In June 2014, the old town hall in Sarajevo will host a special performance by the Vienna Philharmonic Orchestra as part of the commemorations of Archduke Franz Ferdinand’s assassination in the Bosnian capital a century ago. The Austro-Hungarian crown prince’s death at the hands of a Serb nationalist triggered World War I, bringing to an end the first wave of modern globalisation.
The age that perished in the trenches of the Somme, along with the monetary and trade policy errors of the years to follow, was in many respects similar to our own times. Technological and transport breakthroughs were enabling commerce and communication on a hitherto unimaginable scale. Products that had been accessible only to local consumers were finding new markets far across the globe, and were also being manufactured by foreign competitors. International trade and investment flows – not to mention the migration of people – had become hallmarks of the new world economy.
So interdependent had major countries become that many came to believe that this integration could only deepen, and that the sheer economic cost of war made it unthinkable. They proved right about the costs of war, but underestimated countries’ ability to blunder into it. Europe’s swift descent in mid-1914 from unprecedented interconnectedness to unprecedented conflict still bears testament to the difficulty of making forecasts about the future of globalisation.
Today, just as a century ago, the world economy is being reshaped by the ascent and relative decline of great powers. The continent at the centre of global economic activity – now Asia – is marked by complex commercial and power relationships, as well as a web of security rivalries and alliances.
International trade and investment make up a far higher share of global output than ever before, following decades of progressive market opening. Dramatic advances in information technology, coupled with containerised shipping’s lower transport costs and predictable trading conditions, have sparked a revolution in the nature of industrial production, distribution and business ownership. The bulk of manufacturing is now characterised by increased vertical specialisation and disaggregation into multi-country value chains of regional and global scope. Trade in tasks is replacing trade in goods, and the services being traded have also been transformed: just as refrigerated ships made meat and bananas internationally tradable at the end of the 19th century, fibre optic cables today make it possible to deliver many types of services across oceans in an instant.
Economic globalisation’s onward march seems assured. Despite the huge shock caused by the 2008 financial crisis, governments have by and large refrained from engaging in large-scale protectionism, and have been aided in that by World Trade Organization (WTO) norms, rules and monitoring. Decisive intervention at the international level was able to offset the shortage of private trade finance that at the height of the credit crunch had threatened to paralyse world trade. While advanced economies, especially in Europe, are still struggling to return to growth, many developing countries have continued to expand at a healthy clip, driving the volume of global trade past its pre-crisis highs. Growth has witnessed the emergence of a large and expanding middle class – traditionally a socially stabilising phenomenon – particularly in Asia but also in Latin America and increasingly in Africa.
Relations between governments, too, seem more conducive to avoiding the miscalculations of the past; a multitude of formal and informal processes have enabled officials at many levels to build personal ties. Leaders know each other better, and can communicate more readily than before.
But it would be an error to think that these trends will inevitably continue. History tends not to proceed in straight lines. Growth in some prominent emerging markets is showing signs of being more fragile than previously thought; many still face daunting structural transformations. And while the existence of a dominant middle class correlates with stability, history – and current events – remind us that the emergence of a large middle class is often accompanied by political and social unrest.
“Ever-closer economic entwinement, together with humankind’s collective environmental impact, mean that actions traditionally thought of as national now have near-constant repercussions elsewhere”
Prolonged unemployment, slow growth or yet another financial sector shock, possibly from the eurozone, could yet push governments to resort to protectionism in an attempt to keep demand at home, especially if they feel that they have exhausted monetary and fiscal policy actions.
Even technology-driven integration is not immune to being reversed, as was shown earlier this year by the uproar over internet surveillance by U.S. intelligence agencies. It is not inconceivable that national governments may in the future consider restraints on cross-border flows of internet-related information, goods and services in response to national security or data privacy imperatives.
The post-1945 form of globalisation has from the start been about more than the ‘death of distance’: it has been anchored in both international and domestic policies and institutions. The human and economic costs of the inter-war period’s failures were seared into the minds of the various architects of the United Nations, the World Bank and the International Monetary Fund and also the WTO’s predecessor, the General Agreement on Tariffs and Trade (GATT). Those institutional architects recognised the importance of entrenching an open international economy in a resilient and rules-based system, and also of complementary domestic policies capable of softening the blows from freer trade and sharing the gains. The Cold War reinforced these imperatives, and stiffened domestic political resolve whenever faced by opposition from special interests.
In the decades to come, trade will continually be – as it always has been – reshaped by such factors as technological advances and demographic shifts, and also by changing environmental, macroeconomic, social, and natural resource contexts. All of this was amply discussed in the WTO’s World Trade Report for 2013. But the future of trade will also be shaped by policy. In one plausible scenario, the open global economy could be strengthened and the many different rules governing it updated to address new challenges in a coherent manner. In another scenario, the global marketplace could fracture into a handful of competing blocs, each with a varied set of regulatory measures that would raise access costs. And it is not too difficult to imagine an even darker future in which open markets would become the victims of a prosperity-destroying protectionist backlash because enough people in enough countries had come to feel that they are not benefitting from globalisation.
Policy must also be shaped by new realities: in a world of value chains that rely on imported intermediate products, maximising added value requires competitive services sectors and openness to imports. In other words, protectionism can hurt export competitiveness rather than help it.
“Even technology-driven integration is not immune to being reversed, as was shown earlier this year by the uproar over internet surveillance by U.S. intelligence agencies”
The key insight of the founders of the post-war economic system – that international and domestic institutions are critical to the optimal functioning of the global economy – nevertheless remains every bit as crucial today as it was in the late 1940s, and arguably more so. Within a few decades, international institutions will almost certainly be asked to do something they have never before had to face – they must address the needs of a post-hegemonic world economy in which no single state will be capable of stabilising the international economic system. In the U.S., the National Intelligence Council predicted last year that by 2030 “no country – whether the U.S., China or any other large country – will be a hegemonic power.” It wondered aloud whether multipolarity would lead to increased resilience in the global economic order, or whether “global volatility and imbalances among players with different economic interests” would end in collapse.
Further complicating matters is the fact that managing the interface between domestic and international policies has become even more complex. Domestic policies on skills, labour markets and social protection have always shaped the effects of trade on jobs and incomes within a country. International trade rules have for more than 30 years recognised that public policy measures on health, safety and environmental protection can have implications for trade opening. But ever-closer economic entwinement, together with humankind’s collective environmental impact, mean that actions traditionally thought of as national now have near-constant repercussions elsewhere. Externalities arise across a range of different policy realms. My export tax is your food price spike; my monetary policy, your capital account or trade volatility problem; my energy mix, our collective climate change conundrum. In such a world, co-operation among governments is essential to stability and sustainable prosperity. This co-ordination imperative sits uneasily, however, with Westphalian notions of state sovereignty, and the fact that nation-states for most people remain the primary locus of political loyalty and social protection.
“Income inequality has increased in some countries, and even between countries, but inequality expert Branko Milanovic has shown that it is decreasing across the global population as a whole”
Can nearly 200 countries co-ordinate across an ever-wider set of policy areas to minimise negative externalities? Will the major players in an increasingly multipolar world economy accept such co-operation and the search for global solutions that necessarily entails compromises? The current impasse in global co-operation on issues with large economic ramifications, from climate change to trade governance, financial sector governance, and macroeconomic co-ordination, does not inspire confidence. The nature of life in the second half of the 21st century will depend upon the answers.
Breaking the deadlock over nations’ rights and responsibilities with respect to global public goods may require no less than a re-foundation of the world’s system of shared values. Kishore Mahbubani, the Singaporean scholar and former diplomat, has argued that solving global problems demands a new form of post-Westphalian “one-world” thinking in which global interests do not always come second to national ones.
Yet even when looking narrowly at national interests, multi-lateralism is today characterised by a paradox. Greater co-ordination is manifestly in nation-states’ traditionally defined interests on fundamental issues such as economic stability, food security, environmental preservation, and public health. The potential gains from co-operation have never been greater. Yet despite convergent interests, governments engage in global governance as if they see it as a zero-sum game. This is in great measure a consequence – hopefully a temporary one – of the ‘rise of the rest’.
For well over a century, since the dawn of the industrial revolution in Europe, perhaps the most striking feature of the world economy has been what Harvard economist Lant Pritchett has described as “divergence, big time.” Between the late 18th century and the 1970s, the gap between the per capita incomes of the richest and the poorest countries widened sharply. That inequality translated into massive differences in people’s living standards and life expectancies, depending quite simply on where they were born.
This remarkable divergence has given way to what many have dubbed a “great convergence.” Starting in the 1960s, some countries in East Asia saw a sharp uptick in growth on the back of an export-led growth strategy. Their success, together with the collapse of the Soviet Union and its economic model, saw large swathes of the developing world adopt outward-looking market-oriented policies. Faster growth ensued. Rapid growth in China and India alone lifted hundreds of millions of people out of poverty, and generated demand that in turn spurred growth in Latin America and Africa.
“The current impasse in global co-operation on issues with large economic ramifications, from climate change to trade governance, financial sector governance, and macroeconomic co-ordination, does not inspire confidence”
The result has been a transformation of the global economic landscape. More people than ever before are able to lead lives free of constant deprivation. Unless there is some sudden reversal, the World Bank believes that the eradication of extreme poverty – an impossible dream until not long ago, however modest the threshold – will be within reach by 2030. Income inequality has increased in some countries, and even between countries, but inequality expert Branko Milanovic has shown that it is decreasing across the global population as a whole. After decades of being firmly anchored between North America and Europe, the centre of gravity of the world economy is returning to its pre-industrial home in Asia. This year, developing and emerging economies will account for more than half of global output, in purchasing power terms. They have already been generating the bulk of new demand in the world economy for years.
“The Doha Round negotiations have been paralysed essentially by the inability of leading governments to agree on whether emerging economies are rich countries with many poor people, or poor countries with many rich”
Trade openness was a major factor in enabling this catch-up growth. The independent 2006-08 Commission on Growth and Development concluded that the open global economy has played a multifaceted central role as a driver of growth in all the economies that have sustained high average growth rates for at least 25 years. The international economy has, in short, been a source of demand far greater than could be offered by the home market, and has been a source of ideas, technology, and know-how, sometimes in the shape of foreign direct investment.
The outward-oriented growth model so effectively used by developing countries was under-pinned by the lower tariffs and pro-openness norms arising from the various GATT trade opening rounds and their considerable success in disciplining and reducing tariffs, quotas, subsidies, and voluntary export restraints, backed by respected dispute settlement procedures. Had market access fluctuated with the vagaries of politics and the business cycle, it’s likely this model would never have evolved.
The irony is that the rise to systemic significance of large developing economies – by any reckoning an extraordinary achievement for the GATT/WTO system – is at the heart of the deadlock in multi-lateral rule-making. The Doha Round negotiations have been paralysed essentially by the inability of leading governments to agree on whether emerging economies are rich countries with many poor people, or poor countries with many rich.
The U.S., the EU, Japan and other advanced economies argue that emerging economies have emerged, and should consequently embrace reciprocity and agree to trade regimes resembling their own. Brazil, China, India and other emerging economies counter that their per capita incomes remain far lower. They insist that the enormous development challenges they still face mean they deserve flexibilities in their trade obligations.
This confusion, which has been replicated in other international fora, is to some extent understandable. The existence of systemically significant countries that are relatively poor in per capita terms is, after all, a new phenomenon. But the Doha stalemate has not only held up the existing negotiating agenda; it has prevented WTO members from meaningful discussion of the challenges that have begun to loom larger within the broadly accepted existing parameters of the open global economy. These challenges include non-tariff measures, export restrictions, electronic commerce, currency exchange rates and the trade implications of climate change-related policies.
Governments have seemed more comfortable experimenting with rules in new areas, through bi-lateral and regional trade agreements, the numbers of which had begun to proliferate even before the Doha Round was launched. The potential confusion and transaction costs arising from the ‘spaghetti bowl’ of overlapping free trade agreements, customs unions and unilateral access schemes is now well documented.
“The international economy has, in short, been a source of demand far greater than could be offered by the home market, and has been a source of ideas, technology, and know-how, sometimes in the shape of foreign direct investment”
The systemic ramifications of such ‘preferential trade agreements’ (PTAs) have been kept in check by the fact that they did not cover trade between most of the very biggest traders, notably the U.S., the EU, China and Japan, among which trade continued to be on most-favoured nation (MFN) terms. But this, too, seems set to change: the European Union and the United States have launched negotiations on a bi-lateral trade and investment agreement, and the U.S.’s long-running Trans-Pacific Partnership talks with several countries looks likely to include Japan. Neither of these initiatives includes China, but Asia’s largest economy is part of the prospective Regional Comprehensive Economic Partnership together with the ten ASEAN nations plus Australia, India, Japan, Korea and New Zealand. As Japan is part of the tri-lateral China, Japan and Korea free trade agreement, Europe and Japan are also considering a bi-lateral deal.
The advent of so-called ‘mega-regional’ agreements presents opportunities and also risks for the smooth functioning of the global economy. Before examining both in detail, it is important to remember that a good many developing nations have been left out of the high growth story of recent decades. These countries are often home to the people Paul Collier has famously termed ‘the bottom billion’ and have been disproportionately unsuccessful in breaking into world markets for value added goods. International action to remove trade barriers to their exports, to improve their supply-side capacities and to increase their regional economic integration is still as important as ever. Otherwise, these countries face the prospect of further marginalisation in a trading system that’s dominated by ‘mega-regionals’.
The attractions of PTAs are easy to understand. They are easier to reach than multi-lateral deals because the self-selected participants tend to have similar interests and sensitivities, and that means fewer red lines for the negotiators to accommodate. What is less clear is whether, cumulatively, they can respond to the challenges facing international trade in an era of value chain-based production.
Mega-regional agreements offer a number of clear potential benefits that should extend beyond the countries directly involved. If the Trans-Pacific Partnership (TPP) or the U.S.-EU Transatlantic Trade and Investment Partnership (TTIP) emerge as the first ever non-multilateral agreements to produce meaningful reforms to trade-distorting farm subsidies, then the benefits will be truly international. And if enough countries cut their remaining high tariffs on sensitive products as part of regional arrangements, then the ultimate results will be easy enough to multilateralise.
“The potential confusion and transaction costs arising from the ‘spaghetti bowl’ of overlapping free trade agreements, customs unions and unilateral access schemes is now well documented”
The problem is that trade agreements today are much more about regulatory issues than about tariffs, which are relatively low on all but a handful of goods. These prospective mega-regional deals would therefore require participants to reach agreement on a wide range of rules covering investment, fair competition, health and safety standards, technical regulations and so forth. This presents a number of obstacles.
First, these are tough issues to resolve. Some non-tariff measures might be easy to dismiss as blatantly protectionist, but many others serve legitimate public policy objectives such as the health and safety of consumers or environmental protection. Ensuring that they are neither designed nor administered in ways that bias the trade playing field is a complex task. It is further complicated by the reality that many non-tariff measures are deeply grounded in a society’s priorities, social perspectives and income levels. The TTIP negotiations, for instance, will presumably require Europeans and Americans to bridge their longstanding differences on attitudes to food safety, product safety standards, vehicle emissions requirements and data privacy.
“We can only hope that the coming anniversaries of war and economic chaos will serve as powerful reminders to governments and citizens alike that global governance needs to be reinforced”
Second, there is a very real risk that any eventual agreements will lock the parties into one or more different approaches to regulatory regimes, thus raising transaction costs for traders at home and making it harder for external goods and services to penetrate the bloc. Market segmentation of this sort could disrupt existing supply chains and lead to efficiency-hurting trade diversion. This would defeat the whole point of trade opening.
Third, the ability of mega-regional agreements to set norms that influence non-participants might prove to be more limited than the enthusiasts are hoping for. Transatlantic trade rules on currency valuation, for instance, might leave Japan indifferent. Or the U.S. and Japan could negotiate rules in the TPP on state-owned enterprises, but China might then simply shrug and ignore them. And very specific rules to protect intellectual property could conceivably do nothing more than guarantee that Brazil and India would never sign up to them.
Participants in mega-regional agreements would therefore do well to strive to ensure that future deals follow roughly similar principles when addressing regulatory issues, that they should be relatively open to newcomers and would not prove impossible to ‘multilateralise’. Pivotal countries participating in multiple large deals, such as Japan, have an especially strong interest in promoting inclusive regionalism. The WTO, with its transparency and information exchange mechanism for preferential trade agreements, would be a sensible vehicle for articulating best practices for deals of this sort.
If regionalism should come to be perceived as coercive and unfriendly, that could push countries into forming defensive trade blocs, a prospect that Arvind Subramanian of the Washington-based Peterson Institute for International Economics has described as “trade war by proxy.” Such a fragmenting of the world economy would inflame rather than soothe security tensions, so the leading proponents of mega-regionals must certainly not let it come to this.
“A top priority should be guidelines aimed at ensuring that megaregional agreements do not become a basis for fragmenting the world economy”
The multi-lateral coherence of mega-regional agreements is far from the only respect in which policy coherence will be central to the future of international trade. Optimal outcomes for trade will require constant attention to the interface between trade itself and a host of other policy areas.
Consider food security. Feeding a growing and wealthier global population in the decades ahead will necessarily demand co-operation across borders and coherence across a number of policy areas. Trade is a vital transmission mechanism for getting food from surplus countries to those in need, and at the multi-lateral level the environment for agricultural production and trade will be influenced by policies on subsidies, tariffs, and – though they are not currently governed by strict WTO disciplines – export restrictions. But good domestic policies on things like land management, water and natural resource management, infrastructure and transport networks, agricultural extension services, land ownership rights, energy, storage, credit and research are at least as important as building functional agricultural systems. Regional co-operation on water and infrastructure will be crucial for good neighbourly relations and building well-functioning regional markets. The controversies over international purchases of arable land in some developing countries suggest that investment rules may also have a useful role to play. Coherence is central to effective agricultural policies, and without a full complement of policies in place, outcomes will suffer.
Much the same can be said of climate change, where maximising emissions reductions and minimising trade friction will require international agreements and domestic action on carbon pricing and green technology. And in a very different manner, the interface between international trade and a country’s domestic policies for education, employment, and social protection is also becoming steadily tighter.
It is clear that economic globalisation creates enormous opportunities, but it produces losers as well as winners. Growth gains may accrue disproportionately to small highly-skilled segments of society, in richer countries particularly. This is dangerous. If large sections of society start to associate globalisation with increased inequality, insecurity and diminished aspirations, the social consensus in favour of open markets will crumble. For both moral and political reasons, governments would do well to invest in education, and in active labour market policies to connect people with jobs, social insurance, and promote inter-generational social mobility. In poorer countries, improving skills and female participation in the labour market will be important factors in ensuring that more people share in the benefits of trade; there is also a role for aid in helping businesses break into world markets.
“Global rules on investment could contribute to more efficient resource allocation than bi-lateral or regional networks. International rules on competition policy would serve the interests of consumers and most producers better than the existing patchwork”
The goal must be “social protection without protectionism,” as Joseph Stiglitz has put it. The pressures of international competition are often blamed for preventing national governments from undertaking redistributive social policy, yet we should be careful not to overstate these constraints: Denmark and the United Kingdom have managed to maintain distinct social models even after pooling a considerable amount of sovereignty within the European Union.
As the world economy tilts towards Asia, Europe faces a stark choice: greater cohesion or marginalisation. This is not to lose sight of the European project’s extraordinary success in achieving political and economic integration among 28 countries with their own distinct legal and historical traditions, and many of them with longstanding histories of enmity. Moving swiftly towards federalism would help solve the crisis in the eurozone and allow Europe to retain influence on the global stage. But creating a more integrated Europe is not enough. To sustain its political legitimacy it will be necessary to ‘make Europeans’. That process cannot rest only on a shared horror of the past because it needs a forward-looking narrative that’s backed up by a credible picture of a brighter future.
If trade’s future hinges on effective governmental action across multiple policy fronts, what of countries’ conduct within the multi-lateral trading system? Governments need first to find a way to deal with today’s trade agenda. If the WTO’s members can strike a deal on trade facilitation at the Bali ministerial conference in December, that would be a shot in the arm for world trade and for multi-lateral co-operation. But it would not mean that other issues on the Doha agenda can then simply be jettisoned. Chronic trade irritants such as farm subsidies and tariffs, tariff peaks and tariff escalation, and also cotton will not just go away.
The governments would then need to expand the agenda. A top priority should be guidelines aimed at ensuring that mega-regional agreements do not become a basis for fragmenting the world economy. Future WTO disciplines on export restrictions, as already noted, could help stabilise international markets for agricultural commodities. Much room remains for liberalising trade in services, and talks on industrial subsidies could prevent countries’ green innovation objectives from getting lost amidst pressures to boost domestic employment.
“Decisive intervention at the international level was able to offset the shortage of private trade finance that at the height of the credit crunch had threatened to paralyse world trade”
Global rules on investment could contribute to more efficient resource allocation than bi-lateral or regional networks. International rules on competition policy would serve the interests of consumers and most producers better than the existing patchwork. More co-operation with the IMF on exchange rate issues, and with the International Labour Organization on labour standards, could diminish trade tensions and enhance trade’s contribution to improving people’s lives. Shared understandings on how to address non-tariff measures would contribute to avoiding unnecessary trade friction. Seismic shifts in energy production might open up a window for more meaningful international co-operation on energy trade and investment.
One of the reasons the stalemate in the WTO over “reciprocity versus flexibility” has lasted so long is that the emerging and the advanced economies are both fundamentally right. The only way out of the impasse is for them to acknowledge this; in practice this would have emerging countries accept the notion of eventually aligning their trade commitments with those of advanced economies. And the advanced economies would in turn have to accept that emerging countries deserve long transition periods to converge. Both would agree to help the poorest countries build the capacity to play an active role in the global marketplace. This is the essence of the message of the Report of the Panel of Experts I convened last year to look at the future of world trade.
“Breaking the deadlock over nations’ rights and responsibilities with respect to global public goods may require no less than a refoundation of the world’s system of shared values”
Enlightened self-interest would years ago have led both camps to conclude that in a multipolar world economy, an international trading system in which everyone plays by updated rules is the least risky means of pursuing their growth objectives. That, to borrow the language of international relations scholars, realist ends were best served by trade opening means. Both sides would have weighed their grievances within the negotiations against their interests in preserving a functioning open international order.
Sadly, enlightenment has been in short supply. We can only hope that the coming anniversaries of war and economic chaos will serve as powerful reminders to governments and citizens alike that global governance needs to be reinforced. As we learned a century ago, close commercial ties are no guarantee of peace. Institutionalised international economic interdependence is the closest we have yet come. It is a legacy worth building on as countries have a far stronger interest in making existing international institutions work than in waiting for new ones to emerge from the ashes of some future crisis. If in the years ahead we can prove that multi-lateral governance is possible in a multipolar world, we will have improved the prospects for a future in which there will be no new Sarajevos to commemorate. Globalisation must be made to deliver for most, or in the end it will deliver for no one.