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The interesting story of the day is definitely a rapidly “collapsing” Rupee haunted by abnormally high volatility over the past month. I scare quote “collapse” because it’s a term that reflects the Western bias of this conversation. If you’re an American who has invested in emerging market funds hoping for real gains intended for domestic consumption that beat an index well, then, you’ve been screwed. As far as India is concerned the depreciation is  of less concern. Still, Raghuram Rajan has his job cut for him, and I’ve discussed the Indian Rupee in this context before. However, since Paul Krugman blegs to learn what he is missing, I’ll offer a few things that worry me at the moment.

Primarily, like any other developing country with rentier bureaucrats, fuel subsidies are important to India twofold. First as a stimulant for middle class growth that demands transportation and electricity (generators are big); second as a key ingredient to important fertilizers without which the Indian farming model would fail.

Fuel subsidies pose an interesting problem for a country that will meet 90% of its oil needs through imports. (I mistakenly noted that 90% of oil is currently imported. That said, the greater the difference between the current figure and the future one, the worse one unit of depreciation will be). Basically all growth in India’s most important market will be financed from imports henceforth. On the one hand, the decisive role government plays in the energy market almost guarantees that deficits will face an upward pressure, in a time when yields are already rising. The sensible solution would unfortunately involve curtailing the provision of a good necessary for political success.

More importantly, as energy becomes the dominant theme in Indian trade – as it undoubtedly will – India looses the primary benefit of depreciation: exports. When trade structure is such that the cost effect (price of imports) of depreciation trumps the quantity effect (quantity of imports) the beneficial nature of depreciation is removed entirely. Known as the Marshall-Lerner condition, a country technically faces this dilemma when the summed price elasticity of imports and exports falls below one.

Usually, since goods tend to be price inelastic in the short-run, devaluations are not always immediately successful but work over time. Not so for dollar-priced oil. As the value of oil is already buoyed by demand from emerging markets, each point of depreciation for the Rupee is that much worse for its balance and budget. Using data from the International Financial Statistics and Direction of Trade Statistics from the IMF, Yu Hsing estimates that India may not significantly meet the Marshall-Lerner condition. Since the paper might be gated for some of you, I’ll copy the relevant result:

As the US real income declines due to the global financial crisis, the trade balance for Japan, Korea, Malaysia, Pakistan, Singapore, or Thailand will deteriorate whereas the trade balance for Hong Kong or India may or may not deteriorate depending upon whether the relative CPI or PPI is used in deriving the real exchange rate.

India – to my surprise – weathered a depreciation better than some of the other countries studied, but a statistically significant success was predicated on the deflator of choice to determine real interest rates.

While I am not confident that India fails to meet the condition, rising oil prices and domestic demand guarantees the cost and quantity effects may be a little too close for comfort.

That, of course, only considers the total trade balance. As mentioned, government is unlikely to weather the necessary inflation well, especially if Raghuram Rajan decreases liquidity reserve ratios (as he has wanted to do for a while) which would light an upward pressure on already rising yields. The feedback loops formed from a rising deficit, stalling growth, and decreased demand for Rupee bonds will result in unfortunately high interest payments.

A tangential point concerns rentiers like Reliance – owner of the world’s largest refinery – which benefit from rapidly rising prices in an inelastic-demand environment. Its influence in government, along with political concerns will make handling these ridiculously useless subsidies hell for any Democratic government predicated on shaky coalitions.

India has a lot going for it. A falling Rupee hardly highlights any structural problem insofar as its own domestic economy is concerned (but brings to bear important questions about international monetary systems, a discussion for another day). I am largely with Paul Krugman that this is nothing to fret about – we are still talking about a country where people cry about 5% growth – but am only cautiously optimistic regarding the political ramifications from such rapid depreciation. Krugman is right in principle, and sometimes that is not enough.

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A lot has been said of China’s profoundly imbalanced, investment-driven growth strategy. Paul Krugman thinks that China’s eaten its free lunch and will face its “Minsky Moment” anytime now. Stephen Roach dissents that “doubters in the West have misread the Chinese economy’s vital signs once again”. In fact, while Krugman’s borderline-Austrian language is too harsh, he’s far closer to reality than Roach. And both of them are off mark.

The best way to think about China is an economy that’s about to exit the (in this case very long) Keynesian short-run into a Classical long-run. Hear me out. China is today an industrialized economy with the world’s best supply-chain infrastructure placing it at the forefront of international manufacturing. But it wasn’t always – and understanding this is key to observing the inherently Keynesian dynamic.

China was in – more or less – a Classical long-run with rather underwhelming growth at the time of the Xiaoping Reforms. The agrarian infrastructure supported a rural, labor-intense workforce and there was no excess capacity. However, after supply-side reforms, China’s infrastructure advanced far more rapidly than its labor force. There are many reasons for this, but the most compelling may be an extension of Paul Krugman’s strategic trade theory – emphasizing the importance of economies of scale in international trade. Suddenly, with respect to potential output, there was a huge excess supply. Of labor. To reiterate – this is not a vanilla Keynesian argument of excess supply of roads and factories. Rather, for the first time, the potential output of the average Chinese laborer has increased exponentially, because of the roads and factories. Therefore it is the excess capacity of human and not physical capital. Without this distinction the somewhat unorthodox interpretation that follows is lost.

There is no such thing as an absolute supply of labor. If the United States could tolerate wages measured in pennies and majority people involved in the production of rice we would have no unemployment because of labor-intense comparative advantage. But given our vast social, economic, and physical infrastructure capital-intensity reduces the absolute demand for labor.

The past two decades have been kind to China not only because aggregate supply has been expanding, but also because aggregate demand has been catching up. One, very perverse, way to think about it is that there was a discrete time period at which China entered a deep recession – with its future self – and has been in a frantic, Keynesian catchup ever since.

Having millions of peasants not introduced to its urban economy meant that what was once a Classical long-run in a crappy growth trajectory became a Keynesian short-run with an excess supply of workers relative to new infrastructure. Recoveries – Keynesian and otherwise – provide a period of above-trend growth. This dramatically changes how we might understand the last few years: much like how advanced economies (used to) climb out of economic slumps.

But excess supply can only last so long. In this case China is about to hit what we should colorfully call “Peak Peasant”. That implies the following:

  • There will be – further economies of scale aside – diminishing returns from the marginal unit of labor.
  • Wage inflation will be significantly emergent as the aggregate supply – vis a vis a once future economy – becomes inelastic.
  • China’s growth rate will mean revert: not to its historical mean but back to a trend defined by the expansion of long-run aggregate supply.

That, mostly, supports the Krugman interpretation which, however, wildly misses the mark here:

The need for rebalancing has been obvious for years, but China just kept putting off the necessary changes, instead boosting the economy by keeping the currency undervalued and flooding it with cheap credit. (Since someone is going to raise this issue: no, this bears very little resemblance to the Federal Reserve’s policies here.) These measures postponed the day of reckoning, but also ensured that this day would be even harder when it finally came. And now it has arrived.

Nope.

There is no day of reckoning. That would imply China has – for some period of time – been in a Classical long-run and increases in aggregate demand fueled by cheap credit and an undervalued Renminbi are reflected only as an increase on short-run aggregate supply whose coincident growth will be eaten by inflation.

But China is only now entering the Classical long-run. Until now, Chinese growth has been entirely real without any money illusion.

That means there’s no big “reckoning” coming. If our framework is a China that’s been in (conceptual not technical) recession due to excess supply relative to a discretely improved infrastructure, we are now entering normal times where growth won’t be nearly as rapid.

This means Roach himself has misdiagnosed China’s position. While he’s right that a sectoral shift to tertiary, service-oriented industries is an important component of China’s future, his reasons are wrong:

Why are services so important for China’s rebalancing? For starters, services are far more labor-intensive than the country’s traditional growth sectors. In 2011, Chinese services generated 30% more jobs per unit of output than did manufacturing and construction. This means that the Chinese economy can achieve its all-important labor-absorption objectives – employment, urbanization, and poverty reduction – with much slower GDP growth than in the past. In other words, a 7-8% growth trajectory in an increasingly services-led economy can hit the same labor-absorption targets that required 10% growth under China’s previous model.

That might have been great with a hugely untapped reserve of peasant labor. Like the Keynesian China of yesteryear. Roach’s writing is slightly misleading. He thinks of it as higher employment created per unit of GDP. I think of it as higher employment required per unit of GDP. Without a perfectly elastic labor supply, this means China will rapidly tempt inflationary pressures.

It’s like someone telling you the 18th century model of American farming – where one hundred men with plows do as much as one man with a tractor today – is better because of its labor intensity. While it “absorbs” more labor, it will also push us against a much harsher supply curve.

Also note, an “excess supply” of labor is very different from what we normally think of as excess capacity (empty factories, unfarmed land, or unemployed PhDs). Excess capital is part of the business cycle, and an intimate component of Keynesian philosophy. It is perennial and hence mundane.

But a country will have excess labor only once. We only shift from labor-intensity to capital-intensity once. In other words, China’s quantum expansion of aggregate supply will be unique in its economic history. It cannot sustain the growth rates it has by any wide margin.

In this sense, the Chinese slowdown will only approximate a “Keynesian” explanation. This is the time for China to pursue sensible, capital-oriented policy. Liberalizing its financial market, privatizing state-owned enterprises, and instituting a rule of law will be chief among any such policy.

It is obvious that corruption and absence of law are what will most lethally damage China’s supply-side future, and hence its economy. Until now China’s excess labor held its aggregate supply so high that anti-supply policies – like authoritarian government – were not felt in the numbers. This will not any longer be the case.

The economic future of the world will be dictated not by how China handles a demand-side rebalancing from investment into consumption, but how it handles a supply-side rebalancing from authoritarian management to liberal democracy.

When Jagdish Bhagwati – the outspoken free marketer – isn’t sparring with Amartya Sen on India’s future, he’s writing editorials savaging worker safety laws imposed on Bangladesh. Some may be surprised that Bhagwati, almost 80, was among the first to recognize Paul Krugman’s deep prodigy as his grad advisor – though the two are now probably rivals on regulating Bangladesh.

I’m not going to dispute the standard economic line that sweatshops and cheap labor are better for everyone involved. But Bhagwati’s pristinely hands-off approach to international working conditions leaves open room for important questions.

A theoretical dispute emerges from a 1958 paper, Immiserizing Growth: A Geometrical Note, written not by Naomi Klein but by a certain Jagdish Bhagwati. Before I detail the theory, it’s critical to note the mathematical conditions under which it’s derived are extreme but, like so many other brilliant models, helps illuminate a thematic dynamic. Bhagwati suggested that an increase in economic activity and output does not necessitate a coincident increase in standard of living:

The effect of economic expansion on international trade has been receiving increasing attention from economic theorists since the publication of Professor Hicks’ stimulating analysis of the “dollar problem”. It has, however, been insufficiently realized that, under certain circumstances, economic expansion may harm the growing country itself. Economic expansion increases output which, however, might lead to a sufficiently deterioration in the terms of trade to offset the beneficial effect of expansion and reduce the real income of the country.

As I understand, the primary conditions under which Bhagwati’s conclusion holds qualitatively stated are for countries:

  • That have market leadership on the international market.
  • Has experienced heavily export-biased growth.

Bangladeshi export of cheap garments are a forceful example of both predications. Like all other economic theories, immiserization of growth is not binary. For some increase in export-driven output, the nominal increase in income outweighs the deteriorating terms of trade and hence elevates real wages and standards of living.

However, Bhagwati here details an effect which may be framed as a countervailing tension between two abstract poles. Indeed, few of us will suggest that Bangladesh today is in a position where the marginal increase in export revenue is decreasing its real wage rate: but we may say that it is closer than most countries to reaching this threshold, and hence a fall in exports per se may not be as damaging to employment as Bhagwati has suggested in this recent column.

Another, more readily plausible, theoretical challenge emerges once we consider that it is unlikely international garment markets are perfectly competitive – at least not at the national level. (That is, the fact that within Bangladesh it might be difficult for firms to earn supernormal profits speaks little of competitiveness across borders with China or Cambodia). This is a critical assumption that Bhagwati only implicitly acknowledges. Rather, Bangladesh has both a natural and strategic comparative advantage in the garment market. The former derives from labor intensity and a previously untapped female labor market. The latter – very important here – from the specialization of international supply chains and infrastructure around a Bangladesh-dominated garment market.

To the extent that Bangladeshi firms – as a group – earn supernormal profits from this uncompetitive and scaled enterprise, the idea that slightly higher regulations will provoke disemployment is unfounded. Since such profits are ipso facto elevated from the level at which firms would keep all factors of production in their current use, it is difficult to accept that artificially, but minimally, inflated unit-labor costs will reduce output or exports.

Finally, an adaption of basic public choice theory suggests better working conditions need not fall on factory owners. Mancur Olson’s famous “dispersed costs, concentrated benefits” explains the preponderance of wasteful farm subsidies across the developed world. Let’s consider a converse of “dispersed benefits, concentrated costs”. Americans have thoroughly benefitted from extremely cheap garments resulting from similarly cheap labor. Let’s say this consumer surplus comes at the “cost” of better, basic safety in a Bangladeshi factory (I don’t like this terminology, but that aside). A regulation that increases Bangladeshi unit-labor costs represent a much higher percent of Bangladeshi incomes than the resulting fall in garment costs – accounting for rents accrued – helps the American consumer, especially accounting for the vastly higher income across the sea. That is to say, garment costs are a relatively small percent of American expenditure, and the change thereof is more irrelevant still. The elasticities of this relationship suggest incidence of basic regulation falls on interim rents and American consumer surplus, rather than employment of Bangladeshi workers, so long as the American government uniformly requires such working conditions for all countries and not just Bangladesh.

At this point we’ve established, from fairly standard theory, that a) there may not be an increase in unit labor costs, b) such a rise may not cause a fall in export-driven output, and c) such a fall may not precipitate a proportional fall of living standards. Bhagwati must believe, then, that none of the above hold true and this would be an extraordinary claim. At least the answer to the debate isn’t as clear cut as the Financial Times column suggests.

There are also practical benefits to an America requiring higher working conditions for exports from all countries. The current foreign aid model, with apologies for Jeffrey Sachs, is rife with corruption and rent-seeking behavior that is better overcome with a market proposition. This is to say that the United States can stratify various countries by bands of development and require a slightly increasing quality of working conditions – up to a reasonably sane point – by band. That means China faces more stringent restrictions to be eligible for an American export market than does Bangladesh.

Let’s say we do this instead of funding the humanitarian-industrial complex of foreign aid. That destroys a market fundamentalist argument, which is “factories will just go to China which has far higher productivity [output/hr] than Bangladesh”. Unfortunately, countries with higher productivity requirements will likely be at a farther stage of development and hence face more stringent requirements.

Rather than unfairly giving random subsidies to certain countries, the poorer countries will be allowed to develop by facing a lower protectionist standard – with fair minimums and maximums – than their richer brethren. Foreign aid works because its “effective” disposal requires no market power, hell I can remit some money to India too.

On the other hand, few countries have the market power to successfully levy international restrictions – counterintuitively, as I suggest, a more market-oriented proposal than the alternative of foreign aid. The United States is one of the few countries, especially in concert with the European Union and Australia, that commands a sufficient share of the import market to increase worker welfare through such means. Indeed it means that America must hold itself and Europe up to the highest standards so as not to provide our unions an unfair advantage, as Bhagwati worries.

This post isn’t about Bangladesh. It’s about the importance of considering alternative methods of guided development that may seem, at first approximation, paternalistic are, on second thought, fairer to international markets as a whole. Bhagwati’s own theory provides fertile ground on which to question the rather uncritical statement that any and all regulation will increase business uncertainty, curtail investment, and increase disemployment.

We should not overreact because  a building burned or fortress crashed. Rather, we must rigorously evaluate our currently flawed method of development. This, I suggest, is a golden opportunity.

Ashoka Mody, the former IMF mission chief to Germany and Ireland, is bearish on global growth prospects in the near-future. I’m by nature optimistic, but Mody makes some fair points:

Europe’s extensive regional and global trade networks mean that its internal problems are impeding world trade and, in turn, global economic growth. In 2012, world trade expanded by only 2.5%, while global GDP grew at a disappointing 3.2% rate.

Periods in which trade grows at a slower pace than output are rare, and reflect severe strain on the global economy’s health. While the trauma is no longer acute, as it was in 2009, wounds remain – and they are breeding new pathologies. Unfortunately, the damage is occurring quietly, enabling political interests to overshadow any sense of urgency about the need to redress the global economy’s intensifying problems.

[…]

But even the world’s most dynamic emerging markets – including China, Brazil, and India – are experiencing a sharp deceleration that cannot be ignored.

Consider India, where growth is now running at an annualized rate of 4.5%, down from 7.7% annual growth in 2011. To be sure, the IMF projects that India’s economy will rebound later in 2013, but the basis for this optimism is unclear, given that all indicators so far suggest another dismal year.

[…]

Indeed, as the effects of stimulus programs wear off, new weaknesses are emerging, such as persistent inflation in India and credit misallocation in China. Given this, the notion that emerging economies will recapture the growth levels of the bubble years seems farfetched.

It’s very easy to read the facts above as a gloomy predicament the global economy, but I think that interpretation betrays a somewhat obsolete late-20th Century understanding of growth: the primacy of free trade. I’m a strong proponent of trade liberalization, and don’t doubt it has a big role to play in the coming decades, but it by the fact cannot be as earthmoving as it was.

A little history, first. Consider the economic dynamic in the late ’70s, when the South Korean miracle was well underway. While Korea trumped America in growth rate, America’s total growth in real terms was greater than Korea’s. The large income gap meant Americans could easily absorb Korean exports, and Korea could focus on exports rather than domestic consumption.

When there’s one very rich country and many poorer ones, liberalization leads to bountiful dividends. But three things are very different today:

  • China’s total growth, in absolute terms, is greater than America’s.
  • The trade-oriented miracles of the 20th Century were relatively unpopulated. China, India, and Brazil represent a much bigger chunk of the world and its economy. There is no way their growth can continue to be financed by rich-world imports.
  • Trade as a per cent of global GDP has boomed, as the world liberalized. There are diminishing returns to further specialization. No doubt free markets are a good thing, but we’ve eaten most of our free lunch. (For example, tariff barriers around the world have plummeted since the ’60s).

For this reason when Mody defines “severe strain on the global economy’s health” as “periods in which trade grows at a slower pace than output”, the economy will be tautologically unhealthy. Imports and exports can only reach a certain level before facing diminishing marginal returns, issues of national sovereignty, and optimal specialization.

Consider China, which represents a staggering proportion of all global growth and is the primary trader with a majority of countries. Government officials are acutely aware that to advance development, China will have to move to a domestic consumption, rather than investment and trade, oriented economy. In the process, China’s exports and imports might both fall – keeping its very strong balance constant – while domestic consumption increases rapidly. Global output would increase more than otherwise, ceteris paribus, and trade would fall.

And this isn’t necessarily a bad thing. A pessimist’s read of Mody’s passage is as the end of liberalization. But an optimist sees that trade as a low hanging fruit has, largely, been eaten – but many useful reforms remain. Capital market liberalization at the top of this list. Both India and particularly China have hinted at freer financial markets. I would be curious what Indian indicators, exactly, suggest “another dismal year”. Surely its deficits and balance of payments aren’t desirable, but in recent years India’s growth rate has shown some volatility. There’s no reason to believe next year’s growth won’t be much higher as North American growth accelerates.

India and China both have remarkable room for institutional improvements. Regulatory and labor deregulation in the former, and democratic pulses in the latter are bound to increase investor confidence and potential for future growth. Indian workers are also profoundly unproductive. Usually because capital intensity is dismal (anecdotally, when we stayed in Goa, India’s richest state, the autumn leaves strewn across our lawn were picked up by the hand one-by-one, not even a simple, Medieval, rake). But this is a good thing, supply-side reforms have a long way to go which, if done correctly, will temper inflationary pressures.

India will also be joining the relatively small club of countries offering inflation-protected government securities. This will substantially decrease the trade deficit from imported gold, and allow savings to be allocated towards productive ends. Further, while in hopes of American and European revival I would support fiscal stimulus, I don’t know whether I accept Mody’s suggestion for rich-world fiscal policy as global revival.

American and European debts are to a large extent financed by emerging economies. Rather, growing countries like India should structurally reform its central banking system and institutionalize independence; thereby decreasing perceived risk of government default. Today, the Reserve Bank of India is by many considered complicit in runaway deficits. Credible government policy would reduce long-run yields, and hence improve prospects for economic growth.

At this point in American recovery, growth should be financed by minting all the money that’s fit to print. Perhaps we need a New York Times op-ed on this.

…via Tyler Cowen:

The fact that the US is running a persistent trade deficit and experiencing significant net capital inflows seems like very strong evidence that we are not in a traditional Keynesian situation, where we have ‘excess saving.’

If we have excess saving, why are we having a capital inflow rather than a capital outflow?

If combined private and public demand were below the economy’s productive capacity, why are we running a trade deficit? Doesn’t the existence of a persistent trade deficit indicate that our demand is in excess of our supply?

Very much not our grandma’s recession.

There’s an important assumption here that Dennis should make explicit – that trade deficits are only a demand-side issue. But the marginal propensity to import is as critically decided by supply-side issues. For example, as American shale production booms, we will become a net exporter of oil.

But there’s an even more important distinction. Remember, back in Keynes’ time, gross national product was the preferred measure of economy. Indeed, only in 1991 did the United States switch to domestic product as the standard measure.

In this case I submit that the former is definitely a better framework for understanding demand. Foreign capital inflow finances development in America, and is definitely a good thing (of course, for a global reserve it is inevitable). But they are also a foreign claim on future domestic earnings. Assuming easy repatriation of profits, they will ultimately be used to increase consumption – hence demand – in some other country, moderated only by that country’s marginal propensity to import from America.

Investment is just deferred consumption. But that linearity is correct only for American residents. In fact, trade deficit by itself probably doesn’t tell us much about aggregate demand at all. He says “Doesn’t the existence of a persistent trade deficit indicate that our demand is in excess of our supply.” Conversely, I’d say the sovereign of the only big global reserve currency is bound to run trade deficits. (Think about it this way: there’s excess savings in the domestic currency – that’s infinitely more important).

Increased demand for oil creates a captive demand for American dollars, only exacerbated by a global safe-asset shortage. Therefore capital inflow is inevitable. I’d argue this is more structural than nominal, and hence not really pertinent to demand, per se. Actually, since the financial crash, the trade deficit has fallen. So if you follow Dennis’ syllogism, wherein a trade deficit implies more a check on excess saving, then we’re actually saving more. That is net capital inflow relative to GDP has fallen.

Since there’s been overall deleveraging in America. The logic does not add up at all. The only way to make it work is to use what is an inappropriate use of “we”. Remember, this is tautological, as the accounting identity goes: private financial deficit + public financial deficit + foreign financial deficit = 0.

Noah Smith makes a pretty strong case for industrial policy (in the South Korean sense):

In any case, back to the master narrative: Real national wealth does not come from theft. It comes from reorganizing society into a more productive form. As South Korea did. As Japan did before that. As Mexico is hopefully doing right now. The nations of the Global South were late to the industrialization party, but I think they are finally here.

We both agree that “manufacturing-export capitalism” plays a large role in educating the masses into productive employment. We don’t need to go so far as South Korea, or even Mexico, to see this. There was a time, not so long ago, when Detroit was the Venice of the 20th Century, leading the world in per capita income and wealth generation. You might say that the city-state of Detroit efficiently brought its people into gainful employment creating completely new model of development.

But I think it’s pretty simplistic to suggest that something like that will come close to working. As Noah sees it, South Korea grew predominantly with export of cheap goods, becoming basically as rich as Japan is today:

How did South Korea pull off that trick?

Well, no one knows exactly what worked and what didn’t; all we see is the overall result. But in general, South Korea followed a blueprint outlined by America, Germany, and Japan. That blueprint is called, for lack of a better term, “manufacturing-export capitalism”. We don’t really know what countries can do to get rich, but the really successful ones all seem to do something that looks like “manufacturing-export capitalism”. And it’s basically what Mexico is doing right now.

But the world has changed – dramatically – since. South Korea basically hit the jackpot of growth between 1970 and 1990:

Image

There are two points to take from this graph. First, South Korea had remarkably robust growth for the last quarter of the 20th Century. Second, South Korean growth was hugely dependent on the American economy. Aside from the Asian Crisis in the 1990s, the only severe declines in growth happen during American recessions (see the grey columns). 

The “Tiger” economies grew during a time when rich countries (basically America) were willing and able to absorb the cheap manufacturing exports from Asia. There are two dynamics that afforded South Korea its “miracle”. For one, America had pretty solid growth of 3-4% through that period of time. Though dwarfed by Korea’s growth rate, Americans not only were richer to begin with, but the real growth itself was higher:

Image

This graph basically shows the factor by which total American growth outdid South Korea. This figure, roughly, estimates the extent to which America can run a trade deficit to finance international growth. All said and done, because America was so rich in the 20th Century, it didn’t need huge growth rates to import like crazy. The only blip in the graph is, of course, the 1980s recession. 

On a per capita bases, this graph bodes very well for South Korea. Once it hits one, it means both countries have the same total increase in welfare, but South Korea, obviously, distributes that across a much smaller base. It won’t be long before the graph converges at some below-zero point, indicating equal per capita growth rates. 

I totally agree that all growth isn’t “theft” or, as a fancy economist might say, after the colonial pillage, most countries like America, South Korea, and India have grown with “inclusive” rather than “extractive” institutions (this is a broader point, but speaks to the same sentiment, in my eye). But manufacturing isn’t the free lunch it once was, and Mexico isn’t a good example to the contrary.

Mexico shares a special physical and cultural relationship with the United States. It makes very strong political sense for America to keep Mexico sufficiently rich. While I would argue we benefitted tremendously from NAFTA, it can definitely be parsed as America willing to run large and unnecessary trade deficits to finance Mexican growth. Most poor countries don’t have the luxury of being America’s little brother. 

The picture in the 21st Century will be very different from that in the late 20th. There used to be a booming America financing the growth of a handful of people (forget countries, South Korea and the other Tigers are dwarfed by India and China). Today 50% of the world is “booming” and America is not. Last year, India – the “weak” BRIC – grew by $100 billion. If America grows at 3%, that would represent almost 25% of its total GDP. China grew by over a trillion dollars, or two times America’s total growth. Even if you dash China off as a relatively rich and booming economy (not to mention geopolitical giant), there are many countries like India eagerly waiting for the West to import their goods. But this is not happening.

Recently, China became the world’s biggest trading partner with a majority of countries, a position held by the United States for a long time. This isn’t too surprising to anyone. But, for the first time, trade between developing countries and developed countries (“developing-developed” trade) fell short of trade between developing countries (“developing-developing” trade).

These are all huge, qualitative factors that South Korea did not face during its ascent. And they are realities Mexico is largely shielded from due to its position. There are also fuzzier agents at play. The latter half of the 20th Century, the heyday of American dominance, was defined by a growing respect for free trade, banking, and capitalism. Today there are populist, anti-trade impulses in both major American parties, forget Europe. We’ve (wrongly) convinced ourselves that a trade deficit is a bad thing and political rhetoric frequently borders on currency protectionism.

As the rich world slouches from recession to stagnation, export-driven growth isn’t going to be the answer to the development India and its friends desperately need. The Fabian spirit of Nehruvian beginnings leaves India with a very strong domestic industry and its growth is sufficiently infused with both technological progress and domestic consumption. While China is the gold standard model child for growth today, India might offer a more sustainable alternative in principle (India has huge, non-structural – unless bad politics are structural – problems that need fixing). 

While I’m not advocating for import-substitution, I do believe there is a strong case to be made for mining new avenues of growth. For most countries this means: 

  1. Find alternatives for oil and coal. When we hit reach peak oil/coal/whatever, America and company will pay extraordinary prices for energy crowding out the poor world from natural resources. (Or forcing huge trade deficits that will definitely tempt a balance-of-payments crisis).
  2. Focus on a domestic services industry that requires literacy but not much more serious education.
  3. Don’t trade a good terms-of-trade for a weak currency.
  4. Target areas highly-specific industries and devote huge sums of research to develop a comparative advantage. For India, I believe thorium-powered nuclear research is a candidate. While the rich countries are the general choices for research and development. If poorer countries invest enough in very specific projects, they can develop a niche.

Development for the “Global South” isn’t looking apocalyptic. But South Korea, Mexico, and any other wild tigers are not the answer. 

It’s a good decade to be liberal. Our concerns and suspicions have been vindicated by cascading storms, collapsing states and, above all, a crumbling world economy. The past decade has been enough for some grand thinkers of conservatism, like Francis Fukuyama, to re-imagine their world while letting others like Paul Wolfowitz to fall into the hush of irrelevance.
 
Today is a good day to believe ultimately in the importance of social justice. It is a good day to understand that the way we live is subsidized by a grand loan from Mother Earth. It is a good day to make love, not war. But we must remember that to whom much is given, much is expected. Though the liberal voice has been revalidated by an overwhelming international support for Barack Obama, this decade is our last opportunity.
 
It is too easy to foolishly waste this currency of modern liberalism. The lasting image of the American liberal of the last decade will be the protesters at Occupy Wall Street denouncing the market. It will be Michael Moore’s rejection of capitalism as a valid ideology (OK I’ll admit, his movies are great). It will be Anne Leonard’s Story of Stuff. And in this noise, history will wrongly mark liberals as but a band of hypocrites too privileged to appreciate the free market.
 
Restricting trade is one of the surest ways we can further the machine of poverty. An important tenet of liberalism is a belief that all Mankind – from the Ganges to the Potomac – has a right to work, the right to a certain prosperity and dignity. By giving into Union demands that protect trade or by patriotically refusing to buy goods “made in China”, we are but denying work to a poor weaver in the Yangtze Valley who will inevitably be asked to go back home, to the throes of rural poverty.
 
Trade comes with its follies, not the least of which its preference of the owner above the worker, but that may be cured with policies of sound redistribution. Trade is also a great equalizer, without which a poor boy in China will die a poor man in China. 
 
A not insignificant portion of liberals denounce the free market. In this lies liberalism’s most damning hypocrisy. It is mocking to the true victims of globalization – draught-ridden farmers in Kenya and polar bears in the Arctic – for the “anti-Establishment” left to call foul on the market while at the same time wearing Converse shoes or offering their hypocrisies on the Internet, a shining jewel of capitalism. 
 
This is a problem almost exclusive to the educated elite – America and abroad. I have met many who deride the materialism of the West, who are easy to criticize the transgressions of BP, who seek a greater zen Spirituality. Liberals should not give voice to hypocrites such as these, most of whom are themselves slaves of the market they censure, most of whom consume far more in resources than the gun-toting, car salesman in Alabama. 
 
Even as liberals we must be cautious not to associate our values with the vanities of the sentiments above, afforded by the capitalist market. We must remember that markets are not more than the will of its people – that the BP spill was caused by each of us, every day. Every time we purchase a transatlantic ticket, every time we pump our sedan with gasoline, every time we order a book from Amazon, we take ownership of the melting ice caps and raging hurricanes.
 
It is too easy to criticize a corporation or a market that is not more than an ethereal abstraction of what we are, and what we believe. Once we rid the liberal message of this growing voice of insanity, we can get back to the truer task at hand – the importance of intergenerational social justice, the crystallizing theme of what liberalism ought to be.
 
This is not antithetical to the market, indeed capitalism is the only way to achieve a truly positive outcome. Even the most classical economists agree that it is the role of the government to correct the externalities of the free market. By transcending the politics we need to accept that the environmental cost of each gallon of gas burned is far more than three or four dollars. The United States is uniquely poised to lead the world with the most robust venture capital networks in the world. If the United States levies a more significant tax on carbon, it will become inevitable that our capital markets finance new and unique ventures in alternative energies, launching America into its next Century.
 
I was deeply concerned when the White House announced that carbon taxation will not be a part of budget negotiations. Not only does is it an excellent form of revenue for a fiscally strained government, but it is a beacon of all the great things true liberalism champions.
 
By quelling cries of financial excess and capitalist dominance, instead employing the very old and natural price mechanism, liberalism can redeem itself as the champion of the little man. The ideological vacuum and myopic vision of liberal agents like Anne Leonard can be replaced with the more intellectual belief that to be human is to be in a market.
 
Steve Jobs once went to India in search of spiritual enlightenment. He was rightly disillusioned, finally realizing that “Thomas Edison did a lot more to improve the world than Karl Marx and Neem Karoli Baba put together.” We, the world, benefitted from Steve’s choice of contribution to science and technology over ideology and vain spirituality. 
 
Just as the conservative movement in the United States needs to reconsider its staunch opposition to taxes and social programs in crucial areas such as child development, the fake liberalism that is taking shape will starve America and the world of the prosperity that comes from reason, science, and rationality. It would be tragic to see the American people choose an ideology of feckless greed and environmental irresponsibility over one of measured justice and social security because a few spoiled brats think stuff is bad.