The myth of the global economy

Ian Fletcher Contributor
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If there’s one thing everyone knows these days, whether they’re happy about it or not, it’s that we live in a “global” economy.  This fact is taken as so obvious that anyone who disputes it is regarded as not so much wrong, but as simply ignorant—not even worth arguing with.  So it may come as a shock to many that, in reality, the cliché that we live in a borderless global economy does not survive serious examination.  The key is to ignore the Thomas Friedmanesque rhetoric flooding the media and get down to some hard numbers.

The easiest hard number is this: because the U.S. is roughly 25 percent of the world economy, a truly borderless world would imply that imports and exports would each make up 75 percent of our economy, since our purchase and sale transactions would be distributed around the world. This would entail a total trade level (imports plus exports) of 150 percent of GDP. Instead, our total trade level is 29 percent: imports are 17 percent and exports 12 percent. So our economy is nowhere near borderless.

Furthermore, as our trade is almost certainly destined to be balanced by import contraction, rather than an export boom, in the next few years, our trade level is almost certainly poised to go down, not up.  So unless the U.S. can somehow magically find a way to keep sucking in $300 to $700 billion a year in imports it doesn’t pay for with exports, America will be importing significantly less in a few years and will be a less globalized economy.

A truly unified world economy would also mean that rates of interest and profit would have to be equal everywhere—because if they weren’t, the differences would be ar­­b­i­tra­ged away by the financial markets. But this is nowhere near being the case: interest rates and corporate profits vary widely around the world.

Economists James Anderson and Eric van Wincoop have calculated that the average cost of international trade (ignoring tariffs) is the equivalent of a 170 percent tariff. Even between adjacent and similar nations like the U.S. and Can­ada, national borders still count: Canadian economist John McCallum has documented that trade between Canadian provinces is on average 20 times as large as the corresponding trade between Canadian provinces and American states. And much of international trade is interregional anyway, not global, being centered on European, North American, and East Asian blocs; this is true for just under 50 percent of both agriculture and manufactured goods.

In reality, the world economy remains what it has been for a very long time: a thin crust of genuinely global economy (more visible than its true size due to its concentration in media, finance, technology, and luxury goods) over a network of regionally linked national economies and over vast sectors of every economy that are not internationally traded at all (70 percent of the U.S. economy, for example).  On present trends, it will remain roughly this way for the rest of our lives. The world economy in the early 21st century is not even remotely borderless.

Another stubborn reality is that, contrary to what some people seem to think, the nation-state is a long way from being economically irrelevant.  Most fundamentally, it remains relevant to people because most people still live in the nation where they were born, which means that their economic fortunes depend upon wage and consumption levels within that one society.  Unemployed Americans are discovering this the hard way right now.

Capital is a similar story.  Even in the early 21st century, it hasn’t been globalized nearly as much as often imagined.  And it also cares very much about where it lives, frequently for the same reasons people do. (Few people wish to live or invest in Zimbabwe; many people wish to live and invest in California.) For a start, because 70 percent of America’s capital is human capital, a lot of capital behaves exactly as people do, simply because it is people. Another 12 percent has been estimated to be social capital, the value of institutions and knowledge not assignable to indi­viduals.

So although liquid financial capital can indeed flash around the world in the blink of an electronic eye, this is only a fraction (under 10 percent) of any developed nation’s capital stock. Even most nonhuman capital resides in things like real estate, infrastructure, physical plant, and types of financial capital that don’t flow overseas—or don’t flow very much.  (Economists call this “don’t flow very much” phenomenon home bias, and it is well documented.)  As a result, the output produced by all this capital is still largely tied to particular nations. So although capital mobility certainly causes big problems of its own, it is nowhere near big enough to literally abolish the nation-state as an economic unit.

Will it do so one day? Even this is unlikely. Even where famously dematerializing and globalizing assets, like fiber optic telecom lines, are added—assets that supposedly make physical location irrelevant—they are still largely being added where existing agglomerations of capital are.  For example, although fiber optic backbones have gone into places like Bangalore, India, which were not global economic centers a generation ago, big increments of capacity have also gone into places like Manhattan, Tokyo, Silicon Valley, and Hong Kong, which were already import­ant. As a result, existing geographic agglomerations of capital are largely self-reinforcing and here to stay, even if new ones come into being in unexpected places (often through decisions made by national governments). And these agglomerations have national shape because of past history; legacy effects can be extremely durable.  Previous technological revolutions, such as the worldwide spread of railroads, were at least as big as current innovations like the Internet, and they didn’t abol­ish the nation-state.

Ironically, the enduring relevance of the national economy is clearest in some of the “poster child” countries of globalization, like Japan, Taiwan, South Korea, Singapore, and Ireland. In each of these nations, economic success was the product of policies enacted by governments that were in some sense nationalist. Japan industrialized after the Meiji Restoration of 1868 to avoid being colonized by some Western power. Taiwan did it out of fear of main land China. South Korea did it out of fear of North Korea. Ireland did it to escape economic domination by England. In each case, the driving force was not simply desire for profit. This exists in every society (including resource-rich basket cases like Nigeria, where it merely produces gangsterism), but does not reliably crystallize into the policies needed for economic growth. The driving force was national political needs that found a solution in economic development.

There is no getting around politics. Politics is still mostly practiced at the national level, and practiced with sovereignty only at that level. And the reality for almost all people and corporations is that national policies still matter. It matters whether one has good physical infrastructure and basic security. It matters whether one must constantly pay bribes to get things done.  It matters whether one gets cut out of the best opportunities in favor of political cronies. It matters whether the local education system produces quality employees.  It matters whether one has a sound currency to work with.  It matters whether the local population reveres things like science, efficiency, and entrepreneurship.  And it matters whether the politicians in charge of all these things are wise enough to keep them that way, and whether the voters (if the country is a democracy) are wise enough to elect the right politicians.

Globalization doesn’t make all these things less important—let alone “irrelevant.”  They are arguably even more important in a more globalized world because the rewards for getting them right (and the punishments for getting them wrong!) are larger. Without globalization, mediocre industries can just sputter along for decades. But with globalization, these industries can get wiped out. But they can also conquer the world if they’re not mediocre.

“Inevitable globalization” is a catch phrase that doesn’t really describe much of current trade, economic, or political reality. That the phrase has so many unthinking users, and the concept so many unthinking boosters—especially among America’s political elite—is disturbing.  The American people are being force-fed a concept that lets their leadership off the hook. How, for example, can it be expected to provide jobs if the omnipotent forces of globalization trump anything it might do?  The American people are expected to be docile and to accept whatever fate globalization hands them.  But in reality, globalization means that national policies are more important than ever, so our political leaders need to start getting these policies right—or eventually suffer the consequences.

Ian Fletcher is the author of the Free Trade Doesn’t Work: What Should Replace It and Why (USBIC, 2010, $24.95) An Adjunct Fellow at the San Francisco office of the U.S. Business and Industry Council, a Washington think tank founded in 1933, he was previously an economist in private practice, mostly serving hedge funds and private equity firms. He may be contacted at ian.fletcher@usbic.net.