evaluate the relative importance of the North American Free Trade Agreement, both for what it accomplished and as a model for subsequent agreements. Explain when purchasing power parity estimates of income per person are superior to the alternatives, and when they are inferior.

3. Copyright ©2014 Pearson Education, Inc. All rights reserved.13-3 Learning Objectives (cont.) Differentiate free trade agreements from preferential trade agreements and give examples of each. State why it is difficult to have precise estimates of job gains and losses due to trade, and give specific examples of how imports may create jobs and exports may occur after a loss of jobs.

4. Copyright ©2014 Pearson Education, Inc. All rights reserved.13-4 Introduction: A New World Economy The United States role in the global economy is shaped by size, wealth, and role as a military super power Endowed with - wide range of resources - abundant and fertile farmland - a relatively well educated population - disproportionate share of the world’s top research universities - Nobel Prize winners - venture capital

5. Copyright ©2014 Pearson Education, Inc. All rights reserved.13-5 Introduction: A New World Economy (cont.) US is third most populous country after China and India, and GDP more than twice China’s, the world’s second largest economy The bipolar world of two superpowers and two economic systems suddenly disappeared with the collapse of the Berlin Wall in 1989 and the dissolution of the Soviet Union in 1991

6. Copyright ©2014 Pearson Education, Inc. All rights reserved.13-6 Background and Context As the world’s largest economy anything the United States does has an impact on the rest of the world Given its large economy and population U.S. trade with the rest of the world has been a smaller share of its GDP than in most other developed economies Over the last fifty years the trade share of GDP has more than tripled

7. Copyright ©2014 Pearson Education, Inc. All rights reserved.13-7 The Big Mac Theory of Exchange Rates The Economist magazine collects the prices of Big Macs in different countries. In July 2011, the average price of a Big Mac was $4.56 in the United States. Comparing this to the average prices of Big Macs in other countries offers a (light-hearted) test of purchasing power parity:

8. Copyright ©2014 Pearson Education, Inc. All rights reserved.13-8 Which Country is the Largest National Economy? US GDP: 17.4 trillion dollars in 2014 China GDP: 63.6 trillion RMB in 2014 Market Exchange Rate: 6.13 RMB/Dollar China GDP: 10.4 trillion dollars US is the world largest economy PPP Exchange Rate: 3.51 RMB/Dollar China GDP: 18.1 trillion dollars China is the world largest economy

9. Copyright ©2014 Pearson Education, Inc. All rights reserved.13-9 TABLE 13.1 U.S. Size and Rank

10. Copyright ©2014 Pearson Education, Inc. All rights reserved.13-10 FIGURE 13.1 The Trade-to-GDP Ratio for the United States, 1960-2010

11. Copyright ©2014 Pearson Education, Inc. All rights reserved.13-11 How much “Made in China” does US consume?

12. Copyright ©2014 Pearson Education, Inc. All rights reserved.13-12 TABLE 13.2 Leading U.S. Trade Partners, 1990 and 2010

13. Copyright ©2014 Pearson Education, Inc. All rights reserved.13-13 FIGURE 13.2 Real Value Added and Employment in Manufacturing, 1960-2011

14. Copyright ©2014 Pearson Education, Inc. All rights reserved.13-14 The Shifting Focus of US Trade Relations Throughout most of the post-World War II period the United States was a strong supporter of multilateral trade Three factors have shifted the U.S. focus towards greater use of bilateral and plurilateral trade agreements The United States is still supportive of the WTO

15. Copyright ©2014 Pearson Education, Inc. All rights reserved.13-15 The Shifting Focus of US Trade Relations (cont.) First, multilateral trade negotiations became more complicated as the GATT and then WTO added new members When the GATT was originally signed in 1947 it had twenty-three members By the time of the Uruguay Round (1986–1994) there were 128 signatories to GATT Currently there are 155 member countries in the WTO

16. Copyright ©2014 Pearson Education, Inc. All rights reserved.13-16 The Shifting Focus of US Trade Relations (cont.) Second, many quotas have been converted to tariffs and tariffs in general have fallen dramatically New multilateral trade negotiations in the Doha Round focused on more difficult issues - agricultural support systems, - intellectual property, - services trade, - government procurement, and - assistance for developing countries.

17. Copyright ©2014 Pearson Education, Inc. All rights reserved.13-17 The Shifting Focus of US Trade Relations (cont.) Third, the end of the Cold War removed one of the pressures that caused the United States to offer trade concessions to other countries

18. Copyright ©2014 Pearson Education, Inc. All rights reserved.13-18 TABLE 13.3 Free Trade Agreements, Exports, and Imports in Billions of Dollars, 2010

19. Copyright ©2014 Pearson Education, Inc. All rights reserved.13-19 Demographic and Economic Characteristics of North America Income per capita is measured in two ways: - In U.S. dollars converted from Canadian dollars and Mexican pesos at market exchange rates - In dollars measured in terms of purchasing power parity (PPP) The North American market is marked by numerous difficult policy questions on migration and environmental and labor standards

20. Copyright ©2014 Pearson Education, Inc. All rights reserved.13-20 TABLE 13.4 Population and GDP for NAFTA Region, 2011

21. Copyright ©2014 Pearson Education, Inc. All rights reserved.13-21 Canada-US Trade Relations The United States and Canada have the largest bilateral trade relationship of any two countries in the world with two-way merchandise goods trade in 2011 of more than $597 billion Due to a shared border, a common historical background, and a similar culture Also the result of three stages of integration: Auto Pact of 1965, Canada-U.S. Free Trade Agreement (CUSTA) in 1989, NAFTA agreement in 1994

22. Copyright ©2014 Pearson Education, Inc. All rights reserved.13-22 Mexican Economic Reforms From the 1950s until the onset of the crisis in 1982, Mexican per capita growth averaged 3.3 percent per year in real terms doubling living standards approximately every generation Mexico’s long growth boom occurred under import substitution industrialization (ISI) policies ISI policies target the development of manufacturing through support for domestic industries that produce goods which substitute for imports.

23. Copyright ©2014 Pearson Education, Inc. All rights reserved.13-23 Mexican Economic Reforms (cont.) A major weakness of ISI policies: they discriminate against exports by raising the rate of return for domestic market producing firms Domestic market producing firms have high protectionist walls and charge higher prices while facing little or no competition Problems emerged in 1981 and in August 1982, the debt crisis began: Mexico suspended payments of the principal of its debts

24. Copyright ©2014 Pearson Education, Inc. All rights reserved.13-24 Mexican Economic Reforms (cont.) The debt crisis in Mexico was the result of a series of factors and spread to the rest of Latin America -poor macroeconomic management -accumulation of a large amount of debt -heavy borrowing from foreign banks -weak tax systems -rising world interest rates that made debt service more expensive This period came to be known as the Lost Decade

25. Copyright ©2014 Pearson Education, Inc. All rights reserved.13-25 Mexican Economic Reforms (cont.) The solution to the debt crisis required multiple policy changes In the 1980s, Mexico privatized many firms that had been drains on the federal budget Brought its federal budget under control Reduced its restrictions on foreign direct investment Opened its markets to greater competition

26. Copyright ©2014 Pearson Education, Inc. All rights reserved.13-26 The North American Free Trade Agreement NAFTA was ratified in 1993 taking effect January 1, 1994 Trade flows increased significantly, but had been growing before implementation partly in anticipation of an agreement The first important feature of NAFTA- most forms of trade barriers came down Most of the change came on the Mexican side

27. Copyright ©2014 Pearson Education, Inc. All rights reserved.13-27 Some tariffs and investment restrictions on cross border investment were eliminated immediately, but in many cases there was a variable period of phasing out tariffs and investment restrictions A second feature of NAFTA is that it specifies North American content Requirements for goods subject to free trade The North American Free Trade Agreement (cont.)

28. Copyright ©2014 Pearson Education, Inc. All rights reserved.13-28 A third feature of NAFTA is three separate dispute resolution mechanisms, depending on the source of the disagreement Individual chapters cover disputes related to dumping and anti-dumping duties; treatment of foreign investors by national policies, called investor-state disputes The North American Free Trade Agreement (cont.)

29. Copyright ©2014 Pearson Education, Inc. All rights reserved.13-29 The North American Free Trade Agreement (cont.) Fourth significant feature of the agreement NAFTA itself did not contain language regarding labor and environmental standards or concerns Two side agreements were ratified and implemented; North American Agreement on Labor Cooperation and the North American Agreement on Environmental Cooperation.

30. Copyright ©2014 Pearson Education, Inc. All rights reserved.13-30 Two NAFTA-Specific Issues Illegal immigration is a contentious issue in U.S.- Mexico relations –Proponents argue that illegal immigrants support the U.S. economy by buying goods and services and help keep prices low by increasing labor supply –Opponents argue that the U.S. should not ignore illegal behavior and that the increased labor from illegal immigration suppresses wages for legal workers

31. Copyright ©2014 Pearson Education, Inc. All rights reserved.13-31 Attempts at stricter border enforcement have been largely unsuccessful at stopping illegal immigration –The border is too long – 2,000 miles –The economic incentive the enter the U.S. is too high –Nearly half of the illegal immigrants entered legal, but did not return home when their visa’s expired Two NAFTA-Specific Issues (cont.)

32. Copyright ©2014 Pearson Education, Inc. All rights reserved.13-32 The unprecedented wave of migration appears to be ending for three main reasons One, the border has become harder and more dangerous to cross Two, the political and economic environment of the United States is more difficult Three, and most significant for the long term, the demography of Mexico is changing reducing the number of potential migrants Two NAFTA-Specific Issues (cont.)

33. Copyright ©2014 Pearson Education, Inc. All rights reserved.13-33 Two NAFTA-Specific Issues (cont.) A second issue in the NAFTA region is the rise in drug violence in Mexico This issue has far more than trade implications since it concerns law enforcement, medicine, public health, economic well-being, civil liberties, and other areas

34. Copyright ©2014 Pearson Education, Inc. All rights reserved.13-34 New and Old Agreements The United States has put in place a series of unilateral agreements providing market access without demanding reciprocation, called preferential agreements This type of agreement is enacted to support the development efforts of a set of countries, or for a specific political reason

35. Copyright ©2014 Pearson Education, Inc. All rights reserved.13-35 The Impact of NAFTA on U.S.- Mexico Trade Trade flows between U.S. and Mexico have risen The growth in trade between all three NAFTA partners indicates increased specialization, economies of scale, and efficiency The exact impact of NAFTA is hard to assess –Bilateral trade has expanded already since 1989 thanks to Mexico’s economic reforms –Mexico’s 1994–1995 peso crisis and recession caused U.S. exports to decline momentarily to Mexico

36. Copyright ©2014 Pearson Education, Inc. All rights reserved.13-36 TABLE 13.5 Key Trade Initiatives of the United States

37. Copyright ©2014 Pearson Education, Inc. All rights reserved.13-37 Labor and Environmental Standards In nearly all the trade agreements since NFATA, North American Agreement on Labor Cooperation and North American Agreement on Environmental Cooperation have served as frameworks for labor and environmental clauses Both of these agreements operate on the principle countries should enforce their own laws and not be used as tools for attracting trade or investment

38. Copyright ©2014 Pearson Education, Inc. All rights reserved.13-38 Labor and Environmental Standards (cont.) Enforcement relies on consultations with parties levying a complaint Agreements attempt to create public awareness of non-compliance without setting specific standards or encroaching on the sovereignty of national governments General recognition of labor rights is set forth in the International Labour Organization’s (ILO) Declaration on Fundamental Principles and Rights at Work

39. Copyright ©2014 Pearson Education, Inc. All rights reserved.13-39 Two NAFTA-Specific Issues (cont.) These four basic rights are built into conventions drafted by the ILO that countries are encouraged to sign 1.Freedom of association and the effective recognition of the right to collective bargaining 2.The elimination of all forms of forced or compulsory labor 3.The effective abolition of child labor 4.The elimination of discrimination with respect to employment and occupation

40. Copyright ©2014 Pearson Education, Inc. All rights reserved.13-40 Two NAFTA-Specific Issues (cont.) The environmental side agreement of NAFTA established a framework for incorporating environmental clauses into subsequent free trade agreements In many respects, it is parallel to the labor clause motivated by similar concerns that low environmental standards not be used to gain competitive advantages

41. Copyright ©2014 Pearson Education, Inc. All rights reserved.13-41 Two NAFTA-Specific Issues (cont.) Critics of the labor and environmental clauses come in two forms Some economists think that trade agreements should not be about labor and the environment so these clauses do not belong in trade agreements Another set of economists argue the clauses are meaningless because there is no real enforcement mechanism

42. Copyright ©2014 Pearson Education, Inc. All rights reserved.13-42 Investor-State Relations The United States has forty bilateral investment treaties (BIT) with countries across the globe These agreements set out the rules governing cross-border investment and dispute resolution Emphasizes national treatment of foreign investors eliminating distinctions between national and foreign investors Eliminate the use of most performance requirements for foreign investment

43. Copyright ©2014 Pearson Education, Inc. All rights reserved.13-43 Job Loss Due to Trade There are a quite a few estimates of the job gains or losses caused by NAFTA and other trade agreements Within five years of NAFTA’s implementation, the estimates ranged from a net loss of 98,000 a year to a net gain of 42,000 a year The politics of trade makes the discussion of job impacts necessary

44. Copyright ©2014 Pearson Education, Inc. All rights reserved.13-44 Job Loss Due to Trade (cont.) The ability of an economy to generate jobs is determined by factors that do not include trade Far more important than NAFTA or any other agreement are the business cycle, demography, and labor market policies

45. Copyright ©2014 Pearson Education, Inc. All rights reserved.13-45 FIGURE 13.3 Gross job gains and losses, quarterly, 2001-2010