HOW GLOBALISATION WORKS

Martin Wolf, Associate Editor & Chief

Economics Commentator, Financial Times

International Consulting Economists Association

Institute of Commonwealth Studies

October 12th 2006
1. Why globalisation works

“Let China sleep, for

when she wakes, she
will shake the world.”
Napoleon Bonaparte

2
1. Why globalisation works

• Drivers of globalisation
• Consequences of globalisation
• Risks to globalisation

3
1. Drivers of globalisation

• The great opportunity of integration

• Behind it are:
– Declining communication and transport costs
– Worldwide move to the market
– Incorporation of billions of people into the world economy

4
1. Drivers – declining costs

• Transport plays a more modest role in this era of

globalisation than in the first one, in the late 19th and
early 20th centuries
• The big transformation this time is the reduction in the
marginal cost of collating and disseminating
information to close to zero
• This “information revolution” is only just beginning
• We do not yet know its full implications

5
1. Drivers – declining costs

Source: IMF TRENDS IN TRANSPORT COSTS (1990 US dollars)

120

100

80

60

40

20

0
1930 1940 1950 1960 1970 1980 1990 2000

Sea Freight Air Transport

6
1. Drivers – declining costs

Source: IMF COMMUNICATION COSTS

(1990 US dollars)

100

10

0.1
1930 1940 1950 1960 1970 1980 1990 2000

Telephone Satellite Charges

7
1. Drivers – declining costs

Source: Internet World Stats INTERNET USERS (m)

1000

100

10
1990 1991 1992 1993 1994 1995 1996 1997 1998 1999 2000 2001 2002 2003 2004 2005 2006
8
1. Drivers – move to the market

• The last 25 years has seen a global liberalisation

revolution
• It culminated with the fall of the Soviet empire between
1989 and 1991
• And the subsequent reunification of Europe
• Despite financial crises, terrorism and war, there has
been no reversal of this trend
• The “second globalisation” is still well under way

9
1. Drivers – move to the market

TRENDS IN AVERAGE TARIFF RATES

(per cent, unweighted - weighted for China))

45

40

35

30

25

20

15

10

0
80

81

82

83

84

85

86

87

88

89

90

91

92

93

94

95

96

97

98

99
19

19

19

19

19

19

19

19

19

19

19

19

19

19

19

19

19

19

19

19
Developing Countries Industrial Countries China

10
1. Drivers – move to the market

Source: IMF THE DECLINE OF EXCHANGE CONTROLS

(share of countries with restrictions, per cent)

120.0

100.0

80.0
58.0

78.8 78.0 74.6

60.0

40.0

20.0 42.0

21.2 22.0 25.4

0.0
70s 80s 90s 00s

Developing Countries No Restriction Developing Countries Restriction

11
1. Drivers – move to the market

THE DECLINE OF EXCHANGE CONTROLS

Source: (share of countries with restrictions, per cent)

120.0

100.0

16.1

80.0

58.6

60.0 77.6

100.0

83.9
40.0

20.0 41.4

22.4

0.0
70s 80s 90s 00s

Industrial Countries No Restriction Industrial Countries Restriction

12
1. Drivers – entry of the billions

• The final driver is Asia’s rise and the entry of billions of

people into the world market economy
• This is the third great transformation since the
industrial revolution:
– Early 19th century: rise of the UK
– Late 19th and early 20th centuries: rise of US, Germany, Japan
and Russia
– Post-second world war: rise of Asia - from Japan’s surge to
the rise of China and India
• East and south Asia contain more than half of
humanity
13
1. Drivers – entry of the billions

Source: Maddison CATCH-UP IN ASIA

(GDP per head at PPP, as a per cent of US levels)

100.0%

10.0%

1.0%
1
3
5
7
9
11
13
15
17
19
21
23
25
27
29
31
33
35
37
39
41
43
45
47
49
51
53
55
China 1978 - 2004 India 1980 - 2004 Japan 1950 - 2004 South Korea 1962 - 2004

14
1. Drivers – entry of the billions

AUGMENTED GLOBAL LABOUR FORCE (m)

Source: Helmut Reisen

3,500

3,000
China, India and former
Soviet Union
2,500

1,470
2,000

1,500

1,000 1,000 1,000

590
500

370 460 460

0
1980 Pre-1990 Post-1990

Advanced Developing countries Additional developing countries

15
1. Drivers – entry of the billions

HOURLY LABOUR COSTS IN MANUFACTURING 2002

Source: US Bureau of Labour Statistics

$30.0

$25.0

$20.0

$15.0

$10.0

$5.0

$0.0
US

UK

ly

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n

a
e

n
n

y
y

lia

in
ic
ai

re

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nc
an

a
Ita
pa

iw
ra

bl

ex

Ch
Sp

Ko

ng
a
m

Ja

pu
st

Ta
Fr

M
er

Hu
Au

Re
G

ech
Cz

16
2. Consequences of globalisation

• What is the impact of this combination of changes?

Here are some of the most important:
– First, rising reliance on trade and unbundling of the production
chain across frontiers and associated decline in value added
per unit of exports;
– Second, rising foreign direct investment, as all economies rely
on foreign know-how and organisational skills and production
is integrated across frontiers;

17
2. Consequences of globalisation

– Third, rising tradability of large parts of services:

• those parts of services that can be turned into “bits” are now
more tradable than manufactures;
• the old services category is bifurcated into those activities that
require physical presence (nursing) and those that do not
(banking);
– Fourth, increasing number of competitors and collapse in
monopoly power, which has improved the short-run inflation-
output trade off and helped lower inflation worldwide;

18
2. Consequences of globalisation

– Fifth, relative price changes: collapsing prices of information-

processing, falling prices of labour-intensive manufactures
and tradeable services and rising prices of industrial raw
materials;
– Sixth, falling relative wages (or rising unemployment) of the
unskilled in advanced countries;
– Seventh, reductions in global inequality among households
and in poverty among the successful globalisers;
– Eighth, greater mobility of capital and of some highly-skilled
labour, which puts pressure on tax systems;
– Ninth, a shift in the global balance of power

19
2. Consequences of globalisation - opening

RISE OF GLOBAL ECONOMIC INTEGRATION

Source: UNCTAD
(per cent of global GDP)

50.0% 45.9%

40.0%
30.0% 27.2% 25.3%
21.9%
18.8%
20.0%
9.6% 9.1%
10.0% 7.8% 6.5% 6.6%

0.0%
FDI inward stock Gross product of Export of foreign Export of goods Sales of foreign
foreign affiliates affiliates and non-factor affiliates
services

1990 2004
20
2. Consequences of globalisation - opening

RATIO OF TRADE IN GOODS TO GOODS GDP

(per cent)

250.0%

200.0%

150.0%

100.0%

50.0%

0.0%
Thailand Germany Mexico UK Turkey China US Japan

1990 2003
21
2. Consequences of globalisation – resources

CHINA'S DEMAND AS A PER CENT OF WORLD OUTPUT

45.0%
Source: Oxford Economic Forecasting
40.0%

35.0%

30.0%

25.0%

20.0%

15.0%

10.0%

5.0%

0.0%
Iron Ore Aluminium Copper Cotton Oil

1996 2000 2005

22
2. Consequences – winners and losers

Source: E. Leamer and P.K. Schott (2005), “The Rich (and Poor) Keep Getting
Richer”’Harvard Business Review, Vol. 83(4), April.

23
2. Consequences of globalisation – poverty

Share of people living on less than $1.08 a day at 1993 PPP, in

regional populations
Regions 1981 1990 2001
East Asia & Pacific 55.6% 29.6% 15.6%
China 61.0% 33.0% 16.6%
Europe and Central 0.3% 0.5% 3.7%
Asia
Latin America and 9.7% 11.3% 9.5%
Caribbean
Middle East and North 5.1% 2.3% 2.4%
Africa
South Asia 51.5% 41.3% 31.1%
Sub-Saharan Africa 41.6% 44.6% 46.5%
Total 39.5% 27.9% 21.3%
Total, excluding China 31.5% 26.2% 22.8%
Sources: World Bank,World Development Indicators 2004

24
2. Consequences of globalisation – power

THE WORLD'S DOMINANT ECONOMIES

(GDP at PPP, per cent)

80

70
10
17
60 11

26 14
50 26 18
19
18
20
16
40
9 21
11
30 19
22
27
12 8
20
33
5
7 25
10 17
20
4 3 12
9
5 5
0
1820 1870 1913 1950 1973 2001 2015 2025

Source: Virmani China India Japan United States Big 4 European

25
3. Threats to globalisation

• Five threats
– Fear of globalisation
– Macroeconomic instability
– Resource insufficiency
– Geopolitical tensions
– Globalisation of “bads”

26
3. Threats to globalisation – fear

• The first threat is protectionism:

– Protectionist interests and anti-market ideas
– These forces are always multiplied when
• Recessions hit and
• Global imbalances explode

• Good news, however:

– Multinational companies resist protectionism
– WTO creates institutional barriers

27
3. Threats to globalisation – instability

• The second threat is macroeconomic instability:

– US external imbalance is on an unsustainable path
– Risks ahead: dollar crisis and asset price crashes

• Adjustment will happen

– Will it be smooth or abrupt?
– If abrupt, a big recession is a certainty

28
3. Threats to globalisation –instability

GROWTH OF FOREIGN CURRENCY RESERVES ($bn)

$5,000

$4,500

$4,000 rest of the world

rest of Asia
$3,500
Indonesia
Thailand
$3,000
Malaysia
Singapore
$2,500
Hong Kong
$2,000 India
Korea
$1,500 Taiwan
$925 China
$1,000 $770 Japan

$500 $843
$565
$0
May-06 Dec 99-May 06
29
3. Threats to globalisation – instability

PROSPECTS FOR US NET EXTERNAL LIABILITIES

(per cent of GDP)

20.0%

0.0%

-20.0%

-40.0%

-60.0%

-80.0%

-100.0%
76

78

80

82

84

86

88

90

92

4
96

98

00

02

04

06

08

10

12

14
9
19

19

19

19

19

19

19

19

19

19

19

19

20

20

20

20

20

20

20

20
Historic export and import trends Imports growing at the export trend
Trade balance constant share of GDP Exports growing 10% & imports 5%

30
3. Threats to globalisation – resources

• The third threat is lack of resources, particularly energy

resources
– Half of global incremental demand for oil is now from Asia
– High oil prices have not damaged the world economy . . . yet
– Will conservation now kick in? Or will prices explode?
– What will happen in the longer term?

31
3. Threats to globalisation – resources

Source:IMF
OIL DEMAND FORECAST
(million barrels a day)

150.0

130.0

110.0

90.0

70.0

50.0

30.0

10.0
1971 1976 1981 1986 1991 1996 2001 2006 2011 2016 2021 2026

32
3. Threats to globalisation – resources

• The fourth threat is geopolitical conflict

– Here the rise of China is the big event
– The rise of the US, Germany, Japan and Russia in the late
19th century led to almost a century of conflict, before the US
finally “won”
– Is there a similar threat from the rise of China and even India?
– Could the struggle be over resources?

33
3. Threats to globalisation – the “bads”

• The fifth threat is the globalisation of “bads”

– Terrorism and mega-terrorism
• Nuclear weapons smuggled in containers
• Biological terrorism
• Fear of movement of people
– Rapid spread of pandemic diseases
– Crime, drugs and piracy
– Climate change

34
4. Conclusions

• Globalisation offers huge potential for economic

advance
• It is driven by powerful economic and political forces
• And has powerful economic and political
consequences
• Globalisation is not irreversible
• But it took two world wars and a great recession to halt
it last time
• It will probably take as much to do so once again
35