The
single most important economic development of the last 50 years has
been the catch-up in income of a large cohort of poor countries. But
that world is gone: in an increasingly digitalized global economy, value
creation and appropriation concentrate in the innovation centers and
where intangible investments are made.
PARIS
– Fifty years ago, the conventional wisdom was that rich countries
dominated poor countries, and it was widely assumed that the former
would continue getting richer and the latter poorer, at least in
relative terms. Economists like Gunnar Myrdal in Sweden, Andre Gunder
Frank in the United States, and François Perroux in France warned of
rising inequality among countries, the development of underdevelopment,
and economic domination. Trade and foreign investment were regarded with
suspicion.
History
proved the conventional wisdom wrong. The single most important
economic development of the last 50 years has been the catch-up in
income of a significant group of poor countries. As Richard Baldwin of
the Geneva Graduate Institute explains in his illuminating book The Great Convergence,
the main engines of catch-up growth have been international trade and
the dramatic fall in the cost of moving ideas – what he calls the
“second unbundling” (of technology and production). It was Thomas L.
Friedman of the New York Times who best summarized the essence of this new phase. The playing field, he claimed in 2005, is being leveled: The World is Flat.
This
rather egalitarian picture of international economic relations did not
apply only to knowledge, trade, and investment flows. Twenty years ago,
most academics regarded floating exchange rates as another flattener:
each country, big or small, could go its own monetary way, provided its
domestic policy institutions were sound. The characteristic asymmetry of
fixed exchange-rate systems was gone. Even capital flows were
considered – if briefly – to be potential equalizers. The International
Monetary Fund in 1997 envisaged making their liberalization a goal for
all.
In this
world, the US could be viewed merely as a more advanced, bigger country.
This was an exaggeration, to be sure. But US leaders themselves often
tended to play down their country’s centrality and its correspondingly
outsize responsibilities.
Things,
however, have changed again: from intangible investments to digital
networks to finance and exchange rates, there is a growing realization
that transformations in the global economy have re-established
centrality. The world that emerges from them no longer looks flat – it
looks spiky.
One
reason for this is that in an increasingly digitalized economy, where a
growing part of services are provided at zero marginal cost, value
creation and value appropriation concentrate in the innovation centers
and where intangible investments are made. This leaves less and less for
the production facilities where tangible goods are made.
Digital
networks also contribute to asymmetry. A few years ago, it was often
assumed that the Internet would become a global point-to-point network
without a center. In fact, it has evolved into a much more hierarchical
hub-and-spoke system, largely for technical reasons: the hub-and-spoke
structure is simply more efficient. But as the political scientists
Henry Farrell and Abraham L. Newman pointed out in a fascinating recent paper, a network structure provides considerable leverage to whoever controls its nodes.
The
same hub-and-spoke structure can be found in many fields. Finance is
perhaps the clearest case. The global financial crisis revealed the
centrality of Wall Street: defaults in a remote corner of the US credit
market could contaminate the entire European banking system. It also
highlighted the international banks’ addiction to the dollar, and the
degree to which they had grown dependent on access to dollar liquidity.
The swap lines extended by the Federal Reserve to selected partner
central banks to help them cope with the corresponding demand for
dollars were a vivid illustration of the hierarchical nature of the
international monetary system.
This
new reading of international interdependence has two major
consequences. The first is that scholars have begun reassessing
international economics in the light of growing asymmetry. Hélène Rey of
the London Business School has debunked the prevailing view that
floating exchange rates provided insulation from the consequences of the
US monetary cycle. She claims
that countries can protect themselves from destabilizing capital
inflows and outflows only by monitoring credit very closely or resorting
to capital controls.
In a similar vein, Gita Gopinath, now the IMF’s chief economist, has emphasized
how dependent most countries were on the US dollar exchange rate.
Whereas the standard approach would make, say, the won-real exchange
rate a prime determinant of trade between South Korea and Brazil, the
reality is that because this trade is largely invoiced in dollars, the
dollar exchange rate of the two countries’ currencies matters more than
their bilateral exchange rate. Again, this result highlights the
centrality of US monetary policy for all countries, big and small.
In
this context, the distribution of gains from openness and participation
in the global economy is increasingly skewed. More countries wonder
what’s in it for them in a game that results in uneven distributive
outcomes and a loss of macroeconomic and financial autonomy. True,
protectionism remains a dangerous lunacy. But the case for openness has
become harder to make.
The
second major consequence of an un-flattened world is geopolitical: a
more asymmetric global economic system undermines multilateralism and
leads to a battle for control of the nodes of international networks.
Farrell and Newman tellingly speak of “weaponized interdependence”: the
mutation of efficient economic structures into power-enhancing ones.
US
President Donald Trump’s ruthless use of the centrality of his
country’s financial system and the dollar to force economic partners to
abide by his unilateral sanctions on Iran has forced the world to
recognize the political price of asymmetric economic interdependence. In
response, China (and perhaps Europe) will fight to establish their own
networks and secure control of their nodes. Again, multilateralism could
be the victim of this battle.
A
new world is emerging, in which it will be much harder to separate
economics from geopolitics. It’s not the world according to Myrdal,
Frank, and Perroux, and it’s not Friedman’s flat world, either. It’s the
world according to Game of Thrones.
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