World Politics
IPE - The North

The International Political Economy! Perhaps the most fascinating unit, as it deals with the issues that really affect our world today, but its also complex, and that drives people away. The goal I have here is that those who do go on in Poli-Sci will be able to use these concepts in later classes where they become more important, but those who don’t will be able to much better understand issues discussed on the news that now might seem very complex and difficult. Let’s jump in:

Understanding the world economic system is not easy -- economics literally entails how humans buy, sell, barter, produce goods. Doesn't have any rhyme or reason sometimes, and trying to understand it internationally is complicated.

For us, we'll SIMPLIFY in two ways:

1) Consider the "north" as a system, created under the hegemonic leadership of the U.S., now moving to either a cooperative system or a trading bloc system. Attempt to have free trade, cooperation, capitalism.

2) Consider the "south" as a separate system, connected to the north, but in a way which leads to different problems and barriers. Many arguments: does the north impede the growth of the South? Or do they just have to develop politically and make the right reforms?

AFTER World War II: Goal of the U.S. was to build a world economic system based on free trade. But this requires cooperation, and cooperation is difficult to establish if you have anarchy and a system of sovereign states.

Free Trade

Free trade is the concept which defines the international economic system and the theories currently believed. It is not absolute -- very few countries really engage in absolute free trade with other countries (the EU the most, NAFTA and other regional trade organizations get closer), but the entire system is based on a belief in liberalism, which essentially means free trade and a type of capitalism. (Note: capitalism a rather inadequate term, since it almost always means some kind of market economy mixed with government regulation and control. All economies are mixed. The term either ignores the mixing, or from the Left sounds like some kind of evil system of capitalist exploiters...I prefer market economies or liberalism, recognizing that there is a vast range possible within that from a more ‘capitalist’ to a ‘social democrat’ market system).

Free trade is based on the notion of comparative advantage, which comes back from the Scotish economist David Ricardo. This builds on the theory of absolute advantage which goes all the way back to Adam Smith. Ricardo essentially argued that EVERY time states trade they’ll be better off.

Absolute advantage is easy to understand: Think of what would happen if we all had to produce everything we use and need. We had to make our own stoves, grow or hunt for our food, produce our clothing and furniture. Well, we’d have a heck of a time just surviving, and even then we’d have little fun. We couldn’t have near our luxury and comfort if we tried to be self-sufficient. How do we avoid that? We SPECIALIZE. We find something we’re good at and (more importantly) something someone will pay us to do. People specialize in different things and trade with each other, using money as a facilitator of exchange.

Smith: countries can do the same thing. In economics the theory is straight forward. By specializing and trading countries can reach an equilibrium point outside of anything they could reach within their production possibilities curves without trade.

Countries EISEN and WEIZEN

Eisen: steel and iron: CARS

Weizen: grain: FOOD

Equilibrium: Eisen: 500 cars, 100 tons food

Weizen: 200 cars, 300 tons food

Now, for every 100 cars that Weizen produces, it must sacrifice 250 tons of food. For every 100 tons of food Eisen produces, it sacrifices 500 cars.

If they specialized: instead of 600 cars and 300 tons

Eisen: 1000 cars, no food

Weizen: 0 cars, 800 tons food

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Yet, free trade did not catch on very easily or quickly. Why do you think that is? Ricardo argued that even if a state didn’t have an absolute advantage in one of these goods, they’d still be better off with free trade. As we’ll see, other factors may make that untrue in some cases of extreme differences. Economic theory doesn’t always describe reality due to the assumptions and simplifications it makes. So why didn’t free trade catch on?

Soveriegnty -- and fear of dependence. Even though states saw early that trade was useful and good, no one wanted to be completely dependent on another state, and indeed they wanted to get advantages from trade.

Why would it be hard to move towards free trade?

* Governments would give up taxation, perhaps control of the economy

By controlling trade and having tariffs, governments create clientel relationships with businesses, often exchanging protection for favors. Early on, at least, tariffs also raised considerable money for governments.

* protected industries would be hurt, both employers and employees

This is a biggie. The theory of comparative advantage says that states have to specialize, but that is easy to suggest in the abstract than to pull off in reality. Consider Maine: shoe companies and textile manufacturers close, jobs going over to the third world and Mexico due to free trade. Economic theory: this is GOOD. Those jobs are not where we have a comparative advantage, we have an advantage in higher tech goods. These are labor intensive needing a workforce with little education, that’s where the third world has an advantage. The sons and daughters of the factory workers will have better careers if our economy changes. BUT

Is that how people react? No. The transition is difficult, sometimes virtually impossible. Workers lose their job. Its hard to bring in investment. The workers are often not trained for anything else. The lack of certainty about what else to do (economic theories tend to assume perfect information at least to start) also makes the transition tough. So there is considerable pressure to "buy American," or protect jobs and our industry. From the stand point of free trade theory that hurts -- and of course it invents a counter action by other countries against goods we might be better at producing.

Big deal in economics: time lags and stickiness. Many economic theories ignore that or don’t understand its real political impact. That’s why economists sometimes get really bizarre theories that are extreme (pure socialism, pure libertarian capitalism, etc.) According to the theory things SHOULD work a certain way, if only humans would do what is necessary. But they tend NOT to work that way because humans don’t act according to the assumptions of economic theory (often a simplistic assumption about ‘human nature’ or ‘rationality’; sometimes a more complex set of assumptions, but hard to operationalize), and POLITICS gets in the way. That irritates economists, but political scientists say that’s simply a variable one must take into account.

Note how difficult this makes it -- even if one countries cuts tariffs in good faith, another country might not. The EU has a similar problem -- often the bankers and business people want free trade and closer ties, but the people in the community are more skeptical because of the social costs, which is the next point:

* Social costs of specializing

More sophisticated economists recognize "intangibles" and try to include them in the equation. Politics says these things can be determining, they aren’t simply a hard to measure variable. Consider: save the family farm. Save a town. Save a way of life. Should Walmart come and close down the small shops in a town. Economists: YES! Citizens will have lower prices, better variety, and it will make jobs. Some citizens say no, but...

(Side note: the "tyranny of small decisions". That is when people want a certain outcome, but the choices they make cause another outcome. For instance, you may want the small stores to survive the entrance of Walmart into town, but since Walmart is convenient and the prices lower, you start going there more often and wham, suddenly the stores are gone.)

* Fear of dependency

Early on this was a major issue. You don’t want to rely on a potential enemy for your steel, your arms, your food. You need to be able to be self sufficient. Economic theory would say that, if, say Belgium really produced and could export great chocolate and waffles, and could cheaply import everything else, they should. But what if the other countries stop free trade and impose tariffs, and the Belgians find that even good waffles and chocolate aren’t enough to live on. They need to keep other parts of the economy viable, and that needs protection. Now, this is being questioned because many argue that interdependency has replaced dependency. In other words, it isn’t so much that country X is dependent on Y, but the two are interdependent. If one breaks the relationship, both are hurt. Thus, fear of dependency less rational. May be true, but still a concern for many states.

* Nature of International System

The international system also has been one of competitive states trying to maximize national interest: realism.

Realist belief that human nature as being greedy or "bad": Realists tend to see humans as essentially myopic and self-interested, not able to see the long term consequences and acting purely on slef-interest. Even those who rise above that nature have to deal with the fact that all you need is a few bad apples to spoil the things. (Dogbert cartoon, Dogbert wants all arms to be banished. Dilbert says its a nice thought. Dogbert replies: "yeah, then I can take over this place with a butterknife.")

As long as realist thinking dominated, economics was second fiddle, and the competitive nature of the system made free trade and cooperation less likely. Oh, and realist thinking still tends to be pervasive, look at arguments about China. Some people say trade with

China is a danger, though its hard to see what China can conceivably do to us. That’s old realist thought - fear and the security dilemma.

So, think about this:

Rationally, free trade is best, makes everyone more wealthy. But:

* domestic politics works against it

* the international system works against it

Fundamentally, soveriegnty is an enemy of free trade. The perfect economic system would be borderless, with no states, just trade of individuals or companies at what they’re best at. But that’s not the political nature of the system, nor is it a feasible option at any point in the foreseeable future.

Think: the international system, as well as domestic political structures, work against free trade. Yet free trade has become the basic principle of the system, with almost all governments wanting to expand it. How did we get to an era of embedded liberalism?

A number of aspects: GATT: General Agreement on Tariffs and Trade. Started with 23 nations, based on the idea of most favored nation. Trade with all nations granted the same advantages. Designed to eliminate or reduce tariffs over the long term through trade negotiation rounds.

Note: Most favored nation is the norm, all states in GATT (now the WTO) must be treated with MFN status; not granting that is really more like a punishment.

PROBLEMS: Non-tariff barriers. States can impose trade restrictions even if tariffs are O. Health requirements, specifications for machines, quotas, taxes. Still, trade became freer, and negotiations developed to try to improve the situation. Certain NTBs from states like Japan were tolerated in order to help them build their economic system from the ashes of the war.

Lead to recent development of WTO, which actually can punish states for violating the provisions of GATT. That only came recently, most of the post-war period was voluntary adherence to GATT.

Another creation: The international monetary fund. This was designed to help states monetarily handle periods of cash flow problems. To be used by the third world, loans would be given from a basket of contributions (mostly US) and they would be conditional. More about this when we discuss the third world or the South in particular.

The monetary system after world war II: Bretton Woods, named after the New Hampshire resort where it was hashed out.

Basically, a U.S. led system of stable exchange rates with the dollar acting as the major currency.

-- Dollar tied to gold: $35 an ounce. BUT, in order to provide liquidity for a growing world economy, more dollars were printed than could be covered by gold.

ECONOMISTS: Stupid to tie dollar to a mineral, esp. one found mostly in the Soviet Union! Said that gold standard should be dumped, and currency should float.

Mini-economics lesson. If currencies float, then their value can change vis-a-vis other currencies. When I was in BRD in 1985, $1 = 3 DM. In 1995: $1=1.5 DM. So, everything was more expensive for me -- hotel rooms, meals, etc.

If you think about it, this is also true for such things as BMWs and Volkswagens. Assuming their price stays constant in DM, then it would rise in dollars. That means that German cars become more expensive here as the Dollar gets weaker. Same principle as hotel rooms, but on a larger scale. Think: how does that affect trade? Weak dollar means our products are cheaper abroad, more likely to have a trade surplus; a strong dollar our products are more expensive abroad, but foreign products are cheaper here, more likely to be a trade deficit.

Economists: Early in the cold war the US Dollar overvalued. That made US products too

expensive for Europeans, and caused a US trade deficit. If rates floated, the law of supply and demand should prevent currencies from being over or under valued. The reason: the dollar was set at the Bretton Woods conference when the US had just won the war, and the rest of the world was in shambles. Over time they caught up, but the dollar still was valued as if the US economy was much stronger. Think: what would happen to trade for the US in this kind of situation? Why do you think it would be bad? (Discuss this in class until everyone understands).

BUT, politically, people wanted to keep the dollar stable. Stable currency allowed for stable policy. If fluctuations in the economies of states suddenly appeared as currency changes, this could cause chaos. People thought the stability of the system could collapse if the dollar wasn’t seen as rock solid. So you had the political desire for stability collide with economic realities. Reality inevitably wins out over desire.

1960: Triffin dilemma first noticed -- more dollars than Gold. By mid-sixties, the argument was that the American-led Bretton-Woods system privileged the dollar and gave the U.S. too much influence. In the U.S. manufacturers wanted dollar devalued in order to be more competitive.

Vietnam war exacerbated all of this: the cost of war immense, and U.S. spending increased.

De Gaulle for awhile decided to give the Americans their comeuppance – he started demanding gold instead of dollars at a rate that would have broken Fort Knox in just a few years. Finally, he reached an agreement to stop doing that, but made his point forcefully: that the system was somewhat a fraud. (De Gaulle didn't want floating exchange rates, however -- if anything he was trying to put a dent in American imperium.)

End of Bretton Woods came in 1971 when Nixon announced that convertibility to the dollar would be curtailed, and the dollar was revalued by 10% That wouldn't hold. Soon we had floating exchange rates.

Note most important points:

-- free trade, comparative advantage

-- the Bretton Woods system, involving GATT, World Bank (more next unit), the IMF, and fixed exchange rates

-- fixed exchange rates fell, giving way to floating rates. Actually this is a "managed float" as banks continue to intervene to try to stop great fluctuations.

Let’s spend time to make sure everyone gets this! How do exchange rates affect trade? What’s the difference between fixed and floating rates? Why is free trade desired (by relatively equal states), and why is it difficult to achieve? What are trade deficits and surpluses, and what difference do they make? We’ll discuss this until you understand it, so ask questions and we’ll work through these issues in class.

How do we understand it?