Dani Roderik: The Globalization Paradox December 2011 WRR

The Globalization ParadoxDani RodrikDecember 2011

Outline Capitalism as an evolving, self-reinventingsystem The political trilemma of the world economy Options for the Eurozone The “subtle” tension between globalization anddemocracy

The evolution of capitalism: version 1.0 Adam Smith’s s insight: the market is the most creativeand dynamic economic engine known to man Textbook renditions (still common) presume it requires aminimal state National defense, protection of property rights, and theadministration of justice Not necessarily Adam Smith’s s own view Corresponds to the 19 th century “liberal” view andtoday’s s libertarian vision A vision of markets that are separate and disembedded frompolitics

The evolution of capitalism: version 2.0 Insight: markets are not self-creating, self-regulating,self-stabilizing, stabilizing, or self-legitimizinglegitimizing Therefore they need to be embedded in a wide range ofinstitutions Regulatory institutions, redistributive institutions, monetary and afiscal institutions, institutions of conflict management, … In practice: Keynes + the welfare state + industrial policy A national system of capitalism, not a global one Bretton Woods made the system work by throwing lots of “sandin the wheels” of international commerce and finance Capital controls plus a highly permissive GATT Thriving world trade and investment, but far from “hyper-globalization” A thin layer of global rules, leaving considerable room for maneuverfor domestic policy makers

The evolution of capitalism: version 3.0,a beta full of bugs Insight: full-fledged fledged globalization (“hyperglobalization(hyperglobalization”)requires elimination of transaction costs on internationaltrade and finance, both at and behind the border Regulatory harmonization and reduction of “policy space” In practice: financial globalization + World Trade Organization But a fatal flaw: domestic governance/regulatorymechanisms were weakened while their globalcounterparts remained incomplete Economic malfunction: inequality, financial crises, unevendevelopment Political costs: loss of voice, concern over democratic legitimacy,inequality and “level playing fields” Europe: the “exception” that tests the rule

The history of globalization viewedthrough the prism of a trilemmaGoldenStraitjacketHyperglobalizationNationalsovereigntyThe Gold Standard model: narrow domestic “policy space” inmacro, financial, tax, structural and other domains to minimizeimpediments to free flow of capital and goods

The history of globalization viewedthrough the prism of a trilemmaGoldenStraitjacketHyperglobalizationNationalsovereigntyDemocraticpoliticsProblem: historically, this model has not been compatible withdemocracy (Great Britain 1931, Argentina 2001, Greece today?)Thomas Friedman’s Coke and Pepsi analogy

The history of globalization viewedthrough the prism of a trilemmaHyperglobalizationNationalsovereigntyDemocraticpoliticsBretton Woods compromiseThe Bretton Woods compromise: maximize democratic legitimacyat homeKeynesian macro policies + welfare state + economic restructuring

The history of globalization viewedthrough the prism of a trilemmaHyperglobalizationNationalsovereigntyDemocraticpoliticsBretton Woods compromiseAn explicitly incomplete globalization:Keynes and capital controls; The GATT model in trade

The history of globalization viewedthrough the prism of a trilemmaHyperglobalizationInadequate regulationInadequatelegitimacyNationalsovereigntyDemocraticpoliticsBretton Woods compromiseProblems of the post-1990 model: push for hyper-globalization withoutthe institutional infrastructureWTO + financial globalizationFailures of legitimacy where global rules went too far (trade) and ofregulation where they didn’t go far enough (finance)

The fundamental problem of the worldeconomy Imbalance between reach of markets (global) and scopeof their governance (mostly national) What will a real capitalism 3.0 look like? Temptation: a global version of capitalism 2.0 Global governance: global regulation, global standards, globalsafety nets, etc. But impractical Places too much faith on the supply of global “leadership” andwillingness of countries to give up sovereignty And more importantly, undesirable Diversity in national preferences and needs E.g., corporate taxation, scope of welfare state, trade-off betweenfinancial innovation and financial stability, developing countrieses’need to promote structural transformation

The history of globalization viewedthrough the prism of a trilemmaHyperglobalizationGlobalgovernanceNationalsovereigntyDemocraticpoliticsA third alternative: “global governance”Requires significant restraint on national self-determination andtherefore regulatory, institutional, and policy diversity

The political trilemma of theworld economyGoldenStraitjacketHyperglobalizationGlobalgovernanceNationalsovereigntyBretton Woods compromiseDemocraticpoliticsPick two, any two

The European Union: the exceptionthat tests the rule Objective: construct a regional version of global governanceto underpin single European market Impressive institutional achievements European Parliament, European Commission, European Council,European Court of Justice, … Acquis communautaire (100,000 + pages) ECB and Eurozone Yet significant institutional incompleteness, which has left theEU badly exposed to the crisis Policy without politics versus politics without policy (V. Schmidt) Problems of both democratic legitimacy and economic management A non-Euroskeptic interpretation: the EU’s s misfortune is thatthe financial crisis caught it midway in its process ofinstitution-building

Implications of EU’s s incomplete politicalunion: a comparison with the U.S. California shares a common currency with the rest of the U.S.,just as Greece and Ireland does with the Eurozone But when the state of California becomes insolvent: Californians automatically get welfare checks and other transferpayments from Washington CA borrowers do not get shut out of credit markets because they operate under a federal legal regime and the state cannot interfere intheir operations The Federal Reserve stands ready to act as a lender of last resort rt toany Californian bank CA interests are represented in Washington and push for remedies(e.g., fiscal spending) Californians can easily move and seek jobs elsewhere in the U.S. In return, there is no expectation that Washington, DC will bail thestate govt. out “no bail out” is rendered credible by above supports from the center,which limit the economic/political fallout

Implications of EU’s s incomplete politicalunion: a comparison with the U.S. Because the state of CA has no “sovereign powers,” it is effectively justlike any other borrower The quid pro quo in the U.S.: CA residents are (and feel like they are) part of the politicalcommunity and governance structure in Washington In return, CA has given up its sovereignty and has accepted thereach of federal laws and regulations None of these things is true in Eurozone Consequently, a crisis within the Eurozone is more costly both in ieconomic and political terms Ad hoc arrangements to extend credit rather than automaticity Contagion and self-fulfilling fulfilling panics Protracted financial crisis and deeper economic recession Mutual resentment on all sides ... which ultimately threaten the survival of Eurozone

The political trilemma of the worldeconomy: Eurozone versionHyperglobalizationGoldenStraitjacket(Eurozone today)Globalgovernance(Eurozone fiscal/political union)NationalsovereigntyDemocraticpoliticsBretton Woods compromise(Eurozone break-up)Pick two, any two

The EU’s s dilemma Main point: economic union requires political union EU needs either more political union… If it wants single market … or less economic union If it is unable to achieve political integration

The subtle tension between democracyand globalization (1) Hyperglobalization => full economic integration =>absence of transaction costs on international trade andfinance Implications for nation-states cannot impose restrictions on goods, services, and assets at theborder must harmonize monetary, legal, and regulatory regimes so as tominimize transaction costs that arise from jurisdictionaldiscontinuities must credibly pre-committo not deviating from those harmonizedregimes

The subtle tension between democracyand globalization (2) But saying that economic integration restricts nationalpolicy space is not valid criticism per se The principle of democratic delegation Checks and balances in constitutional democracies Globalization can make it easier for national democracies toattain goals they pursue, albeit with some restrictions on policyspace The conflict arises only when globalization restricts thedomestic articulation of those goals, without acompensating expansion of democratic space at theregional/global level

Globalization can enhance democracy By offsetting factions E.g., prevent protectionist special interests from getting the upper uhand(by strengthening the president over congress, international adjudicationin WTO) Providing credibility and commitment by tying a government’s s hands [But not always: TRIPs, AD, KAL, …] By protecting minority rights E.g., human rights norms and conventions [But now always: BITs and (foreign) investor protection rights…] By enhancing the quality of democratic deliberation E.g., through more scientific assessment of policies in health and aenvironmental areas [But not always: int’l l agreements with WTO, IMF are used to curtaildebate in many cases]This is what Keohane, Macedo, and Moravcsik call“democracy-enhancing enhancing multilateralism”

But “democracy-enhancingenhancingglobalization” would fall short hyper-globalization “Globalization can enhance democracy” doesn’t t imply italways does or will Note exceptions in brackets At home, democratic delegation remains in practice restricted toareas with few partisan differences Important difference in principle and substance betweenpursuit of Hyper-globalization Which justifies any and all external rules that restrict domestic c policy spaceso as to minimize transactions costs associated with national borders; and Democracy-enhancing enhancing globalization Which imposes only those, mostly procedural, restrictions (such astransparency, accountability, representativeness, use of scientific evidence,etc.) that enhance deliberation, or are consistent with democratic delegation

The regional/global governancealternative, redux Unless a political community extending beyond thenation state can be constructed Historically, this has required Some economic and social convergence, but also An elite project from above Is it too late for the EU? Failure of constitutional treaty Failure of political leadership during current crisis An economic crisis far too advanced

Globally, national sovereignty isn’twithering away anytime soon… The balance of global forces is becoming morecentrifugal Declining role of U.S. in global economy EU likely to remain preoccupied with own matters China and the other emerging powers place, if anything,greater emphasis on national sovereignty The supply of global leadership will be in short supply Therefore we need to moderate our ambitions onglobal governance

Global governance light A set of traffic rules that create “policy space” to allow: rich nations to provide social insurance, address concerns about labor,environmental, health, and safety consequences of trade, and shortenthe “chain of delegation” poor nations to position themselves better for globalization througheconomic restructuring all nations to create financial systems and regulatory structures s moreattuned to their own conditions and needs Policy space need not result in “slippery slope” toprotectionism The misleading analogy of “global commons”: : open trade and financialpolicies are semi-private goods Democratic politics can “malfunction, malfunction,” but it is locals who pay the bulk ofthe costs e.g., agricultural subsidies Improved deliberation at home, not external constraints, is the rightanswer to democratic malfunction We should seek democracy-enhancing enhancing globalization, nothyper-globalization