GLOBBALIZATION:

1. Recorded history began 5,000 years ago, but a world economy involving trade and finance across the entire
globe began only about 500 years ago. For the first 4 ½ millennia, people lived primarily on the land and
produced everything they needed in local villages and communities.

2. Then around 1,500 C.E., the world exploded economically.

3. Thomas Friedman identifies three historical phases of globalization in his best-selling book THE WORLD IS FLAT:
a. GLOBALIZATION 1.0: It lasted from 1492 to 1800. This was the age of mercantilism and colonialism. The
driving force was brawn, not brains.

b. GLOBALIZATION 2.0: From 1800 to mid-twentieth century, and was ended by WW2. This was the age of
British hegemony, or Pax Britannica. The driving force was new institutions, particularly the emergence of
private global actors such as multinational banks and corporations. They operated global trading and
shipping companies, mined raw materials, and developed worldwide agribusiness and manufacturing
industries.

c. GLOBALIZATION 3.0: During the second half of the twentieth century. This is the age of American
hegemony, or pax Americana, and the driving force is the internet. Newfound power for individuals to
collaborate and compete globally. Individuals now communicate, innovate, form groups, conduct business
and move money worldwide just the way MNCs. Brains, not brawns or institutions, shape the world
economy. The world is not flat, meaning every country and civilization can take part.

4. In globalization 1.0, physical power mattered most (realist perspective). In globalization 2.0 multinational
institutions drove the process (liberal perspective). In globalization 3.0, innovations and ideas matter most
(identity perspective).

LIBERAL AND REALIST PERSPECTIVES:

5. SECURITY AND ECONOMICS:

a. Realist perspectives view the world economy in terms of security and relative gains, security relations create
the geo-economic context of trade and other economic relations. Realists observe, global markets do not
usually emerge except under the aegis (protection) of a hegemonic power.

b. The hegemonic power dominates security relations, has little to fear from rivals, usually advanced economy
and supports extensive economic relations. That is why globalization accelerated under British and American
hegemony in the 19th and 20th century. Thus, during the periods of multipolar security relations, such as in
the 17th century before British hegemony and in the 1930s during the transition between the British and
American hegemonies, global markets slowed or contracted.

c. After WW2, America was dominant within the free world. It advocated open markets and created Bretton
Woods system of liberal economic policies. Also, slowly Europe and Japan recovered from War, the new
nations emerged in the former colonial territories of the European powers.
 d. Oil producing countries rebelled against the dominance of American oil companies and raised oil prices
fourfold. Developing countries producing other commodities called for a New International Economic Order
(NIEO) to replace Bretton Woods System. Other states worried that the US dollar, which had been backed by
a fixed price of gold until the US abandoned the gold standard in 1971.

e. Liberal perspective emphasizes on collective gain rather than relative gain. They see the spread of wealth
and decline of hegemony as a positive development. They seek to preserve economic interdependence and
avoid the disruptions of security conflicts and war.

f. Liberal perspectives seek continuous expansion of wealth and interdependence since the beginning of the
industrial revolution in the 18th century. The South Korea and the so-called Asian tigers (Taiwan, Singapore
and Hong Kong) have become rich and in some cases democratic.

g. Hegemony is not the key, repeated interactions are.

6. DOMESTIC ECONOMIC POLICIES:

a. Domestic policies (budget, monetary and regulatory) provide the ballast (stability) for the world economy.
Without them, global economic ties would be unstable and inefficient. Foreign trade (exports imports)
constitutes play an important role as economy of a country is heavily dependent on it.

b. Domestic policies constitute the ground floor or foundation of a country’s participation in the world
economy. If it is poorly managed, global markets are likely to be inefficient. Realist perspectives
emphasize national sovereignty and the independence of domestic policies. Liberal
perspectives emphasize international coordination and the interdependence of
domestic policies

c. International trade, investment and finance build on domestic policies and constitute the upper floors of the
world economy. When trade and investment markets go bad, financial markets lose their anchor.

d. Realist perspectives emphasize (zero-sum) aspects of trade, investment and finance. Liberal perspectives
emphasize the internationalist (non-zero-sum) aspects of globalization.

e. There are basically two types of domestic economic policies: macroeconomic (fiscal and monetary) and
microeconomic policies (regulatory).

f. MACROECONOMIC POLICIES:
i. Monetary policies seek to control money supply. Central Banks like Federal Reserve Bank, buy and sell
short-term government securities, thereby pushing up or lowering the prices of government securities
in the bond markets.

ii. If the fiscal policy is in deficit, the government borrows from domestic savings. Domestic savings consist
of what the government saves and what private industries save after they finish spending. In this way, a
budget deficit may lead to a current account deficit.
 iii. If private savings are huge, government can run a deficit and not have to borrow from abroad. Japan
adapted this mechanism and showed a current account surplus.

iv. Often, governments combine a loose monetary policy with budget deficits. However, this combination
generates large debts. For example, after 2008-2009 financial crisis, the US government added $1
trillion annually to federal deficit and Federal Reserve added $4 trillion. This stimulus may not work if
there are other bottlenecks in the economy.

v. If such a stimulus does not work, it may create inflation. Demand will rise faster than supply, prices will
go up, exports will be less and imports will increase and it will incur growing current account deficit.

g. MICROECONOMIC POLICIES:
7.
Trade Negotiations:
 Trade policies may be put in place unilaterally, bilaterally, or multilaterally. Realists generally prefer bilateral or alliance
approaches to trade, wary of security implications. Liberal perspectives prefer multilateral negotiations, emphasizing
collective gains that over time reduce security concerns.

 In the nineteenth century, Great Britain applied free-trade policies unilaterally. It simply removed tariffs on corn (grain)
imports and exported manufactured goods mostly to its colonial territories. It did not require other countries to
reciprocate or open their markets to British exports. Britain’s relative success, however, prompted other countries to
follow suit.

 In the 1930s, when the United States took the lead in trade negotiations, it sought to reduce barriers through bilateral
negotiations. By 1947, more than 200 bilateral agreements had carved up markets in Europe.

 After World War II, the United States favored a multilateral approach, in part to open up bilateral and regional markets
dominated by European colonial powers, like the British Commonwealth. This approach required getting more, even all,
countries involved and negotiating agreements that applied the most-favored-nation (MFN) principle. This principle said
that any agreement negotiated with one or a few countries must be extended to all countries.

 Indeed, in the early stages of the General Agreement on Tariffs and Trade (GATT), restrictions were applied to textiles and
other low-tech manufactured products that developing countries produced. The GATT, which dealt only with
manufactured goods, organized the first such round in 1947. It lowered tariffs by an average of 20 percent. At the time,
only twenty-three countries belonged to the GATT.

 Few developing countries participated in the early GATT rounds. They created their own trade organization, the United
Nations Conference on Trade and Development (UNCTAD), and advocated special preferences. The Generalized System of
Preferences (GSP) violated MFN rules.

 Britain founded EFTA to compete with the Common Market but then joined the EC in 1973 only to leave the EU in 2016.
The United States also signed bilateral trade agreements with Israel and Canada in the 1980s, and then negotiated NAFTA
in 1994, bringing Mexico into the U.S.–Canadian bilateral agreement.

 President Bill Clinton advocated unsuccessfully a free-trade area for all of Latin America, the Free Trade Area of the
Americas (FTAA). The United States negotiated a smaller regional pact with five Central American countries plus the
Dominican Republic, known as the Central America Free Trade Agreement (CAFTA), and concluded further bilateral
agreements with, among others, Chile, Morocco, Australia, Colombia, Panama, Peru, and South Korea.

 Many developing countries also tried bilateral and regional trade arrangements. Brazil and Argentina formed Mercosur,
and smaller countries formed the Central American Common Market (El Salvador, Nicaragua, Costa Rica, Guatemala, and
Honduras), the Andean Common Market (Peru, Bolivia, Ecuador, Colombia, and Venezuela), the East African Common
Market (Kenya, Tanzania, and Uganda), and the Latin American Free Trade Association (LAFTA).

 The Association of Southeast Asian Nations (ASEAN) initiated regional trade arrangements in Asia. Australia and,
subsequently, the United States launched the Asia-Pacific Economic Cooperation (APEC). China, South Korea, and Japan
pursue the “ASEAN plus 3” and “ASEAN plus 6” (adding Australia, New Zealand, and India) forums, which exclude the
United States.

 China negotiates a Regional Comprehensive Economic Partnership (RCEP) that competes with the Trans-Pacific Partnership
(TPP), a grouping of the United States, Japan, and ten other Asian and Latin American countries. TPP, a trade pact among
 countries that account for 40 percent of global GDP, was concluded but never ratified by the U.S. Congress, and President
Trump terminated U.S. participation in 2017.

 Bilateral and regional trade agreements are proliferating and conflicting. From 1948 to 1994, the GATT reported only 123
regional trade agreements. Since 1995, the WTO has reported more than 612, of which 406 are in force.

Investment:
 As noted earlier, foreign direct investment (FDI) involves the transfer of physical assets or facilities to a foreign country
(factories, warehouses, real estate purchases, back-office activities such as accounting, etc.). It may be accomplished
through mergers and acquisitions across borders, in which a foreign firm takes over an existing local firm, or through so-
called greenfield investments, in which a foreign firm builds a new facility on an open “green field.”

 FDI is usually long-term and brings into play what is now a major nonstate international actor—the MNC, such as IBM or
Royal Dutch Shell.

 In the last quarter of the nineteenth century, British firms invested heavily in mines, public utilities, and railroads in North
and South America, India, Australia, and South Africa. American firms followed with major investments in plantation crops
in Latin America: tobacco, cotton, sugar, coffee, bananas, and fruit of all sorts. During and after World War II, American
firms accelerated overseas investment in critical raw materials such as copper, tin, bauxite, and oil often with the
encouragement of and subsidies from the U.S. government.

Resource-Based Foreign Investment:

 In the last quarter of the nineteenth century, British firms invested heavily in mines, public utilities, and railroads in North
and South America, India, Australia, and South Africa. American firms followed with major investments in plantation crops
in Latin America: tobacco, cotton, sugar, coffee, bananas, and fruit of all sorts. During and after World War II, American
firms accelerated overseas investment in critical raw materials such as copper, tin, bauxite, and oil often with the
encouragement of and subsidies from the U.S. government.

 Where resources are abundant, corruption is easy, and local elites fight one another to grab resources. Diamonds in
Angola and oil in Nigeria led to civil wars. Moreover, resource-based extraction often does little to develop the interior of a
country and sometimes ravages the landscape and environment. The delta region in Nigeria experienced repeated oil
spills.

 In late 2007, the government of the Democratic Republic of the Congo (DR Congo) announced that Chinese state-owned
firms would invest $12 billion to build or refurbish railroads, roads, and mines in that country in return for the right to
mine copper ore of equivalent value. The size of the deal is the equivalent of DR Congo’s entire foreign debt, three times
its annual budget, and ten times the amount of foreign aid the country receives.

Manufacturing Foreign Investment:

 The Singer Sewing Company set up operations in Europe in the late nineteenth century, and Ford and General Motors
established factories in Europe during the interwar period.

Service Sector Foreign Investment:

 A further step in this evolution became visible in the early 2000s. Companies expanded abroad not just to manufacture
products but also to provide services. Historically, services such as entertainment were more homebound enterprises
catering to local cultures, languages, and tastes. But advances in transportation and communications now shrank the
service world. Financial companies—banks, insurance companies, and mutual, pension, and hedge funds—set up
 operations overseas. Retail (for example, Wal-Mart and McDonald’s), telecommunications (AOL and Google), and
entertainment companies (Disney and Bertelsmann) did so as well.

Multinational Corporations:
 In 2015, world sales (domestic and exports) of foreign affiliates totaled $36.6 trillion, up from $2.7 trillion in 1982. Their
world exports in 2015, by comparison, equaled only $7.8 trillion, up from $2.2 trillion in 1982.

 If we use total sales as a measure, in 2000, MNCs made up 51 of the world’s 100 largest economies.

Immigration Policies:
 The movement of people across national boundaries is a relatively new feature of globalization. Immigration, of course,
has always existed, but people flows accelerated after the end of the Cold War and the adoption by developing countries,
such as Mexico, of more open and market-oriented economic policies.

 Most countries limit immigration. The United States is one of the most open. The European Union concluded the Schengen
Agreement, which opened borders within the EU but maintained restrictions toward immigrants from outside the EU,
especially from Muslim countries. Other countries, such as Japan, control immigration to fill specific and usually less
desirable jobs in the economy.

 When people are free to move, wages are the principal economic factor driving them. Wages in the United States are
some five times higher on average than wages in Mexico. According to the Pew Research Center, the United States has
admitted some 59 million immigrants since 1965, 11 million of which—3 to 4 million from Mexico alone—have come in
illegally.

 Immigrants often recycle money they earn back to their home country. For some countries these remittances are quite
significant. Mexico, for example, receives about 2 percent of its national wealth from immigrants in the United States.
Immigrants from Pakistan and India, who work in the Middle East and elsewhere, also contribute sizeable sums to their
home country’s wealth.

Finance:
 Since the liberalization of financial markets in the early 1980s, finance (portfolio investments), including currency
transactions, has become by far the biggest component of global markets, dwarfing trade and FDI. In 2007, global financial
stock, which includes bank deposits, government and private debt securities, and equities, reached a grand total of $194
trillion, up from $12 trillion in 1980 and $53 trillion in 1993.

 Global finance involves exchange rates, currency markets, balanceof-payments accounting, debt financing, and financial
crises, such as the Asian financial crises in the 1990s, the banking crash of 2008–2009, and the ongoing European Union
debt crisis.

 Realists see exchange rate movements, balance of payments, deficits, and national debt as a source of leverage that
countries may use against one another. The United States, for example, argues that China fixes its exchange rate at below-
market levels to increase Chinese exports, then buys U.S. bonds with its excess foreign exchange reserves to increase its
influence over U.S. financial markets. If China stopped buying U.S. bonds, bond prices would drop, and interest rates
would rise, causing instability in U.S. financial markets.
 Liberal perspectives emphasize the interdependence of national policies in these international transactions. If China
stopped buying U.S. bonds, the United States would not have the money to buy Chinese exports, and if China drove bond
prices down, its large holdings of U.S. bonds would also decline.

Exchange Rates:
 The exchange rate is the price of one country’s currency in relation to another country’s currency. Change it, and you have
changed the relative prices of everything that moves across the borders between these two countries.

 So most governments today watch their exchange rates carefully, and sometimes they intervene to keep them from falling
or going up too much. In the midst of the world financial crisis in 2010, Japan, China, Brazil, and South Korea all intervened
to influence the value of their currencies.

 The governments feared that a higher currency value would make their exports more expensive just at a time when these
countries were trying to increase domestic production and jobs to recover from the economic recession. To prevent such
undesired exchange rate movements, governments intervene to keep their exchange rates within certain ranges or to
have them go up or down gradually. Economists call this system a managed float or dirty float because governments often
intervene secretly.

Currency Markets:
 How do governments affect exchange rates? Central banks buy or sell their own countries’ currency in large enough
quantities to affect its price. That’s called exchange market intervention. But global currency markets today are so deep
that even government purchases or sales amount to only a small proportion of the market and therefore may not have
much effect.

 If the United States is trying to weaken the dollar, it lowers its interest rates while European countries do not lower their
rates as much or keep them the same. Now currency traders demand more European currencies with higher interest rates
and fewer dollars with lower interest rates.

Balance of Payments:
 Border flows of goods and services plus government transfers and net income on capital investments constitute a
country’s current account. Normally, government transfers involving foreign aid and military expenditures are smaller
than trade flows.

 Current and capital accounts make up the country’s balanceof-payments account. If you spend more than you earn, you
have a deficit in your checkbook, a current account deficit, and have to borrow an equivalent amount, a capital account
surplus or inflow, from the World Economy bank. If you spend less than you earn, you have a surplus in your checkbook, a
current account surplus; if you don’t draw it out, you in effect lend that amount, a capital account deficit or outflow, back
to the World Economy bank, which pays you interest on your checking or savings account.

 In the mercantilist era, such a surplus meant that a country accumulated gold, and that was a good thing because gold
could be used to buy the instruments of national military and economic power. In today’s global economy, it means that a
country accumulates foreign exchange reserves and lends to other countries.

 During financial crises in the late 1990s, Asian countries resented the policies that the International Monetary Fund (IMF)
and the United States imposed on their economies as conditions for new loans. Subsequently, they formed their own
lenders’ club, the Chiang Mai Initiative, to make loans to one another in future crises and avoid IMF conditionality.
Similarly, in 2015, Greece resented conditions tied to loans made by the IMF and European Union to help that country
survive a financial crisis.
Debt Markets:
 The expansion of financial markets was inevitable once trade and FDI were liberalized. Current account deficits and
surpluses grew and had to be financed by lending from surplus countries to deficit ones. As liberal perspectives see it, it
was a classic case of spillover or path dependence. If corporations operated worldwide, so must banks, insurance
companies, investment houses, pension funds, mutual and hedge funds, and stock, bond, and currency exchanges. After
all, companies have to borrow, invest, and work in multiple currencies.

 Global banks and financial institutions mobilize world savings and make them available for investment opportunities
worldwide. Overall, this financial intermediation function is good for everyone. If global financial institutions did not exist,
countries that saved more than they invested would have to bury the extra savings in the ground.

Global Financial Crisis:

 In 2000 J. P. Morgan packaged the first collateralized debt obligations (CDOs), backed up by a worth of $9.7
billion. They intended to sell these loans as securities based on the income stream or interest payments of the loans.

 Banking protocols state that when a bank sells securities, it has to keep a certain amount of capita in reserve in
case the loans go sour. J. P. Morgan calculated that it needed to hold only $700 million in reserve against the
$9.7 billion securities.

 The American International Group (AIG) was a London firm, an insurance company and a regular client of J. P.
Morgan. AIG decided to sell J/ P/ Morgan insurance on the CDOs. It sold insurance known as Credit Default
Swap (CDS), for a tiny but steady stream of income.

 Insurance seemed essentially risk-free. This trend of CDOs was followed by every other big bank and investment
house around the world i.e. in Europe, Asia and the US.

 All kinds of loans, including housing, credit card, and car loans, began to be packaged and sold as CDOs, covered
in many cases by insurance policies or CDSs. It was not only private banks that joined the party. Two of the
biggest mortgage lenders were government agencies, Fannie Mae and Freddie Mac, created by Congress to
encourage home ownership.

 They packaged and sold mortgage loans to the tune of $5 trillion. As long as housing prices went up, everything
was fine. Owners could always sell the house for a profit or borrow more against the increased value or equity
of the house to keep up their mortgage payments.

 In all these cases, the assumption was that if one loan went bad, others would remain good. The chance that
defaults in any given pool of loans might be interconnected in such a way that one bad loan might trigger
another one, a problem known as correlation, was considered minuscule.

 In fact, securities were broken down into tranches, with the riskier tranches bearing higher interest rates. Once
housing prices began to decline, the riskier tranches went bad first. The markets panicked and began to pull
back from making any loans at all. Eventually debt markets froze up completely.

 Government central banks in the United States, Britain, and other countries had to step in. They bought debt to
make cash available to the banks to keep them afloat. Not only the commercial banks were involved.
 Altogether, by buying debt assets from private institutions, the Federal Reserve Bank added more than $4
trillion to its balance sheet, quintupling the amount it carried before. In addition, Congress authorized a $700
billion bailout package for the banks, the Troubled Asset Relief Program, known as TARP. This money was
initially intended to buy bad debt from the banks, the so-called toxic assets of CDOs and CDSs.

 The TARP money was used instead to recapitalize the banks to buy their stock to replenish their capital reserves.
Much of the bad debt still remains on the balance sheets of banks, not only in the United States but abroad as
well, and may be a factor reducing the capacity of banks to lend for a long time to come.
Eurozone Crisis:
 When the financial crisis hit in 2008– 2009, companies and consumers got fewer loans and drastically curtailed
production and spending. Not far behind came drastic cutbacks in jobs and freezes on new hires. Growth and
employment contracted more sharply but not more deeply than in previous recessions, in part because they had
started at higher levels after three decades of solid global growth.

 But now questions arose about how governments and central banks should manage all this debt and easy
money as economies recovered. The European countries faced a particularly tricky situation.

 They have unified their currencies in a common currency known as the euro. They established the European
Central Bank, like the U.S. Federal Reserve Bank, to set interest rates and manage this new currency collectively.

 States in this so-called Eurozone no longer exercised their own independent monetary and exchange rate
policies.

 But what happens now when some members—like Ireland, Greece, Portugal, and Spain—get into serious
balance-of-payment and debt problems, as they did after 2008? A traditional way for countries to cope with this
situation is to lower interest rates and the value of their currency. That increases the price of imports and
decreases the price of exports, thereby reducing imports, increasing exports, and cutting the current account
deficit.

 Another way is to cut government spending programs and deficits to reduce imports and increase exports.

 Deficit Eurozone countries have no other option except to persuade the European Central Bank to offer
generous terms to finance and reschedule their debt and thereby avoid cutbacks in government spending. If the
central bank is too generous, however, investors lose confidence in the currency and capital flees the Eurozone,
creating a wider financial crisis.

 Who provides the financing for this Eurozone rescue? Unless the EU turns to outside lenders such as China or the IMF, the
surplus countries in the Eurozone have to come up with the financing. In the EU that’s principally Germany. So Germany is
now calling the shots about how generous or strict the EU will be with Greece and other Eurozone countries in default on
their debts. That doesn’t sit well with citizens in Greece or Portugal.

 In effect, by keeping money tight with no offsetting spending, Germany and the European Central Bank force the indebted
countries to cut spending. This spending, while reckless in many ways, also involves pensions and other income programs
that support millions of workers.
