Archive for the ‘History’ Category

Comparative Advantage and The New World Economic Order

One of the subjects that doesn’t get mentioned often in the context of financial crises is comparative advantage. The idea of comparative advantage is essentially the basis for economics, and periods of tumultuousness within economic systems can be understood as miscalculations of comparative advantage over an intertemporal period.

Imagine that a plane crashes over a deserted island, and the only two survivors decide to build a new society. The two survivors are Noam Chomsky and Larry the Cable Guy. Lucky for them, the island has enough food and water for them to survive with little effort, so they use their spare time to produce goods: long-winded political critiques and “jokes”. Chomsky is able to produce 10 critiques in a day if he devotes himself entirely to this endeavor. However, were he to concentrate all of his efforts on writing “jokes”, he would only be able to produce 2. Larry, on the other hand, is capable of producing “10” jokes everyday, but when it comes to politics, he just doesn’t really understand, and so from a single day’s efforts he can only produce 2 critiques. Now, imagine that it is preferable for Larry and Noam to consume a mixture of jokes and critiques (this relates to the law of diminishing marginal utility, which maybe I’ll write about later, but if you think about it, it should make sense to you… variety is the spice of life). So if Noam and Larry each minded their own business and did not cooperate, they would spend half their time writing jokes and half writing critiques. Each would have 5 of one, and one of the other, and the total size of the economy would be 6 jokes and 6 critiques per day. But if they were to focus on producing only one good, the one with which they have a comparative advantage at producing, they could collectively create 10 jokes and 10 critiques everyday, which they could agree to share, and both would be able to consume more this way (5/5 for each instead of 5/1)

I have just explained to you the basis of trade and economic organization aka division of labor. In today’s global economy, certain countries have comparative advantages when it comes to producing certain goods. China, for example, has a much larger pool of labor than Japan, and the Chinese laborers are able to work for a much smaller wage because the large supply there deflates the price. Japan, on the other hand, has a great deal of technological capital; the kind of machinery and expertise required to produce high-tech goods at relatively cheap prices (again, the prices are cheap because of the relatively high supply of capital in Japan). So, for most of the 1970’s to the late 1990’s, China’s economy was based on its supply of cheap labor, which it could indirectly export to the world by being a producer of cheap (easy to manufacture; requiring little technical expertise and inexpensive materials) goods, whereas Japan used its supply of technological know-how and cutting edge manufacturing facilities to create televisions and computers, which it could then export across the world. The entire global economy was engaged in a beautiful/terrifying dance: Canadian lumber, German engineering, Italian design, Australian minerals, Brazilian agriculture, Saudi Arabian oil… all of it going across continents and oceans in order to create the optimal number of goods for the world’s citizens to consume.

Sounds like a beautiful story, but it’s only one layer of the onion. I mentioned the 70’s-90’s because that is the “economic narrative” that most adults subscribe to: a basically static world where “Third World” economy is still an apt description of most the world’s countries that I didn’t bother mentioning. This story is outdated, and I have probably even embarrassed myself by telling it, because it shows my Western-centric world view and the Cold War backdrop of my birth. In reality, the latest wave of neoloberal reforms and subsequent globalization have created a world where China is right on the heels of Japan in high technology, the Middle Eastern and Southeast Asian nations are becoming the centers for cheap labor, and much of the Western world is having an identity crisis as they grapple with the emergence of a new world order.

The shifting comparative advantages have created a world economy that, in the aftermath of a severe financial crisis, is having a hard time figuring out how to reallocate who should be writing the political critiques and who should be grunting out “Get er done!”; it is as if Larry the Cable Guy went to college and became a Rhodes scholar, while Noam Chomsky has taken up huffing glue, and neither are exactly sure who is better at what anymore. In the real world, at any given point in time, it is nearly impossible to know exactly what your economic output is or what your comparative advantage is, especially in a world that produces millions/billions of goods and services, with millions of firms and hundreds of countries, each one in an almost unprecedented state of flux in regards to its own abilities. So while everyone tries to figure it out, we have economic pain aka unemployment, slow-to-no growth, and inflation (the inflation isn’t directly related to the readjustment, per se, but is a consequence of it).

The extent of the adjustments taking place is greater than a lot of laypeople understand. Technological and institutional innovations from the last 30 years have greatly accelerated the pace of change in an ever more global marketplace. This has been the “Big Story” since the end of the Cold War. The effects of these changes will propel us into a new world order, most likely a multi-axis world where regional power brokers jockey for positioning and privilege within a global political order. The last time that the world was in such a geopolitical configuration was centuries ago. For us in the West, who have been born into a society based on the ideas of unlimited privilege and potential, it will require a bit of existential recalculation as a complement to our professional/economic recalculation. This can be a startling process, but the integrity of the West’s political institutions will persevere, and the decline will be gentle, gradual, and all together not-that-scary. There won’t be a new “Dark Ages” because there will not be a political vacuum such as what was seen after the end of the Roman Empire.

We may all develop a sense of nostalgia for Pax Americana, similarly to the British pride over their own fallen empire, but we should hope not to develop jingoistic or xenophobic ideas about this turn of historical events; I fear if we do, it may precipitate a period of world conflict. The last great wave of globalization in the late 1890’s/early 1900’s ended in two world wars, after the entire era of 1880-1939 was hyphenated by numerous severe economic crises. With history as an example, we are better prepared to not make the same mistakes of the past, but there is a large and vocal minority that would like to see the continuation of the American System, and this minority is very powerful due to the lucrative profits from the military-industrial-old media-financial complex (and I guess that is a coconut to crack for a different day, but take my word for it that they are all in it together… the smartest parts of the complex have already shifted their focus away from America, and the firms in the most developed parts of the developing world are already engineering the creation of their own rival power complexes…).

Categories: Economics, History

A interesting read on the history of the Corporation

The Culture-Politics-War-Business paradigm at the beginning is bad: it almost made me want to stop reading but I charged on and was rewarded for the effort.

Categories: Business, Economics, History