1. Economic Globalization Sociology 2, Class 8 Copyright © 2014 by Evan Schofer Do not copy or distribute without permission

2. Announcements Midterm is approaching… less than 2 weeks Midterm review sheet on website Midterm review session during section next week Agenda –Midterm info –More on economic globalization How globalization can cause economic crises Trade & trade agreements

3. Midterm Info Exam format Bring pencil & eraser Closed book / closed notes No bluebook/scantron needed Topic coverage: All class lecture material (on website) All readings up through Week 5 Commanding Heights video, Episodes 1 & 3

4. Midterm Info: Types of questions Multiple choice Short answer questions (~2-3 sentences) Ex: What is Foreign Direct Investment? Ex: What are the necessary requirements to have a global economy? Medium length questions (~4-8 sentences) Ex: What is an untouchable? Give 3 examples of how you can be “untouchable” Ex: Robert Reich describes the winners & losers of “supercapitalism”. List them, and explain why –NOTE: sentence lengths are a guideline, not a hard limit. Use more (or less) as needed.

5. In the news: Crisis in Turkey?

6. Crisis in Turkey? Wall Street Journal 1/27/14. Turkey's central bank—beset by political instability, tumbling confidence and one of the world's fastest falling currencies—said that it will convene an emergency meeting Tuesday [to] avert a destabilizing crisis. Central bankers in many emerging-market countries are under intense political pressure to keep interest rates low to keep economic growth on track, despite the inflationary effects. But recently strains in Turkey and other countries such as South Africa and Argentina have led to steep declines in global equity markets, reviving fears of financial contagion that could derail the expansion. Paul Krugman (NYTimes): Qualitatively, this looks like a classic emerging-markets crisis: foreign funds came flooding in, there was a sharp rise in private-sector foreign-currency-denominated debt, and then foreign money turned on its heel and fled. Quantitatively, it shouldn’t be that bad: Turkish external debt is only 40 percent of GDP (or was before the lira plunged), and supposedly Turkish businesses aren’t that leveraged. On the other hand, there’s a political crisis as well as a currency crisis. Oh, and contagion among emerging markets.Lovely.

7. Review: Economic Globalization What do you need to have a global economy? 1. Cheap transportation and communication 2. International financial (money) system 3. Countries that are willing to participate –Shift from Keynesian policies  free markets –Removal of legal or regulatory “barriers” History of the international financial system Gold Standard: Money equivalent to gold Bretton Woods: US dollar based on gold, used for trade Floating exchange rates: supply/demand affect currencies

8. Currency Value Examples CountryCurrencyNumber per US$ EuropeEuro0.73 CanadaDollar.987 ChinaYuan/RMB6.05 IndiaRupee62.08 JapanYen103 MexicoPeso13.4 South KoreaWon1077 ThailandBaht32.8 United KingdomPound.60 As of Jan 23, 2014

9. Exchange rate winners & losers Who wins if Yen goes up relative to the US$? –“Stronger yen” –1. Japanese consumers They can buy American products cheaply –2. American exporters They can sell lots more to Japan Who Loses? –1. American consumers Japanese imports become more expensive –2. Japanese companies They have difficulty competing with cheap US imports

10. Review: Floating Exchange Rates Why do currency values change (“float”)? Answer: Changes in supply/demand 1. Asymmetric trade If a country imports lots more than it exports, its currency drops Conversely: Lots of exports cause a currency to go up 2. Asymmetric capital flows If capital moves into a country, currency goes up If capital moves out of a country, its currency goes down

11. Review: Floating Exchange Rates What forces affect currency values? 3. Countries can intervene strategically to alter their currency values Example: China and the US China exports a lot to the US, so its currency should rise –Which would cause their exporters to “lose” But, China prints money (Yuan), floods the market to keep the value of the Yuan low –Exporters remain “winners”.

12. Review: Currency Volatility Capital flows and resulting currency volatility can produce severe crises Example: Mexico in 1994 Global investors bought lots of stock, investments in Mexico over several years… –This caused a slow rise in the peso. Not a problem. A minor political crisis led to panic selling in 1994 –The stock market began to plummet Global investors rushed to sell stocks, converted pesos to dollars Result: Selling of pesos made the value of pesos plummet!

13. Video Commanding Heights, Ep 3, chapter 7 Time: 27:50 – 32:45. Mexican Peso Crisis (also called the “Tequila Crisis”)

14. Review: Currency Volatility Why was it bad for the value of pesos to drop severely, rapidly? –1. Suddenly, imports were very expensive Price of gas shot up Businesses dependent on imports couldn’t afford costs; potential for bankruptcies –2. Mexican companies & government had borrowed money from US banks US banks must paid in US$, not pesos If pesos are worth less, suddenly you can’t afford to pay loans Result: More bankruptcies, economic recession.

15. Exchange Rates & Volatility In the case of the 1994 peso crisis, the US government stepped in Provided emergency loans, etc., to prevent massive bankruptcy –After panic, currency stabilized But, that was just a small crisis… It is clear that crises could occur that are too large to stop so easily.

16. Asian Financial Crisis Described in Krugman reading & Commanding Heights Video: In the 1990s, foreign investors moved capital into Asia And, foreign banks lent money to Asian companies at very low interest rates –Consequence: Rapid economic growth Economies “heated up” But, capitalism is prone to boom-bust cycles Companies built to many factories & houses – bubble But: globalization made the “bust” much worse!

17. Asian Financial Crisis How did globalization prompt a crisis for Asian economies in the 1990s? –1. Fearing a crash, global investors pulled capital out quickly Asian currency values plummeted Imports became expensive Companies could no longer pay off loans to foreign banks –Bankruptcies, unemployment…

18. 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, unemployment Dropping currency  hard to pay off debt in other currencies; People worry, Investors and lenders get nervous

19. Asian Financial Crisis How did globalization prompt a crisis for Asian economies in the 1990s? –2. Contagion Worries about Thailand spread to other Asian countries –Self-fulfilling prophecy: fear of problems caused investors to pull out, creating real problems Also, many US companies were invested in Asia (or had made loans)… Now they were losing money –Lesson: Integrated economies mean that crises tend to spread… Example: US financial crisis caused economic disruption around the globe.

20. Contagion: Europe & US?

21. More Video: Commanding Heights Topic: Asian financial crisis, spillover to other regions… Video: 40:48 to 48:10 (8 minutes) –Asian economic miracle Video: 48:10-1:14:30 (36 minutes) –Asian financial crisis and contagion

22. Asian financial crisis wrap-up Long Term Capital Management (LTCM) A US-based hedge fund; assets $130 billion in 1998 Used leverage (borrowed funds) to invest globally Crisis in Asia/Russia caused LTCM to take huge losses LTCM was bankrupt –US banks were threatened with huge losses (like 2008) –AND: If LTCM was forced to sell remaining assets, markets would fall further – making things worse! –Strategy: US engineered a private bailout Banks lent LTCM a huge amount of money to keep going until markets recovered IMF and other lenders also bailed out countries (e.g., Brazil) to end financial crisis.

23. Asian financial crisis Wrap-up Remarks: –The 1998 crisis was ended… but nearly brought down major US banks And, caused massive suffering in many countries –The 2008 crisis DID bring down major US banks Only government intervention saved the financial system from a TOTAL disaster Again, massive suffering –Recession, 10% unemployment –Cuts in gov’t services (food stamps, etc. Even the UC system) Contagion in Europe –Issue: Is this acceptable? Do we need to regulate markets more aggressively? If so, how?

24. Participation in Globalization Question: Why do countries want to participate in globalization? Esp. given potential for crises (e.g., Mexico, Asia) What are the benefits? And for whom? Answer: International trade and investment can increase economic growth Corporations often stand to benefit most... So business elites tend to support globalization BUT, other groups in society may also benefit –Investment can create new jobs, employment –Consumers can have access to wider array of goods, cheaper goods…

25. Benefits of Investment Economists argue that foreign capital will benefit economic growth Recall: Investment leads to economic growth Allowing foreigners to invest in a country results in more overall investment Example: FDI –If I build a factory in a country, the economy grows –And, intangible capital flows can have benefits Foreign banks may charge lower interest rates Foreign banks may have more capital to lend This allows domestic companies to invest more –Result: More growth.

26. Benefits of Trade Without trade, every country must produce all kinds of goods – cars, coffee, toys, etc. Issue: Countries vary in their ability to produce goods efficiently Example: Coffee can be grown in America, but not very efficiently due to climate Example: Computers can be built in Kenya, but not very efficiently due to lack of infrastructure & fewer engineers in the labor force Result: Without trade, production is less efficient.

27. Benefits of Trade Economists Adam Smith and David Ricardo argued: Trade allows nations to specialize in what they do best… their comparative advantage… –See Stiglitz Ch 3, p. 66-67; also Rodrik Ch 3 –Countries can focus on they produce efficiently And, trade for things they don’t produce efficiently –Result: Greater efficiency & economic growth This can produce a win/win situation, where both countries are better off –Setting aside, for the moment, possible undesirable environmental/social consequences, etc.

28. Reading: Rodrik The benefits of trade An analogy: Trade = technology Trade, like new technology, allows nations to convert some products (e.g., raw materials) into something else –Example: Technology allows us to magically turn raw cotton into cloth This may cause loss of jobs (people who weave), but that is the price of greater efficiency… –By analogy: We can magically turn wheat into electronics… by trading with Japan Likewise, it may cost jobs but is more efficient We should re-employ people in agro-industry rather than making electronics in the US…

29. Reading: Rodrik So why doesn’t everyone love free trade? –1. benefits of trade involve large shifts in production (“distributional effects”) To reap benefits of trade, we have to shift production toward things we produce efficiently Example: We should shift employment away from electronics manufacturing (if Japan is more efficient) and employ people growing wheat (if we are efficient) Very disruptive –Transitional unemployment; Often permanent loss of wages –Unpleasant, unless a country has a very strong safety net & job training programs.

30. Reading: Rodrik So why doesn’t everyone love free trade? –2. Benefits diminish as trade barriers are reduced Trade barriers were high in 1960s/70s. Initial steps toward free trade has big benefits in terms of efficiency Now barriers are fairly low. Lowering them further would not make production much more efficient –But would cause large “distributional effects” –Rodrik calculates that we must shift $50 in production to gain $51 in economic efficiency Ex: If we eliminate $50 in electronics manufacturing we could replace it with $51 in agricultural production Benefits might not be worth the disruption to the economy & to people’s lives

31. Reading: Rodrik So why doesn’t everyone love free trade? –3. Benefits of trade tend to harm the same people repeatedly Namely, those without high levels of education/skills –This differs from the technology analogy… technology doesn’t typically wipe out jobs for the same people over & over Example: Merchandise trade between Europe/United States & poor countries in Asia may be harming US manufacturing employment (Krugman articles) Rodrik points out: Unless a country has strong “safety nets” and job training, it is understandable that many would resist further reduction of trade barriers…

32. 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. Highly competitive export-oriented companies benefit from access to new markets –And, workers in those industries tend to benefit –5. Investors can invest where profits are big Ex: individuals, pension funds, Hedge funds –6. Companies that can get cheap credit from foreign banks

33. 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.

34. 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

35. 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.

36. 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

37. 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 designed to prevent the rapid withdrawal of capital/investment Example: Law requiring invested capital to remain in the country for one year –Thus, preventing rapid flows in and out.

38. 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.

39. 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…

40. 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

41. 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…

42. 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

43. Problems With Trade Agreements Rich/powerful countries have advantages in negotiating trade agreements –See: Stiglitz, Chapter 3 (optional section of reading) Some points to consider: 1. Advantages of Rich/powerful countries are biggest in bi-lateral trade negotiations Example: US vs. a small Latin American country US can bully, bring great pressure… Often, those turn out worse for poor countries than large multilateral agreements.

44. Problems With Trade Agreements 2. Rich/powerful countries disproportionately control the agenda of agreements “The United States and Europe have perfected the art of arguing for free trade, while simultaneously working for trade agreements that protect themselves against imports from developing countries.” Stiglitz Ch 3 p. 78. Topics addressed by FTAs benefit rich countries –Ex: focus has been on removing barriers for high-value goods & investment, not farm products or low-tech stuff And, rich countries are savvy at using dispute resolution procedures –They have lots of lawyers, using technicalities to block imports.

45. Problems With Trade Agreements 3. Government trade negotiators are often influenced by powerful groups Rather than negotiating for terms that will benefit everyone in a country, negotiators may cater to big corporations Example: Suppose Guatemala is negotiating over a tariff that limits big business, but protects jobs? –Companies may push the government to get rid of the tariff, even if many workers will be harmed…

46. Stiglitz: Making Trade Fair Stiglitz, Chapter 3: Recommendations –1. Developing countries should be treated differently from wealthy countries Previously, most trade agreements focused on equal treatment, but poor countries can’t really compete… –1. A. So, rich countries should simply open their economies to the poorest countries –This would have a much bigger effect than providing direct aid –NOTE: Europe has started moving in this direction –1. B. Poor countries should be allowed to use subsidies to support “infant industries” Rich countries have little to lose… but benefits are big.

47. Stiglitz: Recommendations: 2. Rich countries should stop MASSIVE agricultural subsidies –Rich countries give huge amounts of money to (mainly) industrial farms »Or purchase agricultural products to keep profits up EU spends >50 billion US$; US spends $20 billion/year Norway: two-thirds of farm income is from subsidies –Original purpose was to stabilize food supply –Now congresspeople & agro-industry lobbyists support them –Result: Farmers in rich countries can sell food at LOW prices and still make a profit Often below the cost of farmers in poor countries Farmers in poor countries can’t compete… go broke.

48. Stiglitz: Recommendations 3. Escalating tariffs should be ended Escalating tariffs: taxing manufactured products at higher rates than raw materials –Ex: Having no tariffs on raw agricultural goods, but high tariffs on higher-value processed goods –No tax on apples; high tax on applesauce Issue: This prevents poor countries from industrializing –They are stuck farming –While rich countries have cheap source of produce for their high-value industries.

49. Stiglitz: Recommendations 4. Remove barriers to unskilled services & migration Rich countries have pushed to remove barriers for high- tech services (banking, accounting, software) Barriers remain in low-skill services –Example: Shipping/trucking. Foreign companies aren’t allowed This is one area that poor countries could actually compete… Also, allowing more labor flows would provide a huge benefit to poor countries.

50. Stiglitz: Recommendations 5. Restrict the use of non-tariff barriers There are legitimate reasons for having them… BUT, more often they are used by rich countries to protect their own markets –Despite claims of supporting free trade 6. Restrict bi-lateral agreements They are rarely advantageous to poor countries –Due to asymmetry in power between negotiators And, they tend to undermine multilateral agreements

51. Stiglitz: Recommendations 7. Reform governance Change the rules of organizations like the WTO Issues (p. 97): –How decisions get made –What gets put on the agenda –How disagreements are resolved –How rules are enforced Currently, rules sometimes favor rich countries System should be more open/transparent, more democratic, with better enforcement for small countries.