A Balanced Globalization? Rodrik s Paradox. Dani Rodrik s The Globalization Paradox carves out a middle path between what he

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1 Alex Betley ECON 398 Policy Paper #2 - Rodrik A Balanced Globalization? Rodrik s Paradox Introduction Dani Rodrik s The Globalization Paradox carves out a middle path between what he terms hyperglobalization and nationalistic-style trade protectionism. It is clear to Rodrik that the reckless policies of governments and international institutions bent on total trade, capital, and financial liberalization have led to many instances of international economic stability, climaxing in the 2008 financial crisis now dubbed the Great Recession. The question Rodrik posits is how might we reap the benefits globalization brings all the while respecting the sovereignty of the nation-state? Rodrik weaves effortlessly, thoughtfully, and effectively through the relationship between markets and states, the successes and failures of globalization, the international institutions and regimes which set the rules by which global actors must play, trade fundamentalists and trade pragmatists, democratic norms, and the future of the global economy. In the end, Rodrik synthesizes the competing narratives of globalization to offer a balanced solution to its economic, social, and political ramifications. What emerges is a framework that respects the rights of sovereign nation-states to set their own reasonable economic agendas, embraces trade and globalization where interests align, and prioritizes democratic norms. Markets and States: Complementary Bodies

2 Betley 2 From the outset, Rodrik dismisses with the notion that governments and markets are somehow substitutive, oppositional forces, as many economists and politicos have previously (and continue to) propose. Instead, Rodrik advances that governments and markets are complementary forces: Markets work best not where states are weakest, but where they are strong (xviii). Drawing on the days in which European sovereigns would issue monopoly trading rights to overseas markets, Rodrik demonstrates that government protection and rule-setting has always been part and parcel of effective markets. This was so extreme in some places that mercantilists would literally govern overseas territory themselves. When revulsion towards unfair terms of trade and exploitation would spawn insurrection, governments, such as Great Britain in the case of India, would step in to guarantee protection of the existing terms of 1 exploitation and trade (12-3). Expanding on the intertwined nature between markets and states, Rodrik points out that, contrary to the belief of many, the largest governments have the wealthiest economies: When we look at the size of the government across different societies, we uncover a rather amazing fact. With very few exceptions, the more developed an economy, the greater the share of its resources that is consumed by the public sector. Governments are bigger and stronger not in the world s poorest economies but in its most advanced economies. The correlation between government size and per capita income is remarkably tight. Rich countries have better functioning and larger governments when compared to poor ones Markets and states are complements, not substitutes, as simplistic economic accounts would often have it (16). For instance, the stronger a nation s exposure to international trade, the larger its government will be. This holds true across almost all countries, rich or poor. After attempting to account for other factors, Rodrik concludes this is most likely explained by the social insurance motive. 1 As we know, the terms of trade associated with colonial exploitation were controlled through the dominance of the occupying European power. Rodrik does not suggest that this state of affairs was somehow positive, but he does demonstrate that in order to carry out its economic goals, European colonial powers had to guarantee protection and legitimacy of traders.

3 Betley 3 The more an economy is exposed to the throes and fluctuations of international trade, the stronger the social safety net desired. As it turns out, If you want markets to expand, you need governments to do the same (18). The Ups and Downs of Globalization Rodrik states at the beginning of his chapter entitled Why Doesn t Everyone Get the Case for Free Trade? that it makes sense to import goods as long as it takes less labor to produce the exports that would pay for those imports than it does to produce those goods ourselves (52-3). This is the well-known principle of comparative advantage described by Ricardo roughly two-hundred years ago. Why, then, Rodrik asks rhetorically, doesn t everyone hop on the bandwagon for free-trade and profit maximization across countries? Rodrik s response: If economics were only about profit maximization, it would be just another name for business administration. It is a social discipline, and society has other means of cost accounting besides market prices (55). Indeed, any society must also take into account social opportunity costs rather than market prices alone. It is only when markets account fully for social opportunity costs-- political and social objectives among the most prominent-- that these accounting mechanisms are fully harmonized. Not unsurprisingly, this doesn t always happen (if at all) ( 53-4). This is part of the reason many are opposed to completely unfettered globalization and free trade. Unskilled workers in developed countries usually get hit hard by globalization, as the eased mobility of capital flows across borders allows labor in developing countries to undercut wages in the developed country. Additionally, short-term, hot-money can precipitate bank runs

4 Betley 4 on entire economies. Free trade, though beneficial in aggregate, does have distributional effects across economies (56-8). Moreover, as barriers to trade grow closer and closer to full liberalization, the gains experienced run into diminishing returns. The cost of going the last few steps towards a fully open economy has significant social effects, severe worker dislocation amongst the most prominent (60). It doesn t help that many of the theoretical models on free-trade often rely on extensive and unrealistic assumptions. Rodrik describes this in his subsection of chapter 3, What Economists Will Not Tell You. It is here where he offers an example of how a trade theorist is likely to respond to the question Is free trade good? If asked by a journalist, the economist will almost always respond with an affirmative of course! and offer little more. If asked by a graduate student in economics, the professor will likely list the complex set of assumptions necessary for free trade to be good. The point is that an economy exhibiting all these underlying assumptions is unlikely to exist in practice. It is therefore of immense importance for economists to qualify their statements to the public in the same manner they would qualify them to other economists in their academic articles. Going forward, Rodrik argues, economists must acknowledge the trade-offs of globalization and try to incorporate the resulting social and political costs into their calculus. 2 This doesn t mean we should shun globalization and revert into autarky. Rather, we need 2 Sadly, this seems to be the route the new President of the United States has chosen, as exemplified in his inaugural address. Statements such as, We will get our people off of welfare and back to work -- rebuilding our country with American hands and American labor and We will follow two simple rules: Buy American and hire American are demonstrative of the president s nationalistic campaign and election. While American employment should certainly be a goal of the incoming administration, this rhetoric suggests protectionist policies that, even if spurring employment, would likely increase the price of consumption. Such price increases usually hit low-income brackets the hardest. It is yet to be seen what trade policies the Trump administration will actually pursue in practice, seeing as recent cabinet appointments, by any reasonable measure, will seek to protect corporate profit maximization at all costs. It is well-known high levels of trade protectionism, that is, adhering to Trump s jingoistic two simple rules jargon, won t maximize corporate profit over time (that is, unless, the government effectively subsidizes industry, through

5 Betley 5 seminar room economists over rule-of-thumb economists, that is to say, economics and economic advice should always depend on time and context. A Brief Word on International Finance Before moving onto Rodrik s elaboration of the global trilemma, it might be useful to briefly comment on his views of international finance. Of all the aspects of globalization Rodrik is wary of, global finance features most prominently. The post-war capital controls instituted through the Bretton Woods Regime were meant to emphasize the right of countries to pursue individualized development programs that fit the social interest. As Keynes knew, unfettered capital flows undermined not only financial stability but also macroeconomic equilibrium-- full employment and price stability (96). Moreover, Keynes and his contemporaries worried about the effects of short-term finance, namely, volatile currency speculation apparently pursuant to the animal passions (97). Nonetheless, capital controls were increasingly repealed beginning in the 1980 s. The theory was that capital movements would increase investment, growth, and prosperity by 3 enabling global savings to flow to their most productive uses (91). Despite little hard evidence, this path was pursued by governments with the unwavering support of much of the economics 4 5 community (91-2). It was these economists, the hedgehogs of finance, as Rodrik terms them, tax breaks or otherwise). However, it may well have scared the American people enough into electing him. See 3 However, as Rodrik notes, the countries in the last three decades that experienced the most growth were actually the countries that maintained capital controls, such as China (110-11). 4 J. Stiglitz comments on what would result, in detail, in his Globalization and its Discontents. Drawing on his experiences at the World Bank, Stiglitz shows the ways in which hot money and other forms of capital liberalization, supported by ideologically doctrinaire institutions such as the IMF, have decimated various countries and regions, as well as precipitated financial crises. 5 Rodrik borrows the term from an Isaiah Berlin essay on Tolstoy in which Berlin characterizes hedgehogs as those see the world through one, overriding paradigm, despite various complications. The fox, on the other hand,

6 Betley 6 that could only respond to crises with pure free-market ideology rather than contour and complexity: Even if markets are prone to fail, the hedgehog will say, governments will make things even worse (Rodrik, 116). Despite experiences with unmitigated finance in crises such as that in East Asia in the late 1990 s, it would not be until the subprime mortgage crisis of 2008, and unfortunately much too late, that economists at large would begin questioning the taming of international finance (127). The Political Trilemma of the World Economy Without doubt, hyperglobalization or deep globalization results in an enormous impact on the democratic norms of the nation-state. These include rule-setting in labor standards, corporate tax competition, health and safety standards, and industrial policies in developing nations, among others things ( ). What results from the introduction of hyperglobalization into world politics is Rodrik s now relatively well-known political trilemma of the world economy. In his own words: How do we manage the tension between national democracy and global markets? We have three options. We can resist democracy in the interest of minimizing international transaction costs, disregarding the economic and social whiplash that the global economy occasionally produces. We can limit globalization, in the hope of building democratic legitimacy at home. Or we can globalize democracy, at the cost of national sovereignty the menu captures the fundamental political trilemma of the world economy: we cannot have hyperglobalization, democracy, and national self-determination all at once (Emphasis my own; 200). Rodrik imagines what some of these instances might look like. One, for example, might imagine a type of global federalism modeled off the the current U.S. model. It s obvious that such a move would result in a significant loss of national sovereignty for party states (202-3). comprehends the nuances and complications of many situations, understanding that a one-size-fits-all strategy is naive. As Rodrik states, Berlin thought Dante was a hedgehog while Shakespeare was a fox (114).

7 Betley 7 Additionally, it is likely that the most powerful states would carry undue influence in this system, perhaps much in the same way France and Germany carry weighted influence in the European Union or the veto power exercised by five countries in the United Nations Security Council. We could move towards the golden straightjacket of Thomas Friedman, in which globalization and the nation-state continue to exist side-by-side, with democratic politics ceding itself to profit maximization and technocrats. For certain, Rodrik points out, we can t go back to the Bretton Woods compromise of old, whereby financial globalization played an intentionally lesser role. Rodrik feels that global governance superseding nation-states à la European Union would be unfeasible and lack democratic accountability, especially because different parts of the world have such diverging interests. Moreover, global governance requires individuals who feel that they are global citizens. However, many still carry the emblem of their nation-state and identify within its terms, especially the lower and middle class. For one to call one self a citizen of the world, turns out to be a somewhat elitist notion (212-3). While the European Union has experimented with regional governance and economic integration, full political integration has been much more trying. Even economic union blocked a currency devaluation by the countries hit the hardest in the European Sovereign Debt Crisis; all the while, the union lacked the political will to support these faltering countries. In the end, for various reasons, global governance just can t pass muster in today s climate where nation-states are still the primary actors in international society.

8 Betley 8 Figure 1.1: Retrieved from So where do we go? Should we allow technocrats and corporations to run the world economy? What about subverting globalization s benefits to the needs of national democracy? Rodrik offers a way out: the globalization paradox. Unwilling to accept that national democracies are withering away, Rodrik proposes that global rules and norms can actually enhance the functioning of sovereign, democratic nation-states (205-6). The Globalization Paradox and Policy Recommendations Rodrik s proposition is that the world needs a stronger relationship between markets and supporting institutions at the global level (235). He calls this Capitalism 3.0. Capitalism 1.0 was nineteenth century globalization and imperialism. Capitalism 2.0 was the Bretton Woods Compromise which lasted from 1945 to the mid-1970 s. Capitalism 3.0 rests upon seven principles: markets must be deeply embedded with government regulation, democratic governance and the nation-state should remain as the locus of international activity, countries can exhibit different types of capitalism, countries have the right to protect their social arrangements,

9 Betley 9 countries may not impose their institutions on unwilling countries, the purpose of international economic arrangements should be to choreograph the traffic rules between states, and, lastly, non-democratic states cannot depend on the same privileges as democratic states because one cannot know for certain if the state s actions reflect the prerogatives of that state s citizens (236-46). Rodrik recognizes that no democracy is perfect, but he also admits, Democracy, after all, is a global norm (246). All of this amounts not to a turning away from globalization, but towards what Rodrik terms a sane globalization. Relatively speaking, the minute gains from even more free trade will result in extremely higher social costs. Most barriers to trade, as is, are very low (252). While it seems like a paradox, reinvigorating national democracies benefits an open world economy rather than acting as an obstacle (259). Combined with a respect for the sovereign rights of nations and their respective industrial and development strategies, Rodrik s system embraces international coordination between states rather than hindering it. Of the regulations and safeguards he does propose, a global Tobin tax on financial transactions, in order to discourage the movement of hot money in and out of countries, tops the list. As Rodrik says, In a diverse world with divided sovereignty, it is the prospect of the deepening of financial globalization that should cause us to lose sleep (266). Additionally, the Tobin tax would do more than discourage financial speculation. It would also serve to generate billions in income to fight transnational security threats such as climate change and, as one can imagine today, migration (264). Finally, Rodrik states the untapped wellspring that should be opened by globalization is the liberalization of labor flows. This, he says, would benefit global trade more

10 Betley 10 than anything else. Contrary to popular belief, this would not depress wages in developed countries as much as many in the past have suggested (271). This middle-path is more necessary now than ever before. Considering the nationalistic pulse growing in Europe, as well as the election of Donald Trump in the United States, policy makers would do well to spread and advance many of Rodrik s key arguments, namely, that one can have globalization and the nation-state-- it is just up to mitigating the negative effects of globalization effectively. While it is unlikely all of Rodrik s Capitalism 3.0 principles could be enacted at once, many of them seem, prima facie, worth striving for. Given these recent events, is such a future world possible in the near future? It is unlikely, but perhaps the retreat from international coordination will bring with it the awakening of many nation s people. If this experiment in nationalism doesn t turn out as well as many of the people who have voted or will vote for right-wing nationalists believe, then perhaps, even after all the damage it is likely to wreak, the world s policy makers will embrace a more even-keeled, democratic path to a world economy.

11 Betley 11 Notes and References New York Times, The, Donald Trump s Cabinet is Taking Shape. Here s the Latest List. Rodrik, Dani, Dani Rodrik s Weblog. Rodrik, D. (2011). The Globalization Paradox: Democracy and the Future of the World Economy. New York: W.W. Norton & Co. Stiglitz, J. E. (2002). Globalization and its Discontents. New York: W.W. Norton.