Globalization and International Trade - Case Study Example

 Globalization and International trade Introduction: Globalization is a phenomenon that is represented through the dissolving of boundaries between nations and is the inter-connectedness among the various nations of the world on the basis of economic ties. Friedman (2000) has pointed out that the American initiative in globalization was motivated by the Great depression of 1939 and highlights salient economic and social aspects - (a) the “Golden Straightjacket”, signifying the neo-liberal economic rules prevailing in an information age (b) Investors securing gains in financial markets through the use of computer technology, who represent the “Electronic Hurd” led by Wall Street and (c) the policy of “globulation” whereby dictatorial states are forced to democratize through pressure applied by the international community. According to Curran and Park, the increased networking due to globalization makes it “a process that is increasing international dialogue, empowering minorities and building progressive solidarity.” (Curran and Park, 2000:10). In the countries of east Europe where deregulation and the introduction of capitalistic modes of private enterprise through introduction of free trade have eroded the traditional socialistic framework that has existed in these countries.(Richards and French, 1996: 41). According to Thomas Friedman, globalization is the “inexorable integration of markets, nation states and technologies…..the spread of free market capitalism to virtually every country in the world.” (Friedman, 2000: 7-8). Waters views it as a “social process” in which the limitations imposed by geography are receding (Waters, 1995:3). He sees a social transformation taking place, whereby the economic and class inequalities that existed between countries and created material and power exchanges is now steadily being replaced by relationships that are based upon common symbols and values, shared tastes and preferences – a cultural transformation of social life. (Waters 1995:124). In reference to international trade facilitated by globalization and the opening up of borders, Mittelman refers to globalization as a historical transformation - “a political response to the expansion of market power” resulting in a transformation “in the economy, of livelihoods and modes of existence” (Mittelman, 2000: 6) and McMichael corroborates this view, seeing the process of global integration taking place on the basis of “market rule on a global scale”(McMichael, 2000:149). Friedman (2000) has highlighted some of the advantages of globalization with previous inequities of economic status and class generated during the industrial era of modernism yielding to a dissolution of class and economic distinctions through the free flow of information and consumerism and opening up of trade boundaries. However, the question that must be considered is whether international trade which is facilitated by globalization is also beneficial from a social point of view? Economic models of globalization: In assessing the social benefits or detriment of international trade, it is first necessary to examine economic models of international trade in detail. Some of these theories are (a) Ricardian model (b) Heckscher-Olin model (c) Stolper-Samuelson theorem and (d) the gravity model. From an empirical standpoint, trade among developed countries that are characterized by smaller degrees of difference in technology are better explained using the Heckscher-Olin model while trade between countries differing in technology lends itself well to the Ricardian theory. The Ricardian model: This model is constructed in such a way that only one factor is taken into consideration – the difference in production technologies between the different countries, with labor being an important factor to be considered in evaluating the benefits of trade. Ricardo argued in favor of free trade and opposed the imposition of protectionist tariffs, since all countries stand to benefit by international trade. The belief in the beneficial effects of free trade that exists today is largely a function of the theory of comparative advantage that underlies the Ricardian model (Henderson, 1993:827). Comparative advantage is the ability possessed by a particular country to produce a particular good at a lower cost relative to other goods and as compared to other countries that produce the same good. Therefore, comparative advantage possessed in one area of production indicates that the country has some favorable factors working on its behalf or has perfected specialized techniques in the production of that good, so that it is able to produce it more efficiently (Mankiw, 2007: 52). The underlying basis of derivation of comparative advantage is the opportunity cost of producing the good in a market where there is perfect competition and undistorted markets. The concept of opportunity cost is that when the cost of production of Good A and Good B are concerned, the country may be in a position to produce Good A with maximum efficiency and at lowest cost, therefore it will forego production of a certain amount of Good B, which is the next best alternative, in order to produce more of Good A which it produces more efficiently. Therefore, a country can benefit from trade if it concentrates on exporting the goods where it holds a comparative advantage. The Ricardian model also takes into account diminishing returns, according to which when other factors of production are kept constant and to one factor more and more units are added, then there will come a point where the benefits derived from it will start to decline instead of increasing. This is particularly relevant in the case of workers, where addition of more workers may initially push the production graph up, however, there will be a point where they may get in each other’s way and reduce efficiency, thereby pushing labor costs higher than the returns from sale of goods. Taylor addressed this problem through job subdivision under his ‘one best way’ theory and according to Kanigel, "Taylor had outlined his ideas for breaking down the foreman's job-traditionally many sided, hectic, nerve-racking, exciting and impossible-into smaller, more specialized jobs, each assigned to separate men" (Kanigel, 1997: 350). As a result, efficiency can be maintained while ensuring worker specialization necessary to gain a comparative advantage. The Ricardian model is relevant when examining the benefits of economic globalization, because he showed that all countries can benefit from trade by calculating changes in aggregate wages to workers and showing the aggregate representation of welfare through the use of national indifference curves (Ricardo, 1966). Therefore, developed country can also compete against foreign industries characterized by low wages because by focusing on goods where they have a comparative advantage gained through reduced opportunity cost, both countries can benefit from trade. Despite the fact that from a competitive standpoint, one country may have a higher advantage in production of a particular good, another country can also trade in that good depending upon its opportunity cost ratios for that good. Countries can specialize in those goods they produce more efficiently and produce them in larger numbers, thereby also benefiting from the gains accruing from economies of scale, since cost of production decreases when larger quantities are produced. Hence, the Ricardian model would appear to suggest that globalization is socially beneficial by allowing economic gains for workers from trade. The Hecksher Ohlin model: While the Ricardian model is based upon comparison of one production factor with others being constant, the Hecksher-Ohlin model predicts the balance of trade between two countries on the basis of a composite set of factor endowments and the differences present therein. On this basis the factor content of trade in a particular country is computed and this comprises land, labor, capital, mineral resources and all other factors associated with imports and exports into a country. While the Ricardian theory of trade is founded upon labor productivity, the Hecksher Ohlin model is founded on the differences between countries. The basic assumptions of this model are that trade can occur between countries with identical technologies but different factor endowments. Therefore. Taking into consideration two countries, two sectors and two factors, assuming that one good A involves labor intensive production with one Country A enjoying an abundant supply of labor, then if trade is balanced in the sense that exports are equal to imports, each country is likely to import those goods that intensively use the factor in which it is abundant. The H-O model may be considered in relation to capital intensive developed countries which are scarce in labor, one of the trade factors. Therefore, with the onset of free trade, it is likely that production of capital intensive goods will increase and be exported while production of labor intensive goods will contract, thus releasing more labor into the available work force. However, the amount of capital that may suffice to employ a worker in a labor intensive industry may not be adequate for a capital intensive industry, hence there is excess labor supply in the factor market and the price of labor will fall. As a result of the release from the contracting industry (labor) being incapable of being fully absorbed into the expanding one (capital), the price of the scarce factor (labor) will be lowered. The application of the H-O theorem would therefore suggest that free trade is not likely to be beneficial to workers in those countries where labor is scarce but reduce the share of the labor class in relation to the capital class unless there is a redistribution of income. The price of a particular factor multiplied by the amount of the factor employed is its total return and if an assumption of full employment before and after trade is made, total returns will be proportional to returns per unit. Thus, the H-O model differs from the Ricardian in that it makes assessments on the basis of composite factors rather than just one, and it is the intensity ratio of the factors which is the determining criterion. This is why in developed countries where labor is a scarce factor, it is adversely affected by higher activity in more capital intensive industries. Applying this model to free trade therefore, the conclusion that is suggested is that free trade is not socially beneficial to workers in developed countries, since it results in a reduction of their wages. While this theory predicts that GNP would be benefited in both developed and developing countries, the scarcity of the factor of labor would result in a reduction in incomes due to closure of labor intensive industries. Stopler and Samuelson (1941) have examined the H-O model in the case of imposition of import tariffs on those goods which are labor intensive and therefore imported by the developing countries. When such a tariff is imposed, it successfully raises the price of the imported good that utilizes the scarce factor of labor exhaustively. As a result the price of the labor factor will rise, thus tariffs in fact favor the factor that is scare in the country that is importing. Therefore, while a tariff may reduce the national income in the country that is imposing a tariff on imported goods, it also benefits that factor which is scarce in the same country by bringing about a redistribution of income in order to enhance production in both factors, thereby bringing about increasing returns per unit to the scarce factor. Hence the H-O model differs from the Ricardian in two more aspects (a) it favors imposition of a tariff as opposed to the Ricardian which opposes imposition of tariffs on imported goods (b) it also takes into account the impact of changes in prices and redistribution of incomes and production patterns. The Stopler Samuelson Theorem: Stopler and Samuelson also use a two factor approach rather than restricting trade in terms of one factor like the Ricardian model. The assumption is that irrespective of the country where a particular good is produced, the goods of a particular industry can be perfectly substituted. Costs of production are linked only to the wages of the factors, with each factor supply assumed to remain constant within a particular country. This theorem does not take into account transport or technology differences between two countries which are assumed to be negligible. On this basis therefore, free trade will impact differently upon skilled and unskilled labor. While the wages for skilled labor will rise uniformly across all countries, this will not be the case for unskilled labor which will fall in both developed and developing countries in an absolute and relative sense. This poses a disturbing outcome, i.e, the gap in wages between skilled and unskilled labor will rise in all trading countries. Gravity model: The underlying premise behind this model is the same as the principle upon which gravitational force works, i.e, the gravitational force between two bodies is dependent upon their individual masses and the distance between them. Applying this to trade, the volume of trade between two countries will depend upon the size of their individual economies and the physical distances between them (Deardorff, 1984). While these are the primary factors, other aspects that will also be taken into consideration according to this model are language and cultural differences and differences in per capita income between the two countries. Social impacts of international trade: An increase in the level of international trade results in an increase in foreign direct investment by one country into another, as well as technology transfers between two countries. The import of technology may be beneficial, resulting in the availability of intermediate technology inputs that can be accessed by domestic firms (Rodriguez-Clare, 1996) since workers originally hired by MNE firms may be attracted to the domestic firms and provide the benefit of their specialized knowledge.(Fosfuri, Motta and Ronde, 2001). However, Aitken and Harrison (1999) found a different result in Venezeula, where with an increase in foreign direct investment, productivity was actually reduced since the MNEs in fact pull away the most skilled workers from the domestic firms by offering them higher wages or benefits. Similarly, other recent studies that have been conducted have found that there is little or no technology spillover benefit accruing to a recipient country through the entry of multinational firms and foreign technology, and in some cases the effect was even negative.(Konings 2001). Conclusions: On the basis of the above, the question of social benefits therefore appears contradictory. Whether international trade is socially beneficial or not cannot be definitively stated, since different conclusions suggest themselves when trade is examined from different perspectives. The question of whether or not benefits accrue to a country engaged in international trade will depend upon a variety of factors, as outlined above. References * Aitken, B. and A. Harrison, 1999. “Do domestic firms benefit from foreign investment? Evidence from Venezuela” American Economic Review, 89(3). * Curran, J. and Park, M.-J, 2000 .Beyond globalization theory In J. Curran and M.-J. Park (eds.) De-Westernizing Media Studies. New York and London: Routledge pp. 3-18 * Deardorff, Alan V, 1984. “Testing trade theories and predicting trade flows” IN “Handbook of International economics” (Jones, RW and Kenen, PB edn). Amsterdam: North Holland * Fosfuri, A., M. Motta and Rønde (2001), “Foreign Direct Investment and Spillovers through Workers’ Mobility”, Journal of International Economics 53: 205-222. * Friedman, Thomas L, 2000. The Lexus and the Olive Tree New York: Anchor Books * Henderson, David R, 1993. David Ricardo. The Fortune Encyclopedia of Economics. * Kanigel, R, 1997. The one best way: Frederick Winslow Taylor and the Enigma of efficiency. New York: Viking. * Konings, J, 2001. “The Effects of Foreign Direct Investment on Domestic Firms: Evidence from Firm Panel data in emerging economies.” Economics of transition, 9(3): 619-33. * Mankiw, N. Gregory, 2007. “Comparative Advantage: The Driving Force of Specialization.” Principles of Economics. (4th ed) Thomson learning * McMichael, P, 2000. Development and Social Change Thousand Oaks: Pine Forge Press, pp xxiii, 149 * Mittleman, J.H., 2000. The Globalization Syndrome: Transformation and resistance Princeton: Princeton University Press * Ricardo, David, 1966. Economic Essays: Edited with Introductory Essay and Notes by E. C. K. Gonner. New York: A. M. Kelley. * Richards, M, and French, D, 1996. From global development to global culture In D. French and M. Richards (eds.) Contemporary Television; Eastern Perspectives, New Delhi: Sage Publications, pp. 22-48 * Rodriguez-Clare, A, 1996. “Multinationals, Linkages, and Economic Development”, American Economic Review 86. * Stopler, Wolfgang F and Samuelson, Paul A, 1941. “Protection and real Wages” review of Economic Studies (November). * Waters, M., 1995. Globalization London: Routledge Read More