Why What We Thought About the Global Economy Is No Longer True
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When the world’s business and political leaders gathered in 2018 at the annual economic forum in Davos, the mood was jubilant. Growth in every major country was on an upswing. The global economy, declared Christine Lagarde, then the managing director of the International Monetary Fund, “is in a very sweet spot.”
Five years later, the outlook has decidedly soured.
“Nearly all the economic forces that powered progress and prosperity over the last three decades are fading,” the World Bank warned in a recent analysis. “The result could be a lost decade in the making — not just for some countries or regions as has occurred in the past — but for the whole world.”
A lot has happened between then and now: A global pandemic hit; war erupted in Europe; tensions between the United States and China boiled. And inflation, thought to be safely stored away with disco album collections, returned with a vengeance.
But as the dust has settled, it has suddenly seemed as if almost everything we thought we knew about the world economy was wrong.
The economic conventions that policymakers had relied on since the Berlin Wall fell more than 30 years ago — the unfailing superiority of open markets, liberalized trade and maximum efficiency — look to be running off the rails.
During the Covid-19 pandemic, the ceaseless drive to integrate the global economy and reduce costs left health care workers without face masks and medical gloves, carmakers without semiconductors, sawmills without lumber and sneaker buyers without Nikes.
The idea that trade and shared economic interests would prevent military conflicts was trampled last year under the boots of Russian soldiers in Ukraine.
And increasing bouts of extreme weather that destroyed crops, forced migrations and halted power plants has illustrated that the market’s invisible hand was not protecting the planet.
Now, as the second year of war in Ukraine grinds on and countries struggle with limp growth and persistent inflation, questions about the emerging economic playing field have taken center stage.
Globalization, seen in recent decades as unstoppable a force as gravity, is clearly evolving in unpredictable ways. The move away from an integrated world economy is accelerating. And the best way to respond is a subject of fierce debate.
Of course, challenges to the reigning economic consensus had been growing for a while.
“We saw before the pandemic began that the wealthiest countries were getting frustrated by international trade, believing — whether correctly or not — that somehow this was hurting them, their jobs and standards of living,” said Betsey Stevenson, a member of the Council of Economic Advisers during the Obama administration.
The financial meltdown in 2008 came close to tanking the global financial system. Britain pulled out of the European Union in 2016. President Donald Trump slapped tariffs on China in 2017, spurring a mini trade war.
But starting with Covid-19, the rat-a-tat series of crises exposed with startling clarity vulnerabilities that demanded attention.
As the consulting firm EY concluded in its 2023 Geostrategic Outlook, the trends behind the shift away from ever-increasing globalization “were accelerated by the Covid-19 pandemic — and then they have been supercharged by the war in Ukraine.”
It was the ‘end of history.’
Today’s sense of unease is a stark contrast with the heady triumphalism that followed the collapse of the Soviet Union in December 1991. It was a period when a theorist could declare that the fall of communism marked “the end of history” — that liberal democratic ideas not only vanquished rivals, but represented “the end point of mankind’s ideological evolution.”
Associated economic theories about the ineluctable rise of worldwide free market capitalism took on a similar sheen of invincibility and inevitability. Open markets, hands-off government and the relentless pursuit of efficiency would offer the best route to prosperity.
It was believed that a new world where goods, money and information crisscrossed the globe would essentially sweep away the old order of Cold War conflicts and undemocratic regimes.
There was reason for optimism. During the 1990s, inflation was low while employment, wages and productivity were up. Global trade nearly doubled. Investments in developing countries surged. The stock market rose.
The World Trade Organization was established in 1995 to enforce the rules. China’s entry six years later was seen as transformative. And linking a huge market with 142 countries would irresistibly draw the Asian giant toward democracy.
China, along with South Korea, Malaysia and others, turned struggling farmers into productive urban factory workers. The furniture, toys and electronics they sold around the world generated tremendous growth.
The favored economic road map helped produce fabulous wealth, lift hundreds of millions of people out of poverty and spur wondrous technological advances.
But there were stunning failures as well. Globalization hastened climate change and deepened inequalities.
In the United States and other advanced economies, many industrial jobs were exported to lower-wage countries, removing a springboard to the middle class.
Policymakers always knew there would be winners and losers. Still, the market was left to decide how to deploy labor, technology and capital in the belief that efficiency and growth would automatically follow. Only afterward, the thinking went, should politicians step in to redistribute gains or help those left without jobs or prospects.
Companies embarked on a worldwide scavenger hunt for low-wage workers, regardless of worker protections, environmental impact or democratic rights. They found many of them in places like Mexico, Vietnam and China.
Television, T-shirts and tacos were cheaper than ever, but many essentials like health care, housing and higher education were increasingly out of reach.
The job exodus pushed down wages at home and undercut workers’ bargaining power, spurring anti-immigrant sentiments and strengthening hard-right populist leaders like Donald Trump in the United States, Viktor Orban in Hungary and Marine Le Pen in France.
In advanced industrial giants like the United States, Britain and several European countries, political leaders turned out to be unable or unwilling to more broadly reapportion rewards and burdens.
It turned out that markets on their own weren’t able to automatically distribute gains fairly or spur developing countries to grow or establish democratic institutions.
Jake Sullivan, the U.S. national security adviser, said in a recent speech that a central fallacy in American economic policy had been to assume “that markets always allocate capital productively and efficiently — no matter what our competitors did, no matter how big our shared challenges grew, and no matter how many guardrails we took down.”
The proliferation of economic exchanges between nations also failed to usher in a promised democratic renaissance.
Communist-led China turned out to be the global economic system’s biggest beneficiary — and perhaps master gamesman — without embracing democratic values.
“Capitalist tools in socialist hands,” the Chinese leader Deng Xiaoping said in 1992, when his country was developing into the world’s factory floor. China’s astonishing growth transformed it into the world’s second largest economy and a major engine of global growth. All along, though, Beijing maintained a tight grip on its raw materials, land, capital, energy, credit and labor, as well as the movements and speech of its people.
Money flowed in, and poor countries paid the price.
In developing countries, the results could be dire.
The economic havoc wreaked by the pandemic combined with soaring food and fuel prices caused by the war in Ukraine have created a spate of debt crises. Rising interest rates have made those crises worse. Debts, like energy and food, are often priced in dollars on the world market, so when U.S. rates go up, debt payments get more expensive.
The cycle of loans and bailouts, though, has deeper roots.
Poorer nations were pressured to lift all restrictions on capital moving in and out of the country. The argument was that money, like goods, should flow freely among nations. Allowing governments, businesses and individuals to borrow from foreign lenders would finance industrial development and key infrastructure.
“Financial globalization was supposed to usher in an era of robust growth and fiscal stability in the developing world,” said Jayati Ghosh, an economist at the University of Massachusetts Amherst. But “it ended up doing the opposite.”
Some loans — whether from private lenders or institutions like the World Bank — didn’t produce enough returns to pay off the debt. Others were poured into speculative schemes, half-baked proposals, vanity projects or corrupt officials’ bank accounts. And debtors remained at the mercy of rising interest rates that swelled the size of debt payments in a heartbeat.
Over the years, reckless lending, asset bubbles, currency fluctuations and official mismanagement led to boom-and-bust cycles in Asia, Russia, Latin America and elsewhere. In Sri Lanka, extravagant projects undertaken by the government, from ports to cricket stadiums, helped drive the country into bankruptcy last year as citizens scavenged for food and the central bank, in a barter arrangement, paid for Iranian oil with tea leaves.
It’s a “Ponzi scheme,” Ms. Ghosh said.
Private lenders who got spooked that they would not be repaid abruptly cut off the flow of money, leaving countries in the lurch.
And the mandated austerity that accompanied bailouts from the International Monetary Fund, which compelled overextended governments to slash spending, often brought widespread misery by cutting public assistance, pensions, education and health care.
Even I.M.F. economists acknowledged in 2016 that instead of delivering growth, such policies “increased inequality, in turn jeopardizing durable expansion.”
Disenchantment with the West’s style of lending gave China the opportunity to become an aggressive creditor in countries like Argentina, Mongolia, Egypt and Suriname.
Self-reliance replaces cheap imports.
While the collapse of the Soviet Union cleared the way for the domination of free-market orthodoxy, the invasion of Ukraine by the Russian Federation has now decisively unmoored it.
The story of the international economy today, said Henry Farrell, a professor at the Johns Hopkins School of Advanced International Studies, is about “how geopolitics is gobbling up hyperglobalization.”
Old-world style great power politics accomplished what the threat of catastrophic climate collapse, seething social unrest and widening inequality could not: It upended assumptions about the global economic order.
Supply-chain chokeholds stemming from the pandemic and subsequent recovery had already underscored the fragility of a globally sourced economy. As political tensions over the war grew, policymakers quickly added self-reliance and strength to the goals of growth and efficiency.
“Our supply chains are not secure, and they’re not resilient,” Treasury Secretary Janet L. Yellen said last spring. Trade relationships should be built around “trusted partners,” she said, even if it means “a somewhat higher level of cost, a somewhat less efficient system.”
“It was naïve to think that markets are just about efficiency and that they’re not also about power,” said Abraham Newman, a co-author with Mr. Farrell of “Underground Empire: How America Weaponized the World Economy.”
Economic networks, by their very nature, create power imbalances and pressure points because countries have varying capabilities, resources and vulnerabilities.
Russia, which had supplied 40 percent of the European Union’s natural gas, tried to use that dependency to pressure the bloc to withdraw its support of Ukraine.
The United States and its allies used their domination of the global financial system to remove major Russian banks from the international payments system.
China has retaliated against trading partners by restricting access to its enormous market.
The extreme concentrations of critical suppliers and information technology networks has generated additional choke points.
China manufactures 80 percent of the world’s solar panels. Taiwan produces 92 percent of tiny advanced semiconductors. Much of the world’s trade and transactions are figured in U.S. dollars.
The new reality is reflected in American policy. The United States — the central architect of the liberalized economic order and the World Trade Organization — has turned away from more comprehensive free trade agreements and repeatedly refused to abide by W.T.O. decisions.
Security concerns have led the Biden administration to block Chinese investment in American businesses and limit China’s access to private data on citizens and to new technologies.
And it has embraced Chinese-style industrial policy, offering gargantuan subsidies for electric vehicles, batteries, wind farms, solar plants and more to secure supply chains and speed the transition to renewable energy.
“Ignoring the economic dependencies that had built up over the decades of liberalization had become really perilous,” Mr. Sullivan, the U.S. national security adviser, said. Adherence to “oversimplified market efficiency,” he added, proved to be a mistake.
While the previous economic orthodoxy has been partly abandoned, it is not clear what will replace it. Improvisation is the order of the day. Perhaps the only assumption that can be confidently relied on now is that the path to prosperity and policy trade-offs will become murkier.