Globalisation is built on a collection of ideas that began to evolve as the second world war was ending, and expanded unchallenged until well into this century.
The roots of what we now call globalisation began as an attempt to build alternatives to the classical model of economics that was seen to have failed in the 1930s, as well as an alternative to a central tenet of Marxist theory, just as that ideology was gaining traction in a disaffected and war-ravaged world.
Classical economic theory made running a national economy sound very simple: when worried about the health of the economy, cut interest rates to win a greater share of export markets and boost domestic demand.
Conversely, when policymakers are worried that an economy is overheating and inflation is brewing, the theory has it that they should put rates up to dampen domestic demand.
This formula was very much the orthodoxy among governments until the 1930s, when something happened that had never really occurred before. Almost all of the major economies of the world crashed simultaneously.
In response, governments pursued the traditional policy described above. According to the economist John Maynard Keynes, they failed because one country cutting rates to win a greater share of export markets is not likely to be effective with all countries in recession. As all countries are experiencing a downturn, so economic demand everywhere is weak, and thus there is less demand for any given country’s goods, regardless of rate cuts.
The plan
Keynes’ initial remedy was to urge governments to focus on domestic demand in times of economic slowdown, via increased public spending. But he had a wider plan to create a globalised financial system, and was one of the architects of the International Monetary Fund and World Bank. His idea was that countries could use these institutions in the way companies use commercial banks, storing their surpluses in times of plenty, while borrowing from those institutions in times of need.
The idea was to enable multiple countries to grow at the same time, rather than compete with one other. The traditional boom-and-bust cycles caused by interest rates in an economy being either too high or too low could be smoothed out by countries with strong economic performance helping fund the World Bank.
The World Bank could then lend the surplus of one country to a nation performing below its economic potential, funding a potential stimulus for that country.
Keynes died before these institutions became fully formed, and those who came after him deviated from his original plans.
One of the more prescient critics of globalisation is Joseph Stiglitz, the Nobel Prize winning economist who, in his 2002 book ‘Globalisation and its discontents’, noted that Keynes’ original vision had been abandoned because the World Bank and IMF attach conditions to the funding they provide to economically underperforming countries.
Mr Stiglitz noted these conditions focus on countries making their exports more competitive relative to rivals, precisely the sort of ‘beggar-thy-neighbour’ growth strategy that Keynes was urging countries to escape from when he created those institutions. The idea of competitiveness in export markets as a primary source of growth has much more in common with the 1930s consensus than the subsequent Keynesian consensus that emerged after the second world war.
An alternative alternative
Creating a globalised world was also seen by many as a way to counter the traditional Marxist view of capitalism. This advocated that while technology would enable capitalist societies to thrive, eventually a time would come when humanity’s capacity for invention expires, and economic growth could only then be preserved by growth in consumer spending, which is unsustainable and would lead to an acceleration of booms and busts in the economy until the system collapsed.
Globalisation is supposed to address this by increasing the supply of capital to emerging markets, and improving the access emerging market producers have to developed markets. This, according to Andrew Hunt, of consultancy firm Hunt Economics, created a scenario in recent decades where western consumers were able to access much lower interest rates than would historically have been the case, given the level of economic growth.
This had the effect of making the consumption-based economic model of developed economies sustainable in a way that would not have been envisaged by Marxists. It also boosted the spending power of citizens in emerging markets, thus making the total level of growth achievable rise in a sustainable way.
Advocates of globalisation argue that unlike in the 1930s, when the global system was unable to cope with multiple countries entering recession at the same time, China was able to act as a major consumer during the global financial crisis. That meant the world avoided a 1930s scenario, because the effect of globalisation was to enable the spread of the world’s wealth across a larger proportion of the world’s population, smoothing out the boom-and-bust cycles. Accordingly, as there is always a buyer of last resort in a recession, a global slump such as that which happened in the 1930s is less likely.
But detractors of globalisation, particularly those coming from the political right, argue that the new system is not that different from the pre-Keynesian consensus.
The classical economic model advocates using interest rates as a tool to essentially compete for the limited supply of growth in the world. Some critics argue that globalisation has not, as intended, switched to a more sustainable model, but instead created a scenario where countries used wage costs to compete with each other for growth – and that this is no more sustainable over the long term than the pre-Keynesian model.
Knock-on effects
Those who have lost out under this system include industrial workers in the US and UK, who have responded by voting for political outcomes that reject globalisation.
What this means in economic terms can be seen from the extreme pressure US president Donald Trump has been exerting on the US Federal Reserve to cut interest rates, at the same time that he engages in a battle to obtain economic growth from China.
The problem of how to deal with the surplus labour in developed markets created by globalisation is probably the biggest political issue of our time, and its impact on economics will be profound.
Policymakers can either choose to react as Keynes urged them to in the 1930s, with fiscal stimulus, or by ignoring his counsel and wrestling with each other for growth. Logically, both of those outcomes would be expected to lead to higher inflation, either because barriers to trade made goods and services more expensive, or because higher government spending should boost demand.
A previous attempt to address the issue of surplus labour in developed markets during globalisation was post neoclassical growth theory, a policy that found favour under the previous Labour government in the UK. Then-shadow chancellor Gordon Brown used the phrase in a speech in 1994.
Post neoclassical endogenous growth theory argues that if a government concentrates on creating high-skill, high-salary jobs, the wealth created by these jobs will create further, lower-skilled jobs down the line, culminating in full employment without the government having to intervene. According to the theory, this is because higher earners will, for instance, eat out in restaurants often, creating more demand for jobs in that sector.
The problem, certainly in the US and UK, has been that the high-value jobs have almost always gone to major cities, while the post-industrial towns, where many of those who feel they have lost out to globalisation live, have suffered. And residents are unlikely to want to leave their communities to work as a waiter in a restaurant in a financial district hundreds of miles from home.
In economic parlance, labour mobility rates are not high enough for this policy to have worked. Richard Buxton, head of UK equities at Merian Global Investors, is among those who believe that an inevitable consequence of the backlash against globalisation will be higher wages and lower returns to shareholders. He thinks consumer companies, and banks – the latter likely to benefit from higher inflation – are among the businesses most likely to benefit.
What’s more, his overarching view is that, whichever of those scenarios happens, returns to shareholders in the years ahead are likely to be lower than they have been in the past decade.
David Thorpe is investment reporter at FTAdviser.com
