The Truth About Trade

What Critics Get Wrong About the Global Economy

By Douglas A. Irwin, July/August 2016 Issue


Just because a U.S. presidential candidate bashes free trade on the campaign trail does not mean that he or she cannot embrace it once elected. After all, Barack Obama voted against the Central American Free Trade Agreement as a U.S. senator and disparaged the North American Free Trade Agreement (NAFTA) as a presidential candidate. In office, however, he came to champion the Trans-Pacific Partnership (TPP), a giant trade deal with 11 other Pacific Rim countries.

Yet in the current election cycle, the rhetorical attacks on U.S. trade policy have grown so fiery that it is difficult to imagine similar transformations. The Democratic candidate Bernie Sanders has railed against “disastrous” trade agreements, which he claims have cost jobs and hurt the middle class. The Republican Donald Trump complains that China, Japan, and Mexico are “killing” the United States on trade thanks to the bad deals struck by “stupid” negotiators. Even Hillary Clinton, the expected Democratic nominee, who favored the TPP as secretary of state, has been forced to join the chorus and now says she opposes that agreement.

Blaming other countries for the United States’ economic woes is an age-old tradition in American politics; if truth is the first casualty of war, then support for free trade is often an early casualty of an election campaign. But the bipartisan bombardment has been so intense this time, and has been so unopposed, that it raises real questions about the future of U.S. global economic leadership.

The anti-trade rhetoric paints a grossly distorted picture of trade’s role in the U.S. economy. Trade still benefits the United States enormously, and striking back at other countries by imposing new barriers or ripping up existing agreements would be self-destructive. The badmouthing of trade agreements has even jeopardized the ratification of the TPP in Congress. Backing out of that deal would signal a major U.S. retreat from Asia and mark a historic error.

Still, it would be a mistake to dismiss all of the anti-trade talk as ill-informed bombast. Today’s electorate harbors legitimate, deep-seated frustrations about the state of the U.S. economy and labor markets in particular, and addressing these complaints will require changing govern­ment policies. The solution, however, lies not in turning away from trade promotion but in strengthening worker protections.

By and large, the United States has no major difficulties with respect to trade, nor does it suffer from problems that could be solved by trade barriers. What it does face, however, is a much larger problem, one that lies at the root of anxieties over trade: the economic ladder that allowed previous generations of lower-skilled Americans to reach the middle class is broken.

SCAPEGOATING TRADE

Campaign attacks on trade leave an unfortunate impression on the American public and the world at large. In saying that some countries “win” and other countries “lose” as a result of trade, for example, Trump portrays it as a zero-sum game. That’s an understandable per­spective for a casino owner and businessman: gambling is the quin­tessential zero-sum game, and competition is a win-lose proposition for firms (if not for their customers). But it is dead wrong as a way to think about the role of trade in an economy. Trade is actually a two-way street—the exchange of exports for imports—that makes efficient use of a country’s resources to increase its material welfare. The United States sells to other countries the goods and services that it produces relatively efficiently (from aircraft to soybeans to legal advice) and buys those goods and services that other countries produce relatively efficiently (from T-shirts to bananas to electronics assembly). In the aggregate, both sides benefit.

To make their case that trade isn’t working for the United States, critics invoke long-discredited indicators, such as the country’s negative balance of trade. “Our trade deficit with China is like having a business that continues to lose money every single year,” Trump once said. “Who would do business like that?” In fact, a nation’s trade balance is nothing like a firm’s bottom line. Whereas a company cannot lose money indefinitely, a country—particularly one, such as the United States, with a reserve currency—can run a trade deficit indefinitely without compromising its well-being. Australia has run current account deficits even longer than the United States has, and its economy is flourishing.

One way to define a country’s trade balance is the difference between its domestic savings and its domestic investment. The United States has run a deficit in its current account—the broadest measure of trade in goods and services—every year except one since 1981. Why? Because as a low-saving, high-consuming country, the United States has long been the recipient of capital inflows from abroad. Reducing the current account deficit would require foreigners to purchase fewer U.S assets. That, in turn, would require increasing domestic savings or, to put it in less popular terms, reducing consumption. One way to accomplish that would be to change the tax system—for example, by instituting a consumption tax. But discouraging spending and rewarding savings is not easy, and critics of the trade deficit do not fully appreciate the difficulty involved in reversing it. (And if a current account surplus were to appear, critics would no doubt complain, as they did in the 1960s, that the United States was investing too much abroad and not enough at home.)

Trade still benefits the United States enormously.

Critics also point to the trade deficit to suggest that the United States is losing more jobs as a result of imports than it gains due to exports. In fact, the trade deficit usually increases when the economy is growing and creating jobs and decreases when it is contracting and losing jobs. The U.S. current account deficit shrank from 5.8 percent of GDP in 2006 to 2.7 percent in 2009, but that didn’t stop the economy from hemorrhaging jobs. And if there is any doubt that a current account surplus is no economic panacea, one need only look at Japan, which has endured three decades of economic stagnation despite running consistent current account surpluses.

And yet these basic fallacies—many of which Adam Smith debunked more than two centuries ago—have found a new life in contemporary American politics. In some ways, it is odd that anti-trade sentiment has blossomed in 2016, of all years. For one thing, although the post-recession recovery has been disappointing, it has hardly been awful: the U.S. economy has experienced seven years of slow but steady growth, and the unemployment rate has fallen to just five percent. For another thing, imports have not swamped the country and caused problems for domestic producers and their workers; over the past seven years, the current account deficit has remained roughly unchanged at about two to three percent of GDP, much lower than its level from 2000 to 2007. The pace of globalization, meanwhile, has slowed in recent years. The World Trade Organization (WTO) forecasts that the volume of world trade will grow by just 2.8 percent in 2016, the fifth consecutive year that it has grown by less than three percent, down significantly from previous decades.

What’s more, despite what one might infer from the crowds at campaign rallies, Americans actually support foreign trade in general and even trade agreements such as the TPP in particular. After a decade of viewing trade with skepticism, since 2013, Americans have seen it positively. A February 2016 Gallup poll found that 58 percent of Americans consider foreign trade an opportunity for economic growth, and only 34 percent viewed it as a threat.

THE VIEW FROM THE BOTTOM

So why has trade come under such strident attack now? The most important reason is that workers are still suffering from the aftermath of the Great Recession, which left many unemployed and indebted. Between 2007 and 2009, the United States lost nearly nine million jobs, pushing the unemployment rate up to ten percent. Seven years later, the economy is still recovering from this devastating blow. Many workers have left the labor force, reducing the employment-to-population ratio sharply. Real wages have remained flat. For many Americans, the recession isn’t over.

For many Americans, the recession isn’t over.

Thus, even as trade commands broad public support, a significant minority of the electorate—about a third, according to various polls—decidedly opposes it. These critics come from both sides of the poli­t­ical divide, but they tend to be lower-income, blue-collar workers, who are the most vulnerable to eco­nomic change. They believe that economic elites and the political establishment have looked out only for themselves over the past few decades. As they see it, the government bailed out banks during the financial crisis, but no one came to their aid.

For these workers, neither political party has taken their concerns seriously, and both parties have struck trade deals that the workers think have cost jobs. Labor unions that support the Democrats still feel betrayed by President Bill Clinton, who, over their strong objec­t­ions, secured congressional passage of NAFTA in 1993 and normalized trade relations with China in 2000. Blue-collar Republican voters, for their part, supported the anti-NAFTA presidential campaigns of Pat Buchanan and Ross Perot in 1992. They felt betrayed by President George W. Bush, who pushed Congress to pass many bilateral trade agreements. Today, they back Trump.

Among this demographic, a narrative has taken hold that trade has cost Americans their jobs, squeezed the middle class, and kept wages low. The truth is more complicated. Although imports have put some people out of work, trade is far from the most important factor behind the loss of manufacturing jobs. The main culprit is technology. Auto­mation and other technologies have enabled vast productivity and efficiency improvements, but they have also made many blue-collar jobs obsolete. One representative study, by the Center for Business and Economic Research at Ball State University, found that pro­ductivity growth accounted for more than 85 percent of the job loss in manufacturing between 2000 and 2010, a period when employment in that sector fell by 5.6 million. Just 13 percent of the overall job loss resulted from trade, although in two sectors, apparel and furniture, it accounted for 40 percent.

This finding is consistent with research by the economists David Autor, David Dorn, and Gordon Hanson, who have estimated that imports from China displaced as many as 982,000 workers in manufacturing from 2000 to 2007. These layoffs also depressed local labor markets in communities that produced goods facing Chinese competition, such as textiles, apparel, and furniture. The number of jobs lost is large, but it should be put in perspective: while Chinese imports may have cost nearly one million manufacturing jobs over almost a decade, the normal churn of U.S. labor markets results in roughly 1.7 million layoffs every month.

Research into the effect of Chinese imports on U.S. employment has been widely misinterpreted to imply that the United States has gotten a raw deal from trade with China. In fact, such studies do not evaluate the gains from trade, since they make no attempt to quantify the benefits to consumers from lower-priced goods. Rather, they serve as a reminder that a rapid increase in imports can harm communities that produce substitute goods—as happened in the U.S. automotive and steel sectors in the 1980s.

Furthermore, the shock of Chinese goods was a one-time event that occurred under special circumstances. Imports from China increased from 1.0 percent of U.S. GDP in 2000 to 2.6 percent in 2011, but for the past five years, the share has stayed roughly constant. There is no reason to believe it will rise further. China’s once-rapid economic growth has slowed. Its working-age population has begun to shrink, and the migration of its rural workers to coastal urban manu­facturing areas has largely run its course.

The influx of Chinese imports was also unusual in that much of it occurred from 2001 to 2007, when China’s current account surplus soared, reaching ten percent of GDP in 2007. The country’s export boom was partly facilitated by China’s policy of preventing the appreciation of the yuan, which lowered the price of Chinese goods. Beginning around 2000, the Chinese central bank engaged in a large-scale, persistent, and one-way intervention in the foreign exchange market—buying dollars and selling yuan. As a result, its foreign exchange reserves rose from less than $300 million in 2000 to $3.25 tril­lion in 2011. Critics rightly groused that this effort constituted currency manipulation and violated International Monetary Fund rules. Yet such complaints are now moot: over the past year, China’s foreign exchange reserves have fallen rapidly as its central bank has sought to prop up the value of the yuan. Punishing China for past bad behavior would accomplish nothing.

THE RIGHT—AND WRONG—SOLUTIONS

The real problem is not trade but diminished domestic opportunity and social mobility. Although the United States boasts a highly skilled work force and a solid technological base, it is still the case that only one in three American adults has a college education. In past decades, the two-thirds of Americans with no postsecondary degree often found work in manufacturing, construction, or the armed forces. These parts of the economy stood ready to absorb large numbers of people with limited education, give them productive work, and help them build skills. Over time, however, these opportunities have disappeared. Technology has shrunk manufacturing as a source of large-scale employ­ment: even though U.S. manufacturing output continues to grow, it does so with many fewer workers than in the past. Construction work has not recovered from the bursting of the housing bubble. And the military turns away 80 percent of applicants due to stringent fitness and intelligence requirements. There are no comparable sectors of the economy that can employ large numbers of high-school-educated workers.

The anti-trade rhetoric of the campaign has made it difficult for even pro-trade members of Congress to support new agreements.

This is a deep problem for American society. The unemployment rate for college-educated workers is 2.4 percent, but it is more than 7.4 percent for those without a high school diploma—and even higher when counting discouraged workers who have left the labor force but wish to work. These are the people who have been left behind in the twenty-first-century economy—again, not primarily because of trade but because of structural changes in the economy. Helping these workers and ensuring that the economy delivers benefits to everyone should rank as urgent priorities.

But here is where the focus on trade is a diversion. Since trade is not the underlying problem in terms of job loss, neither is protectionism a solution. While the gains from trade can seem abstract, the costs of trade restrictions are concrete. For example, the United States has some 135,000 workers employed in the apparel industry, but there are more than 45 million Americans who live below the poverty line, stretching every dollar they have. Can one really justify increasing the price of clothing for 45 million low-income Americans (and everyone else as well) in an effort to save the jobs of just some of the 135,000 low-wage workers in the apparel industry?

Like undoing trade agreements, imposing selective import duties to punish specific countries would also fail. If the United States were to slap 45 percent tariffs on imports from China, as Trump has proposed, U.S. companies would not start producing more apparel and footwear in the United States, nor would they start assembling consumer electronics domestically. Instead, production would shift from China to other low-wage developing countries in Asia, such as Vietnam. That’s the lesson of past trade sanctions directed against China alone: in 2009, when the Obama administration imposed duties on automobile tires from China in an effort to save American jobs, other suppliers, principally Indonesia and Thailand, filled the void, resulting in little impact on U.S. production or jobs.

And if restrictions were levied against all foreign imports to prevent such trade diversion, those barriers would hit innocent bystanders: Canada, Japan, Mexico, the EU, and many others. Any number of these would use WTO procedures to retaliate against the United States, threatening the livelihoods of the millions of Americans with jobs that depend on exports of manufactured goods. Trade wars produce no winners. There are good reasons why the very mention of the 1930 Smoot-Hawley Tariff Act still conjures up memories of the Great Depression.

Ripping up NAFTA would do immense damage.

If protectionism is an ineffectual and counterproductive response to the economic problems of much of the work force, so, too, are existing programs designed to help workers displaced by trade. The standard package of Trade Adjustment Assistance, a federal program begun in the 1960s, consists of extended unemployment compensation and retraining programs. But because these benefits are limited to workers who lost their jobs due to trade, they miss the millions more who are unemployed on account of technological change. Furthermore, the program is fraught with bad incentives. Extended unemployment compensation pays workers for prolonged periods of joblessness, but their job prospects usually deteriorate the longer they stay out of the labor force, since they have lost experience in the interim.

And although the idea behind retraining is a good one—helping laid-off textile or steel workers become nurses or technicians—the actual program is a failure. A 2012 external review commissioned by the Department of Labor found that the government retraining programs were a net loss for society, to the tune of about $54,000 per participant. Half of that fell on the participants themselves, who, on average, earned $27,000 less over the four years of the study than similar workers who did not find jobs through the program, and half fell on the government, which footed the bill for the program. Sadly, these programs appear to do more harm than good.

A better way to help all low-income workers would be to expand the Earned Income Tax Credit. The EITC supplements the incomes of workers in all low-income households, not just those the Depart­ment of Labor designates as having been adversely affected by trade. What’s more, the EITC is tied to employment, thereby rewarding work and keeping people in the labor market, where they can gain experience and build skills. A large enough EITC could ensure that every American was able to earn the equivalent of $15 or more per hour. And it could do so without any of the job loss that a minimum-wage hike can cause. Of all the potential assistance programs, the EITC also enjoys the most bipartisan support, having been endorsed by both the Obama administration and Paul Ryan, the Republican Speaker of the House. A higher EITC would not be a cure-all, but it would provide income security for those seeking to climb the ladder to the middle class.

The main complaint about expanding the EITC concerns the cost. Yet taxpayers are already bearing the burden of supporting workers who leave the labor force, many of whom start receiving disability payments. On disability, people are paid—permanently—to drop out of the labor force and not work. In lieu of this federal program, the cost of which has surged in recent years, it would be better to help people remain in the work force through the EITC, in the hope that they can eventually become taxpayers themselves.

THE FUTURE OF FREE TRADE

Despite all the evidence of the benefits of trade, many of this year’s crop of presidential candidates have still invoked it as a bogeyman. Sanders deplores past agreements but has yet to clarify whether he believes that better ones could have been negotiated or no such agreements should be reached at all. His vote against the U.S.-Australian free-trade agreement in 2004 suggests that he opposes all trade deals, even one with a country that has high labor standards and with which the United States runs a sizable balance of trade surplus. Trump professes to believe in free trade, but he insists that the United States has been outnegotiated by its trade partners, hence his threat to impose 45 percent tariffs on imports from China to get “a better deal”—whatever that means. He has attacked Japan’s barriers against imports of U.S. agricultural goods, even though that is exactly the type of pro­tectionism the TPP has tried to undo. Meanwhile, Clinton’s position against the TPP has hardened as the campaign has gone on.

The response from economists has tended to be either meek defenses of trade or outright silence, with some even criticizing parts of the TPP. It’s time for supporters of free trade to engage in a full-throated championing of the many achievements of U.S. trade agreements. Indeed, because other countries’ trade barriers tend to be higher than those of the United States, trade agreements open foreign markets to U.S. exports more than they open the U.S. market to foreign imports.

That was true of NAFTA, which remains a favored punching bag on the campaign trail. In fact, NAFTA has been a big economic and foreign policy success. Since the agreement entered into force in 1994, bilateral trade between the United States and Mexico has boomed. For all the fear about Mexican imports flooding the U.S. market, it is worth noting that about 40 percent of the value of imports from Mexico consists of content originally made in the United States—for example, auto parts produced in the United States but assembled in Mexico. It is precisely such trade in component parts that makes standard measures of bilateral trade balances so misleading.

NAFTA has also furthered the United States’ long-term political, diplomatic, and economic interest in a flourishing, democratic Mexico, which not only reduces immigration pressures on border states but also increases Mexican demand for U.S. goods and services. Far from exploiting Third World labor, as critics have charged, NAFTA has promoted the growth of a middle class in Mexico that now includes nearly half of all households. And since 2009, more Mexicans have left the United States than have come in. In the two decades since NAFTA went into effect, Mexico has been transformed from a clientelistic one-party state with widespread anti-American sentiment into a functional multiparty democracy with a generally pro-American public. Although it has suffered from drug wars in recent years (a spillover effect from problems that are largely made in America), the overall story is one of rising prosperity thanks in part to NAFTA.

Ripping up NAFTA would do immense damage. In its foreign relations, the United States would prove itself to be an unreliable partner. And economically, getting rid of the agreement would disrupt production chains across North America, harming both Mexico and the United States. It would add to border tensions while shifting trade to Asia without bringing back any U.S. manufacturing jobs. The American public seems to understand this: in an October 2015 Gallup poll, only 18 percent of respondents agreed that leaving NAFTA or the Central American Free Trade Agreement would be very effective in helping the economy.

A more moderate option would be for the United States to take a pause and simply stop negotiating any more trade agreements, as Obama did during his first term. The problem with this approach, however, is that the rest of the world would continue to reach trade agreements without the United States, and so U.S. exporters would find themselves at a disadvantage compared with their foreign competitors. Glimpses of that future can already be seen. In 2012, the car manufacturer Audi chose southeastern Mexico over Tennessee for the site of a new plant because it could save thousands of dollars per car exported thanks to Mexico’s many more free-trade agreements, including one with the EU. Australia has reached trade deals with China and Japan that give Australian farmers preferential access in those markets, cutting into U.S. beef exports.

If Washington opted out of the TPP, it would forgo an opportunity to shape the rules of international trade in the twenty-first century. The Uruguay Round, the last round of international trade negotiations completed by the General Agreement on Tariffs and Trade, ended in 1994, before the Internet had fully emerged. Now, the United States’ high-tech firms and other exporters face foreign regulations that are not transparent and impede market access. Meanwhile, other countries are already moving ahead with their own trade agreements, increasingly taking market share from U.S. exporters in the dynamic Asia-Pacific region. Staying out of the TPP would not lead to the creation of good jobs in the United States. And despite populist claims to the contrary, the TPP’s provisions for settling disputes between investors and governments and dealing with intellectual property rights are reasonable. (In the early 1990s, similar fears about such provisions in the WTO were just as exaggerated and ultimately proved baseless.)

The United States should proceed with passage of the TPP and continue to negotiate other deals with its trading partners. So-called plurilateral trade agreements, that is, deals among relatively small numbers of like-minded countries, offer the only viable way to pick up more gains from reducing trade barriers. The current climate on Capitol Hill means that the era of small bilateral agreements, such as those pursued during the George W. Bush administration, has ended. And the collapse of the Doha Round at the WTO likely marks the end of giant multilateral trade negotiations.

Free trade has always been a hard sell. But the anti-trade rhetoric of the 2016 campaign has made it difficult for even pro-trade members of Congress to support new agreements. Past experience suggests that Washington will lead the charge for reducing trade barriers only when there is a major trade problem to be solved—namely, when U.S. exporters face severe discrimination in foreign markets. Such was the case when the United States helped form the General Agreement on Tariffs and Trade in 1947, when it started the Kennedy Round of trade negotiations in the 1960s, and when it initiated the Uruguay Round in the 1980s. Until the United States feels the pain of getting cut out of major foreign markets, its leadership on global trade may wane. That would represent just one casualty of the current campaign.

January 16, 2019
by @goshan
0
1

The Bogus Backlash to Globalization

Resentful Nativists Oppose Free Trade and Immigration—Don’t Appease Them

By Charles Kenny, November 9, 2018


The last two years have seen an outbreak of self-abnegation among former advocates of globalization, who wonder if their cosmopolitan views on migration and free trade might have helped deliver the White House to U.S. President Donald Trump. In turn, longtime critics of globalization on the left have crowed at this apparent admission of defeat. Both camps have suggested that the backlash Trump represents is understandable and that internationalists should do more to accommodate an electorate that has turned against global engagement.

Yet both camps misunderstand Trump’s electoral success. The voters who were won over by his antiglobalist message were not legitimate victims of globalization. Many, if not most, were and are older white supporters of patriarchy who resent people with dark skin, especially those from other countries. Although it might be inexpedient to call this group deplorable, a program of appeasement toward their views is wrong—economically, politically, and morally. Globalization has been an overwhelmingly positive force for the United States and the rest of the world. Instead of apologizing for themselves, it is time for internationalists to take the fight to an aging minority of nativists and wall builders.

THE BLESSINGS OF GLOBALIZATION

Backlash appeasers have a number of thoughtful and influential voices on their side. Many are former champions of globalization who worry that it has moved too fast. The Financial Times commentator Edward Luce, for instance, suggested in his 2017 book, The Retreat of Western Liberalism, that by promoting globalization, “the world’s elites have helped provoke what they feared: a populist uprising against the world economy.” To save the liberal project, he argued, we must abandon “the drive to deep globalization.” Former U.S. Treasury Secretary Lawrence Summers has similarly warned of “a growing suspicion on the part of electorates that globalization is an elite project that primarily benefits elites.”

Other members of this chorus are liberals and left-wingers who have long been critical of free trade and who see Trump’s election as a vindication. In a March article for The American Prospect, the liberal journalist Robert Kuttner claimed that “elites of both parties won the policy debates on trade, but lost the people.” According to Kuttner, “the more that bien pensants double down on globalization, the more defections they invite and the more leaders like Trump we get.” The author John Judis took to The New York Times to criticize the left for ignoring the emotional appeal of nationalism, arguing that low-skilled immigration and China’s unfair trading practices had hurt American workers, helping to “create a new class of angry ‘left-behinds’” who were susceptible to Trump’s message.

These arguments are misguided. They severely overstate both the number of Americans hurt by globalization and the depth of the popular backlash to it. Regarding immigration, it is very hard to find evidence of a single demographic or regional grouping of U.S. citizens that has been harmed. In a 2015 paper, the economists Gaetano Basso and Giovanni Peri looked at 30 years of data on labor market outcomes in the United States and concluded that increases in immigrant labor, both in aggregate and by skill group, either increase native wages and employment or are simply uncorrelated with them. Conversely, Trump’s plan to end work permits for the spouses of H1-B visa holders could cost the U.S. economy $2.1 billion per year, according to the economists Ayoung Kim, Brigitte S. Waldorf, and Natasha T. Duncan.

On trade, there is reasonable analysis suggesting that increased competition arising from imports, for all of its overall benefits, can hurt employment in particular communities and sectors. In an influential series of papers, the economists David H. Autor, David Dorn, and Gordon H. Hanson argued that China’s accession to the World Trade Organization (WTO) in 2001 had a negative impact on local U.S. labor markets exposed to Chinese competition. For at least a full decade after the “China trade shock,” they claimed, these labor markets—many of which had depended on manufacturing—saw higher unemployment, lower wages, and depressed labor force participation rates.

But critics of the studies point out that their conclusions fail to account for a few important facts. First, increased trade with China allowed U.S. firms to import cheaper materials, lowering their own costs and enabling them to expand production; and second, China’s accession to the WTO increased U.S. exports to China, as well as other countries. Looking beyond just China, research by the economists Robert C. Feenstra and Akira Sasahara suggests that between 1995 and 2011, growth in U.S. exports worldwide led to 6.6 million new U.S. jobs, including 1.9 million jobs in manufacturing—more than the jobs lost owing to global import competition. And although an estimated two million U.S. jobs were lost because of competition from Chinese imports over those 15 years, the U.S. economy saw about 1.9 million layoffs and discharges each month during the first decade of the twenty-first century. Manufacturing job losses to China are in the headlines not because they are a major source of terminations but because they make a good story for those who oppose global engagement.

Furthermore, looking only at the production side of the economy ignores the considerable benefits that consumers—particularly poor consumers—derive from cheaper goods. According to a study by Pablo D. Fajgelbaum and Amit K. Khandelwal of the National Bureau of Economic Research, poor people spend more of their income on goods, while the rich spend more on services, which are less tradable; for this reason, if the United States moved to end imports, the poorest ten percent of American consumers would see their buying power decline by 82 percent, compared with a decline of only 50 percent for the median consumer.

Most Americans recognize the economic benefits of trade and migration to the country. Contrary to the backlash thesis, globalization is more popular now than ever before. Since 1992, Gallup has asked if trade is primarily an opportunity for economic growth or a threat to the economy. For 23 years, the proportion suggesting it was primarily an opportunity never rose above 56 percent; in 2017 and 2018, it exceeded 70 percent. And since 1965, Gallup has asked Americans if immigration should be increased, decreased, or kept at the present level. The proportion favoring an increase or sustained rate, at 68 percent, has never been higher, nor has the proportion calling for a decrease (29 percent) ever been lower.

WHITE FRIGHT

But if the economic benefits of globalization are widely understood, a minority sees it as a cultural threat. This is what explains the supposed backlash. Public opinion surveys from the Public Religion Research Institute (PRRI) suggest that 34 percent of all Americans feel that the growing number of immigrants threatens traditional American values and customs. But only 19 percent of those aged 18 to 29 feel that way, compared with 44 percent of those over the age of 65 and 53 percent of white evangelical Protestants of all ages. Similarly, the political scientists Diana C. Mutz, Edward D. Mansfield, and Eunji Kim found that whites are consistently less supportive of trade deals than are members of other racial groups. They attribute this imbalance to whites’ “heightened sense of national superiority” and ethnocentrism. If markers of economic hardship—such as low education, skills, or wages—determined opinions on trade (or migration), minorities would be the ones opposed. In fact, the reverse is true.

Some evidence does suggest that migration and trade flows may influence communities to vote Republican. Autor, Dorn, and Hanson argue that between 2000 and 2016, areas in which employment was concentrated in the industries that faced the most competition from Chinese imports tended to shift toward the Republicans. And the economists Anna Maria Mayda, Giovanni Peri, and Walter Steingress analyzed county-level data, finding that between 1990 and 2010, high-skilled immigration to a county decreased the overall share of the Republican vote while low-skilled immigration increased it.

What is considerably harder to see is how such factors could explain Trump’s increased vote share relative to the Republicans’ 2012 presidential candidate, Mitt Romney. Survey evidence suggests the American electorate recognized that the 2016 presidential candidates, Trump and Hillary Clinton, presented them with a clearer choice on trade and migration policy than had Barack Obama and Romney four years earlier. But voters’ exposure to globalization was not related to the size of their swing toward the Republican candidate between 2012 and 2016. Cultural factors were.

The Gallup economists Jonathan T. Rothwell and Pablo Diego-Rosell, for instance, found “no link whatsoever” between greater exposure to trade competition or immigrant workers and greater support for Trump. They did find a particularly large swing to Trump in counties with a high share of old white residents with only a high school education. And Diana Mutz found that people who felt that “the American way of life is threatened,” or who believed whites and men were more oppressed than women or minorities, were significantly more likely to switch to Trump than those who did not. In short, the voters who bought Trump’s rhetoric on trade and migration were those who were culturally attuned to his message.

Indeed, a significant proportion of Republican partisans have decided that white Christian men are the new oppressed. A PRRI survey in February 2017 found that 43 percent of Republicans felt there was a lot of discrimination against whites, and 48 percent thought there was a lot of discrimination against Christians, compared with only 27 percent who thought there was a lot of discrimination against blacks. Given the gap between black and white families in terms of both median income and median wealth, such thinking is delusional. But many whites, Mutz notes, fear that they will soon become a minority within the United States and feel that the country as a whole is losing its global dominance. This sense of lost national status and persecution fueled support for Trump.

NO RETREAT, NO SURRENDER

When regretful internationalists talk about pausing globalization to save it, the group they cater to is not the “left-behind” but older, bigoted whites who are unreconciled to the cultural changes of recent decades. It would be both ethically repugnant and politically and economically unwise to pander to them.

Politically unwise because theirs is a minority view that is dying; economically suicidal because for all that old white men are delusional about facing discrimination at home, they are absolutely correct regarding the United States’ slipping status as a superpower. That is why it is particularly urgent for the country to lock in fair global regimes while it still has the leverage to do so. This means playing by the rules of the WTO and taking those immigrants who still want to come to the United States. Ironically, immigration is particularly important for aging whites themselves: although non-Hispanic whites will become a minority of the overall population within the next three decades, they will still make up 60 percent of people over the age of 65 in 2050. They will need young immigrant workers to keep Social Security and Medicare solvent. Add to these political and economic motives an ethical one: globalization has been the most powerful force ever for lifting humanity out of destitution.

Related: How to Save Globalization

Globalization has been imperfectly managed, and a new push for fairer global engagement should involve reforms, including better regulation of capital markets, limits on intellectual monopolies such as patents and copyrights, and cooperation on tax havens to ensure that corporations and rich individuals pay their share for public services. Strong international agreements are urgently needed on issues such as climate change and data privacy. And a raft of domestic measures could increase both equality and productivity in the United States: tightening lax controls on market concentration, slashing limits to affordable housing in job-rich areas, reducing the barrier to entry that unnecessary licensing imposes on small businesses, reforming a banking system that bails out irresponsible institutional investors, and doing more to help Americans who lose their jobs, for whatever reason.

But one thing that won’t help is for liberals to legitimize the backlash to globalization. Those who do so are useful patsies for Trump, allowing him to channel racial resentment into tax cuts for the rich. Responding to a group of people who think that white male Christians are discriminated against, or that the rest of the world getting richer is something for Americans to fear rather than celebrate, is admittedly hard. But whatever the reaction to the nativist rage of old white men, it cannot be appeasement.

January 16, 2019
by @goshan
0
1

How to Save Globalization

Rebuilding America’s Ladder of Opportunity

By Kenneth F. Scheve and Matthew J. Slaughter, November/December 2018 Issue


We live in a time of protectionist backlash. U.S. President Donald Trump has started a trade war with China, upended the North American Free Trade Agreement, imposed tariffs on the United States’ closest allies, withdrawn from the Trans-Pacific Partnership, and talked endlessly about building a wall on the U.S.-Mexican border. But the backlash against globalization goes far beyond Trump himself. In fact, his presidency is more a symptom of it than its cause. Even as they may decry Trump’s particular methods, many voters and politicians in both parties approve of his objectives.

By now, it is well known that this backlash followed a dramatic rise in inequality in the United States. Whether one looks at the percentage of income going to the highest earners (the top ten percent earn 47 percent of national income now, versus 34 percent in 1980), differences in income across educational groups (the premium that college-educated workers earn over high-school-educated workers nearly doubled over the same period), or stagnating real wage performance for many workers (the median real weekly wages for men working full time have not grown at all since 1980), the United States has become markedly more unequal over the past four decades. That period was also characterized by rapid globalization and technological change, which, as a large body of research demonstrates, helped increase inequality.

Still, the strength of the backlash continues to take many observers by surprise. That’s because focusing only on the increase in income inequality misses the full extent of the dissatisfaction driving the reaction. For many Americans, a deteriorating labor market brings not just lower wages and less job security; it also cuts to the heart of their sense of dignity and purpose and their trust and belief in their country. That is especially true for those workers who can no longer provide for their family’s basic needs or have dropped out of the labor market altogether. In a series of recent studies we conducted in communities across the United States, we heard the same sentiments from a range of respondents in a variety of circumstances: anxiety and anger about globalization and change that was not related to income alone but more broadly concerned whether Americans can still secure meaningful roles in their families and communities. 

Related: The Bogus Backlash to Globalization

There is good reason to find a way to counter the backlash: it threatens to reverse a trend toward global openness and integration that, even with its drawbacks, has delivered real gains in the United States and around the world while bringing global inequality—as opposed to inequality within countries—to its lowest level in centuries. But because the problem goes beyond income inequality, the usual policy solutions are inadequate. It is not enough simply to redistribute income to financially compensate the losers from globalization. Addressing the backlash requires giving all Americans the tools they need to carve out the sense of security and purpose they have lost amid change.

That can happen only if the United States completely transforms the way it invests in and builds human capital. No longer can those efforts be limited mostly to the early years of a person’s life, with minimal public expenditures. The country needs to rethink the role of government in developing human capital and invest substantially in doing so. The goal must be to erect a lifelong ladder of opportunity that goes from early childhood education to employment-based training throughout an individual’s working life—saving globalization in a way that appeals to people from across the political spectrum.

NO NEW DEAL

Just over a decade ago, we argued in this magazine that stagnant income growth among American workers was leading to a protectionist drift in public policy. As we saw it, “a New Deal for globalization,” with a significant income redistribution that would allow globalization’s gains to be shared more widely, was required to prevent a harmful backlash. 

There was, of course, no such deal. Instead, what followed was the financial crisis and a set of inadequate policy responses to globalization and technological change. The stew of vast success for a few, uneasy stagnation for the great majority, and an actual decline for many others came to a boil in the 2016 election. Leading presidential candidates for both parties called for less globalization, not more.

Our diagnosis a decade ago emphasized that income growth in the United States had become extremely skewed. That trend has continued. From 2000 through 2016, the inflation-adjusted total money income (the broadest official measure of worker compensation) of most Americans fell. The only two educational categories to enjoy an increase were workers with advanced professional degrees and those with doctorates. For the vast majority of American workers, earnings fell: by 0.7 percent for high school graduates and high school dropouts, by 7.2 percent for those with some college, by 4.3 percent for college graduates, and by 5.5 percent for those with a nonprofessional master’s degree. In 2016, the median household’s real income stood at $59,039—only $374 higher than it had been a generation earlier, in 1999.

Both globalization and technological change have contributed to this trend. (The financial crisis exacerbated the effects: because of the plunge in home prices, the net worth of the median U.S. household in 2016 was 30 percent less than it was in 2007.) As research by David Autor, David Dorn, and Gordon Hanson found, about 40 percent of the decline in U.S. manufacturing employment between 2000 and 2007 was due to surging U.S. imports from China—with persistent income losses in the communities most exposed to this trade competition. Of course, technology has also played a role. But so far, the backlash has focused on globalization, at least in part because citizens see technological change as both inevitable and fair—and globalization as neither. 

IDENTITY AND FAIRNESS

Even as income inequality has grown over the past decade, it explains only part of the anxiety and dissatisfaction. Changes in labor markets have undermined people’s ability to fulfill their expected roles in their families and their communities. And so people have grown angry at globalization for eroding both their identity and their basic sense of fairness.

People care not just about their absolute levels of income but also about their incomes over time—relative to their expectations and relative to what their parents made and other reference points. In the United States today, fewer children are growing up to earn more than their parents. For the cohort of Americans born in 1940, more than 90 percent earned more at age 30 than their parents did at the same age. For the cohort of Americans born in 1984, this share had fallen to barely 50 percent. Moreover, a growing number of Americans have stopped seeking work altogether. Labor-market participation, especially among the groups with stagnant incomes, has fallen dramatically in recent years. From 1970 to 2015, among American men with only a high school degree, the labor-force participation rate fell from 98 percent to 85 percent. For American male high school dropouts, that rate fell from 94 percent to 79 percent.

The human consequences of these changes have been devastating. The economists Anne Case and Angus Deaton have shown that many of the groups with the poorest labor-market outcomes (and non-Hispanic whites without a college degree, in particular) have seen their health deteriorate markedly, with surging “deaths of despair”—suicide, drug overdoses, alcohol poisoning—raising overall mortality rates. Other researchers have connected trade-induced income changes to poor health; Justin Pierce and Peter Schott, for example, have shown that counties whose economic structures gave them greater exposure to Chinese competition had higher rates of suicide. 

There has also been growing inequality across physical space. For most of American history, different regions have grown more equal in relation to one another over time, as firms and workers have taken advantage of variations in cost. But more recently, this convergence has slowed or reversed. As the value of new ideas has dramatically increased, the value of living or locating a business in a large, high-talent city has grown; an accumulating body of research shows that workers are more productive when they are surrounded by other highly skilled workers. The metropolitan areas already doing well have thus started to do even better, while areas that are suffering have had a harder time catching up.

As of 2016, there were 53 metropolitan areas in the United States with a population of at least one million. From 2010 through 2016, their output grew by an average of more than 14 percent, compared with under seven percent for cities with populations under 250,000. Total employment in the largest cities grew by 15 percent, compared with just four percent in small cities and two percent in rural areas. Those 53 cities have accounted for 93 percent of the United States’ population growth over the past decade, even though they account for only 56 percent of the overall population. From 2010 through 2016, they also accounted for about two-thirds of total GDP growth and nearly three-quarters of total job growth. And even among the largest cities, there has been growing divergence. Over the last three and a half decades, the difference in GDP per capita between the ten wealthiest and the ten poorest large cities more than doubled in real dollars. 

Amid such divergences, Americans have lost faith in the future. For decades, The Wall Street Journal and NBC have periodically asked, “Do you feel confident or not confident that life for our children’s generation will be better than it has been for us?” Even during the two recessions that preceded the financial crisis (in 1990 and 2001), more Americans said they felt confident than said they felt not confident in their children’s future. But more recently, that confidence has evaporated. Even in August 2017—the start of the ninth year of the current economic recovery—nearly twice as many Americans were not confident about the future as were confident. 

THE CASE FOR GLOBALIZATION

If the backlash against globalization is driven by such developments, that does not mean that simply letting the backlash proceed—shutting down trade, cutting off imports, putting up walls—will solve the underlying problems. Despite its very real role in increasing inequality, globalization does, as its champions argue, still do more good than harm. The United States’ connections to the global economy through trade, investment, and immigration have spurred gains for millions of American workers, families, and communities that, in total, exceed the losses. One study by the Peterson Institute for International Economics estimated that U.S. national output and income today would be about ten percent lower had the United States not liberalized international trade and investment as it did over the past two generations.

A United States that is cut off from the world would be a less prosperous place. An economy behind walls must generate its own ideas, technologies, and techniques rather than relying on innovations from around the world. It must provide its own savings for investment in new ideas and opportunities rather than tapping into savings abroad. And it must produce all its own goods and services rather than specializing in its particular strengths.

Saving globalization requires restoring to tens of millions of Americans the dignity and the trust and faith in the United States that they have lost.

Indeed, the research shows that global engagement is correlated with innovation—which, by driving productivity, is the key factor in raising incomes. Companies that export and import or are part of a multinational enterprise tend to outperform their purely domestic counterparts, and global companies pay higher wages. Consider the performance of U.S.-based multinational companies. In 2015 (the last year for which data are available), they spent $700 billion on new capital investment, 43 percent of all private-sector nonresidential investment in the United States; exported $794 billion worth of goods, 53 percent of all U.S. goods exported; and spent $284 billion on research and development, a remarkable 79 percent of total U.S. private-sector R & D. That translates directly into good jobs. In 2015, U.S. multinationals employed 28 million Americans (making up 23 percent of all private-sector jobs), paying them a third more than the average private-sector job. And contrary to conventional wisdom, academic research has repeatedly found that expansion abroad in these companies’ foreign affiliates tends to create jobs in their U.S. parents, not destroy them.

Perhaps the most immediate and long-lasting damage from walling off the United States would come from new restrictions on the immigration of high-skilled workers. Immigrants have long made substantial contributions to American innovation. Immigrants, only 13 percent of all U.S. residents today, made up 39 percent of the U.S.-resident Nobel Prize winners in chemistry, medicine, and physics over the past 20 years; 31 percent of the U.S.-resident Nobel winners in all categories during that time; and 37 percent of all the U.S.-based MacArthur Foundation “genius award” winners since 2000. One recent study by the Kauffman Foundation concluded that immigrants accounted for 25 percent of all new high-tech companies founded from 2006 through 2012. As of 2017, immigrants or their children had founded 43 percent of Fortune 500 companies.

On top of the economic case for saving globalization, there is a national security case. Open markets contribute to peaceful relations between countries by raising the costs of military disputes. As trade fosters economic development, it also contributes to greater state capacity and political stability, preventing civil conflict and state failure, which can create the conditions for terrorism and other threats. And the United States’ outsized role in launching and governing institutions such as the International Monetary Fund and the World Trade Organization has projected U.S. power and values in peaceful ways unprecedented in world history. 

A LIFELONG LADDER OF OPPORTUNITY

If globalization has substantial benefits but is contributing to the problem of growing inequality, what can be done? The political establishment is offering Americans three alternatives: the status quo, walls that limit engagement with the world, and income redistribution. The status quo sparked the backlash and thus will only further inflame it. Walls will leave the country poorer and less secure.

Redistribution should be part of the solution. It is a policy we recommended a decade ago, when we proposed making the U.S. tax system more progressive by eliminating payroll taxes for all workers earning below the median income while requiring high earners to pay the tax on a greater percentage of their income. But redistribution is not sufficient, because the problem extends beyond money.

Saving globalization requires restoring to tens of millions of Americans the dignity and the trust and faith in the United States that they have lost. This, in turn, requires building a lifelong ladder of opportunity that will give all citizens the human capital needed to adapt to the forces of globalization. Such a ladder would not guarantee success for everyone. But it is human capital, more than any other asset, that determines an individual’s chances of thriving in a dynamic economy. The United States should expand its investments in human capital at every stage of every American’s life.

The first rung of this ladder should be a collection of early childhood education programs for every American child from birth to kindergarten, funded by the federal government and based on evidence of what works. Recent research confirms the enormous private and social gains from investing in children’s human capital—and, conversely, the costs of neglecting to do so. A series of studies by the Nobel laureate James Heckman and other researchers, for example, looked at two early childhood interventions in North Carolina and concluded that the benefits were seven times as large as the costs. 

Today, there are about 25 million children in the United States between the ages of zero and five. Every one of these children should each year receive an average of $4,000 worth of early childhood programming, for a total annual fiscal cost of about $100 billion. This programming should focus on activities that have well-documented cognitive benefits, including classroom instruction for parents on language development and high-quality prekindergarten childcare. 

The second rung of the ladder of opportunity should be federal funding for two years of community-college tuition for every high school graduate who is not pursuing a bachelor’s degree, which would ensure that each could earn an associate’s degree. The economic case for this is compelling. In the United States today, the median lifetime earnings of a high school graduate is about $1.3 million in constant dollars. The figure for someone with an associate’s degree is $1.7 million, nearly a third higher. That additional $400,000 in income comes from spending only about $30,000 on the typical two-year associate’s degree—a substantial return on investment, which is even larger for many in-demand programs, such as radiation therapy. 

Last year, about 1.6 million of the United States’ 2.9 million high school graduates did not go on to a four-year college or university. Every one of them should receive full tuition, limited income support, and assistance for other related costs to attend a two-year community college, for a total annual cost to the federal government of about $50 billion. Providing income support and covering other costs beyond just tuition are important to substantially boost graduation rates, which are widely acknowledged to be far too low. (This investment would more directly address the needs of those most harmed by globalization than would current proposals to make four-year public colleges tuition free.)

The third rung should be a lifetime training scholarship for every working American who does not have a four-year college degree. Each person would get $10,000 a decade through his or her 20s, 30s, 40s, and 50s for use as a tax credit by his or her employer to invest in that person’s skills. Eligible investments would include online courses, in-person programs at local colleges, and in-house training crafted by the employer.

Rather than rely on the ability of the government or higher education institutions to identify the skills needed by workers across the U.S. labor force, this program would harness the insights that businesses uniquely have about which skills they need the most. (Since the program would be available to every worker without a college degree, the stigma that has been attached to many similar training programs would be removed; those programs often fail to boost earnings because companies infer that individuals chosen for them suffer from some shortcoming.) Companies should prove willing to make these once-a-decade, $10,000 investments in their employees because of the tax credit and because of the competitive pressures. Today, there are about 100 million U.S. workers who never graduated from college. With a tax credit of up to $10,000 per decade for every one of these workers, about ten million of whom can be expected to take up the scholarship a year, the annual price tag would be about $100 billion.

The three rungs together would cost the U.S. government about $250 billion each year, which would represent the largest federal investment in human capital in American history. (For comparison’s sake, the 2018 budget of the U.S. Department of Education is $68 billion.) But there is a way to fund this new federal spending. First, Congress could reverse the 2017 tax cuts for individuals, which are estimated to have cost the government an annual average of over $125 billion in revenue. Second, it could partially cut the exemption that allows employers to deduct the money they spend on health insurance premiums from their taxable income—an exemption that costs the federal government $250 billion a year in lost revenue. That exemption is both regressive, in that it benefits high-income taxpayers more than low-income ones, and economically inefficient, in that it fuels higher health-care costs. There are, of course, other ways to come up with $250 billion. The important point is that this investment in the human capital of Americans would be not just feasible but also economically productive. 

BEYOND BACKLASH

There is good reason to think that Americans will see a lifelong ladder of opportunity as a response both suited to the problem and in line with their particular goals and values—giving it a chance to help reestablish a political consensus in favor of globalization. We recently conducted a representative online survey of over 5,000 U.S. adults across the country and asked them to think about how the U.S. economy could better deliver good jobs and incomes in today’s world. We presented three broad policy options.

The first was walls: “Implement policies that reduce international trade, prevent firms from going overseas, and decrease immigration.” The second, safety nets: “Adopt new policies that substantially tax those firms and individuals that benefit from globalization and then spend the new revenue on government income programs for everyone else.” And the third, ladders: “Adopt new policies that substantially tax those firms and individuals that benefit from globalization and then spend the new revenue on programs—for example, training and education—that provide more people with greater opportunity to benefit from globalization.” The third option, ladders, was overwhelmingly the preferred strategy: 45 percent of respondents selected it, versus just 29 percent opting for walls and 26 percent choosing safety nets. 

We also held focus groups in several cities and asked about the preference for ladders. Several points stood out in the discussions. First, participants emphasized that globalization does make significant contributions to overall growth. “I think the whole economy has become a world economy, so I don’t think you can start cutting off international trade,” said one respondent. “It’s going to hurt everybody.” Many also expressed ambivalence about programs that redistribute income, articulating a desire to help those in need but also concerns about the fairness and incentive effects of such programs; some of these respondents also stressed that such programs can sometimes generate as much resentment as globalization itself. 

Most important, a majority of the members of these focus groups recognized the ladders strategy as a way to help people share in the benefits of a dynamic economy rather than just mitigate its harms. As one respondent put it, “You’re not just spreading revenue across to everybody; you’re using it to provide greater opportunity and training and education—which then, in theory, should bring everybody up, also, to where they benefit from trade.” Many also stressed that the strategy would not just address income disparity but also help workers fulfill their perceived duties to their families and communities. “I want to take care of my family,” one told us. “I can start my own business if I want to. I think there are too many people who don’t feel that way, who can’t.”

The large number of Americans who believe that the United States’ economic and political institutions are no longer delivering enough opportunity are right. It should be no surprise that they are anxious, angry, and open to proposals to build walls to keep out the rest of the world. But the right response to these trends is not complacently accepting the status quo or simply letting the backlash against globalization proceed. By investing seriously in ladders of opportunity, the United States can give all its citizens the human capital that will let them take part in a changing economy—not just saving globalization but also ensuring that Americans benefit from it.

January 16, 2019
by @goshan
0
3

Globalization Is Not in Retreat

Digital Technology and the Future of Trade

By Susan Lund and Laura Tyson, May/June 2018 Issue


By many standard measures, globalization is in retreat. The 2008 financial crisis and the ensuing recession brought an end to three decades of rapid growth in the trade of goods and services. Cross-border financial flows have fallen by two-thirds. In many countries that have traditionally championed globalization, including the United States and the United Kingdom, the political conversation about trade has shifted from a focus on economic benefits to concerns about job loss, dislocation, deindustrialization, and inequality. A once solid consensus that trade is a win-win proposition has given way to zero-sum thinking and calls for higher barriers. Since November 2008, according to the research group Global Trade Alert, the G-20 countries have implemented more than 6,600 protectionist measures.

But that’s only part of the story. Even as its detractors erect new impediments and walk away from free-trade agreements, globalization is in fact continuing its forward march—but along new paths. In its previous incarnation, it was trade-based and Western-led. Today, globalization is being driven by digital technology and is increasingly led by China and other emerging economies. While trade predicated on global supply chains that take advantage of cheap labor is slowing, new digital technologies mean that more actors can participate in cross-border transactions than ever before, from small businesses to multinational corporations. And economic leadership is shifting east and south, as the United States turns inward and the EU and the United Kingdom negotiate a divorce

In other words, globalization has not given way to deglobalization; it has simply entered a different phase. This new era will bring economic and societal benefits, boosting innovation and productivity, offering people unprecedented (and often free) access to information, and linking consumers and suppliers across the world. But it will also be disruptive. After certain sectors fade away, certain jobs will disappear, and new winners will emerge. The benefits will be tangible and significant, but the challenges will be considerable. Companies and governments must prepare for the coming disruption.

THE NEW ERA

The threads that used to weave the global economy together are fraying. Beginning in the 1980s, the falling costs of transportation and communication, along with a raft of new multilateral free-trade agreements, caused international commerce to swell. Between 1986 and 2008, global trade in goods and services grew at more than twice the pace of global GDP. For the last five years, however, growth in trade has barely outpaced global GDP growth. A weak and uneven recovery from the Great Recession explains part of the trade slowdown, but structural factors are also to blame. Global value chains, which gave rise to a growing trade in manufactured parts, have reached maturity; most of the efficiency gains have already been realized. Although the location of production will continue to shift among countries in response to differences in wages and the prices of other factors of production—from China to Vietnam and Bangladesh, for example—these shifts will merely change the patterns of trade. They will not increase its overall volume. 

Cross-border financial flows—which include purchases of foreign bonds and equities, international lending, and foreign direct investment—grew from four percent of global GDP in 1990 to 23 percent on the eve of the financial crisis, but they have since fallen to just six percent. Trade in services, meanwhile, has increased, but it is growing slowly and is unlikely to assume the role that trade in goods has played in driving globalization. That’s because most services simply cannot be bought and sold across national borders: they are local (dining and construction), highly regulated (law and accounting), or both (health care). 

This is where digital flows come in, from e-mailing and video streaming to file sharing and the Internet of Things. The movement of data is already surpassing traditional physical trade as the connective tissue in the global economy: according to Cisco Systems, the amount of cross-border bandwidth used grew 90-fold from 2005 to 2016, and it will grow an additional 13-fold by 2023. The number of minutes of all Skype calls made now equals approximately 40 percent of all traditional international phone call minutes. Although digital flows today mostly link developed countries, emerging economies are catching up quickly.

This surge in the movement of data not only constitutes a huge flow in and of itself; it is also turbocharging other types of flows. Half of all trade in global services now depends on digital technology one way or another. Companies can cut losses on goods in transit by installing tracking sensors on shipments—by 30 percent or more, in McKinsey’s experience. They can also reach consumers around the world without going through retail shops. AliResearch (the research arm of the Chinese online shopping company Alibaba) and the consulting firm Accenture project that by 2020, cross-border e-commerce will reach one billion consumers and total $1 trillion in annual sales.

The countries that led the world during the last era of globalization may not necessarily be the same ones that thrive in the new one. Consider Estonia, which has a population of just 1.3 million but has emerged as a giant in the digital era. Its pioneering e-government initiative allows Estonians to go online to vote, pay taxes, and appear in court, all with a digital identity card. Once an economy based heavily on logging, Estonia is now home to the founders of Skype and other technology start-ups, and it has historically been one of the fastest-growing economies in the EU.

The movement of data is already surpassing physical trade as the connective tissue in the global economy.

Digital flows are also upending the corporate world. Giant multinational firms have long dominated the trade in goods and services, but digital platforms have made it easier for smaller firms to muscle their way in. So-called micro-multinationals can use online marketplaces to reach far more customers than ever before; Amazon hosts two million third-party sellers, and Alibaba hosts more than ten million. Some 50 million small and medium-sized enterprises use Facebook for marketing, and nearly 40 percent of their fans are foreign. Digital platforms and marketplaces such as these are creating vast new opportunities for small businesses, which form the bedrock of employment in most countries. 

THE RISE OF THE REST

As globalization has gone digital, its center of gravity has shifted. As recently as 2000, just five percent of the companies on the Fortune Global 500 list, the world’s largest international companies, were headquartered in the developing world. By 2025, by the McKinsey Global Institute’s estimate, that figure will reach 45 percent, and China will boast more companies with $1 billion or more in annual revenues than either the United States or Europe. The United States continues to produce the majority of digital content consumed in most parts of the world, but that, too, will likely soon change, as Chinese Internet giants such as Alibaba, Baidu, and Tencent rival Amazon, Facebook, and Google. China now accounts for 42 percent of global e-commerce transactions by value. The country’s investments in artificial intelligence, while still lagging behind those of the United States, are more than double Europe’s. In 2017, China announced an ambitious investment plan designed to turn the country into the world’s leading center for artificial intelligence research by 2030.

The geography of globalization is even changing within the developing world. The McKinsey Global Institute predicts that roughly half of global GDP growth over the next ten years will come from some 440 rapidly expanding cities and regions in the developing world, some of which Western executives may not be able to find on a map, such as the city of Hsinchu in Taiwan or the state of Santa Catarina in Brazil. Moreover, as many as one billion people in these places will see their incomes rise above $10 a day, high enough to make them significant consumers of goods and services—at the same time that tens of millions of Americans, Europeans, and Japanese will enter retirement and reduce their spending. 

The world economy is already adapting to this new reality. Today, more than half of all international trade in goods involves at least one developing country, and trade in goods between developing countries—so-called South–South trade—grew from seven percent of the global total in 2000 to 18 percent in 2016. So open is Asia that the region more than doubled its share of world trade (from 15 percent to 35 percent) between 1990 and 2016. Remarkably, more than half of that trade stays within the region, a similar proportion to that found in Europe, a much richer region with its own free-trade zone. 

As Washington pulls back from global trade agreements, the rest of the world is moving forward without it. After the United States withdrew from the Trans-Pacific Partnership, the remaining 11 countries negotiated their own pact, the Comprehensive and Progressive Agreement for Trans-Pacific Partnership, which was signed in March. This version left out 20 provisions that were important to the United States, including ones concerning copyright, intellectual property, and the environment. Separately, a number of Asian countries are negotiating the Regional Comprehensive Economic Partnership, a trade deal that includes all the members of the Association of Southeast Asian Nations plus Australia, China, India, Japan, New Zealand, and South Korea—but not the United States. If ratified, this agreement would cover about 40 percent of global trade and nearly half of the world’s population. Meanwhile, the EU has struck new bilateral trade arrangements with countries including Canada and Japan, and it is negotiating one with China. So busy is the EU making such deals, in fact, that its agricultural, environmental, and labor standards may soon become the new benchmarks in global trade.

One notable aspect of this realignment is that China has gained a greater voice as a champion of globalization. To provide a counterweight to Washington-based economic institutions, Beijing has launched numerous initiatives of its own, including the Asian Infrastructure Investment Bank, which has attracted 57 member nations, many of them U.S. allies that joined over the objection of the United States. Together with Brazil, India, and Russia, China was a driving force behind the creation of the New Development Bank, an alternative to the World Bank. The China-Africa Investment Forum, an annual meeting begun in 2016, is gaining momentum as a platform for deals in Africa. Then there is the Belt and Road Initiative, China’s $1 trillion plan to add maritime and land links in Eurasia. Although still at an early stage, it could prompt a major shift in the pattern of global investment, spurring faster economic growth across Asia and connecting many countries that the last era of globalization left behind.

THE COMING DISRUPTION

Although it will lead to countless new opportunities, the new era of globalization will also present considerable challenges to individuals, companies, and countries. For one thing, because openness will be so rewarded, developing countries now at the periphery of global connections risk falling further behind, especially if they lack the infrastructure and skills to benefit from digital trade. With global trade tensions mounting, it is essential to recognize that countries will reap economic gains not from export surpluses but from both inflows and outflows. In fact, as in the past, it is precisely the countries that open themselves up to foreign competition, foreign investment, and foreign talent that stand to benefit the most in the new era. 

One consequence of openness has been immigration. In the past 40 years, the number of migrants worldwide has tripled. Today, almost 250 million people live and work outside their country of birth, and 90 percent of them do so voluntarily to improve their economic prospects, with the remaining ten percent being refugees and asylum seekers. Economic migrants have become a major source of growth. According to the McKinsey Global Institute, they contribute approximately $6.7 trillion to the world economy every year, or nine percent of global GDP—some $3 trillion more than they would have produced had they stayed in their home countries.

But for some workers, the rapid expansion of trade has led to stagnant wages or lost jobs. As the economists David Autor, David Dorn, and Gordon Hanson have found, of the roughly five million U.S. manufacturing jobs lost between 1990 and 2007, a quarter disappeared because of trade with China. And as the economist Elhanan Helpman has concluded, although globalization explains just a small part of the rise in inequality over the last few decades, it has still contributed to it, by making the skills of experts and professionals more valuable while lowering the wages of workers with less education and more generic skills. Globalization has its winners and losers, and in theory, the gains should be big enough to compensate the losers. But in practice, the benefits have rarely been redistributed, and the communities and workers harmed by globalization have turned to populism and protectionism. 

The new era of globalization will also prove disruptive, in that it will intensify competition; indeed, it already has. New ideas now flow around the world at an astonishing speed, allowing companies to react to demand faster than ever before. Fashion retailers such as H&M and Zara can take a trendy idea and turn it into clothing on the rack in just weeks, rather than the months it used to take. The flip side is that the period during which a company can profit from an innovation before competitors copy it has shrunk dramatically. As a result, product life cycles have become shorter—by 30 percent over the past 20 years in some industries. Meanwhile, the variety of products is exploding, and many industries are adopting “mass customization,” using technology to produce built-to-order goods without sacrificing economies of scale. 

The growing economic clout of developing countries is also changing the rules of competition. Companies from emerging economies are taking a growing share of global revenue, and their governance structures differ from those of companies in the United States and other developed countries. In emerging markets, firms are more often state- or family-owned and less often publicly traded. They therefore face less pressure to hit quarterly profit targets and can make longer-term investments that take time to pay off. Developing-world companies also tend to enjoy lower costs of capital, lower taxes, and lower dividend payouts, enabling them to sell goods and services at smaller profit margins compared with U.S. and European companies. The balance sheets reveal the difference: for companies in advanced economies, improvements in overall profits stem largely from growing margins, whereas for companies in emerging markets, they come from growing revenues. 

Because the rise of digital flows is increasing competition in knowledge-intensive sectors, the importance of intellectual property is growing, generating new forms of competition around patents. One example is the development of “patent thickets,” clusters of overlapping patents that companies acquire to cover a wide area of economic activity and impede competitors. Another is the practice of “patent fencing,” whereby firms apply for multiple patents in related areas with the intention of cordoning off future research in them. The smartphone industry and the pharmaceutical industry have been particularly hard hit by these tactics.

In the new era, digital capabilities will serve as rocket fuel for a country's economy.

As digital flows grow, some governments have turned to digital protectionism. Invoking concerns about cybersecurity, China enacted a new law in 2016 that requires companies to store all their data within Chinese borders, pass security reviews, and standardize the collection of personal information, effectively giving the government access to vast amounts of private data. A similar law went into effect in Russia in 2015. Rules requiring companies to build data servers in each country where they operate threaten their economies of scale and increase their costs. Not surprisingly, these and other forms of digital protectionism inhibit economic growth—reducing growth rates by as much as 1.7 percentage points, according to the Information Technology and Innovation Foundation.

Digital technologies are also affecting companies’ decisions about where to locate their factories. For most manufactured products, digitally driven automation is making labor costs less relevant, reducing the appeal of global supply chains premised on low-cost foreign workers. Today, when multinational companies choose where to build plants, they more heavily weigh factors other than labor costs, such as the quality of the infrastructure, the distance to consumers, the costs of energy and transportation, the skill level of the labor force, and the regulatory and legal environment. As a result, some types of production are shifting from emerging markets back to advanced economies, where labor costs are considerably higher. (In 2015, for instance, Ford moved its production of pick-up trucks from Mexico to Ohio.) Three-dimensional printing could have a similar effect. Already, companies are using 3-D printers to produce parts for tankers and gas turbines in the locations where they are needed. These trends are good news for the United States and other developed countries, but they are bad news for low-wage countries. It’s now far less clear that other developing countries in Africa and Asia will be able to follow the path that China and South Korea did to move tens of millions of workers out of low-productivity agriculture and into higher-productivity manufacturing. 

BE PREPARED

In the new era, digital capabilities will serve as rocket fuel for a country’s economy. Near the top of the policy agenda, then, should be the construction of robust high-speed broadband networks. But governments should also create incentives for companies to invest in new digital technologies and in the human capital they require, especially given how low productivity growth has stayed. Since digital literacy will be even more essential than it already is, schools will have to rethink their curricula to emphasize digital skills—for example, introducing computer coding in elementary school and requiring basic engineering and statistics in secondary school.

When negotiating trade agreements, policymakers will need to make sure that issues such as data privacy and cybersecurity figure prominently. Currently, rules vary widely from place to place—the EU’s new data regulations that are scheduled to come into effect this year, for example, are far more restrictive than those in the United States—and so governments should seek to harmonize them when possible. The trick will be to strike the right balance between protecting individual rights and remaining open to digital flows. Negotiators should also seek to remove tariffs and other barriers that have hampered trade in computer hardware, software, and other knowledge-intensive products. Laws requiring data to be stored locally are particularly burdensome in the era of cloud storage. And to make it easier for smaller companies to ship smaller quantities of goods globally, customs regulations will need to be revamped to do away with much of the red tape that exists. The World Trade Organization’s Trade Facilitation Agreement, which came into effect in 2017, has helped simplify the import-export process, but there is room to broaden it.

In order to maintain political and societal support for digital globalization, governments will have to make sure that its benefits are distributed widely and that those who have been harmed are compensated. (Indeed, it was partly the failure to do this during the last era of globalization that led to the populist backlash rocking the United States and other countries today.) To help those displaced by globalization both old and new, governments should offer temporary income assistance and other social services to workers as they train for new jobs. Benefits should be made portable, ending the practice of tying health-care, retirement, and child-care benefits to a single employer and making it easier to change jobs. Finally, governments should expand and improve their worker-training programs to teach the skills needed to succeed in the digital era, a move that would reverse the decline in spending on worker training that has taken place over the past decade in nearly all advanced countries.

Work-force training alone will not solve the problems faced by smaller communities built on declining industries; what’s also needed are initiatives to revitalize local economies and nurture new industries. At the same time, governments should recognize that the geography of employment is changing. In the United States, for example, the jobs are moving from smaller Midwestern cities to faster-growing urban areas in the South and the Southwest. So the goal should be to make it easier for people to move to where the jobs are—for example, by offering one-time relocation payments to help defray the costs of moving.

The era of digital trade will also pose considerable challenges for the private sector. Setting aside the serious problem of cyberattacks, companies will need to invest more in digital technologies, including automation, artificial intelligence, and advanced analytics, in order to remain competitive. That will mean developing their own digital capabilities and partnering with, or acquiring, digital players. Successful global companies, whether large or small, will also need to compete strenuously in the global battle for talent, especially for top managers who have both an understanding of technology and an international perspective. Firms can gain an edge in this battle by spreading their research and development and other core functions across the world, a shift that would tap talent from different places, thus ensuring diversity of thinking.

Corporate strategy will also need to be reset: no longer will companies be able to rely on highly centralized approaches to producing and selling their goods now that consumers around the world expect customized products to meet their tastes. Increasingly, companies will need a strong local presence and a differentiated strategy in the markets where they compete. That will require strong relationships with governments and a commitment to corporate social responsibility.

Globalization is not in retreat. A revamped version of it, with digital underpinnings and shifting geopolitics, is already taking shape. In its last incarnation, globalization became a battleground for opposing forces: on one side stood the political and business elites who benefited the most, and on the other stood the workers and communities that suffered the most. But while debates raged between these two groups about the effects of globalization, globalization itself proceeded apace. Today, the same debates about globalization’s effects on employment and inequality continue, even as its new, digital form is gaining momentum. Rather than relitigating old debates, it is time to accept the reality of the new era of globalization and work to maximize its benefits, minimize its costs, and distribute the gains inclusively. Only then can its true promise be realized.

January 16, 2019
by @goshan
0
6
Show more