PRE-INDUSTRIAL ECONOMY
Recap: From the fundamental graph we can see that:
Until 1700/1800: for millennium “pre-industrial economy”, by taking a look to the “fundamental graph” we can see that GDP
(value of goods and service produced in a nation in a given period) and population growth was flat all over the countries and
there was no way of seeing improvements. Moreover, the background was also dominated by static average standard of living
equal among countries, Malthusian trap, stagnation.
After 1800: for many countries, we had a period of “Great Divergence” in which, with the arrival of the industrial revolution
we had: start of industrial economy, unprecedented economic growth, start of divergence among countries as not all countries
could benefit from this growth. This period signed then the arrival to the Modern Economic Growth (MEG) (early 1800’s) in
which at the end, this convergence of Countries, was represented by a convergence among them. So, we can see that history as
well as economy is not neutral.
Now, starting from the pre-industrial economy:
We have to consider different factors:
Demography: (Pt=Pt-1 + B-D) focuses on the population growth, which was really stationery and flat, as there was almost no
population growth (in long run birth rates equal to death rates and we assume no migration among countries). We can address
this point also to the fact that while expectancy of old population is growing on the other hand, the index of birth (connected
with data on fertility) is decreasing and so people do not have lots of births. (This process is called demographic transition).
Production: characterized mainly by agriculture and “little and sporadic technological processes”.
To understand what this means we should explain this formula on the right, which is a Standard
Production function telling how much output (Y) is produced as a function of technology and
capital and labor growth rate. In particular, according to this formula we should refer to the: (low total factor productivity TFP =
portion of output growth, which is not explained by increase in factors of production, but depends on technology, productive
efficiency or productivity growth rate. In particular TPF is directly proportional to the technological progress over time, meaning
that, when this value is small, this means that we have a very low technological progress). Finally, in real terms, technology in
the pre-industrial period seems to have a very negative impact, since the more it is used, the lower will be the level of output.
Living standards refers to the “conquest of longevity”. However, before the industrial revolution, the living standard were not
so improving, characterized by a short life expectancy (< 40 years), infant mortality rates, volatility, highly vulnerability people
due to shocks such as wars, pandemics and food shortages.
THE MALTHUSIAN MODEL:
Until 1800 we had a period of population stability: as, in long run birth rates equal to death rates as a “natural state”. The
answer to why this happens can be given by the Malthusian Model.
The Malthusian model is the best tool to understand the period of stagnated economic growth prior to the eighteenth
century and gives a mechanism in order to explain the long-run population stability. The model demonstrates a relation
between four variables: birth rate (B), death rate (D), population (N), and real living standards which are equal to total
output divided by total labor force (y).
gY = gA + ηY ,K gK + ηY ,N gN
The model also poses some important assumptions (Hypotheses): birth rates are exogenous, so they depend on social norms,
death rate is inversely related to real living standards (if one increases, the other decreases), a standard production function
with diminishing marginal returns. So, we have that living standards decline as population increases, and that living standards
equal to real wage. Moreover, Ricardo, with his proposition “Iron Law of Wages”, argued that Birth and death rates intersection
identifies the subsistence level of income (or real wage) which is independent from technology and corresponds to stable
population. (So, he argued that real wages (as opposed to income per person) must always eventually return to the
subsistence level.
Now, The Malthusian model interpretation: could be seen in a graph of technology: this last one is related to the law of
diminishing returns according to which if population increases, living standards decrease so we have 1) optimal population
corresponding to subsistence income, 2) equilibrium y* 3) and corresponding N is stable to changes in y*
This means that: If birth (B) is regulated there is no change in the equilibrium point because, instead an increase in birth
would temporarily decrease the level of output until a certain level and stagnates once again in the new equilibrium.
Indeed, we would have an increase in population which will eventually bring more workers to the labor market, which
will then allow companies to lower wages. Instead, if there is an increase in the death rate (D), again the economy will
have a slight change since we have less workers on the labor market, they’ll get higher wage and higher standard of living,
but it stagnates and it is not able to develop overtime.
Inverse reasoning if birth rate decreases (real income increases, population decreases) or if death rate decreases (real income
decreases, population increases):


B ↓N ↓y ↑
D↓N↑y↓
If there is an increase in technology, output increases temporarily, but if this increase does not remain constant, the
economy stagnates, but history shows that this continuous increase in technology has led to the "great escape"
from the Malthusian "trap". This is what happened with the Industrial Revolution characterized by a continuous
chain of new technological innovations.
INDUSTRIAL REVOLUTION (IR):
The 16th century is signed by a period of acceleration, resulting in an economic expansion and this is related to a decisive break
in history of technology and economy, happening in UK in late 1700s (1750-1850).
Main changes: There is an evidential growth in output per capita which more than doubled, and population which became
4 times, and this can be well expressed in a huge increase in TFP total factor productivity. Most of all according to this, we
had: 1) Structural change: based on a reallocation of production factors (workers) from low productivity sector (agriculture) to
high productivity ones (industry, services)and 2) Technical change: raise of productivity within sectors due to cluster of
innovations (steam powered engine, cotton spin machines) .
Firstly, Agriculture played an important role in the Industrial Revolution, as it was the primary source of both food and
inputs from the industrial and service sectors, and British agriculture was both productive and dynamic. The choice of
shifting could be given by a higher salary since the production of a good in the industry sector had a higher value. In other
words, people move from one sector to another because of higher productivity so higher wages (for the same amount of time).
Secondly, geography also was important, as the demand for energy had risen, coal was a cheap source on energy making
it the first choice for energy consuming in production. Coal was important but it wasn’t the only explanation since it was
abundant elsewhere. Thirdly, patents were introduced, encouraging the inventors and developers to create new
technologies and upgrades. And finally, culture/values. Technological change, according to J. Mokyr, is something that
take place in the human mind and and than it is transformed successfully into an object, a substance or an action.
Enlightenment culture provides the framework for technological progress.
Why the Industrial Revolution was in UK?
Bob Allen could clearly answer to this question:
Allen describes the unique wage and price structure present in Britain in the eighteenth and nineteenth century, claiming
that it is the most fundamental reason for the rise of the Industrial Revolution. Wages were high by international
standards, and in contrast energy was cheap since price of coal was lower than other countries, thus, these wages created
the demand (incentives) to invent technology that substitutes capital and energy for labor were made increasingly
important. Finding ways to employ as few people as possible because of high wages, replacing people with machines, since
machines worked with coal and coal was cheap.
The 2 causes of wage price structure were: success in global economy (trade) and abundance of coal deposits (cheap
energy) and the roots of these causes lie in the mercantilism and imperialism. High wages also helped the supply of
technology by enabling people to acquire education following commercial culture, values, and industrial enlightenment:
especially with the scientific method that was applied to technology.
Britain was a high-wage economy in four senses: 1) At the exchange rate, British wages were higher than those of its
competitors. 2)High silver wages translated into higher living standards. 3)British wages were high related to capital prices.
4)Wages in Britain were exceptionally high relative to energy prices.
Moreover, British businesses could pay high wages and compete in the international economy only if their efficiency was
exceptional or if another input was cheap. (This relationship is the factor price frontier of neoclassical economics.) and Coal
was that other input that enabled firms to pay a high wage while remaining profitable.
Invention, thus, depended on adoption, and adoption depended on the factor prices.
Allen also observed that it is possible to see how factor prices affected adoption and R&D with a standard Microeconomics
isoquant model: which mainly expresses that: the high-wage and the low-wage countries have opposite incentives to invent
technique (star), it would be pointless for the low-wage country to invent it since it would not be used.
Invention also requires R&D which consequently requires hard work that needs incentives.
Jane Humphries doesn’t agree with Allen’s theory, since she states that he does not take in consideration the role of children
and women (important part of labor force) in the industrial revolution. By taking them in consideration, the actual real wages
were much lower than the one he has estimated.
Consequences of the industrialization:
Great achievement of British Industrial Revolution: creation of first engineering industry that could mass produce productivity
raising machinery. In particular, the 3 main basis of developments allowing continuation of economic growth were:
-
Mechanization of industry which raised British productivity
Railroad
-
Steam powered iron ships which both created global economy and the international labor division that were
responsible for the significant rises in living standards across Europe.
Growth and economic development
Not neutral growth in all countries, there were winners and losers (there was income inequality and absolute
poverty). So, there were countries that had a larger growth and other that did not.
The proximate cause of this industrial progress can still be attributed, as in the classic account of Landes (1969), to technical
innovations that replaced human skill with machines, animate with inanimate power, and traditional with new and more
abundant fuels and raw materials.
International comparisons fail to identify a decisive factor that “switched on” development or held it back. Indeed, there is a
long list of causal factors that are rarely mutually exclusive, from culture to climate, from energy to empire.
MODERN ECONOMIC GROWTH (MEG)
MEG (from the early 1800’s occurring firstly in Europe) really reflects a shift between the ancient times, comprehending
also the Industrial revolution, and the modern ones, due to the fact that for first time in history there is an emergence of
modern science as the basis of advancing technology.
As defined by Simon Kuznets: the Modern economic growth is a system of production based on the increasing use of
modern scientific knowledge, and it also means structural change, as new industries appear and old industries become
less important, leading to tensions within the society (New vs Old). So, for the 1^ time, it’s possible to observe a
pervasive application of a science upon technology with a shift from a sporadic one to a systematic one and
moreover, there is a great change in the production process with its main function of supporting science and
technology. So, we can say that, for Kuznets, these powerful innovations may be regarded as a Structural Change:
which refers to the rise of new industries, in an environment where the society accommodate these innovations
that raise per capita productivity. All this is a synonymous of Tension among people to accept this whole changes.
According to this, a country's economic growth is defined as a long-term capacity to supply increasingly diverse
economic goods to its population, this growing capacity is based on advancing technology and the institutional and
ideological adjustments that it demands.
Now, MEG has 6 characteristics:
1.
2.
3.
4.
5.
6.
High rates of growth of per capita product 2% year, and of population 1% year (given by acceleration in consumption
growth, rise in savings and investment ratios)
High rates of rise in productivity TFP in most of the sectors of the economy
High rate of structural change of economy (seen in an increasing scale of production from agriculture to industry,
from industry to services, from personal to impersonal organization of firms).
Change of society’s structure, and of ideology (within a period of urbanization, and secularization)
Globalization
Selective spread creating tension, and inequality.
Once a country undergoes a transformation following these 6 points/steps, the neighboring countries will very likely try to copy
their successful neighbor. Unfortunately, not all of them will succeed, and this will often create tensions within societies. Failing
to “uplift” yourself by copying your neighbor through peaceful methods or subterfuge may lead to more violent options, such
as war.
The Engel’s Law: Developed by Ernst Engel, the Engel Law states that when income increases, expenditure on food
increases, but in a concave way. Percentagewise, it’ll be convex, but decreasing, meaning the better-off you are, the less food
you’ll buy, but you will be spending more on it. This implies a large transformation within the demand-side of the economy, at
least for the food industry.
A focus on INEQUALITY and Tensions point:
Are mainly associated with the change in income distribution, which leads to a substitution of efficiency and equality to
inequality due to a shift from low productivity sectors to high productivity ones. This change is mainly explained by the
Kuznets’s Curve, which is mainly an average U curve which expresses how income changes together with population growth
and structure: the main concept is that to escape inequality and poverty, people should accept this stage and eventually than
transform this rural labor by migrating and having a social mobilization towards a more industrial sector where incomes are
higher. But this however leads to an increase of productivity in that sector which leads to a grow of inequality (when
compared with other sectors). So, the Economic growth brings to a decline in the position of one group after another, leading
to conflict and tensions despite rises in income.
“Growth is pregnant with conflict”; conflict shows up whenever there is growth, despite everyone’s’ income increasing. There
will be a decline in the relative position of one group with respect to another; farmers for example disappeared following the
Industrial Revolution. Only if such conflicts are resolved without excessive costs, and certainly without a long-term weakening
of the political fabric of the society, is Modern Economic Growth possible. In short, modern economic growth can be described
as a process of controlled revolution.
MEG spreads sequentially, by and large from NW to SE, and tends to provide excellent motivations for war. In fact, some
scholars have suggested that war is an endogenous characteristic of growth.
GLOBALIZATION
The 1^ Globalization was mainly a period of convergence whose main characters are the Atlantic economies that during the
1870-1913, where characterized by a global movement of different components:
-
Goods with international trade
Labor with mass migration
Capital with international capital flows
Starting from:
1) INTERNATIONAL TRADE:
When we talk of growth in international trade, we usually refer to Trade openness of a country (which is = exports + imports /
GDP) which, especially in the 19th century, had a huge growth going from x2 to x4. Now, at the beginning the trade was
surrounded to an Elite representing Europe, since it was only Western Europe trading with Europe. Within this, however,
people should consider 2 types of barriers in trading:
-
-
Natural one: mainly related to obstacles such as high transportation costs. But however, these barriers saw their fall
thanks to transportation innovations (railways, steamships, refrigeration) like the Suez Canal excavated in 1869. The
fall in transport cost has been the factor that provoked globalization according to O’Rourke and Williamson.
Artificial one: such as tariffs, protectionist policies on imports/ exports. Pro this globalization policies (Mercantilism)
were seen after British Repeal of Corn Laws 1846, with the Globalization backlash, imposing tariff on exports after a
period of invasion of cheap grain from new world, mass migration, competition of goods.
The escape to these Artificial barriers can be seen thanks to the contribution of 2 great economists:
1)Adam Smith with the model of Absolute advantage: saying that, countries that could supply other countries with cheaper
commodities, should have an absolute advantage on their type of product and so this entails also a higher productivity. So, as a
matter of fact, it is better to buy products from a country that produce it in a cheaper way than to produce it in their own
country. So, countries should only produce goods on which they have absolute advantage.
2) David Ricardo (Ricardian) model of comparative advantage: the most important economic model dealing with
trade. His model of Comparative advantage, differently from the one of Smith, suggests that countries will engage in trade
with one another, by exporting the goods on which they have a relative advantage in productivity. So, there is always a
gain in trading even if you are not more productive than other countries, by exploiting comparative advantage: meaning that
when a country can produce a good at a lower opportunity cost relative to another country, being in an advantageous position,
therefore. At the end, we will have that both countries will gain from trade if they specialize in their comparative advantage
good and trade it for other good. So, even if a country is technologically inferior in the production of all goods, it can still gain
from trade.
“Trade makes workers in countries with lower wages worse off.” False, since in the absence of trade, there would be workers
who would find themselves to be even more worse off. Denying the opportunity to export is to condemn poor people to
continue to be poor.
Practically: Assumptions of The Ricardian model:





○ Two countries (Britain, Prussia)
○ Two homogeneous goods (wheat, cotton)
○ One factor of production (labor)
○ Two production functions (technology differs across countries)
○ Perfect competition
We can write the production functions as:




(a) are the hours of labor necessary to produce 1 unit of a good. It defines the country's technology (low a= high
productivity).
Labor productivity is the quantity of output that can be produced with 1 unit of input, (labor productivity of
)
cotton= 1/aC .
Opportunity cost is how much does 1 unit of an output "cost" in terms of the other output (the opportunity cost
)
of cotton in terms of wheat is aC/aW .
If a country has a comparative advantage in one of the two goods, the other country must have the comparative
advantage in the other good.
According to the Ricardian model, both countries will gain from engaging in trade if they specialize in their
comparative advantage good and trade some of it for the other good. Ricardo suggests that the more-productive
country should specialize in the production of their comparative advantage good, rather than their absolute advantage. This is
the counter-intuitive element in his theory. Rather than being self-sufficient, a country should aim at specializing, and then
trading their excess product for what they need.
Example of 2 countries:
2)MASS MIGRATION:
Before globalization slavery was greatest movement of people regarding 7-10 million of them. The period within 1821-1915 (1^
globalization) however, signed a brand-new era for the mass migration, with over 60M of Europeans leaving their original
countries.
The late nineteenth century (1870-1914) saw an impressive convergence in living standards. Most of the convergence in this
time period was due to the open economy forces of trade and mass migration. By convergence we mean the process by which
poorer countries have grown faster than richer countries, so that economic distance between them has diminished.
Convergence of what? Purchasing-power-parity (PPP) adjusted to real wage rates  the living standards of ordinary workers
are better indicators of the economic well-being of a society. This great convergence describes European industrial latecomers
catching up with European industrial leaders. Most of the Atlantic economy convergence observed can be attributed to the
mass migration. First globalization is an age of mass migration (people moving on a large/global scale)
Mainly the Origin countries were:
-
1820-1850 UK and Ireland mostly, Germany
1851-1880 Italy, Spain, Portugal
1881-1915 East Europe
While the Destination countries:
-
1820-1880: US
1880-1910: South America, Canada, small and steady stream in Australia, South Africa
Who were the emigrants? In answering this, demography is important because affects human capital quality. There were
different wages of migration:
-
1st waves: families and skilled workers
2^ wave: single and unskilled workers to find better wages and works.
The main reasons of mass migration (factors of emigration cycle) during the 1^ globalization were:
Wages do not explain at most, the complete reason of a possible mass movement although Europe was one of the most
industrialized and advanced geographical areas in the world, many of the richest countries of Europe had high levels of
emigration. Indeed, we do have multifactorial reasons:
1.
2.
3.
4.
5.
Real wages Ratio: which is home/destination. So, the more wage >at home, the < people would migrate and
vice versa. But Wages do not explain at most, the complete reason of a possible mass movement.
Transport costs were lowered, hence relaxing the constraint to immigrant supply. This point is mainly
related to the nonlinear stylized curve of migration that we had in Europe in this period. Indeed, the curve
points out that, despite the conditions of a country could improve however the people will always continue to
migrate, and this is due to a fall in transportation costs since more individuals can now travel. Indeed, by
lowering the transportation costs (thanks to technology), the curve would shift upwards, indicating that the <
are transportation costs, the > would be the wages and the > would be the people that leave their
country (migrate). So, wages do not explain at most the mass movement.
Path dependence: is connected to Persistence: so, once people continue to migrate in a certain country, it
means that probably the conditions in that country are more favorable. This is also due because of the influence
of friends and relatives.
Share of industry: connected to the rise in labor mobility and industrialization, as industrialized countries
positively contribute to raise emigration rates. Industrialization also has a big impact, since with a decrease in the
agricultural sector people feel less “bound” to the land. Farmers can’t travel or go on holiday when cows need to be
milked, eggs collected, and wheat harvested. With the agricultural sector becoming gradually less and less important,
more and more people find themselves free to move wherever they please.
Natural Increase: connected to Age structure of the population (and so demographic factors).
Demography indeed is the most powerful factor and is usually associated to Richard Easterlin. He associates
emigration to high birth rates/fertility of a population; there will be an excess of supply in the labor market 
decrease in wages  emigration. The age structure means that usually youngest people are the one most willing to
migrate as it is the “right time in the life” to have new experience.
So, emigration is often correlated positively with income in origin country, so wage gap is not the only driver of migration, as at
the beginning increasing salary means decreasing emigration rates but with transportation innovations shifts home wage /
emigration rate curve outward, making migration cheaper.
3) INTERNATIONAL CAPITAL FLOWS:
International capital mobility is fundamental since breaks domestic savings and domestic investment link which has important
implications for economic growth. Indeed, usually, while dealing with a closed economy (remaining in our domestic country),
the link that we may find is that S(saving)=Investment (I), while we instead move to foreign countries, we are in a situation of
open economy in which saving, and investment are affected by other factors: (indeed savings (S) = investment(I) + current
account (exports (X) – imports(M))). This formula can then be translated by the Balance of Payments (which basically details the
flow of all international transactions in and out of the country) language into: Bc+Bk where Bc=X-Z and Bk=I-S.
These means that, if a country is a net borrower, then there is a deficit in the current account, which leads to capital
inflow, therefore increasing the investment and increasing output.
Therefore, we can say that: Domestic investment is not bounded anymore by domestic savings because of foreign capitals
(seen with regression of domestic investment as % of GDP) low R2
Another important concept is the Macroeconomic policy trilemma: which deals with three goals of economic policy and
concludes that only two of them are possible to pursue in reality. This comes from the fact that small countries would lose
control over domestic interest rates if adopt fixed exchange rate policy, under condition of international capital mobility. The 3
goals considered are:
-
-
Full freedom of cross border capital movements, to attract capital. So, it’s important to ensure that if an investor
asks money back, he is able to have them and that a resident has the freedom to decide where to invest his money.
Fixed exchange rate regime: having certainty about future exchange rates allows investors to plan ahead.
Independent monetary policy oriented towards domestic goals. As a country, I want to be free to employ my
economic policy in any way I see fit (lower taxes, government spending).
What seems to be really important for the choice among these 3 goals is arbitrage which serves as a guide to identify the 2 best
choices out of the 3.
Capital Market Integration: Necessary conditions for capital market integration:
-
-
-
From the Supply side: from this point of view, the goal is to achieve growth in order to ensure the continuous
accumulation of domestic savings and therefore to have surplus of funds for investment.
In particular, Europe population was growing, implying a growing demand for raw materials and food.
From the Demand side: reflected the need of the presence of a good amount of government or business
enterprises willing to borrow. Moreover, the key driver is represented by the capacity to absorb capital, and
this can be mainly achieved thanks to good transport facilities, surplus quantities of entrepreneurship,
availability of natural resources and so on.
Technology: deals with the requirement of functional machinery in order to transfer funds in an efficient way from
savers in one country to borrowers in another.
Moreover, the 3 enablers that explain the high and rising capital market integration are:
-
-
-
Technology innovations: transportation and communication revolution had a powerful impact on international
capital markets, telegraph, submarine cables. Also, faster transportation, played a crucial role in increasing the
integration of the Anglo-American foreign exchange market.
Financial Institutions: where the main innovation was the adoption of the gold standard system. The Gold Standard is
the international monetary system that the world adopts during the first globalization, instead of having
uncoordinated local currencies, this system means stability without exchange rate risks. It has been associated to a
stable epoque in terms of exchange rate fluctuations. (In particular: Lance Davis attributes the decline in interregional
short-term interest rate differentials to the development of a national market for commercial paper, and the decline in
long-term interest rate differentials to developments in the life insurance, mortgage, and national securities markets.
Under the system of the gold standard, individual countries agreed to exchange their currencies for gold at a fixed rate,
and many argue that the gold standard promoted capital mobility by eliminating exchange risk.)
Politics: we are in a peaceful and stable era, which facilitated the central bank cooperation that was important for the
smooth functioning of the gold standard helping prosperity.
The Gold Standard (GS) itself was a political as well as an economic institution. It was a fixed exchange rate system and
further enhanced capital mobility in an already liberal age: adhering to it therefore exposed countries to the risk of
industrial crisis and depression.
Sticking to the GS meant subordinating monetary policy to the goal of maintaining gold reserves and the gold parity,
regardless of the domestic employment consequences. In the interwar period, it would become increasingly difficult
politically to maintain the GS, at the cost of increasing unemployment. Policymakers now had to confront the policy
trilemma head-on, and they ended up abandoning international commitments in order to fulfill their domestic
commitments. Capital control and the abandonment of the Gold Standard became the dominant policy choices during the
interwar years.
The late 19th century capital flow expansion, has 4 different explanations (Stylized representation):
O’Rourke and Williamson explanation to the question, why did capital move?
Assumptions: Where capital is more abundant (Europe) return of capital is lower than where capital is less abundant (New
World), leading to incentives to capital movement for cheap capital countries to bring it outside, at point r* where excess
supply of capital in Europe and excess demand in New World is what mainly makes capital move (F). Moreover, the 4 different
theories are:
1)Frontier expansion theory: is the most important explanation of the late 19th century capital flows and concerns
the fact that in the New World, demand for investment increases due to labor, and also due to capital requirements
associated with expansion of frontiers, (mainly due to requests of food and raw materials). As a direct consequence,
more capital flows in the New World. So, F (capital) increases as we have a shift in the investment curve.
2)Imperialism theory by Hobson: is the result of an Excess of British savings which is mainly due to unequal income
distribution. As a result, cost of capital in Europe decreases and therefore more capital flows out. So, we have shift in
saving in the home country which leads to an increase in F (capital).
3) Capitalist crisis theory by Lenin/Marxism sees the Europe domestic investment that decreases because of a
systematic capitalist crisis, which leads to a downfall of return of capital. So, we have a negative shift in investment
which increases the level of F (capital).
4)Demography theory: New World savings decrease because of people marrying earlier and having more children
and therefore high youth dependency ratios increases. This leads to a change in proportion between economically
not active or active due to higher fertility and survival rates. So, we have a positive shift in Savings in the guest
country which makes F (capital) increase.
-
Conclusions: capital didn’t always flow to poor countries, but it depends on productivity levels, responding to
incentives such as technology, supply, demand etc. For this reason, it may be regarded as a source of divergence
rather than convergence, as much more capital moved to some of the richest countries in the world rather than to
poor ones. European capital tended to chase after European labor as both migrated to the land abundant and laborscarce New World.
Guest Lecture: GENDER INEQUALITY AND WOMEN’S WORK
Ignoring differences between men and women (biological, social and cultural) leads economists and economic historians to
wrong conclusions.
For years, Gender, referred to as a “representative agent”, has been absent from economic theory, whose main narratives
focused on an elite (in which poor people and women were usually not included).
Over the years, there has been a systematic undercounting of women’s work in historical sources because definition of work is
not gender neutral and correction can lead to new conclusions on path of structural change and labor productivity (examples:
Sarasùa 2019, Humphries & Schneider 2019 argued with Allen that wages in Britain weren’t that high, women and children
wages were really low with respect to men). Women’s primary activity was taking care of the family in the households  they
didn’t really appear as workers, even if they were.
Moreover, a focal point is the one of “Women Paid Labor” as Women’s increased involvement in economy was one of the
most significant change in labor markets during past century (Goldin 2006) due to significant change for women themselves:
economic independence, bargaining power within family and dimensions of equality and wellbeing. Key indicator is labor force
participation rate (which is equal to the number of people employed + people looking for employment / total working age
population).
A great stylized graphical representation of Women’s work is the one regarding a study of Claudia Goldin: this study shows
that Labor force for Women is not linear but actually is presented as U shape curve (expressed in terms of time (economic
development) and Female LFP) which has downs (1900) and ups (1980). For men instead, the function is more linear since it has
less ups and downs, and slight decline, however, always staying upwards respect to the Women’s one, since men LFP is always
higher.
Moreover, Women’s improvement status in work can be represented by dividing in 4 phases the U-shaped curve:
-
-
-
Preindustrial phase: 19th: agriculture is prevalent, both men and women take part in productive activities and
women’s time in home was valuable.
Industrial phase: 19th century until 1940s: in which there is a structural change since agriculture shrinks, industry
grows house not focal in production because the locus of production moved from homes to factories, we have a
negative women income elasticity and small wage elasticity close to 0.
Evolutionary phase: late 19th century until 1970s: We have a rise of the tertiary sector and the expansion in
secondary education provided female workforce with skills. Also, technology and lower fertility reduced the burden of
household and care tasks. Women’s wage elasticity grows, income elasticity falls in absolute value, reversed supply
and demand factors hindering women LFP that increased due to married women joining labor force.
Revolutionary phase: 1970s up to now: more substantial equality in opportunity, economic and productive roles,
higher education and decrease in gender wage gap.
Conclusion: Long run is necessary to put the present into perspective. Gender differences that may seem small today become
meaningful when seen against the backdrop of history. The history of societies and economies at large is incomplete and may
be incorrect without the inclusion of the history of women. So, we should look not only at the Natural (biological) difference
among genders but also to the Nurture aspect (social and cultural factors) in which both differ.
INTERNATIONAL MONETARY SYSTEM
Refers to system and rules governing use and exchange of money around the world and between countries. So, it mainly refers
to it as the main agent for the evaluation and exchange of different currencies. Among its roles we have, the one of granting
order and stability to foreign exchange markets, recover shocks in the market by providing access to international credit, and
encourage elimination of BoP (balance of payment) problems as unbalanced situations could lead to tensions which are
negative and unstable. Moreover, this monetary Systems are not something agreed upon and coordinated but are the outcome
of an uncoordinated spontaneous choice of individual countries. (Eichengreen note)
Why are international monetary system important?
Development:
1)The debut: Prehistory of monetary systems was characterized by commodity currency, and one of the main problems was
the incentive to increase production. During the medieval ages, coins were made out of silver, because it was easy to produce
money with that metal and because gold was too heavy and too valuable, and copper was too heavy to serve as money. Gold
was too light, and it had a high intrinsic value (probably would have gone lost)  not fit to daily transactions, used for large
international transactions. While Prior to 19th century, most countries permitted simultaneous circulation of both gold and
silver coins (Bimetallic standard) but the combination of the two metals is not stable so it couldn’t work.
2)PRICE SPECIE FLOW MECHANISM
We are in the age of Mercantilism (17th – 18th c.). In this period, the mercantilism view was ensuring that Exports were >
Imports in order to accumulate gold or silver and consequently promote growth.
However, David Hume idea went against mercantilist policies which aimed at producing a surplus in the currency account in
order to accumulate gold or silver reserves. Indeed, Hume’s theory “Specie flow mechanism” at work starts from a current
account surplus in country A which implies gold flowing in, thus increasing quantity of money circulating (M). Following the
quantity theory of money (P= MV/Y), price level increases and inflation in country A makes its exports less competitive creating
deflation in country B. International market appeal will decrease for country A until reaching stable equilibrium in balance of
payment for both countries A and B. So, the conclusion is that gold price of commodity will be the same as long as we have free
trade, and this should role out in the fact that the BoP will be in equilibrium in both countries.
3)BIMETALLIC STANDARD
Gold coins were used for large transactions by merchants since 14th century, in 19th century monetary statutes permitted the
simultaneous circulation of both silver and gold coins.
However, this was an unstable system because circulation of both metals would work only if the mint ratio and market bullion
ratio were equal or close to each other, otherwise incentives for arbitrage rose and one of the two metals completely flew out
of the country. However, when there is a misalignment in the price ratio due to shocks in the economy, merchants will use
the gap between ratio as a way of arbitrage, and so of maximizing their gain and creating a situation of a silver or gold
regime domestically.
Problems with gold standard: politics prevented silver monetization, held in place by network externalities so other countries
using bimetallic.
4)GOLD STANDARD (monetary system used during Globalization):
The Gold Standard was a commitment by participating countries to fix the prices of their domestic currencies in terms of a
specified amount of gold. Once you have two currencies anchored to gold you have a fixed exchange rate between the two
currencies. Then the consequence of this commitment was that of having a fixed exchange rate.
The first country to adopt de facto GS was Britain in 18th (1700-1800) century, but soon many countries joined GS because of
volume of trading with Britain and Germany, leaders of global economy. Therefore, international system of fixed exchange
rates was born.
Gold standard defines gold as unit into which all other forms of money are convertible. Most of all, the reason for the use of
gold is that gold has the desirable properties of money (durable, easily recognizable, sortable, portable, divisible, and
easily standardized, high intrinsic value). Another reason is that changes in its stock are limited, at least in the short run.
3 conditions must be satisfied by countries in order to deal with GS: 1) The Royal mint was obliged to buy and sell quantities of
money at fixed price, 2) banks were obliged to exchange monetary liabilities into gold and 3) no restrictions could be made on
import or export of gold (no restriction for international gold movements).
Rules of the game: when using GS, the authorities have to peg (set) the currency to gold (therefore declaring a parity or a price
representing gold in the domestic currency). Moreover, the central bank stands ready to convert notes into gold at parity.
Any holder of gold or silver was entitled to have it coined free of charge by the Mint.
The central bank is required by law to keep a given currency-reserve ratio and there is no restriction to international gold
movements.
Consequences of Gold standard: exchange rates remain fixed, and adjustments of BoP take place automatically through price
specie flow mechanism.
Stability of prewar GS was based on credibility in governments to maintain BoP equilibrium, international cooperation by
governments and central banks and GS was an historically specific institution.
Conclusions:
-
Advantages: provided a mechanism to ensure long run price level and stability, and BoP stability and exchange rate
that are fixed for all countries and so no risk of devaluation of the currency.
Disadvantages: Giving up active monetary policy oriented to domestic goals (inflation/deflation), because of the
macroeconomic trilemma (fixed exchange rate and free movement of capital are possible together, but not with an
active monetary policy), inflation or deflation, exogenous money supply, risk of not playing rules of the game
HECKSCHER OHLIN MODEL
Also known as Factor-Proportions model, is a workhorse of international economics, (like Ricardian model).
Why it is important? Differently from the Ricardian model, the H-O one gives a more realistic description of 1st globalization
explaining relation between goods price convergence and factor price convergence. Moreover, another Difference with the
Ricardian model can be seen in the way of seeing the production factors, as, while the Ricardian one takes as assumption only 1
factor (labor), the H-O model considers both capital and labor and both share same technology. In fact, while in the Ricardian
model, the competitive advantage of trade is achieved by having different levels of technology, in the H-O model, it is assumed
only one technology but what differs is the endowment which at the end is able to generate trade alone. So, we have that two
production factors imply two production possibility frontiers, quantity of 1 good against quantity of another.
At the end, these implications lead to the conclusion of reaching a more facilitating price thanks to the convergence in the
price to produce things (factor price) and this, at the really end, guarantees a huge household income distribution.
So, assumptions of the Theorem are:
1.
2.
3.
4.
5.
6.
7.
8.
Perfect competition
Two countries (Europe and New World)
Two commodities (steel and clothing)
Two production factors (labor and capital)
Resource constraints: L=LS +LC , K =KS +KC
Workers earn wages and capitalists provide capital,
Capital and labor are mobile across industries, but not across national borders.
Only one technology (different from the Ricardian model).
Now, this model is reflected into 4 different theorems:
1) Rybczynski theorem mainly focuses on the description of how change in endowments affect outputs of the goods (when full
employment is maintained): indeed, we have that an increase in endowment of one factor causes an increase in the type of
good output which uses that factor intensively, and in the meanwhile, it also causes a decrease in output of the other good.
.
2) Stopler Samuelson theorem (S-S): explains how change in output prices affect factor prices: in particular, an increase in price
of one good causes an increase in price of factor which is used intensively for the production of that good, and at the same time
it causes a decrease in price of the other factor.
“r” is the capital rent and “w” is the wage.
3)Heckscher Ohlin (H-O): states that capital abundant country exports capital intensive good. The same is for labor abundant
countries which will export labor intensive goods. So, countries advantage arises from relative factor abundance. Each country
exports that good which it produces relatively better than the other country.
4)Factor price equalization (FPE) theorem: theorem describes that goods prices equalization among countries, which is implied
by free trade, in turn will imply factor prices equalization. This means that the factor that permits equality in the world of
wages and capital, is free trade.
The FPE Theorem basically states that, when a convergence between prices of goods and prices of factors of
production occurs, wages throughout the world will tend to converge (once countries start engaging in
trade).
As a Conclusion, by comparing Europe’s wages and capital rent with the new world ones we have that: EU is Labor (L) abundant
and capital (K) scarce, while the opposite for NW. So, a difference in endowments produce trade and good converge together
with factors prices. The final picture is that in EU wages rise and interest rate (return on capital) declines, while the opposite in
NW. So, since a high ratio of capital return and wages (r/w) means high inequality while a low one means equality, we would
have a situation of more equality in Europe and of more inequality in the New World.
So, income distribution and equality is affected, meaning that not all are winners and there is endogeneity of conflict in
trade. Conflict is costly; not just the devastation caused by war, but also because of the consequent tensions between winners
and losers, and there’s a price to all of it. Tension is bad for business (instability, market volatility etc.). Sooner or later growth
comes to a halt, and protectionist policies come in. Everything can be reversed, especially since models don’t take into account
politics, or demography.
PRE-WAR SETTING:
As we can easily see by looking at the graph, the
period of growth, peace, and stability we’ve been describing so far was completely torn apart by the
outbreak of WW1. The mechanisms regulating the market were overthrown, as the outbreak of the war
(1914) caused a sudden plummet in trade and migration.
WWI (World War 1):
Fought in 1914-1918 in Europe by quadruple alliance (central powers): GER + AUS HUNG + BULGARIA + OTTOMAN EMPIRE vs
Allied powers (entente): RUS + GB + FRA from 1914 to 1918.
Economic factors are not the only reason for the war although many economic tensions could have encouraged it. According
to this, there are Many causes:
Did economic factors cause the war?
The short answer is “No”. There are many factors behind the outbreak of WW1, and the tension created by the
sequential nature of MEG spread was undoubtedly one of them, but not the main one. In the last part of the 19th
century, Germany also became an industrial powerhouse, rivalling the British, which started to feel threatened.
Increase in competition on the markets between Germany, France, and England that formed an anti-German
coalition. Germany, being a latecomer to the industrial scene, had also been cut off from colonies, markets, and
spheres of influence.
Scholars therefore argue that one of the main causes for WW1 was Imperialism.
Imperialism: helps assess the role economy in the first world war. In particular, Marxists claim that capitalism is
dynamic but a contradiction to this are the declining rate of profit.
So, the process is that: Workers are paid, capital income grows, capitalists reinvest, capital accumulation and finally
declining of profits. However, this is not the main reason for war as it only created a background conditions for conflict
(creating an anti-German alliance).
Did economic factors determine the outcome of the War? YES
War itself was an economic revolution, leading to changes such as: 1) before 1914, the role of the state was extremely
limited: (with a liberal state that keeps low public spending and low taxes, so after war there was the elimination of the
liberal state). 2) Moreover, there was the need to allocate resources (labor n, capital k), 3) and to afford a structural change in
production and consumption.
4) Moreover, in order to win the war, people started to increase also the technological progress. 5)Last but not least, there was
the need to purchase large quantities of food overseas.
Connected to this is also the short war Theorem: At the beginning, with male conscription war thought to be short, since
production of resources would slow down or eventually stop but then instead it became a war of attrition where allies’ largest
economic factors gave advantage against Germany.
As soon as the war switched from a blitz war to a war of attrition, economic factors became crucial. After all, “c'est
l'argent qui fait la guerre”
Allied powers had massive economic advantages in terms of:
-
territory: availability of resources (allies x11 than “Central Powers”)
population: availability of men (allies x5 than “Central Powers”)
GDP per capita: availability of capital (allies x3 output than “Central Powers”)
food supply throughout conflict
How did governments finance the war? There is of course the need of large-scale resources, especially of:
1.
Increase in taxes:
The classical method. It helps make the actual costs of war “clear”, leading countries to think twice before
actually going to war. Taxes also raise the question “Should the generation who bears all the other costs
of war also have to pay for it?”. Taxation also erodes government consensus; there’s a limit on how much
you can tax people before they get fed up.
2.
Borrowing money from foreign, neutral countries:
Incurring in debt with foreign countries. Propaganda played a key role in convincing people to
invest/donate money, with movies joining the scene. There is also something called “The Ricardian
equivalence”, which states that if the government takes on debt, it’s basically like taxing its’ population. It
won’t raise taxes right in that moment, but an increase is undoubtedly coming, since the debt will
eventually need to be paid off.
Mint/print your own money
Was often used during times of war but would often lead to inflation in the post-war years.
3.
4.
Requisition:
Basically, taking stuff from the citizens. It’s very rarely used, since people obviously hate it, usually leading
to a collapse in consensus.
Experts were (and still are) very much against
printing new money, since there wouldn’t be enough gold to back it up. If people started getting suspicious about
the number of banknotes circulating there might have been a bank run, which would have undoubtedly ended the
war (by completely collapsing the economy).
War as an economic revolution:
During war, public expenditure tends to increase drastically, and countries need to figure out a way to finance it. Another “side
effect” of war is the necessity for the re-allocation of factors of production, mainly labor and capital.
Some sectors stayed more or less constant (agriculture) while other grew (transportation) and other have shrunk drastically
(like consumption of good and construction).
The “good news” is that, when at war, the incentives for technological progress increase. Investments in Research &
Development increase (which is one of the few, positive consequences of war).
Again, technological acceleration is the only
positive outcome of war while, during a war, importation is a key factor, since it allows you to acquire those materials and
goods you cannot produce yourself.
The inter-allied war loans played a major role:
Few suppliers are willing to accept higher-risk currency as payment (such as the Italian Lira) during a time of war. During WW1,
the main supplier of capital was the UK since it was the main recipient of US funds. Very few funds were granted by the US to
Italy or France, however the British were considered trustworthy, thanks to the huge amount of assets the empire had
managed to accumulate during the years of imperialism.
British citizens held a huge stock of assets abroad. Government requisitioned these assets from the citizens, exchanging for
government bonds, sold them abroad and used foreign currency earnings to finance imports.
The British sold the assets they had accumulated over decades, borrowed money from the US, and then lent it to their allies. As
a consequence of this desperate borrowing however, the global leadership passed from the UK to the US, once the war was
over.
Economic consequences (legacy) of WWI:
-
-
-
-
Economic position of US was permanently altered by war, going from 1914 in which US net debtors were of 2.2B$, to
1918 with net creditors for 6.5B$
Political and social instability: the war led to a tragic legacy (Nazi Germany) but also to mass destruction and mass
organization.
Disruption of both supply and demand side: There have been rapid changes in production and consumption
patterns, devastation of social capital (transport networks, houses, fields and factories). All this is followed by a
need of relocation of physical assets and labor and need to adjust to peacetime production.
Debts repayment: external (inter-Allied loans) and internal debts must be repaid, leading to an increase in inflation.
International monetary system: Suspension of the Gold Standard. It was suspended and we see the rise of InterAllied loans as an expression of cooperation aimed at sustaining the level of import to maximize military
contributions. However, Once WW1 was over, the cooperation ceased, and creditor countries expected
reimbursements for their loans.
Lack of international cooperation
International trade: that was affected by new frontiers.
Lack of leadership: -"no longer London, not yet Washington". With this quote we can see the soon failure of
London in being the dominant economic power in the world, by the end of WW1. As a consequence, Americans
took its place economically, but they were not mentally ready for that power.
Disintegration of GDP per capita in Europa: this brought autarky and protectionism in 1920.
Versailles Treaty: The Allied and Associated Governments allocated to Germany the responsibility for causing all damage to
which allies have been victims, an as a consequence Germany was obliged to pay for all war reparations. In the meanwhile,
Keynes warned the allied of the high burden that Germany had to pay and warned the allies to be soft on German reparations,
recognizing it as the Engine of Europe which had all the responsibility, and argued that it was not convenient to slow down the
German economy because, being the locomotive of Europe, it would stop together with the entire train.
INTERWAR YEARS 1919-1938
The years between the 2 world wars were turbulent politically and economically. By looking at average what determined the
long run growth, were the annual rates of growth divergence, rather than convergence towards productivity leaders.
Quantitative features of interwar years:
-
-
Global Slowdown of economic activities. However, different areas were affected in different ways, and this was the
result of satisfactory rates in the 1920s and of dismal of economy in the 1930s.
International trade declined (seen as a period called “the globalization backlash” due to artificial barriers and so to
inimical policies and attitudes from states towards trade. Moreover, other key players of the stop of trade were also
the collapse of the monetary system and of monetary organizations.
The disruption of international trade and the big reduction in cross-border movements of factors of production is
called “globalization backlash” which implied an interruption or slowdown of globalization that is usually due as a
consequence of wars, pandemics or market crisis.
High and structural unemployment: described by an upward movement (of the curve).
Labor productivity increased: (due to new technologies, the continue promotion of education and to a laying off of
least productive people).
Another difficulty of the postwar period was structural imbalance, so the necessity to come back to a peace time production
pattern by creating division among capitalists. This was slowed down by the lack of funds which in the meanwhile, also gave rise
to unemployment.
Moreover, 2 exogenous shocks:
-
Disruption of real economy on supply and demand side
Difficulty to adjust to required patterns of peacetime production
For what regards politics and economics: “NO LONGER LONDON; NOT YET WASHINGTON”: the lack of leadership by
governments, central banks, and international institutions was showed by the fact that London was not anymore, the leader of
the global economic orchestra and the United States were not ready yet to take it as well. So, no country was willing or able to
stabilize the global monetary environment as a lender of last resort. Another feature was the failure of cooperation and internal
coordination, leading to a deterioration of global and political relationships. The reintroduction of the Gold Standard did not
work as planned.
1920s
Was of course a contradictory period. The Main concern for countries was to get back to Gold Standard for its stability and
functioning. The important events of the decade were the 1919 Versailles Treaty and the USA going back to Gold Standard
and the German Hyperinflation.
The economic boom of the 20s set the foundations for the Great Depression, without anyone being aware of it. Thanks to the
newly re-instated Gold Standard there were a few years of peace, stability, and prosperity, which however showed signs of
racism, xenophobia, and other negative traits within people. Unfortunately, as previously mentioned, the GS was a historically
specific institution, which soon came crashing down.
Inflation after the war:
-
Hyperinflation (prices rise +50% monthly) in Aus, Ger, Hun, Pol, Rus
Inflation running in Bel, Fin, Fra, Ita
Inflation controlled in Switz, Britain, Neth
Hyperinflation is the period in which prices rise by more than 50% a month.
German hyperinflation is characterized by:
-
High expenditures: the peace treaty imposed to Germany high burdens dealing with war reparations, reconstruction,
pension schemes.
Deficits: as all expenditures could not be covered by tax revenue and this is due to a limited income generating
capacity.
Political uncertainty
Internal (capitalist vs workers) and external (with France, because of reparation demand) conflict.
Pressure on currency: as it became difficult to be trustable.
The only way to repay war debts is to become productive, to have a surplus in the Current Account (Exports-Imports); becoming
productive however is easier said than done. The US were lending Germany money, allowing them to acquire raw resources
from the US itself, and then exporting those goods back to the US. These however were short-term, private loans, which the
Germans used for long-term investments, generating a mismatch in the maturities and as a consequence, hyperinflation
reached a rate of 335% per month in 1922-1923.
Political, demographic and moral consequences of the inflation:
Costantino Bresciani Turroni considered inflation synonym of redistribution of resources: this is connected to the fact that the
winners become the debtors, which are producers of capital goods and large firms in contrast with creditors which are
consumer goods and small firms. As we know, inflation doesn’t impact everyone in the same way; it tends to redistribute
income and resources. Inflation is welcomed by some categories of the population (debtors) and feared by others (creditors).
As a debtor I’ll be receiving a higher wage, while having to pay back a fixed amount of money (which clearly won’t have the
same value it did before).
Clearly all of this causes tension, conflict, and inequality, however it also fuels propaganda. A poor, penniless, desperate
individual is an easy target for a nationalist-oriented campaign.
Crisis of the European Banking Systems: In the middle of 1920, output, employment, and incomes began to fall in almost
all European countries causing a period of recession and of banking crisis. Only Germany escaped the postwar as from its point
of view, inflation was good, because it resulted in growth rather than a slump in the output and employment, and as a
result, economy was oversupplied with liquidity. Countries such as Austria and Germany recovered from Hyperinflation by
issuing a new, temporary currency, and completely scrapping the previous one.
Updates of the Monetary system: Back to Gold Standard: Controversies was the cause of general crisis of international
monetary system (GS) in the interwar period.
The traditional policy does not require that changes in holdings of gold should be automatically reflected in changes in the
domestic currency, but that sales of domestic assets should be made by the monetary authorities so that the impact of
movements in gold was magnified in proportion to the central bank’s reserve ratio.
So according to countries:
Germany resolved financial stability moving to new currency (Reichsmark). In 1924 we had the Dawes plan (which set the
precise amount of reparations payments thus ending uncertainty over this issue and provided for an international loan to the
German government that set in motions a huge flow of private capital to Germany and Central Europe). The Dawes Plan was
put in place to try keep the French in check, who were still hell-bent on getting their reparations from the Germans. Thanks to
this, Germany was able to go back to the Gold Standard as soon as of 1924.
Great Britain: (tended to decumulate gold). However, in 1925 it went back to Gold Standard reaching the same level of prewar,
but since price level has gone up, pound is less valuable than prewar parity, so sterling becomes overvalued and consequently
gold flows out because of trade deficit, causing deflation.
France, Belgium, Italy: in 1925-1927 went back to GS
France: (tended to accumulate gold, as Germany): In 1926 went back to Gold Standard setting their parity at 20% of the
prewar values, undervaluing their currency. Differently from England, franc is undervalued and gold flows in because of trade
surplus, but price specie flow mechanism doesn’t apply since French government didn’t allow inflation, by leaving unchanged
money supply. So high price for gold and high interest rate for other countries were introduced to make gold inflow more
appealing. Moreover, there was a tendency in interwar years to use gold reserves to protect countries from transmission of
external shocks, granting in this way the restoration of exchange rate and Balance of Payment equilibria.
US: (also, tended to accumulate gold). In 1920s US increased gold reserves. Moreover, it raised discount rates to discourage
Wall Street speculation of 1927. More expensive money and less US capital flows abroad.
GREAT DEPRESSION
(1929-1939). Was a period in which Trade and industrial production collapsed, price declined, investments lacked, and
unemployment burst.
Forces that contributed to Great Depression:
-
-
-
-
Stock market crash in NY (due to maturity mismatching with German bonds) which started in 1918 when the U.S
Federal Reserve attempted to raise interest rates to discourage stock speculation, leading to an initial recession since
firms cut off their own plans on investment and consumers cut back purchases.
Smoot Hawley tariff (protectionist policies in US where tariffs increased for more than 20.000 goods, also other
countries have imposed tariffs. With this act, international trade, price and US exports decreased and increased
Deflation.)
Falling prices of primary goods (during the war the demand for agricultural imports increased in EU and producers in
the NW were encouraged to expand the production, but when the war came to an end and European production
recovered, this led to an excess supply in NW making prices decline, deflation causes depression and instability.)
Restrictive monetary policies (interest rates rose and gold inflows were sterilized).
Explanation of Great Depression: The most reasonable explanation of the Great depression is linked with the gold standard.
An explanation of this is the Temin-Keynes model: arguing that a system can collapse for a big or small shock, and if it amplifies
the shock it collapses (propagation). The idea was that during WWI the system was hit by a big shock. The combination of the
GS ideology was the common ideology, since people experienced that during the first globalization with a stability of the GS,
inflation was kept under control, and we had fixed exchange rate. But, Once the system has been hit by the WWI shock, there
are no more respect of the rules. This mainly led to the great depression. So, we can clearly say, as a conclusion, that, Gold
Standard, in absence of cooperation and leadership (playing rules of the game) leads to asymmetry between countries
experiencing BoP deficits and surpluses, which is responsible for deflationary bias. Moreover, Deflationary bias means that
there is a tendency for economic policy to promote lower growth and lower inflation. It means there are pressures which keep
demand subdued leading to lower inflation, higher unemployment and lower growth. This problem arises if there is no
cooperation and gold standard is taken as a priority.
The Great Depression was a result of a series of very poor decisions which, ironically, were taken by the top economists of the
time, which were all mislead by the fake sense of security generated by the Gold Standard. There was no longer any
international cooperation, with countries no longer “playing fair”.
Conclusions:
-
Great Depression caused by man-made economic policies rather than structural crisis
Persistence of crisis explained by persistence of bad economic policies (based on the continuity with Gold Standard)
It took so long to get out of the crisis because the individuals which enforced monetary policy worldwide didn’t realize that
their beloved Gold Standard was what was actually causing the issue.
1930s: THE BLACK DECADE
Several countries (Austria, Ger, US) experienced banking crisis in this period, banks were more likely to fail in countries where
there was the Gold Standard and real slump was more severe, accompanied by price deflation.
The crisis began when the bank of the USA failed in December 1930. The bank of the USA had expanded recklessly in the late
1920s making many investments in NY real estate. As the depression reduced the price of these buildings, the bank was
increasing trouble. This event has brought to one of the largest bank-runs in the history, leading to a financial crisis.
A direct consequence was the Gold Standard disintegration: Austria and Germany were the first to leave the GS. Later,
Britain’s left GS because of inability to sustain the GS because of the extremely weak BoP position on both current and capital
accounts. The financial panic spread from Britain to the United States, jumping over the Atlantic Ocean in September 1931.
Bank failures rose, and the Federal Reserve lose gold. The Federal Reserve raised interest rates sharply in October to protect
the dollar. This (the increase of interest rates) was the standard response of central banks under the gold standard. It shows
how the ideology of the gold standard transmitted and intensified the Great Depression. Between 1931-1932 24 more
countries abandon the GS. 1933 also US left GS. In the 1920s the adoption of the Gold Standard was not the solution but part of
the problem because it restricted states’ freedom to avoid banking crisis. A change of policies was needed, and the example
was in 1932 Roosevelt in the US: its changes were coordinated both with fiscal and monetary policies.
In 1930s a long strain of attempts is made to solve war reparation issues:
-
-
1931 Hoover Moratorium: where Hoover proposition was to put a one-year moratorium on payments of World War I
and other war debt, postponing the initial payments, as well as interest. This statement has been immediately
disapproved by France and US public opinion.
1932 Lausanne conference where the purpose was to discuss the end of the Hoover moratorium.
1932 Ottawa Commonwealth Conference
1933 London World Monetary Conference (US abandons GS)
1933 New Deal by Roosevelt (US action was a national decision, taken without consultation or cooperation with other
nations. With Roosevelt, the passive deflationary policy of Hoover was replaced by an aggressive, interventionist and
expansionary approach.
The GOLD BLOC:
Conclusions on industrial recovery:
-
Best progress: countries devaluated in 1931. They were mainly helped by reflationary policies and competitive
devaluation.
Worst progress: gold bloc (in many countries because of deflationary policies)
In between: countries used exchange controls to escape macroeconomic trilemma.
WWII (1942-1945):
Analyzing the interwar years, there was the need for a generous and wise postwar settlement. Also:
-
Recognition of international leadership by US and Soviet Union
Recreate open international economy
Need for a new international monetary system
Creation of a united European community
Multilateral framework is needed, sufficient degree of cooperation and coordination
Legacy (arguments) of WWII:
-
end of the Eurocentric world
rise of 2 superpowers
disruption of colonial empires
new economic leaders in the pacific
bigger relevance of the state in domestic and international economy
life to a second globalization
WWII is mainly characterized by 2 main themes:
1)
2)
The Bretton woods agreement, together with United nations monetary and financial conference.
The reconstruction and the Marshall plan that was an important process of recovery in the after war.
Starting from:
1)BRETTON WOODS:
In July 1944-45 representatives from 45 countries (made up of 730 delegates) met with the purpose to search of a monetary
system having the advantages of Gold Standard and revisioning the problems that brought to its end. So, the perceived ideal, was
a monetary system with fixed exchange rates in ordinary times in order to ensure system stability and flexible in recession and
booms. All this because of the fact that: Overvalued currency fosters recession by discouraging exports. While having a
Devaluated currency during boom fosters inflation by encouraging export demand and discouraging imports. So basically, the
aim of Bretton Woods is to escape the macroeconomics trilemma, because at the same time we want to take care of
unemployment and control exchange rate. A solution to this is the creation of a “super-national” institution, with the aim of a
supervising that countries did not abused the privilege of changing the exchange rate (and so to avoid competition devaluation
as France did). So, the idea is a monetary system which will bring prosperity, with a stable macroeconomic environment.
So, after Bretton Woods, the direct consequence is that the world has a new monetary system which is called
its main characteristics are:
-
its numeraire was both gold and US dollar (which is the only currency that kept its convertibility).
all members had to declare a par value and maintain it within 1% margin.
Member countries were assigned quotas to be contributed to the (IMF) International Monetary Fund (25% in gold,
75% own national currencies)
Member countries were free to draw up their quota, it had to pass from the IMF's approval.
Parity could be changed (devaluation or revaluation) only to correct fundamental BOP disequilibrium, after
consultation with the Fund.
Creation of an adjustable pegged exchange rate
Creation of International monetary system (IMF)
IN SUMMARY: It was decided that the new numeraire would no longer be gold, but rather both gold and the US dollar. This
became known as the Gold Exchange Standard (GEs). The US dollar therefore became widely accepted, which was a huge
comfort for any American citizen, since the currency basically served as a precious metal.
The International Monetary Fund (IMF) was also instituted, with different countries contributing different amounts of funds,
based on demography and GDP. Member countries were allowed to freely borrow as much money as they deposited, however
if more was needed the Fund’s approval (conditionality) was necessary.
A currency’s par value could also be changed, but only when there was an extreme BOP disequilibrium, and after having
consulted with the Fund.
This entire system is defined/described an adjustable pegged exchange rate regime.
Moreover, World Bank was created to help long term loans needed for development.
Disadvantage of Bretton Woods: asymmetry (asymmetric discipline of BWS), because of the fact that, since the burden of
the disequilibrium in the balance of payments of US falls on the other countries, all other countries have to fix exchange rate
except for US which could use monetary policy for stabilization purposes. Suppose the US decides to increase money supply,
for a domestic-driven reason, and at some point, the interest rate decreases. This will cause other currencies to appreciate,
since they’ll generate a higher interest. To prevent this, the central banks of all other countries need to intervene, either by
purchasing the excess US dollars on the market, or by lowering their own interest rates. This shows us that the US economy can
and will affect the economies of all other countries. Countries joining the Gold Exchange Standard and the Bretton Woods
Systems accepted these “terms”, acknowledging that their economy would be “subject” to that of the US.
Why did other countries accept this? This special position of the US as a reserve currency country was a price that European
accepted to pay to be part of stable agreement and for the role played by the US during war and reconstruction. Moreover,
they believed in the benefits from the monetary discipline of the Bretton Woods system.
Triffin paradox:
Robert Triffin identified a fundamental long-run problem of the Bretton Woods System: the confidence problem. The
confidence problem with GES (Gold Exchange Standard) arises when in the long run, the central banks’ international reserves of
USD will exceed US gold stock, since at a certain point, the US will be unable to convert all dollars into gold. As soon as central
banks realized that their USD will not be totally collateralized by gold, they might be unwilling to accept USD anymore. If money
is printed too fast, we’ll have “buying for free”, and as soon as an individual starts having doubts about this, you might have a
bank run.
Explaining the paradox: If the US stops running a trade deficit (so if imports > exports), the international community loses its
main source of liquidity (because the other countries, in order to produce their liquidity, need USD), this means that the US
must provide dollars to the other countries. Having a “dollar gap” means to have too few dollars running in the system,
implying a deflation in these other countries. But if the US continue running a trade deficit (imports > exports), a steady influx
of dollars sustains growth in the rest of the world. Having too many dollars means to have a “dollar glut”, which leads to a lack
of confidence in the value of the dollar (in terms of gold) and without confidence, the dollar cannot be a reserve currency.
As a consequence, If the speed of money banknotes creation > speed of gold availability (of gold extracted from mines) then
there is a risk of non-credibility of banks reputation: this means that the USD (US dollar) may not be as good as gold anymore.
So, according to this, from dollar gap to dollar glut around 1960, in 1971 US president Nixon announced the end of Bretton
Woods system and consequently dollars couldn’t be converted into gold anymore.
THE EUROPEAN RECONSTRUCTION (RECOVERY):
Economic growth was exceptionally high and persistent. We are in a period characterized by international cooperation, US
leadership and a lasting legacy for the rest of the 20th century. According to this, the reconstruction follows three steps:
1)
2)
3)
The Relief aid (UNRRA - united nation of relief and rehabilitation administration) which was provided to
avoid major hardship in devastated Europe. Such as the distribution of medicines and emergency rations.
International Bank for Reconstruction and Development: to lend money to countries that are not able to
finance their needs to stabilize their economy, and with the aim of promoting development and fighting
poverty.
Marshall Plan: known as the European Recovery program (ERP) (requested in Paris in 1947 by 16 Nations
+OEEC), which saw almost 13 billion US$ in 4 years shifting from US to EU. So, we are not only dealing
with a loan but with a structural adjustment plan made to ease the condition of the post war environment
and which mainly contributed to the development of peace and cooperation (“if Europeans cooperate, we will
help”). Moreover, the key for the restoration of the economic vitality was linked with restoring economic
capacity. This plan was enough to ease the external constraint (in order to recover part of the European
deficit), but not enough to significantly stimulate Western European growth.
So, the main 3 problems of focus in order to have growth and restoration are: 1) balance of payments (BoP) of European
countries that could not be restored by itself, 2) price controls and 3) political uncertainty. All this were solved providing
capitals to European countries but also providing incentives to embrace the market, through signing of bilateral acts in
which is agreed to decontrol prices, stabilize exchange rates and budgets.
So, the 4 channels of the Plan are:
Quicken pace of private investment
Support public investment in infrastructure
Eliminate bottlenecks to market smooth operations
Facilitate negotiation of pro-growth social contract that provided political stability
Conclusion: The Marshall Plan should be thought of as a large and highly successful structural adjustment which created
incentives to move toward market organization, free trade and financial stability.
EUROPE’S GOLDEN AGE
In between 1948 and 1973 the achievements of European economy were so impressive that the period has been defined as
European Golden Age. The growth in real GDP per capita, capital stock and the convergence of these measures had never
been seen before and again. Different scholars tried to find determinants explaining this unprecedented growth. Denison’s
showed that no single variable could be fully responsible for this growth, but two sets of explanation can be represented:
1)Attributing the result to growth factors: We have GDP per capita at the beginning on the x-axis and we have Annual
average growth rate on the y-axis and the slope of the line is negative, so what happens is that the poorer you are the
higher is the growth during the period, so poor countries with low GDP per capita went through a process of
convergences. So,It was a great period not only for fats growth but also for convergence.

Interpretations of this point: 1) Denison and Maddison, who by having a production function in mind, Y=AF (K, L), they
calculated on a table the national income per person, which increase, and the total factor input. Then they broke down
the contribution of technology in order to see changes in output and they arrived at the conclusion that was that
improving in technology (TPF) allows you to take more output out of the same input.
They tried to explain this period of accelerated growth using Growth Accounting a reaching the following conclusions:
Reallocation of workers across economic sectors (converting the war economy back to normal)


2)
3)
4)
Economies of scale
Advances in knowledge (technical, managerial, and organizational) and reconstruction.
Kindleberger attributed this period of growth and prosperity to the availability of cheap labor force. Production was
increased while keeping the cost of labor fixed, leading to an increase in profits, which is then associated to higher
levels of growth.
Olson’s key word is “coalitions”. With development we have the birth and growth of coalitions, groups of interest
which try to benefit from associating which each other. The richer a country, the larger a coalition, the more influence
it gathers. However, as coalitions grow, rules and regulations have to be put in place, and this makes tends to slow
down the economy. Big shocks however (e.g., war) tend to shatter the entire system.
Boltho attributes the
growth to a gradual
improvement in the skill of policy makers, who managed to keep market volatility low and under control. This created
an economic environment which fostered growth.
5) With Eichengreen, the key word is “institutions”. He attributes the economic growth to the economic environment of the
epoch, which is itself due to said institutions.
2)attributing the result to the post war novelty. Interpretations of this come from: 1) Boltho who focused on the active
aggregate demand management and policy makers role and 5) Olson who ended with the importance of distributional
coalitions, so on the fact that groups of interest make a nation richer since they avoid interferences.
So, roots of such growth are found in long run social, economic and political factors. Moreover, the period was enhanced by
Institutions (gold exchange standard and international monetary system) that helped building an infrastructure favorable to
growth. Another contribution comes from Abramovitz who introduced the concept of social capability that is contingent to
economic and non-economic factors in the area under evaluation and in the international environment. So, his approach holds
that a country's potential for rapid growth is strong when “it is technologically backward but socially advanced”. While an
opposite situation is when we have a vicious cycle (a closed cycle that continues on itself and it will make worse the country
situations not only political and economic but also moral).