Globalization and Its Discontents Revisited

by Joseph E. Stiglitz

  10. The economic consequences of reforms must be evaluated using models that reflect economic realities—that is, that do not assume that the market is competitive, efficient, and stable. We know that there are massive market imperfections—of competition, information, and risk markets—and pervasive and persistent unemployment. Models that attempt to estimate the costs and benefits of any reform (including any trade agreement) that assume these imperfections away are likely to give very misleading results. We know, for instance, that unregulated and underregulated financial markets can be highly unstable and were largely responsible for the global financial crisis; and so too for unregulated and underregulated cross-border capital flows. The kinds of massive shifts of funds that brought on the East Asia crisis have caused crises around the world. The champions of unfettered globalization partially based their analysis on models with perfect information and perfectly working financial markets—a total fiction. (Truth be told: deregulation, and especially financial market deregulation, was not really based on economic models; it was motivated by greed, pure and simple. The bankers realized that deregulation would allow them to increase their profits. Deregulation was just another instance of special-interest legislation.)

  Moreover, any economic system is complex, and can’t be well analyzed using simplistic models. Global rules have global consequences, and can’t be analyzed using models that ignore induced changes in behavior, patterns of trade, and prices. Many of the models used, say, by the IMF, before the crisis, highlighted the benefits of diversification of risks, as funds were spread around the world; but after the onset of the crisis, they highlighted the risks of contagion—effects which arose precisely because of the cross-border capital flows that they had trumpeted just shortly before the crisis.5

  THE WAY FORWARD: WHAT IS TO BE DONE?

  The above principles provide some guidance in shaping policies that would make globalization work, or at least work better, in the future. But workers in the advanced countries who have lost their jobs are not interested in principles. They want their jobs back, and they want higher wages. What should we do today?

  The market, on its own, won’t give workers what they want. It didn’t smoothly manage the transition from an agriculture-based economy to one resting on manufacturing—the Great Depression can be viewed as one of the big bumps that was part of that transformation. The advanced countries are going through multiple transitions—from a manufacturing economy to a service sector economy, with a slowdown of population growth within their countries. The global geopolitical and geoeconomic order too is changing rapidly. The market is unlikely to manage any of these transitions smoothly on its own.

  At this book goes to press, a decade after the breaking of the housing bubble that set off the global financial crisis, the global economy is not fully back to normal. Growth remains anemic. In the United States, while the official unemployment rate remains low, labor force participation is the lowest it’s been since women entered the labor force. A weak labor market has contributed to the high levels of inequality. Families worry about falling down the ladder of opportunity—many see this as more likely than going up. This atmosphere of fear feeds into the protectionist spirit that Trump has so ruthlessly exploited.

  An essential part of the story of today’s discontent with globalization is that untempered globalization has made worse a number of serious ongoing problems—most notably, growing inequality. As I noted, the defenders of globalization have pointed out the role of technology or other changes in our society: true, but such statements are not helpful. The critics of globalization believe it is the one thing about which something can be done.

  Hence, anyone serious about advancing globalization—and the benefits which it might bring, if well managed—must see globalization policy within a broader economic framework. What is needed is stronger government actions: macroeconomic policies that push the economy toward full employment; adjustment policies to help worker, firms, and communities adapt to the new circumstances; social protection policies to protect them against losses to the standards of living that they may face in the process of adjustment; and policies that reduce inequalities in market incomes and incomes after tax and transfer.

  The following brief sections outline some of the elements of each of these components.

  Reducing Inequalities in Market Income

  The big drivers of the anger toward globalization are inequality, the lack of jobs, and stagnant and declining wages. Many are finding it hard to get jobs, or at least jobs anywhere near what they had come to expect. While after World War II in the United States and European countries there was a widespread aspiration of joining the middle class, for many today a middle-class life seems out of reach to increasing portions of the population. How to reverse these trends is a big question, but there are a couple of precepts that go a long way.

  The analysis begins with an enquiry into why there has been such an increase in inequality. Because the United States has the largest level of inequality among advanced countries, it provides the best case to see what happened. Until the mid-1970s, workers’ productivity and compensation moved together, while after that, productivity growth continued, albeit at a slightly slower pace, while compensation virtually came to a standstill. It wasn’t that, almost overnight, the technology of the economy changed. But what did happen, rather quickly, is the rules of the game and how they were implemented changed, and especially after the ascendancy of Margaret Thatcher in Great Britain and Ronald Reagan in the United States. There began a process of rewriting the rules of the economy in ways that favored those at the top and hurt the rest.6 Regulations, such as those on the financial sector, were stripped away and taxes at the top and corporations were reduced with pervasive effects. Unions were weakened, and monetary policy focused more on inflation and less on ensuring full employment.

  One of the important consequences is that there has been a marked increase in the concentration of market power—especially as antitrust enforcement and legislation didn’t keep pace with the increase in market power resulting from changes in the structure of the economy.

  Firms like Microsoft and Google came to dominate the fastest-growing sectors of the economy. Most consumers had a choice of only a few Internet providers and telecom companies. As the economy shifted to a service-based economy, the importance of local service monopolies increased. One important implication: monopolies face downward-sloping demand curves for their products; they can only sell more by lowering prices. Thus, even when their activities are very profitable, they may limit investment—the marginal return is less than the average return. And that is precisely what we are seeing in recent years. Large corporations sitting on hordes of cash, but not willing to reinvest—weakening overall economic performance.

  The rules of corporate governance were rewritten, enhancing the power of CEOs to take more of the corporate revenues for their own purposes—leaving less for wages for workers and less to be invested in the future of the company. While before, those in charge of corporations had a duty to look at the long-run interests of all ­stakeholders—the community in which the company operated, the workers, and the shareholders—­now their duty was interpreted more narrowly to look after just shareholders, and that in turn was interpreted to mean shareholders now, not over the long run. This encouraged short-term thinking—undermining long-run investments in people, technology, and capital.

  The financial sector reflected these changes—and helped bring them about; and the consequences were seen most dramatically in the 2008 financial crisis.

  Of course, among the important rules of the economy are those governing globalization, and we’ve seen how the rules of globalization worked for rich corporations—as the rules increased their bargaining power to drive down wages. But the rules didn’t work for the rest.

  The result of all of this is that there has been a longer-term erosion of the fundamentals of the economy, including a disinvestment in the economy. The ratio of w
ealth to income may go up, but that increase has to do with rents—the increase in land values or stock markets, reflecting, for instance, the greater market power of firms and their greater ability to suppress wages.7 In many countries, including the United States, the ratio of capital to output seems actually to be in decline; real investment has not kept pace.

  If this diagnosis is correct, the response is straightforward: rewriting the rules once again, this time curbing market power and abuses of corporate governance, making the financial sector perform the functions it’s supposed to perform, and strengthening unions’ and workers’ bargaining rights.8

  One of the reasons that the United States and other economies have such limited upward mobility is that, in spite of our equalitarian ideals, those at the top give enormous advantages to their children. I jokingly tell my students that the most important decision you can make in life is choosing the right parents. Reducing the intergenerational transmission of advantage and disadvantage entails strengthening public education—including universal access to preschool and college education. (By contrast, in recent years in the United States, access to higher education has become even more difficult for those in the middle, and there is more inequality in access to quality elementary and secondary schools. The country’s education system is managed locally and there has been increasing geographic segregation, with the poor living in poor communities, the rich in rich ones.)9

  Any agenda attempting to reduce the intergenerational transmission of advantage at the top needs to also include increased estate taxes, but the Republican Party in the United States has been pushing for the opposite reform.

  Finally, one of the most important ways to increase equality of market income is to run the economy more tightly. Gains from lower unemployment far outweigh risks of moderate inflation. This is the only proven way to bring marginalized groups into the economy. And a tight macroeconomy not only leads to less unemployment; it increases wages. Had the American economy been run much more tightly for the last six years—had the recovery from the Great Recession been managed differently—arguably the anti-globalization sentiment would have been much weaker.

  Some say the Fed has done all it could. I disagree. Fed policies need to be oriented toward increasing the flow of credit, especially to small and medium-sized enterprises (SMEs). Most new regulation of the financial sector has been aimed at preventing the financial sector from doing what it shouldn’t—preventing abuses and preventing instability (the costs of which are borne disproportionately by the poor and those in the middle). There should have been more attention on getting the financial sector to do what it should, and that includes providing credit to those who have been excluded, such as young and female entrepreneurs. Another of the striking aspects of the U.S. economy in recent years is the decline in new startups—contrary to America’s image of itself as an entrepreneurial economy providing opportunities for all.

  But most important, there are many other ways beyond monetary policy that the government could have ensured a tighter economy, which I discuss later in this chapter.

  Improving Equality of After-Tax Distribution of Income

  This agenda is even more straightforward than that discussed in the previous section, and again, the United States provides the best examples of what not to do. The agenda begins with replacing the current system of regressive taxation with progressive taxation. Those at the top actually pay lower taxes (as a percent of their income) than those with lower incomes. One of the reasons for this is that the returns to capital, and especially capital gains, are taxed at lower rates than wages. At the very least, capital should be taxed at the same rate as labor.

  At the bottom, there needs to be a stronger earned income tax credit,10 effectively complementing the wages paid by corporations to ensure that those who work full-time have at least a livable income.

  We need to make corporations and high-income individuals pay their fair share of taxes—what their taxes would have been had they not taken advantage of the myriad of loopholes and special provisions that politicians have put into the tax code on their behalf. As I noted earlier, globalization, as it has been managed, plays a role here too: it has provided individuals and firms ample opportunities not to pay the taxes that they should.11 Taxation is not just a matter of fairness: carrying out other parts of a successful government program to combat the adverse effects of globalization will require more revenues.

  Helping Restructure the Economy

  We have to accept that in the future the share of workers working in manufacturing will be lower than what it is today. This is true whether we are speaking of the United States, where it is 13.4 percent, or Germany, where it is about 18 percent.12 As I have said, global manufacturing employment is declining because the pace of productivity growth exceeds the pace of output growth; and the advanced countries will get a small share of this shrinking number. Advanced countries could slow the pace of decline, for instance, by investing more in advanced manufacturing capabilities. But at best, that would be a stopgap.

  Instead, the United States and other advanced countries need a structural transformation—the new economy will have to be based on services, and it will be increasingly knowledge-based.

  Markets, as I noted, typically handle such transformations poorly. We saw that in America when we went from agriculture to manufacturing. A part of the story of the Great Depression was that as productivity in agriculture increased, wages and prices in that sector dropped dramatically. With asset values plummeting, those in the rural sector couldn’t afford to migrate. World War II actually brought on the required transformation: people had to move to the urban areas for the manufacturing required to produce the bombs, tanks, and other things necessary to win the war. The GI Bill then financed the education that was required for a successful transformation.

  My own hometown, Gary, Indiana, exemplifies what has happened in the current transformation. I returned a few years ago to make a film about globalization. With a population half of what it was when I was growing up, it looked like and had the feeling of a war zone, though without quite the same level of danger. And indeed, one of Gary’s “growth” areas was serving the movie industry with sets to mimic places like Somalia. Contrast this with what happens in some other countries, where there is assistance in regional transformation: Manchester—England’s old textile capital—has become an educational and cultural center. (The beginning of such a transformation, it should be noted, is finally happening to the old U.S. auto capital, Detroit.)

  Two of the service sectors that should be a source of growth in jobs in that transition from manufacturing to the service economy are education and health—sectors in which the government understandably plays a large role. The demand for these services is not based on ordinary market forces—it is based on how we as a society value the services they provide, how much we care about those who care for our children, our sick, and our elderly. If we value these services highly, if we value how our children get educated or how our elderly get taken care of, we can tax and pay highly for those services—wages in these sectors would rise and with it the respect given to our teachers, nurses, and care providers.

  We also need industrial13 and educational policies to facilitate structural transformation, just as the government played a central role in the earlier transformation. This will be especially important as we move to the knowledge economy—the government needs to play a central role in creating a learning society.14

  While government (admittedly somewhat inadvertently) played the central role in the transformation from agriculture to manufacturing, this time, when the need is so much greater, the government has been AWOL: conservatives have demanded cutbacks in government spending in education and health and castigated job retraining programs. The market transformation has devastated large parts of the United States, but without resources from the federal government, these localities can’t restructure themselves, and so they become wastelands.

  Providi
ng Social Protection

  No matter how good a job we do in restructuring the economy, there will be some workers who will be left behind. There will be those who, in their fifties, are unable or unwilling to be trained for the new jobs that are available, jobs that they sometimes believe are unacceptable. A just society must have some system of social protection.

  One of the important insights of the past century is that the market provides inadequate insurance for many risks. That’s why we have social insurance—annuities for the aged, unemployment insurance, and health insurance for the aged in the United States and for all in most other countries. We need systems to help those who lose their jobs, whether it’s because of globalization or technology—job retraining programs are key, part of the structural transformation; but we also need some system of social protection for those who still aren’t successful in getting a job.

  The answer provided by the anti-globalization advocates—protectionism—won’t work, as I explain in chapter 3. What we need is “protection without protectionism,” to borrow from the title of another recent book.15 We need ways of providing greater protection both for workers and for communities that are adversely affected, perhaps through some form of insurance against shocks.

  Maintaining Full Employment

  Our earlier analysis makes it clear, though, that more than just industrial, education, and retraining programs will be required. There must be better macroeconomic policies. As I argued earlier in this chapter, we need to maintain the economy at close to full employment—and especially to avoid the high levels of unemployment Europe and America have experienced in recent decades. (In the United States, unemployment was almost 11 percent in 1982—its highest point since the Great Depression—and 10 percent during the Great Recession; in some European countries, during the euro crisis unemployment exceeded 25 percent, with youth unemployment in excess of 50 percent).16 Simultaneously managing the trade deficit, fiscal deficit, and full employment is obviously difficult—beyond the capabilities of America’s political processes in recent years—but possible.17 (Among the main reasons that the United States has not been able to do this is “deficit fetishism,” the excessive focus on the fiscal deficit. If the government borrows money, especially if it can do so at the kinds of low interest rates that prevailed in the years after the 2008 crisis, and invests in infrastructure or R&D, the country’s balance sheet improves—the value of the increase in assets exceeds the increase in liabilities. Output today increases, and future output also increases.)