Unit 4: The Global Economy: International Trade and Development

1. Unit 4: The Global Economy: International Trade and Development Chapter 12: Trade Theory, Agreements, and Patterns Chapter 13: Financing International Trade Chapter 14: International Economic Issues

2. Chapter 14: International Economic Issues • Over the years, Canadians have taken to the streets to voice their opinions on many social movements, including civil rights, women’s right to vote, nuclear disarmament, and protection of the environment • In recent years, as global organizations have met behind closed doors, activist groups from around the world have reacted with persistent, sometimes violent, protests

3. Chapter 14: International Economic Issues • Globalization, in its present form, is perceived by many to promote the exploitation of the poor by the rich, through the spread of capitalism • In this chapter, we’ll investigate many issues arising from the globalization movement

4. What is Globalization? • Globalization is the process of creating a global economy • Driven by three forces • Technology • Removal of trade barriers • International finance system

5. What is Globalization? • Technology • Improvements in telecommunications, computer technology, and transportation infrastructure allows large companies to produce goods and services on a global basis and market them around the world

6. What is Globalization? • Removal of trade barriers • Many nations have removed, or are removing, various barriers to cross-border trade, resulting in a huge increase in the volume of international trade

7. What is Globalization? • International finance system • A vast international financial system is facilitating trade and financing international business activity

8. What is Globalization? • Each of these three forces have been promoted by globalization’s defenders as beneficial for national economies and their citizens • They have also been just as strongly attacked by globalization’s detractors as damaging to people • Let’s examine each in greater detail

9. The Multinational Corporation • As introduced in Chapter 6, the multinational corporation (MNC) is fundamental to globalization • Remember that an MNC is a firm that operates in several countries • Also called transnational corporations • These large businesses can now… • Set up production in any number of companies • Communicate orders and production plans by computer and satellite links • Sell their products and services

10. The Multinational Corporation • Consider the example of Caterpillar, a Canadian tractor manufacturer located near Toronto • The various parts for the tractor are manufactured in several countries • Engines in Japan • Transmission in the US • Winches in Brazil • Axles in Belgium

11. The Multinational Corporation • The parts are all shipped to an Ontario plant, where they are assembled into tractors • The completed tractors are sold to Japan, the US, Brazil, Belgium, and other countries • Computer and satellite links enable companies such as Caterpillar to… • Send their specifications for parts from the home office to their foreign parts manufacturers quickly • To test a finished part while it is still on the factory floor on another continent

12. The Multinational Corporation • The business arrangement of hiring outside contractors to produce either parts or finished products is called outsourcing • Using this strategy, multinationals can “shop around” in many countries for the subcontractor that will produce the good for the least amount of money • The business arrangement of setting up a subsidiary, or branch plant, in another country, is another way of conducting an international operation

13. The Multinational Corporation • In the case of multinationals that sell services, arrangements usually depend on the transfer of data via computers and satellite links • For example, Ireland has become a major centre for the processing of US insurance claims • A US insurance company, New York Life, sends the day’s claims to an Irish branch office at the end of the business day in the US • Because of the 5-6 hour time difference, Irish employees can spend their workday processing the claims before their US counterparts even wake up • They then relay the processed claims back to the US, where American employees can begin their day by sending out processed claims to the company’s insurance claimants

14. The Multinational Corporation • With this international arrangement, the US company takes advantage of: • Lower labour costs in Ireland • Favourable tax levels offered to foreign companies by the Irish government • The fact that the Irish employees speak English • The time difference between the two countries to create a comparative advantage for itself

15. The Multinational Corporation • Caterpillar and New York Life give us what appear to be positive examples of the global economy • If the manufacturer or service company opens a branch plant… • It builds, buys, or leases a plant for its operations in the host country • It hires and trains local people, sometimes introducing them to new technology • Pays wages to these employees • Pays taxes to the host government • May use local suppliers for component parts needed in its production process

16. Foreign Multinationals in Canada • The debate today over foreign multinationals in Canada has shifted… • From concern over their presence… • To concern when they shift their operations to other countries and eliminate jobs for Canadians • On the one hand, many foreign multinationals moved operations from Canada while they continued to sell products here • On the other hand, many Canadian firms have expanded their operations to export products and services to markets in other countries

17. Foreign Multinationals in Canada • Over the last 30 years, larger and larger companies have been expanding their operations to larger and larger markets in their quest for profit • According to Fortune magazine, by 2000, the list of world’s top 30 economies included 5 multinationals: • General Motors • Wal-mart • Exxon Mobil • Ford • DaimlerChrysler • The multinationals, therefore, are a fundamental force driving globalization

18. Removing the Barriers to International Trade • The second major force that’s driving globalization is the removal of numerous barriers to international trade • As a consequence on this, trade among countries is now much more important than it was in the past • Figure 19.2 illustrates that international trade has been increasing far more quickly than world output since the 1970s • Increasing at a rate of about 7% per year • Trade now constitutes 21% of total world income and is likely to keep increasing

19. Removing the Barriers to International Trade • The major reason for the dramatic increase in the volume of world trade over the last 30 years or so stems directly from absolute and comparative advantage • These theories promise great gains from trade if it’s open and free from trade barriers such as tariffs • Industrialized countries made a determined effort among themselves to lower barriers to trade • A series of international agreements, first negotiated under the General Agreement on Tariffs and Trade )GATT) and later under the World Trade Organization (WTO) steadily lowered tariff barriers from as high as 40% to an average of 5% today

20. Removing the Barriers to International Trade • Other international changes contributed to a worldwide trade expansion • The Cold War ended in the late 1980s when communism fell in Russia and Eastern Europe • Russia, East Germany, Poland, and other Eastern European countries replaced their command economies with capitalist economies • Central to this process, they opened up their economies to trade and investment

21. Removing the Barriers to International Trade • In another major shift in East Asia, the “Asian tigers” of South Korea, Singapore, Taiwan, and Hong Kong flourished under capitalism • Became industrial powers and major trading nations • China, though still technically communist, opened its doors to international investment • Many subsidiaries of foreign multinationals are now located in China • Recently joined the WTO

22. The World Trade Organization (WTO) • The one organization most responsible for removing trade barriers is the WTO • The WTO is the focus of much of the debate and protest surrounding globalization • Most governments, economists, and businesspeople support the WTO • Most labour organizations, environmentalists, and social activists oppose it • The general population holds mixed opinions

23. The World Trade Organization (WTO) • As of 2002, the WTO had 144 members • The large numbers of members makes governing the organization somewhat unwieldy • Trade rules are set by a simple majority vote of the members • Trade disputes that arise between members are brought before special tribunals of trade experts and lawyers • The tribunals decide who is at fault, and the country found at fault might be asked to change its law to conform to the WTO rule, face economic sanctions, or pay compensation to the wronged country

24. The World Trade Organization (WTO) • The WTO has had to deal with newer kinds of international trade items and issues than the GATT, which dealt mostly with trade in goods • At present, trade in services such as telecommunications, insurance, finances, health, and education, accounts for over 60% of world GDP

25. The World Trade Organization (WTO) • Another area of concern for the WTO is the issue of intellectual property rights • Patents for such products as technology, recorded music, and pharmaceutical drugs • Rules regarding foreign investment by multinationals are another area in which the WTO tries to achieve consensus among its members

26. The World Trade Organization (WTO) • Proponents of the WTO claim that these negotiations lead to a “level playing field” for all nations that want to participate • Opponents claim that only the most powerful nations can finance the permanent lobbyists who can sway WTO rulings to their benefit

27. Globalized Financial Markets • The third force driving the creation of a global economy is the global financial market • A network of 100 or so of the world’s banks and large brokerages linked by computers • Enables traders to buy or sell foreign currencies, along with government and corporate bonds or stocks, exceedingly quickly, using specialized computer technology • The amounts traded are vast • It’s estimated that $2.5 trillion is traded daily on these global money markets

28. Globalized Financial Markets • The traders who work for major financial institutions specialize in performing one of several functions • First, they may carry out currency conversions for individuals or businesses buying or selling with foreign countries • The buyer (importer) contacts a bank trader, who purchases the exporter’s currency in the world money market and arranges payment to the seller

29. Globalized Financial Markets • Second, another groups of traders specializes in bonds sold worldwide by corporations and businesses • To finance deficits, governments sell these bonds to investors abroad through the global market • The bond market alone trades over $300 billion per day • A third group of traders buys and sells shares for multinationals • This global stock exchange buys and sells about $40 billion per day, but this figure is likely to increase quickly

30. Globalized Financial Markets • The traders in these global markets make money by charging their clients for the service of buying currencies, bonds, or stocks • Also profit by taking advantage of small differences in prices of currencies or assets between different countries • If a currency, bond, or share sells for a lower price in one country, the trader will buy it there and then sell it in another country where the price is slightly higher • A trader can make these transactions from a computer terminal using computer technology that acts at lightning speed

31. Concerns about Global Finance • The very speed and efficiency of the global markets that allow sellers and buyers to transact business have become an issue of concern • In 1997, the countries of East Asia suffered a devastating financial crisis that spread to many countries around the world • Exact causes are still disputed • Some say the governments and banking systems in these countries were inefficient • Most experts agree that the responses of the global money markets intensified and spread the financial crisis

32. Concerns about Global Finance • Thailand, South Korea, Malaysia, and Indonesia had been economic success stories before 1997 • Their economies boomed, and the markets pumped in billions of dollars into real estate, new factories, and financial assets • In 1997, the markets grew pessimistic about these countries • Their currencies appeared to be overvalued • Their exports had fallen • It seemed their comparative advantage in production was slipping away to China with its lower wages • Investors pulled out of these countries, businesses closed, and the currencies were devalued

33. Concerns about Global Finance • The crisis soon spread to: • Hong Kong, where the stock market fell 25% in 4 days • South Korea, the world’s 11th largest economy, where the currency collapsed • The International Monetary Fund attempted to fix the situation by engineering a large loan to South Korea, but that only resulted in the crisis spreading to economies with no connection to East Asia • Brazil’s currency was sold, driving its value down by 33% • Russia’s government defaulted on its debt • The US stock market fell by 2000 points • The Canadian dollar depreciated due to a drop in demand from Asia for natural resources

34. Concerns about Global Finance • In human terms, this financial crisis… • Plunged 10 million people into “extreme poverty” (income of $1 or less a day) • Threw 24 million into “poverty” (2$ a day) • Left an estimated 27 million workers without jobs in the 5 countries most severely hit

35. Concerns about Global Finance • At present, the global financial system has no mechanism to regulate international flows of capital • Regulations to prevent sudden withdrawals of capital have been proposed to reform the global financial system

36. Underdevelopment: The Status Quo? • Although the proportion of poor Canadians continues to increase statistically, most Canadians live a relatively comfortable lifestyle in contrast to the majority of Earth’s people • To help recognize the disparities that exist between rich and poor nations, the World Bank classifies national economies into 3 groups based on annual per capita GDP data: • High-income • Middle-income • Low-income

37. Underdevelopment: The Status Quo? • High-income economies (also called industrially advanced countries or IACs) are nations with per capita GDPs high enough to provide a substantial majority of citizens with prosperity • In its 2000/2001 report, the World Bank set US$9266 (about Can$15,000) as the minimum GNP per capita for this group • In this report, 52 nations qualified for this distinction, representing 903 million people

38. Underdevelopment: The Status Quo? • Middle-income economies are those in which a sizable minority of the population avoids living in acute poverty • In the 2000/2001 report, 92 nations, representing 2.7 billion people, were classified in this group • Included China, Russia, the Eastern European countries formerly under Soviet domination, several Central and South American nations, the Middle East, the extreme northern and southern regions of Africa, and the newly industrializing countries of Southeast Asia

39. Underdevelopment: The Status Quo? • Low-income economies (also called less developed countries or LDCs) include the poorest nations of the world • In the 2000/2001 report, the maximum GNP per capita was set at $755 • 63 nations were placed in this category, representing 2.5 billion people

40. Underdevelopment: The Status Quo? • Many of these low-income nations share a common history as former colonies, at one time under the control of other nations • In many cases, the economies developed under colonialism were designed to benefit the home country and exploit the colonies for their natural resources • Consequently, colonialism crippled healthy economic development in these nations

41. Underdevelopment: The Status Quo? • Many contemporary economists have concluded that the gap between high- and low-income nations continues to widen • It has been stated by various economists, relief workers, and religious leaders that in order for the world to experience lasting peace, it must first do away with existing injustices that serve to keep low-income nations from achieving sustained economic process

42. Underdevelopment: The Status Quo? • Unfortunately the 80/20 rule appears to be a permanent economic fixture in the world economy • More than 80% of the world’s productive resources are effectively controlled by 20% of the world’s people • Conversely, the 80% of the world’s people control only 20% of the resources • Under these circumstances, it seems like a more equitable distribution of global wealth is virtually impossible

43. Underdevelopment: The Status Quo? • Some of the more radical voices suggest that the rich are rich precisely because of their advantageous position over the poor and vulnerable • Famines, as the arguments go, are not as much a case of insufficient food production to meet global needs as they are of distribution breakdowns between the :”have” and “have-not” nations

44. Barriers to Economic Development • Economists judge the economic success of a country by noting whether living standards are growing • An economy shows economic development when a nation’s living standards have increased • We can easily see this when there is a measurable increase in per capita GDP that is shared by the bulk of its population • To achieve this, a country requires both economic growth and a widespread distribution of the benefits of this economic growth • In attempting to facilitate economic growth, low-income nations generally face a series of obstacles

45. Barriers to Economic Development Lack of economic freedom and stability • Many low-income countries have politico-economic systems in place that limit economic freedom and the individual pursuit of self-interest • Some of these nations, such as Afghanistan, Angola, Cambodia, and Somalia, have experienced long civil wars that have further devastated their already fragile economies • In some low-income countries, military and other forms of dictatorship control the governments • The stability present in a strong dictatorship comes at the price of lost personal and economic freedom • In these “controlled” economies, national wealth rarely manages to trickle down to the majority of citizens

46. Barriers to Economic Development Malnutrition • Nations with a low GDP per capita usually have insufficient food supplies to distribute, resulting in a malnourished population • Other goods and services that contribute to improved health standards are also in short supply • To complicate matters, available food and productive resources may be controlled by a small minority of the population and used only for their benefit • For example, many low-income countries grow cash crops intended for export • Usually grown on huge plantations owned by a small minority • The majority may be powerless to do anything about this imbalance

47. Barriers to Economic Development Low levels of investment • Because individuals, households, and firms must use most of their income to purchase essential goods and services, only a minor portion of income can be saved • Without substantial savings in banks, the financing of investment projects and the development of a capital-goods infrastructure are very difficult to achieve • Further, when foreign interests supply money or real capital, their interests (profit maximization) may not always be in the best interests of the host nation, so they may be unwelcome • Finally, traditions that discourage self-interest, competition, and profit may inhibit local entrepreneurship

48. Barriers to Economic Development • Without high levels of investment capital, production tends to rely on labour • Labour is relatively cheap and offers the only means of achieving profitability • Labour-intensive industries provide many people with jobs • As long as people receive a wage they can live on, often referred to as a living wage, this situation is not problematic • However, in many low-income nations, the earnings of the majority of workers are not sufficient to provide the necessities of a healthy life

49. Barriers to Economic Development Population growth • Population growth in most low-income economies tends to be too high to be sustained by the existing levels of production growth • Consequently, living standards decline steadily over time • Rapid population growth and low incomes are linked • Large families are seen as an economic necessity in low-GDP nations, especially in areas where the child mortality rate is high • In economies with limited social security programs in place (such as retirement pensions) children provide labour to help the family survive • Later, they provide security for aging parents

50. Barriers to Economic Development Dependence on child labour • According to the International Labour Organization, by the end of the 20th century, the number of working children had climbed to more than 250 million • In many low-income countries, children are required to work in factories or at home sewing garments, stitching baseballs, weaving rugs, making bricks, treating leather, hawking wares in markets, and serving as domestics for wealthy families • One of the most dangerous activities involves scavenging through refuse dumps in order to find materials that can be sold