Baldwin on Globalization: “A Lot of the Narrative Is Based on the US as If It Were the Whole World”

Richard Baldwin, professor of international trade at the Graduate Institute of Geneva and editor-in-chief of VoxEU.org, talks to ProMarket about the convergence between the G7 and emerging countries, the United States’ failure to build a social contract to mediate the changes of globalization, and his confidence that—rumors of trade war notwithstanding—the international trade regime is actually quite resilient.

Observers in rich countries are seriously “misthinking” globalization, argues Richard Baldwin—and he has taken it upon himself to correct our error. Now head of London’s Centre for Economic Policy Research and founder of its influential economics portal VoxEU.org, at the beginning of the 1990s the professor of international economics sat on George H.W. Bush’s CEA and for over a decade now has been attempting to make sense of the changes to international trade unleashed by the IT revolution about that same time.

The outcome of this decade of thinking—and what Baldwin offers as the solution to our own misthinking—is his 2016 book The Great Convergence (which Larry Summers classed in the company of no less than Keynes as one of the five best books on globalization). The book takes up the task of connecting the logic behind two remarkable changes to the distribution of global wealth: 1) the Great Divergence, when, starting with the Industrial Revolution in the early 1800s, the wealth of the G7 countries overtook that of the ancient civilizations, which had held the bulk of the world’s wealth for four millennia, at an extraordinary clip; and 2) the Great Convergence, which took off in the 1990s and has seen “a century’s worth of rich nations’ rise [reversed] in just two decades.”

Baldwin explains these grand processes of divergence and convergence with what he calls the “three-cascading-constraints view” of globalization. As he tells it, prior to the Industrial Revolution, production and consumption were “bundled” geographically because of three constraints on trade: high transport costs, high communication costs, and high face-to-face interaction costs. The first “unbundling” of production from consumption happened thanks to the steam engine and other innovations in transport starting in the 1800s. Production remained geographically clustered, though, due to high communication costs that required technical knowhow to be physically near other factors of production. This all changed with the IT revolution of the 1990s, which lowered communication costs and facilitated knowledge transfer across global supply chains. This supercharged the Great Convergence between the G7 and the emerging economies.

The third constraint—the high cost of face-to-face interaction—remains largely in place, but not for long, says Baldwin. In a recent interview with ProMarket, he explained why he believes the cat is out of the bag for globalization and the third constraint is likely to continue to disintegrate—regardless of Trumpism, tariffs, or trade wars.

[This interview was conducted on March 6, 2018. It has been edited for length and clarity.]

Q: Let’s start with your book. What year did you finish writing The Great Convergence?

This came out in November 2016 and I put the manuscript to bed more or less in March 2016.

Q: Things have changed a lot politically since then.

Absolutely. The book came out one week after Trump was elected. I launched it in Washington, DC, in November 14th. I had to add a few slants.

Q: Does all that’s happened politically change your outlook? Do you still think the new globalization is going to move forward inexorably?

Listen, if you’ve read the book, you know the terminology. My new thinking’s about the third unbundling, and you’ve just asked a question about the second unbundling.

The second unbundling is driven by an arbitrage of knowhow to labor imbalances in the world. That imbalance still exists. The low-hanging fruit was taken and done, so it’s slowing down, like China and the extremely quick industrialization of developing countries near the G7 countries. That’s slowed down, but it’s not over. Trade in goods will continue for a variety of reasons. I believe people think about the second unbundling as if it were lowering tariffs and getting more trade in goods. The communication costs came down and we got that.

But how many times can goods cross borders? We had people like Barry Eichengreen say that: “How many times can they cross the border?” The answer, though, is if there’s an imbalance between the knowhow per worker and the knowhow can move to the workers, it will. There’s no pipeline that’s been shut off.

One analogy that I think is useful is, in the 19^th century, the US had lots of land and very few farmers. Europe had lots of farmers and very little land. A mass migration of the source of comparative advantage moved from Europe to the US. That flow helped develop the entire West, railroads turned deserts into farmland and brought more workers, and everything was booming. That kept on going until it was shut off by policy. In the 1890s or so the US started becoming restrictive. If it weren’t for that, it would have kept going.

Now think about an imbalance of knowledge per worker. [That knowledge] is flowing through the Internet, and governments cannot shut it off.

Q: So you don’t think politics can shut globalization down?

It would be very, very difficult. The funny thing is, if you wanted to do it, Trump was doing it the right way in the very first weeks where he would attack individual companies like Carrier for moving stuff offshore.

That backfired because it wasn’t very Republican. It wasn’t necessarily very effective. These guys own this knowledge. Under our laws, and any laws, they have the right to take it abroad. The tax structure doesn’t particularly punish it. Even if it did, how would you know because it’s so intangible? Personally, I don’t think they can stop it. China might be able to because they control the Internet, but even for them, the cat’s out of the bag. I think it’s going to continue.

Q: And that means more convergence between rich and developing countries.

More convergence, absolutely. Right now we’re all talking about manufacturing, and trade in manufacturing, and global value chains in manufacturing. I think that will continue, but not at an explosive pace. The really big arbitrage happened already—the low-end, labor-intensive stuff in almost all manufacturing has been off-shored. There are counter-developments with advanced manufacturing, but let’s not talk about that.

What I think is more interesting and why this will continue is the third unbundling. The place where the inequalities across the world are still really large is wages. So far, you weren’t able to arbitrage wages except by putting labor into a good and selling the good across the border. That was the primary way of getting cheap labor out of the country, right? That was limited by the fact that the goods are subject to agglomeration economies, that you need big ports, you need big companies. It expanded, but it’s not going to go to Africa, for instance, because they’ll never get really started on the agglomeration and it won’t work.

The third unbundling is where you’re exporting the labor services directly. Not in goods, but by people helping out in offices in rich countries through telepresence, telecommunication, and things like that. That, I think, will continue and will keep the emerging markets going.

Right now, the emerging market miracle came in two types: one was rapid industrialization and except for India, [that industrialization happened] very close to one of the big technology centers—East Asia, Central Europe, and Central America. It can’t really spread to the Southern Cone of South America, because those countries are just too far away for the back-and-forth trade.

But if you’re talking about people remotely monitoring autonomous cars, for example, they can be in Argentina. No problem. If you’re talking about people providing casual nursing services, they can be in Kenya and provide them in Italy. They can’t actually put the BandAid on, but they can look at it, and say, “Oh, that could scar. You should go and get it stitched.” When your kid gets a scrape, should you or should you not go to the hospital? You could just dial up and for five bucks, you get a nurse or a doctor from Kenya to say, “OK, it’s that.” That kind of stuff.

Now multiply that by a thousand services. Right now, I’m talking C2C, but B2B is also a big source of helping people with whatever. I think that will lead the many, many emerging markets to be able to exploit their true comparative advantage, which is cheap labor quality-adjusted.

Comparative advantage is all about arbitrage in price differences. This price difference has been spottled up by the high cost of face-to-face. As the high cost comes down, they’ll exploit it. I think it’ll spread to Africa, to South America and more remote parts of the developing world.

Q: You talk in the book about how crucial a social contract is in distributing the gains from globalization. Yet you argue that because the second unbundling operates at a finer level—instead of at the sector level as during the first unbundling, it’s now at the occupation and stage level—unions don’t work anymore. And given that globalization is essentially arbitrage in wage regimes, which are themselves determined by the social contract, there’s downward pressure to keep labor protections low. Do you think a social contract is really possible with these fragmentation pressures?

Yes, and many countries in the world do it. All you have to do is just look north of the border. Canada does a much better job of it. By the way, it isn’t all about redistribution. It’s about having some confidence that you have a fighting chance to be one of the winners, whereas there’s a desperate feeling in the Midwest where you’re stuck. You’re 50 years old. You lose your manufacturing job. There’s not a chance you will ever a get an equally good job. If these truckers lose their jobs to autonomous-driven trucks, there’s no way they’re going to get jobs like that, ever, and nobody cares. Whereas, in Canada, at least they would form a commission. They’d have some retraining. They’d try to help you out. In Denmark, they would commit themselves to getting you another job and doing whatever it means.

Q: What about the developing country context?

In the developing country context, this is all going to be good news. It’s true that China is one of the places where inequality rose most rapidly, depending upon how you measure it. But it’s a totally different thing when average incomes are going up by 10 percent. The poorest people are going to be able to buy their parents’ houses. Here in America, middle-class people can’t afford the house they grew up in. That’s a completely different type of inequality. I do think inequality in the developing world will rise, but it will be all boats rising. Just some people have bigger boats.

Q: I’m thinking about the elephant chart—the fact that so many poor people, 650 million, I think…

Came out of poverty. That’s right. Dire poverty.

Q: That brings up the question of what kind of ethical framework, what kind of utility, should we be thinking about when total levels of welfare are improving but relative levels of welfare inside countries are going haywire?

Let me back up and say that I have absolutely nothing new to say about that. Since the Industrial Revolution, this kind of social disruption has happened. Governments have tried a million different little things to keep the social contract. Basically, what you’re saying is, “The economy changes.” Change causes pains and gains. Some governments have tried their adjustment things, with more or less success.

Just to bring it to today, if you look around the world, where is their anti-globalization feeling? Let’s separate anti-migration. Anti-immigration is a totally different thing. If it’s anti-globalization per se, the countries that have good social welfare systems, social market economies, retraining, a proper apprenticeship program, and all that kind of stuff, they’re not anti-globalization. It’s mostly the US and the UK where globalization has become a very negative thing.

In the whole emerging world, globalization is loved. All you have to do is look at the Pew Research Center polls. They go around and say, “Do you think it creates jobs or destroys jobs?” It’s very clear. In all the emerging markets, most people think it’s good, creates jobs and opportunities. In the rich countries, especially the ones who don’t have good welfare systems, the majority of people say it’s bad for job creation and opportunities. If the US looked more like Canada or more like Europe…

Q: But then the process also creates its own pressures on welfare states, right?

Yeah, that’s right. You need the welfare state. Or let’s not say welfare state, let’s say social market economy, an approach where the government is in charge of making sure that the gains and the pains are shared, or at least have a hope of being shared. You don’t become dèsespèrè that you’re going to be left aside. Where the social market economy works is when you get shocks. We will need it to work more because I think we’re going to get shocks much faster.

What the things are, there’s no mystery to it. It’s just helping people retrain. I have some ideas of what they should be retrained doing, but, honestly, we don’t really know what their jobs are going to be. The main thing is they’re going to have to retrain more frequently. Probably soft skills are going to be more important than they used to be.

Q: But people are retiring from the workforce permanently, at least in this country.

In the US, right. We’ll see what happens if the labor market still stays tight, but that’s not good. I do think that a lot of the narrative is based on the US as if it were the whole world. The rest of the world’s not acting like that, and not having the same problems.

Take Japan. Japan has had every possible shock: outsourcing, offshoring competition with China, aging, climate change. They had them all. There is no anti-globalization in Japan at all. There’s only a far-right extremist party.

Q: That means you have fewer cross-cutting cleavages culturally. Those always make things harder.

Now you’re going, “Why do they find it easy to create this social contract?” That element matters. Canada has two languages. They have enormous regional differences. They managed to do it. Switzerland has three different language groups divided by mountains. They managed to do it in a totally different way.

Q: There is a broad movement in the United States and much of Europe right now that’s trying to marry white nationalism and protectionism. Your book talks about this association between what you call “protectionism and really bad things.”((Baldwin writes in The Great Convergence: “The breakdown of the trading system surely hastened the world down the path toward World War II… The closing of trade provided Hitler with a powerful justification for his territorial ambitions known as lebensraum… His solution was to turn international trade into domestic trade by expanding the borders of the Third Reich… This was… the period when the association between protectionism and really bad things first took hold on policymakers’ minds” (p. 67).)) Are you worried about that?

Until this week, I wasn’t worried at all. My view of trade policy is that it’s basically governed by very firmly established vested interest groups. If you look at, let’s say, US trade policy: whether it’s a Democrat, a Republican, somebody who talks free trade, somebody who talks protection, it’s all the same. There’s just mood music that changes. The basic [orientation] is given by special interest groups, mostly, if it’s not on people’s radar.

Up until recently, that was working with Trump. He said all sorts of scary things and then never did them.

Q: You’re talking about the steel tariffs?

The tariffs, the national exception, the national security use of justifying tariffs. That’s a new one. That opens up a whole new ball of wax because it’s not [normal] tariffs. It’s not antidumping or countervailing duties or safeguard, which are well recognized. There’s a lot of case law on how you proceed.

When the US put tariffs on solar panels, nobody went off the farm about that. They went through a dumping thing. They put on dumping duties according to the rules. They’re temporary. They’re measured. Everybody knows how to deal with it.

This is a brand new set of artillery, and that’s scary. I’m not deeply scared. I’m relatively optimistic that the economic interests will moderate that, including in Congress. By the way, Congress is the one who controls the tariffs, not the president. They delegated to the president, but they could take that away if he gets sufficiently crazy. I’m not too worried. We’re playing poker. I do see the hands could turn up and we get back to another tariff…

Q: You’re not worried about trade war.

No. If you get a full house and I get a straight flush, we might have a trade war. There is a configuration of the world where this thing all does blow up. I’m just assigning probabilities to those things. There’s no way you can say it won’t happen. We’re playing poker. I’m guessing that it’s going to be a fairly normal poker game, and this will blow over.

Q: The institutional infrastructure that has worked, governing this process since the postwar period, it’s historically young. It could implode. Why do you think it won’t?

The institutional infrastructure was built to reflect the special interest groups. The United States designed the GATT, together with the UK and a few other people. Then they designed the WTO. They designed the appellate body. They designed their trade rules. The US law reflects the GATT. We respect our own laws. It’s deeply embedded—it’s not a spring twig. It wasn’t Woodrow Wilson’s [Fourteen Points] speech that led to it. It’s really the farmers fighting it out with the tech companies and the industrialists that have led to this particular [setup], which I think is a fairly strong political economy support for an open trading and investment system.

I’m guessing that that will work out, but I do understand—for example, we’re talking about if he really does insist that this is about national security, people could be completely unreasonable about national security. Then the Europeans could do things. It could lead to a domino effect of protection.

That is one possibility, but I think that the special interest groups that would be damaged by that are powerful enough to stop it from going too far. Not the institutions. It’s the guys importing sugar, the people exporting beef from America, the German car industry, the aerospace industry, the semiconductor industry. Those guys, at some point, will read them the riot act and say, “Look, you can’t destroy the economy just on some abstract idea like this.”

Q: It does seem like Trump is motivated by something besides economics.

That’s the wildcard… But I’ve been encouraged. He was going to name China a currency manipulator on day one. That’s what he said. He did not do it because people told him, “First of all, they’re not manipulating currencies, at least now. It would cause all sorts of retaliations, and we need them for North Korea,” and all the things that kept us in bed. Then he said he was going to rip up NAFTA. Then he said, “No, no. We’re going to renegotiate it.” The renegotiation was supposed to finish 2017, and it hasn’t happened.

He hasn’t actually put on these tariffs, he hasn’t signed a thing. He announced them, totally [chaotically], no preparation, had not even informed the people involved. He has many times in the past—just recently with gun control—reversed himself. We’ll see if it actually goes anywhere.((The US imposed tariffs of 25 percent on steel imports and 10 percent on aluminum imports, with certain country exclusions, on March 23, 2018.)) For example, what the Europeans are doing—which is very clever, and Mexicans have done it before—is they take very politically informed surgical strikes on American exports, like Harley Davidson, which is [Paul] Ryan’s own district. Speaker Ryan has the Harley factory in his district. He’s a little bit weak. I was just in Wisconsin this weekend. He hasn’t been coming back enough. He’s a little vulnerable.((US Speaker of the House Paul Ryan announced on April 11, 2018, that he will not seek reelection when his term ends this year.)) The Europeans know that and they mentioned Harley Davidson. It was broadcast to the world.

I think it’s very possible that even if it does go through, this kind of very pointed thing will lead people to be more reasonable about it.

Q: So your argument is essentially for resilience of institutions.

Resilience, yeah, but a political economy-based resilience. I think what people who don’t follow trade very deeply, or they follow it too theoretically, they think that tariffs are something abstract. Instead, there are always people wanting higher or lower tariffs inside every single country. The agreements we have are its balance of power. That balance of power is not fragile. It’s based on long-term, slow-moving things, and that’s what I’m confident will prevail.

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