TOPICS IN INTERNATIONAL
DEVELOPMENT, TRADE, AND CULTURE
Scott Wentland
Introduction


ESC Clermont: International Week
About your instructor:
 Visiting
Professor of Economics, Longwood University
 Longwood
 PhD
University is located in Farmville, Virginia, US
in Economics from George Mason University
 GMU
is located in Fairfax, Virginia…just outside of
Washington DC

GMU hosts an outstanding economics department, with two
Nobel Prize winning economists.
 Originally
 Born
from Ohio, U.S.A.
and raised in Toledo, Ohio
 Attended Miami University of Ohio for Bachelors & Masters
Day 1: Lecture Outline

World poverty & institutions
 Why
do some countries grow rich while others stay
poor?

Why do we trade?
 Specialization
& Absolute Advantage
 Theory of Comparative Advantage
Assessing World Poverty

Looking at the world’s economies, we tend to ask
three common questions:
 Why
are some nations wealthy while others are poor?
 Why are some nations getting wealthier faster than
others?
 Can anything be done to help poor nations become
wealthy?
Assessing World Poverty

Three Key Facts
1.
2.
3.

Everyone Used to Be Poor
GDP per Capita Today Varies Enormously among
Nations
Growth Miracles and Growth Disasters: some
countries’ economies have grown at incredible rates
while others stagnate.
How do we explain this?
All Countries Were Poor…
Most of the World is Still Poor
Growth Miracles & Disasters

Two Growth Miracles

Japan:


South Korea:


annual rate of real growth1950-70 = 8.5%
annual rate of real growth1950-70 = 7.2%
Two Growth Disasters

Argentina
1900: one of the richest countries in the world
 Now: per capita real GDP is 1/3 that of the U.S.


Nigeria
Has barely grown since 1950
 Poorer now than it was in 1974

Miracles and Resources

Do these “growth miracles” simply have more
resources?
 What do economists mean by “resources”?
 Labor,
land, & natural resources
 Physical capital: the stock of tools, structures, and
equipment.
 Human capital: is the productive knowledge and skills
that workers acquire through education, training and
experience.
 Technological knowledge: knowledge about how the
world works that is used to produce goods and services.
Miracles and Resources

A country’s amount of available resources only tells
part of the story.
 Why
do some countries have more physical and human
capital and use more advanced technology?
 Why do some countries obtain greater output from the
resources they have than others?

The answers lie in the institutions and incentives
that countries adopt.
Institutions: A Natural Experiment
A natural experiment - North and South Korea
 Before division after WWII
 Shared the same people and culture.
 Had similar levels of physical capital.
 Had access to the same technology.
 North Korea became a communist state with a centrally
planned economy.
 South Korea adopted a capitalist free market model.
 The result 50 years later is dramatic as seen in the
following photo from outer space.

The Korean Peninsula at Night
Institutions and Incentives

Institutions are the “rules of the game” that
structure economic incentives.
 Institutions
1.
2.
3.
4.
5.
of Economic Growth
Property rights
Honest government
Political stability
A dependable legal system
Competitive and open markets
Institutions
1.
Property rights: the right to benefit from one’s effort.
 Provide incentives to work hard.


Encourage investment in physical and human
capital.


If you can keep/sell what you make, then you will
make more.
Property rights are also important for encouraging
technological innovation.
Without property rights:
 Effort is divorced from payment → ↓incentive
to work
 Free riders become a problem
Institutions
2.
Honest Government
 Property rights are meaningless unless
government guarantees property rights.
 Corruption bleeds resources away from
productive entrepreneurs.
 Corruption takes resources away from more
productive government activity.
 Next is a list of the 10 most and the 10 least
corrupt countries. Are you surprised to see who
is or who isn’t on these lists?
Institutions
3.
Political Stability
 Changing governments without the rule of law
results in uncertainty which leads to less
investment in physical and human capital.

 In
If you are uncertain whether the next
government will allow you keep your property,
then you will have less incentive to produce
goods now.
many nations civil war, military dictatorship,
and anarchy have destroyed the institutions
necessary for economic growth.
Institutions
4.
Dependable Legal System
 A good legal system facilitates contracts and
protects property from others including
government.

Is property really yours if there is no legal system to
defend it?
Poorly protected property rights can result from
too much government or too little government.
 The legal system in some governments is so poor
that no one knows who owns what.


Example: In India, residents who purchase land
have to do so more than once because of lack of
proper record keeping.
Institutions
5.
Competitive and Open Markets
 Encourage the efficient organization of
resources.


About half the differences in per capita income
across countries is explained by a failure to use
capital efficiently.
Competition drives people to do more with the
same resources.
 Example:
One study found that if India used its
physical and human capital as efficiently as the
U.S., India would be four times richer than it is
today.
Institutions: Conclusions and Questions

“Growth miracles” had relatively good institutions
 “Growth



disasters” had relatively bad institutions
Economic growth would become more common if
more countries changed their institutions.
Where do institutions come from?
 Culture?
 History?
 Geography?
 Luck?
Key research question in economics: Understanding
institutions, where they come from and how they can
be changed?
Open Markets and Trade

Why are open markets important for economic
growth and prosperity?
 Doesn’t
 Trade
trade hurt us?
causes us to lose jobs from foreign competitors.
 Why pay foreigners for doing something we can do
ourselves?
 So, how that make us richer?
Specialization

Trade allows us to specialize
 Specialization
allows us to focus on the work we do
well. The people with whom we trade can focus on the
work they do well.
 Collectively, the world produces more and the world is
more prosperous.
 Above
summarizes the main insights from Adam Smith’s
theory of trade (sometimes called the Theory of Absolute
Advantage)
Trade Example: Absolute Advantage


Economists like to simplify examples, while
maintaining the essence of the point. Suppose we
are thinking about:
Two countries
 France
 Italy

Two goods
 Wine
 Cheese

Assumption: the goods are of equal quality and
basically the exact same products across countries.
Trade Example: Absolute Advantage

No trade (suppose each has 36 work hours/week)
18 hours  (18*1 = ) 18 wine
18 hours  (18*4 = ) 72 cheese
Total: 36 hours  18 wine, 72 cheese
 France: 18 hours  (18*2 = ) 36 wine
18 hours  (18*3 = )54 cheese
Total: 36 hours  36 wine, 54 cheese
 Italy:
Country
Italy
France
Wine (bottles per hour)
1
2
Cheese (units per hour)
4
3
Goods (productivity)
Trade Example: Absolute Advantage

France is best at producing wine
France produces more wine per hour of work than Italy.
 France has an absolute advantage in wine production.


Italy is best at producing cheese
Italy produces more cheese per hour of work than France.
 Italy has an absolute advantage in cheese production

Country
Italy
France
Wine (bottles per hour)
1
2
Cheese (units per hour)
4
3
Goods (productivity)
Specialization and Trade

Specialization (again each still has 36 work hours)
36 hours  144 cheese
 France: 36 hours  72 wine
 Italy:

Trade (exchange 2 cheese for every 1 wine)
 Italy:
36 wine, 72 cheese
 France: 36 wine, 72 cheese
Country
Italy
France
Wine (bottles per hour)
1
2
Cheese (units per hour)
4
3
Goods (productivity)
Comparing No Trade with Trade
No Trade

Trade
Italy: 18 hours  18 wine
18 hours  72 cheese
Total:36 hours 
18 wine,

Italy: 36 hours  144 cheese

Exchange: 2 cheese for 1 wine

Total: 36 hours 
72 cheese

36 wine,
72 cheese
France: 18 hours  36 wine

France: 36 hours  72 wine
18 hours  54 cheese

Exchange: 1 wine for 2 cheese
Total:36 hours 
36 wine,
54 cheese
Total: 36 hours 
36 wine,
72 cheese
Benefits of Trade & Specialization

Specialization and Trade make you richer
 Why?

 You can focus your time on what you do best
Should we allow Italians to steal French cheese
jobs?
 Yes!
If it means that the French people are free to focus
on what they do well. In this case, it is wine production.
 Result:

BOTH COUNTRIES BENEFIT FROM TRADE
What if we are not the best at anything?
 What
if other countries are more productive and less
costly?
Trade Example: Comparative Advantage

Theory of Comparative Advantage
 David
Ricardo, British economist (1772-1823)
 He explained that a country being “the best” or “good”
at producing something was irrelevant. Both sides can
benefit from trade even if one side is better at
producing everything.
 How do we know?
 We
look at what economists call opportunity costs.
Trade Example: Comparative Advantage

No trade (suppose each has 36 work hours)
23 hours  184 wine
13 hours  54 cheese
Total: 36 hours  184 wine, 54 cheese
 France: 18 hours  18 wine
18 hours  54 cheese
Total: 36 hours  18 wine, 54 cheese
 U.S.:
Country
United States
France
Wine (bottles per hour)
8
1
Cheese (units per hour)
4
3
Goods (productivity)
Trade Example: Comparative Advantage

Now, France produces cheese relatively well
 France has no absolute advantage in either good.
 But, for every unit of cheese it produces, it only has to
sacrifice 1/3 of a bottle of wine (United States has to
sacrifice more wine (2) to produce cheese)

France has a low opportunity cost for producing cheese (i.e. they have to
sacrifice less wine production to produce cheese than United States).
Trade Example: Comparative Advantage

Now, United States produces wine relatively well.
United States has an absolute advantage in both cheese
and wine production
 But, for every bottle of wine it produces, it only has to
sacrifice ½ unit of cheese. (France has to sacrifice more
cheese, 3, to produce wine)


United States has a low opportunity cost for producing wine (i.e. they have
to sacrifice less cheese production to produce wine than France).
Specialization and Trade

Specialization (again each still has 36 work hours)
States: 36 hours  288 wine
 France: 36 hours  108 cheese
 United

Trade (exchange 1 wine for every 1 cheese)
 United
States:
234 wine, 54 cheese
 France:
54 wine, 54 cheese
Country
United States
France
Wine (bottles per hour)
8
1
Cheese (units per hour)
4
3
Goods (productivity)
Comparing No Trade with Trade
No Trade

Trade
U.S.: 13 hours  184 wine
23 hours  54 cheese
Total:36 hours 
184 wine,

U.S.: 36 hours  288 wine

Exchange: 1 wine for 1 cheese

Total: 36 hours 
54 cheese

234 wine,
54 cheese
France: 18 hours  18 wine

France: 36 hours  108 cheese
18 hours  54 cheese

Exchange: 1 cheese for 1 wine
Total:36 hours 
18 wine,
54 cheese
Total: 36 hours 
54 wine,
54 cheese
Comparative Advantage

Both countries are richer!
 It
did not matter that U.S. was more productive in
everything (or, that they could produce more stuff with
the same resources).
 Important: France does do something relatively well.
 Does

David Beckham mow his own lawn?
What if Beckham was great at mowing lawns AND soccer?
 Beckham
pays someone to mow his lawn because each hour
that he’s mowing his lawn, he’s not spending that time
playing soccer.

His time spent as an athlete is relatively more valuable.
Comparative Advantage

Benefits from trade
 Trade
allows us to use our time wisely. Our time is
better spent doing jobs we do relatively well.
 If
France produces cheese relatively well, then more cheese
production means more wine (if we trade cheese for
wine).
 Why do we care about relative costs and not absolute
costs?


When you produce something, it means your time is spent not
doing something else.
When they trade together, France allows the US to produce what
they produce relatively well. And, as a result, the US pays France
more for their cheese (leaving France with more wine too)
Protectionist Pressures

If trade is so good, why are so many against it?
 Losers
 French
vineyards (in our last example)
 American and French autoworkers and other manufacturing
employees lose jobs to foreign competition


People think all of the above “could be me”
What to do?
 Organize
 Tariffs:
and pass laws limiting trade?
a tax imposed on imported goods
 Quotas: a limit on the quantity of a good that may be
imported in a given period of time
Protectionist Pressures

Tariffs/quotas makes some people richer
 French
wine industry (in our example)
 Manufacturing and other trade-sensitive industries
 Domestic
industries would have limited competition due to
higher prices of imports

Makes everyone else (i.e. consumers) poorer
 Consumers
must pay higher prices for goods
 End up with less overall

Do the losers outweigh the winners?
Protectionist Pressures

How do we know we’re poorer on net?
 Production
(deadweight) losses
 Higher
cost domestic producers are unnecessarily using
resources

With trade, some industries wouldn’t be wasting resources...so we
would be producing more with less
 Consumption
 People


(deadweight) losses
pay more for goods and services
But, many mutually advantageous trades are not made
Consumers receive less and have fewer choices
GLOBALIZATION, WEALTH,
AND TRADE
Scott Wentland
Globalization, Wealth, & Trade

What do economists mean by “globalization”?
 Is

it here to stay?
Do countries actually become wealthier from trade?
What is Globalization?

Competition or Cooperation?
 We
tend to associate globalization with the increase in
international trade and commerce.
 “Globalization is the advance of human cooperation
across national boundaries.”

Intentions vs. ends
 Do
we intend to cooperate with one another?
 How
do we achieve cooperation without intending to
cooperate?
I, Pencil
 by



Leonard Read (1958)
No single person makes a pencil
Largely unplanned
People follow prices
Increasingly Global

Globalization Figure 1.1

Similar story for the U.S. & France
Always an Increasingly Global World?

No. Late 19th and early 20th centuries were quite
globalized for their time
 England
& France traded more once they stopped
warring
 Adam

Smith & David Ricardo helped too
Back to war
 Between
WWI & WWII trade declined rapidly
 Hawley-Smoot
(1930) tariff in the US  increased tariff to
very high rates

The rest of the world responded by passing their own tariffs
Can Globalization Take a Step Back?

Understanding globalization and international
economics is key.
 Political
rhetoric (particularly economic fallacies) has
the potential to reverse globalization
 How do we reverse globalization?
 Encourage
policies of self-sufficiency
 Make foreign products more expensive and reduce trade.
Do We Really Want Globalization?


Yes. But why?
Globalization & trade makes us:
1.
2.
3.
Wealthier
More reliant on others (Yes, this is actually a good thing…)
More diversified
Wealth & Trade


Very tight link between the wealth & (freer) trade
Openness  Wealth (Boudreaux’s Figure 2.1)
 Trade
Openness Index:
 Most
open = highest real incomes, highest growth
 Least open = lowest real incomes, lowest growth
(The graphs in the proceeding slides are from the book
Globalization by Donald Boudreaux.
Wealth & Trade

Openness  Growth, whether you’re rich or poor
(Boudreaux’s Figure 2.2)
 Developed
 Open
& Developing Countries
developing countries grow faster (than closed)
 Open developed countries grow faster (than closed)
Wealth & Trade (continued)

Openness  Wealth, within countries over time
(Boudreaux 2.4)
 China
(1978 – ends isolation)
 India (1991)
 S. Korea (1964)

Economic Freedom
Wealth & Trade (continued)

Money isn’t everything, but wealthier people…
 Live
longer, have lower infant mortality rates and:
 Access
to clean water, modern healthcare, AC & heat
 Less arduous jobs
 Have
a better quality of life
 Achieve
 Have
higher levels of education, etc.
less/no child labor
 Work fewer hours
Wealth & Trade (continued)

Disasters
 Haiti
(2010) – 7.0 Magnitude, 200,000
 200,000+
Of a population of about 10 million

 San
Francisco (1989) – 7.0 Magnitude
 67
people dead


people dead
Of a population of over 7.4 million people
Why such a difference?
 Haiti:
GDP per capita $793
 San Francisco Bay: GDP per capita $33,000+
Wealth & The Environment

Industrialization  Pollution, right?
 Yes
& No.
 Environmental



Kuznets Curve (Figure 2.12)
Pollution rises until about $8,000 per capita
 Some estimates put it at $5,000 per capita
Pollution falls thereafter
Wealthier countries can afford to care about the
environment
 Have
higher environmental performance scores
 Have higher levels of environmental sustainability
Environmental Kuznets Curve
Wealth & Inequality

All boats rise in a rising tide…the poor benefit as
everyone else does
 Dollar
& Kraay (2001), study published in the American
Economic Review
 Concluded: poor countries actually have more income
inequality than rich countries
Reliance & Trade

Hong Kong
 covers
422 sq. mi. and has 16,580 people per sq. mi.
 5% or 21 sq. mi. is arable land
 per capita annual income of $32,900…compares to:


Belgium $31,400, Switzerland $ 32,300, and France of
$29,000, Sweden $29,800, Germany $30,400.
Singapore, Japan, Paris or any major city
 Reliant
is another word for specialized
Diversification & Trade

Suppose Haiti was an isolationist country
 If

Suppose your bank only lent locally
 If

all your eggs are in one basket…
all your eggs are in one basket…
Good results?
 Investing,
Buying/selling goods globally reduces risk
 Reducing
risk is what diversification is all about
A DYNAMIC ECONOMY:
TECHNOLOGY,
OUTSOURCING AND JOBS
New technology

What if we invented a new X-ray analysis machine
 It
can analyze more basic X-rays, for cheap
New Technology & Jobs

Radiologists lose (part of their) jobs
 Price
of (some) X-rays fall, consumers are better off
 Radiologists are free to do more productive things
 Like
analyze more complicated X-rays
 Some radiologists may need to get more schooling
New Technology & Jobs

Suppose your grandfather has been in a coma for
30 years. He walks into a modern electronics store
to buy a television:
 He
will likely be shocked by the advancement of
televisions  size, clarity, efficiency, etc.
 New technology is probably the most noticeable sign of
progress
 Historically, some have resisted technology in fear of
change, but modern generations have embraced it
Outsourcing

What has changed?
Outsourcing

Whether technology or foreigners replace our
labor, we have progress
 Menial
tasks or non-menial tasks
 The ends are the same whether a foreigner completes
the task or a machine does
 Technology
and trade can save labor AND make us better
off

We (and the next generations) are free to do other,
better things
 Just
as the type-writer repairman is free to pursue a
career in Information Technology
Some Conclusions

Trade is mutually beneficial (both individually and
internationally)
 David
Ricardo’s Theory of Comparative Advantage
 Specialize

in low opportunity cost items
Outsourcing and trade is like technology
 Easy
to see how it makes us better off with this analogy
 Like
technology, it lowers our own costs
 Like technology, it frees up our time to do other, more
productive jobs
What is Ahead:

Why do people in poor countries accept these jobs?
 Many
jobs Western Europe and the U.S. outsource are
low-paying jobs that a menial or tedious
 Next: we will look at why poorer countries takes these
jobs and the nature of the labor market.
POVERTY, DEVELOPMENT,
AND GLOBAL INSTITUTIONS
Scott Wentland
Globalization & Poverty

Is globalization rigged?
 Are
greedy corporations simply exploiting the poor for
profit?



Shouldn’t the poor countries have better working
conditions and labor standards?
Are globalization organizations pawns in this
capitalist conspiracy?
Do globalization organizations really alleviate
poverty?
Exchange

Thank You – Thank You
 Both
sides benefit from each transaction
 Both
driven by self-interest
 For example, buying a carton of milk

Money is a medium, not an end.
Globalization & Labor

Labor is a mutually advantageous exchange
 Laborer
values the wage more than the time & effort
 Employer values the time & effort more than the wage

Exploitation implies that someone is getting a bad
deal
 Someone
is usually getting a bad deal if they are
coerced into taking that deal
 If the poor are coerced, then your disagreement is not
with capitalism or free trade…it’s with the government
& institutions the permit coercion

Economists look at choices & tradeoffs
 May
not approve of X, but defend the choice
Globalization & Labor

Market forces set the wage


Workers and employers (via competition) set wages
Remember, employers willing to pay:
Wage = Marginal Product * Price

Wage (W) is the cost of employment

What if W > MP * P?


What if W < MP * P?


Producers lose money, and must fire some workers or exit industry
Producers make profit, and must hire some workers or more
producers will enter the industry
 They bid up wages, bid down price
 The most productive are hired first, the next workers are less
productive (bringing MP down)
We can also think of Wage = money wage + benefits
Labor Example #1 – How Markets Work

W = MP * P
 Suppose
a worker can make 10 cloth per hour, MP=10
 Suppose the world price of cloth is $1, or P = $1
 W = $10 in a competitive market
Why?
 If W < $10…say $5, more producers see profit to be
made in this industry


Existing factories expand, hire more workers
More entrepreneurs enter industry, bid up wages
 If
W > $10, say $12, producers take losses and end up
leaving the industry  exit or fire workers

bids down wages until W = $10
The Emergence of Labor Standards

What I mean by labor standards or working
conditions:
 Any
non-wage benefit to a worker that is also a (nonproductivity-enhancing) cost to the employer
 Examples:
working conditions (air conditioning, comfortable
chairs, etc.), healthcare, safety equipment, other fringe
benefits
The Emergence of Labor Standards

Where labor standards come from:
 Some
are imposed by “experts” in government
 Many labor standards come from lawsuits
 With
lawsuits: employers take measures as a result of or to
avoid liability.

A very useful reform might be aimed at reforming legal systems
in countries that have a poorly functioning one.
 Most
other standards arise out of mutually agreeable
negotiations
 Should
we improve poor countries’ labor standards through
trade policy?
Globalization & Labor Standards

Money wage + benefits = Marginal Product * Price


What if rich countries believe that all countries should have our
labor standards?
Money wage + benefits = Marginal Product * Price
 Money wage decreases, benefits increase
 If the workers wanted this, why didn’t they negotiate
this before the U.S. imposed this?
 Rich countries might believe that poor people should
eat steak too…
 Labor
standards are like other normal goods
 Poor people usually prefer a higher wage, so they may
decide not to negotiate for better labor standards
Labor Example #2 – Labor Benefits

W + benefits = MP * P
 MP
& P same as last example…MP = 10, P = $1
 If benefits cost the employer, say $2, then the wage will
have to be reduced by the same amount
 $8 (wage) + $2 (benefits) = 10 units * $1 per unit

The worker “buys” the labor standards
 This
may not be a tradeoff the worker was willing to
make…the worker may be worse off



The worker, if in poverty, may just rather have the $2
Just as the worker may not choose to buy steak dinners
By imposing benefits, you are removing choices
Labor Example #3 (monopsony)

What if W + benefits < MP * P ?
 Some
poor workers do not have many choices because
they have few options
 If
a sweatshop is the only employer around, that may be the
worker’s best alternative
 Say
W = $5, benefits = 0
 Rich countries could demand that workers get higher
benefits and labor standards
 Now, benefits = $2, what will likely happen to W?
 Should
go down $2, because the monopsonist will still want
to pay a total compensation of $5
 Or, perhaps some other unintended consequences…
Globalization & Labor


In either competition or monopsony, when standards
or benefits go up, employers compensate less
If for some reason total compensation is raised (by,
say, a minimum wage law), then


Labor looks relatively less attractive (it is now more expensive)

These employers may substitute labor for more capital

Some poor people will lose their jobs  again, lose choices
The low wage workers may lose part of their comparative
advantage

Makes US workers and other rich countries relatively more attractive

Good for US workers, and some poor people will lose their jobs
Globalization Results

What if the free market produces bad results? We then
must ask:

Why do they choose to work there?
Remember, labor is an exchange
 Even monopsonists have competition…


What are their alternatives?
Farm labor (which is no picnic)
 Scavenging (garbage dumps, forests)
 Crime
 Prostitution


Sometimes “saving” workers from bad jobs means that
they have to turn to worse alternatives

Raising wages/benefits  fewer jobs
Globalization Results

If there is monopsony or collusion, what is the
answer?
 Monopsony
& collusion aren’t really free markets
 Encourage competition  so wages can be bid to
equilibrium levels and ensure that workers get what
they are worth
 What


if workers aren’t worth that much?
Education & raising productivity
 Workers earning wages now may help put kids through
school
Institutions
 Good institutions will facilitate this process
 For example: rule of law & well-defined property rights
 Well-functioning, stable (non-invasive) government
How Can We Help the World’s Poor?

Top-down approach
 Try
to figure out what countries should do, and tell them
to do it
 Or,
give them a monetary incentive to do it
 World
Bank
 IMF

Bottom-Up approach
 Let
individual countries and individuals figure out what
they should do
 Promote individual choice
World Bank

Founded at Bretton Woods in 1945
 Bretton
 Goal:


get the world economy going again after WWII
Also, establish a global fixed exchange rate regime
International Bank for Reconstruction and
Development
 Fund

Woods agreement
creditworthy governments rebuild infrastructure
International Development Association (est. 1960)
 Fund
poor countries, with various strings attached
World Bank

The World Bank is more known for the IDA
 Provides
low interest and interest free loans to poor
countries
 Provides outright grants to poor countries
 Has provided $2.3 trillion (along with other
organizations and countries) to poor countries
 Money
is supposed to go to infrastructure
 In return, they’d like to be paid back

So they have strings attached…
World Bank

Why is this controversial?
 Strings
attached (some people don’t like these):
 Freer
trade policies
 Looser regulations and less red tape
 Sound monetary and fiscal policy
 Corruption
 Corrupt

(everyone doesn’t like this)
governments may squander loans
“New” governments refuse to pay back old loans
 Officials
give infrastructure projects to their buddies
 Top-down
 Recipients
are skeptical of Washington
 They don’t always know what’s best: e.g. empty schools
World Bank

Has it worked? Here are some results from studies
by economists:
 Peter Bauer: aid reduces growth b/c it props up
corrupt governments
 Burnside & Dollar in 2000 A.E.R.: aid good for
sound governments, bad for unsound governments
 Easterly, Levine, Roodman said aid has no impact,
others agree or say negative
International Monetary Fund

Conceived at Bretton Woods, the IMF was set up to
facilitate global fixed exchange rates
 If
a government was short on funds that it would need
to fix its exchange rate, the IMF could loan them money
 We will return to fixed exchange rates in a couple
weeks


This was supposed to bring exchange rate stability
like the gold standard did
1971 the global fixed exchange rate regime ends
 What
is the IMF to do?
International Monetary Fund

Describes its goals as:
 Monitoring
 Gives
economic & financial developments
policy advice
 Financial
crisis prevention & aid
 Loans and policy advice
 Like
the World Bank, policy advice is intended to help the
country pay back the loan
International Monetary Fund

Why is it controversial?
 Many
of the same reasons as the World Bank
 Top-down
 Sometimes
 It
micromanagement is unpopular, often ineffective
confused with the cause of financial crises
is politically easy to blame creditors
What Should We Do?

Would free market economists (like David Ricardo)
prescribe?
1. Rich nations should open their borders (to trade…and
immigration helps too)
2. Stop trying to create good economies in nations with
bad governments (World Bank & IMF…we’re looking
at you!)
3. Reward reforms after they take place
4. Encourage microlending
Microlending

“extending very small loans to those in poverty
designed to spur entrepreneurship”
 Microlending
allows individuals in poor countries to become
entrepreneurs
 Helps an economy build from the bottom up
 How
is this different from simply “foreign aid” or aid
from international organizations like the World Bank
and IMF?
 Microlending
is lending directly to individual entrepreneurs,
while the organizations tend to lend to governments in an
effort to let wealth trickle down to the general population.
Microlending

You can take an active role yourself!
 Visit:
 www.kiva.org
 www.lendforpeace.org
 www.microloanfoundation.org.uk
 You
can view microlending as charity (with good
incentives) OR a profitable opportunity
 Either
way, both the lender and borrower win.
Institutions as a Recipe

Economists understand the ingredients in good
institutions that foster development, but they have a
difficult time figuring out the correct recipe.
 You
may know what is in a croissant, but baking a
perfect croissant requires a lot more knowledge.
 You
can think of the interaction between the economy and
institutions as an incredibly complex recipe
 Economists and governments are far from perfecting
economic development and institutions.

Do we have hope?
 Absolutely.
People interacting within markets tend to
improve their circumstances over time.
FREE TRADE VS. FAIR TRADE
Free Trade vs. Fair Trade

What if free trade is unfair to workers and small
farms?
 Can
we be socially responsible and help them out by
purchasing “fair trade” products?

Up for discussion:
 Problem
of free trade vs. Solution of fair trade
 An example using the coffee bean industry
 All-pay auction & rent-seeking
 Economics of fair trade licensing
Unfair trade?

Problem: farmers and other low wage workers are
in poverty in developing countries
 Coffee
bean industry
 These farmers allegedly have:
 Poor
working conditions
 Child labor (under 18)
 Poor environmental conditions (including “unsustainability”)
 Very low pay/profit
Fair Trade Products...are they fair?

Solution: establish voluntary requirements and a
certification that will allow these producers to receive a
premium for their product

Consumers pay a higher price for coffee in exchange for
knowing that those who receive it:
Are paid more
 Have better working conditions
 Have higher environmental standards


This sounds fantastic.
It is completely voluntary.
 These consumers are better off.
 Fair trade producers feel better off too.

Economics of (Coffee) Production

Suppose the world price of coffee = $1/lb
 Under
“free trade,” coffee producers will produce
coffee so long as: marginal cost ≤ $1/lb
 If
(average) cost ≥ $1/lb, they’re losing money

Stop growing it, or plant/do something else
 Suppose

average cost is 95 cents per pound
Profit = 5 cents per pound
Economics of (Coffee) Production

Suppose the fair trade price = $3/lb
 Under
“fair trade,” coffee producers will produce until:
marginal cost ≤ $3/lb
 These higher standards have compliance costs
 Environmental
and labor standards have costs
 With
these costs, suppose average costs = $2/lb, about
$1.05 more than the free trade farmers
 $1
profit per pound now
Free Trade vs. Fair Trade



Free Trade: razor thin $0.05 per pound profit
Fair Trade: much larger $1.00 per pound
Look how great fair trade is
 These
farmers have:
 More
money
 Safer production
 Cleaner, more green production
All-Pay Auction

Bid for 5 euro
 Rules:
 1.
The highest bidder wins
 2. You pay your bid regardless, whether you win or lose.
Rent-seeking

“the socially costly pursuit of wealth transfers”
A
simple example: theft
 You
had the $5
 The thief gets the $5
 Any time, effort, resources spent by the thief = deadweight
loss to society


The thief could be using his time doing something productive.
Instead of $5, the society could have a $10 if the thief spent his
hour, say, making something worth $5.
How is this relevant to fair trade products?
Fair Trade & Rent-Seeking


Rent-seeking…spoiler of idealism 
Fair trade products offer a premium, which is a
transfer from consumers to producers
A
win-win for some
 But,
plays out much like our all-pay auction
Fair Trade and Rent-seeking

Fair trade certification cannot go to everyone (just
as everyone can’t win the auction)
 Not
everyone is willing to pay the premium
 Quantity
 Growers
prefer more profit to less
 Quantity

Demanded: fair trade < normal trade
Supplied: more people want to sell at $3
Fair trade certifiers can only certify part of the
market and buy the amount demanded at the $3
price, even if everyone technically complies
What Actually Happens?

Suppose the world only demands a third of their
coffee to be fairtrade
 It’s

actually a much smaller fraction
One out of three farmers can get the $3 price
 The
other two have to sell at the world price ($1,
possibly even less)
What Actually Happens?


Rationally, each might select fair trade: avg cost $2
One of them gets $3/lb, profit = $1per pound
 The
other two sell at $1, lossing $1 each
 Overall, the coffee farmers are poorer!



Fair Trade…sigh.

Summary:
 The
premium offered to the potential farmer is a rent
(in the way economists define a “rent”)
 Producers spend resources in order to get this premium
 Similar
incentives exist when the government hands out
quota trade licences

Producers end up wasting real resources , and they
can either be poorer overall or at least no better
off, collectively.
Silver lining?

But, if they comply with fair trade standards, that’s
good right?
 The
losers take real losses.
 They’re
 What’s
better off doing nothing (or something else)
more environmentally friendly than fair trade?
 Growing

nothing is more environmentally friendly!
Toyota Prius vs. walking
Why Buy Fair Trade Products?

Everything about it sounds good...
 ...except

the rent-seeking part
We see who we help.
 Gordon
Tullock’s experience in China, an example.
 Quotas & tariffs
 Fair trade farmers
So, what now?

Development is tricky...there is no silver bullet or
cure-all solution.
 You
would think paying poor people more would be
straightforward and would make them better off.
 But,
incentives and unintended consequences interrupt our
plans.
 Next:
economic development
GLOBALIZATION AND
CULTURE
Is Globalization Unfair to Culture?

We may be wealthier from trade, but
money/wealth isn’t everything...
 What


if we lose some of our culture to global forces?
Will the world be some unified
Western/Americanized culture?
If so, should we (or the world) try to stop this?
Cultural Aspects of Globalization

With wealth comes more culture
 Much
of what we call culture is a luxury
 Ancient Greeks were relatively wealthy & cultured

Culture is not just for the wealthy anymore
 If
the poor & middle class have money, they can fund
culture (music & arts)
 Technology’s role in expanding culture
Cultural Aspects of Globalization

Isn’t global culture just more commercialized?
 What
1.
2.
does that mean?
Commercial culture is more responsive to consumers
Commercial culture is more dynamic, always changing
Cultural Aspects of Globalization

Globalized culture = homogeneous culture?
 Paris,
Texas feels more culturally similar to Paris, France
 Diversity used to be across georgraphic space moreso
 Now:
we have more local diversity
Cultural Aspects of Globalization

How does this affect travel?
 With
more local diversity, you don’t have to travel to
Texas to eat barbeque or Tex-Mex food
 But, if you have local French-Texas food, you may be
inspired to try it in Texas
 If you eat French-Italian food, you may desire to travel
to Italy to eat more authentic Italian food
Cultural Aspects of Globalization

We may lose some of our culture to competition
from other cultures
 What
 In
do we get?
a market-oriented economy, we only get what we want...


 We
If we don’t want, say, Texas barbeque, then the restaurant goes
out of business.
If you want Thai food, then the restaurant thrives and stays.
get more diversity locally, allowing us to get a flavor of
more culture than ever before.
 Both of the above can be seen as a strength of globalized
culture.
Summary

Trade and globalization deliver:
 Wealth
and prosperity
 More culture locally

How do we help the world’s poor?
 Trade
and improving their institutions (as best we can)
 International
organizations (like the World Bank and IMF)
have very limited success in this area
 “Fair” trade products only have very limited success, given
its rent-seeking incentive structure.
Summary
(continued)
 Do we have hope for the future?

Yes!
 The

most success has been through markets
China, South Korea, India, Singapore, etc.
 Outsourcing
(sometimes called off-shoring) also helps rich
countries and poor countries streamline their labor forces
and create a more efficient, more prosperous world.
 Expanding individual choice allows the global economy to
be more dynamic and efficient, as wealth continues to reach
to more places around the world.