Memorandum submitted by Stephen King,
Group Chief Economist, HSBC
Globalisation is as much associated with technology
as with politics and markets, and has been a feature of the economic
landscape for centuries. Globalisation occurs in waves with rapid
advances interrupted by sometimes painful reverses. In its latest
incarnation, globalisation has become more a story about the mobility
of capital than about the mobility of labour. Although societies
as a whole should, economically, benefit from globalisation, there
are significant political obstacles, notably the creation of both
winners and losers.
UK wage growth has been unusually moderate in
recent years, a reflection of both greater capital mobility and
heightened immigration, notably from Central and Eastern Europe.
Nevertheless, consumer spending has risen as a share of UK GDP.
This reflects cheaper imports of consumer durables from low-cost
production centres (a terms of trade effect), better access to
credit and, perhaps, an improved ability, through the effects
of globalisation, to fund the UK's current account deficit. Rising
commodity prices suggest, though, that economic success elsewhere
in the world may, eventually, eat into spending power in the UK.
Data interpretation is particularly problematic
during periods of rapid globalisation. Many of the current risks
associated with, for example, protectionism are the result of
potential misinterpretations of trade and capital account data.
Cross-border activities by companies, differences in capital allocation
skills between countries and changes in the ownership of capital
across nations all have balance of payments implications but,
at this stage, are poorly understood. There is a strong case for
international institutions, notably the IMF, to play a bigger
role in the measurement and understanding of global capital flows
in order to avoid a nationalist backlash.
1. Economically, globalisation reflects
the increased integration of markets. Barriers to integrationpolitical,
legal or technologicalare removed. Individual, smaller,
markets become a single common market.
2. Globalisation allows economies to transcend
national borders. In some cases, this is a direct consequence
of political change. The formation of the European Union is one
example of this process, as was the unification of Germany in
the 19th Century. In other cases, it is an indirect consequence
of political change, or a side-effect of technological progress.
The collapse of the Soviet Union led to a series of political
realignments around the world that allowed capital and labour
to migrate across hitherto impenetrable borders. The massive decline
in telecommunications charges increased information flows across
nations, again aiding the free flow of both labour and capital.
3. Globalisation also, of course, carries
political overtones: it is not a purely economic event. Income
and wealth may be redistributed. While it is easy to argue that
integrated markets imply a more efficient allocation of the various
factors of production, thereby raising outputs for a given set
of inputs, this approach ignores three realities.
First, there may be substantial
adjustment costs as countries become more closely integrated with
Second, irrespective of adjustment
costs, globalisation is likely, economically, to create winners
and losers in relative terms and maybe also in absolute terms.
Third, if globalisation raises
output, it's also likely to raise social costs: damage to the
environment is one obvious example. Put another way, the market
benefits of globalisation may mask non-market costs.
4. In summary, globalisation is a shift
to a global market place for goods, services and factors of production.
It implies a more efficient use of resourcesmore output
for given inputsbut it may also lead to income redistribution
and ongoing social costs that may create political challenges.
All these factors have to be considered in assessing an appropriate
policy response to globalisation.
5. Globalisation has been a feature of the
economic and political landscape for centuries, sometimes warmly
embraced, sometimes feared. Human motives both for and against
globalisation have been remarkably constant through time. In the
14th and 15th centuries, city walls became a useful barrier to
entry behind which workers could form city guilds. Apart from
ensuring professional integrity, these guilds were active in keeping
out the products produced by cottage industries that operated
beyond the city limits. Railways linked together economic communities
that, previously, would have had only very limited contact: the
economic success of 19th Century Britainand the social
costsowe a lot to this extraordinary new piece of technology.
6. The latest period of globalisation does,
however, have some uniquely defining characteristics.101
The most important of these is the mobility of capital both within
countries and also across countries. Economics textbooks tend
to assume that labour is mobile but that, at least in the short-term,
capital is fixed. This no longer seems to be an appropriate assumption.
Capital moves around the world with increasing ease: companies
can locate capital in all sorts of different locations.
Greater capital mobility reflects three main
First, the collapse of Soviet
Communism and, pre-dating this, the new openness of Chinese leaders
associated with the policies of Deng Xiaoping. Political rearrangements
have been a crucial factor behind this latest phase of globalisation.
Second, new information technologies
have given rise to rapid declines in communication costs, primarily
reflecting the huge changes in the telecommunications industry.
These are the modern day incarnation of the railway revolution.
Railways, though, connected towns within countries whereas today's
lower communication costs are connecting countries across oceans.
Third, the last thirty years
have seen a major philosophical shift in favour of deregulation
and open markets: capital controls have gradually been dismantled
and, in response, countries have either shifted to purely floating
exchange rate regimes or, in the euro's case, permanently fixed
exchange rate regimes.
7. Mobility of capital has helped raise
living standards but, to date, the benefits have not been evenly
distributed. Growth rates have varied enormously across the world
from the non-existent (parts of Africa) to the very low (the eurozone
and Japan), from the moderately robust (the US) to the very buoyant
(China and, more recently, India). Moreover, within countries,
there have been sizeable shifts in income and wealth distribution.
China's income distribution, for example, is roughly the same
as America's. Under globalisation, therefore, societies living
under Communism and capitalism have seen the gap between rich
and poor widen. Anyone familiar with Adam Smith would not be surprised:
as he wrote in "The Wealth of Nations",
"Wherever there is great property, there
is great inequality... the affluence of the rich excites the indignation
of the poor, who are often both driven by want, and prompted by
envy, to invade his possessions... The acquisition of valuable
and extensive property, therefore, necessarily requires the establishment
of civil government".
8. From the UK's perspectivea perspective
obviously shared by many other developed economies around the
worldheightened capital mobility may result in a number
of key changes.
9. Although unemployment is low, labour's
relative share of the economy may eventually weaken and, by implication,
capital's share may increase. Heightened capital mobility implies
that labour has to be competitive not just for the UK to maintain
its export share but, also, to keep capital within the UK. Wage
increases in excess of productivity gains or wage levels in excess
of those received by equivalent workers elsewhere can lead to
an exodus of capital: to avoid this threat, wage claims have moderated,
a process that, in turn, has left UK unemployment at low levels
despite the fears often associated with globalisation. In this
regard, the UK appears to have coped with globalisation more successfully
than some of its European neighbours.
10. The labour market is not, though, affected
only by the mobility of capital. Following the fall of the Soviet
Union and the integration of Central and Eastern European countries
into the European Union, the UK has experienced a huge increase
in net immigration. This, in turn, has had a major effect on the
UK labour market, a conclusion that is easily illustrated by a
visit to any popular London restaurant. More formally, the Bank
of England demonstrated in its February 2006 Inflation Report
that the industries most dependent on migrant workers had been
those experiencing the biggest declines in average pay in recent
11. Despite the wage constraint, British
consumers have done very well: their share of GDP has risen over
the last two decades, a theme commonplace in many parts of the
industrialised world. Part of this is the result of domestic financial
market liberalisation that, in turn, has given rise to better
access to credit. Undoubtedly, though, another key factor has
been the persistent deflation that has occurred in consumer goods
prices: this price deflation is a direct, and beneficial, result
of a better allocation of capital around the world. As consumers,
we can buy more because the UK has experienced a steady improvement
in the terms of trade associated with falling import prices. Globalisation
may also have directly contributed to easier access to credit
by allowing the UK to run a current account deficit in recent
years without bumping into the funding difficulties of old.
12. While the decline in consumer goods
prices is good news, there are limits to how far consumers are
likely to benefit. Like other western developed countries, UK
consumers are gaining from access to cheaper sources of production
elsewhere in the world but, simultaneously, suffering from an
ongoing increase in the price of raw materials. As the global
production frontier shifts outwardsan inevitable result
of Chinese and Indian economic successso will the demand
for the world's raw materials. Simple calculations suggest that,
based on its current pace of development, China could be consuming
the equivalent of all of today's global oil production in 25 years'
time should energy prices remain at current levels. Rising energy
pricesand other commodity pricescould, therefore,
be a fact of life for many years to come. Again, issues of income
redistribution are raised: it may be that globalisation leads
to higher average incomes for the world as a whole, but more than
all of the gains could, conceivably, accrue to those countries
achieving the fastest growth rates: globalisation is a positive-sum
game but there still may be both winners and losers.
13. As for capital, globalisation implies
a growing distinction between brand and company. The Mini car
is undoubtedly a British brand but it's owned by a German company,
BMW. The Mini is assembled in Britain. The latest version of its
engine comes from France and its earlier power plant came from
Brazil as part of a joint venture with Chrysler (now Daimler-Chrysler).
British investors are free to purchase BMW shareson the
Frankfurt, London and New York exchangesand, therefore,
enjoy the profits that stem from the success of the brand. Plenty
of British workers are employed by BMW. When BMW's French-made
engines are exported to the British assembly plant, they count
as imports into the UK, but when the finished car is exported
to the US, the engine, and the rest of the car, counts as a UK
THE TOP 10 GLOBAL COMPANIES: WHAT EVER HAPPENED
TO NATIONAL CHAMPIONS?
||Electrical and electronic equipment
|Vodafone Group PLC||UK
|Ford Motor Company||US
|British Petroleum Company plc||UK
|Royal Dutch/Shell Group||UK/Netherlands
|Toyota Motor Corporation||Japan
|Total Fina Elf||France
|Exxon Mobil Corporation||US
Source: Unctad, World Investment report (2002).
14. Put another way, the globalisation of companies breaks
down national borders and makes data on trade and capital flows
between nations increasingly difficult to interpret. Companies
no longer fit within national borders even if governments often
regard them as national champions. The table above, which shows
data from the United Nations listing the top ten non-financial
companies ranked by the size of foreign assets, provides compelling
evidence for this view. Modern sovereign borders are like the
city states of old, vulnerable to the globalisation that stems
from political and technological change and which leads to a more
efficient allocation of resources.
15. China and India both play important roles in the
They are growing very quickly and, hence,
are seeing rapid reductions in the numbers living in poverty.
In that sense, they highlight some of the key positives associated
They are still very poor countries by UK
standards in terms of per capita GDP and, hence, have lots of
room to "catch-up".
CHINA AND INDIA HAVE A LOT OF CATCHING UP TO DO
|Country||GDP per capita (US$ 2004)
|Source: World Bank.|
They have huge populations and, therefore,
will place large demands on global raw materials in the years
ahead. Other countries have experienced economic catch-upJapan,
South Korea and Ireland spring to mindbut these started
from a higher per capita income in the first place and had small
populations by Chinese and Indian standards.
Unlike Japan's period of economic expansion
in the 1960s and 1970s, China and India are actively taking part
in the globalisation of capital markets: it's difficult to believe
that China would have enjoyed the economic success of recent years
without large inflows of foreign direct investment from the US,
Japan and, to a lesser extent, Europe. China's future is, therefore,
very much entwined with western interests.
China and India may have low incomes per
head, but they are producing large numbers of graduates who, so
far, are prepared to work at wages significantly lower than those
enjoyed in the UK, the US or elsewhere in the prosperous West.
Skilled workers are attracting a wide range of capital: according
to the UNCTAD, multinationals plan to invest heavily in research
and development in both China and India in the years ahead, displacing
investment that might have occurred in, for example, Europe in
As populations age in the west, Chinese and
Indian workers will become more important sources of labour for
western companies. Unless retirement ages rise in the west or,
alternatively, western workers put in longer hours, western societies
will become more dependent on the efforts of workers in China,
India and many other parts of the developing world.
16. Of course, plenty of other developing markets are
also playing a bigger role as a result of globalisation. The distinguishing
features of China and India are, however, size, pace of growth
and, in China's case, an economic and social model that differs
substantially from the western model. Other countries keen to
get on the development ladder will regard China as an alternative
to the so-called "Washington consensus".
17. China's recent success also emphasises one of the
key requirements of globalisation. China may have been one of
the major global economic powers in the 13th and 14th Centuries
but, for the next 600 years, China became an insular nation, its
leaders deliberately cutting China off from the rest of the world.
Society was very much based on agriculture and progress was limited.
Only with Deng Xiaoping's willingness to embrace openness and
engagement did China's economic performance change.
18. Further success depends critically on two factors.
First, protectionism needs to be kept at bay: growing protectionist
pressures in the US and Europe are, therefore, a major concern.
Second, recognising that there are limits to an export-driven
model, China in particular will have to find ways of shifting
towards domestic consumption-led growth: this will depend on the
evolution of domestic credit markets that will enable consumers
to spend in advance of likely future income gains.
ON UK AND
19. The inflation targeting framework can broadly be
regarded as the perceived guarantor of macroeconomic stability
both in the UK and, more broadly, across the world as a whole.
Not all countries use a formal inflation target but the vast majority
accept the conventional wisdom that price stability is a necessary
condition of macroeconomic success. In that sense, there has been
a globalisation of economic policy ideas: those countries whose
policymakers depart from this conventional view may find themselves
punished through higher interest rates, greater exchange rate
volatility and, perhaps, greater volatility of output.
20. Yet price stability has its drawbacks. In a world
where exchange rates are not completely flexible, relative price
levels should be able to adjust: in other words, inflation rates
should vary. A country benefiting from a global productivity shock
may best experience the necessary improvement in the terms of
trade through a fall in its price level. This leads to an increase
in real incomes (prices falling relative to wages and profits)
and to higher real interest rates (a reflection of faster productivity
growth). A central bank that prevents this mechanism from working
may leave monetary policy too loose, leading either to higher
inflation or, possibly, to excessively high asset prices and over-leveraged
households and companies. "Good" deflation occurred
in the late 19th Century during an earlier period of rapid globalisation:
its prevention today may eventually prove to be a source of macroeconomic
21. Ironically, the achievement of price stability has
been met with concerns about instability in other areas. If price
stability is desirable and, broadly, has been achieved, why have
global imbalances widened in recent years? To what extent should
the objective of price stability be relaxed to deal with global
imbalances? Are global imbalances in some sense a result of the
achievement of price stability?
22. Because the latest form of globalisation involves
much higher capital flows, it's not surprising that imbalances
are larger than in the past. Cross-border holdings of both assets
and liabilities have increased dramatically, implying much larger
savings flows from one country or region to others. These stock
and flow effects are difficult to interpret.
The US current account deficit, at 7% of
US nominal GDP, is huge by past standards yet, to date, capital
flows have been sufficiently large to fund the deficit without
serious financial dislocations.
The counterpart to the growing US current
account deficit has increasingly come from emerging markets. The
current account surpluses of China, Russia, the Middle East and
Latin America have grown quickly in recent years.
This flow of capital seems odd: economic
theory suggests that capital should flow from countries with high
per capita incomes and ageing populations to those with lower
per capita incomes and youthful populations. In other words, the
US should run a current account surplus as a counterpart to emerging
market current account deficits.
23. A possible explanation lies with a variant of the
comparative advantage theme. Rapidly expanding developing markets
benefit from their comparative advantage in manufacturing but,
at the same time, typically have poor domestic capital allocation
skills: for example, many developing markets have poorly developed
credit markets. Rapidly rising incomes tend to throw off excess
savings which show up in ever-rising current account surpluses.
24. Meanwhile, the US has a comparative advantage in
capital allocation not just in the US but globally. Should China,
for example, choose to ask the US to look after its surplus savings,
there's a good chance that some of those surplus savings will
be re-invested back into China by US companies (by lowering the
US cost of capital, Chinese purchases of Treasuries encourage
higher levels of US investment globally). Put another way, the
US operates as a bank to the developing world, taking deposits,
charging a management fee (the trade deficit) and extracting a
superior rate of return on its foreign investments in the light
of its superior capital allocation skills.
25. Economically, this process could continue for quite
some time. Politically, however, there may be limits. The difficulty
lies with the varieties of foreign assets that developing markets
are able to acquire. To date, investors from developing markets
have primarily acquired liquid assets in the form of Treasuries,
agencies and corporate bonds mostly denominated in US dollars.
Should their current account surpluses continue to rise, however,
they would surely be tempted to diversify out of pieces of paper
into real assets: that, in turn, suggests that developing markets
will increasingly have the economic power to increase their ownership
over western capital. Put another way, globalisation is not just
a story about western investors acquiring real assets in developing
markets but of investors anywhere acquiring assets anywhere else.
26. Globalisation is, arguably, a function of politics,
technologies and market liberalisation. Throughout history, globalisation
has been a fact of economic life, whether it was the growth of
cottage industries or the integration of China and India into
the global economy.
27. Attempts to resist globalisation have typically failed,
and the price of failure has often been high: nationalistic politics
can lead to protectionism, lost opportunities and, at the limit,
28. The latest phase of globalisation has taken many
millions of people out of poverty: China and India are potential
economic beacons for other parts of the developing world, showing
that openness and engagement can work to the advantage of the
many rather than the few.
29. In my view, the biggest challenges facing the UK
are not so much the risks associated with globalisationarguably,
with flexible goods and labour markets, the UK is better placed
than others to copebut, rather, policy mistakes that result
from misunderstandings about the process of globalisation.
30. Of these, the most obvious are:
A descent into protectionism. The US blames
China for the large US current account deficit. This view, though,
is based on a fallacious argument linking changes in bilateral
trade positions with overall trade positions: because China has
become the assembly hub for producers all over the world, the
widening Chinese trade surplus with the US may be offset by narrowing
trade surpluses of other countries with the US.
A failure of international policy co-ordination.
Globalisation strengthens the case for credible multilateral public
institutions. Latest proposals to reform the IMF make sense but
we're still a long way from having an international economic body
that is properly able to represent the interests both of the rich,
but slow-growing, industrialised world and the poor, but fast-growing,
A misunderstanding of events taking place
in the rest of the world. This is partly a problem with data provision.
If the latest version of globalisation is a story about capital
flows and changes in foreign asset and liability positions, our
understanding of this process is necessarily poor, reflecting
the paucity of data in this area. The IMF or other international
bodies could, perhaps, play a bigger role in the assembly and
dissemination of capital markets data to reduce the degree of
misunderstanding that otherwise thwarts international economic
One defining feature is that this period of globalisation comes
after an earlier period-starting roughly in 1914 with the outbreak
of the First World War-of globalisation in reverse Back