Global Business Environment

International Political Economy

Francesco Franco

Nova SBE

November 21, 2013

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International Public Goods

Economics an Political science

• economics can explain the events, the policies• political science enables to forecast which interest is served

• executive, legislature, bureacracy• pressure groups• voters

• Self interest is the key framework• Self interest is determined by beliefs

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International Public Goods

Economics an Political science

• the limits of “pure” economic thinking: Graham on tradebetween nations, irrelevance of states

• the limits of uneducated beliefs: students on internationaltrade, us and them

• nations are group of people with common tastes in publicgoods, separated by

• geography• governments

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International Public Goods

Public good

Class of goods like public works where• exclusion of consumers may be impossible• consumption of the good by one consuming unit does not

exhaust its availability for others• typically underproduced because of free-riding. But alternative

story when Kantian Categorical Imperative rules:undermarketing

• underproduction is a serious problem in a nation, very seriousin the international community as there is no government

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International Public Goods

Public good

• Adam Smiths list: national defense, law and order, and publicworks that it would not pay individuals to produce forthemselves

• Today list (?) is controversial: stabilization? regulation?redistribution? money?

• list depends on values and beliefs or can we reason withobjectivity on these issues?

• other limits to economics: social goods, here again list iscontroversial and changing: human beings, political power,criminal justice, freedom of expression, marriage andprocreation rights, love and friendship, criminally noxioussubstances such as heroin.

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International Public Goods

Obligation to others

• minimal altruism, where the benefit to the receiver issubstantial and the cost to the altruist low

• acts of heroic sacrifice that are not called• a robust zone of indi�erence where one has no cause to be

concerned over the e�ects of one’s acts on other

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International Public Goods

Obligation to others in the international context

• Self-interest then is legitimate over a large zone of indi�erenceprovided that justice is served by our not hurting others. Butwith strangers.

• The nature of the positive bonds that link families,neighborhoods, tribes, regions, and nations is usually taken forgranted and left unexplored.

• Migration: immigration, emigration• Optimal currency area, Mundell Ricardian crtiterion of labor

mobility, McKinnon trade intensity and taste homogeneity• Optimal social unit? likely smaller: gives individual a sense of

belonging and counting• Optimal political unit? Centralization versus decentralization,

Pareto versus lognormal distributions

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International Public Goods

Provision of the international public good

• Conflicts between economics and political science abound, andmany arise from the fact that goods, money, corporations, andpeople are mobile, whereas the state is fixed

• international public goods:• peace• open trading system: freedom of the seas, air, etc...• property rights, standards• capital flows, consistent macroeconomic policies, source of

crisis management (avoiding autarky and having a LLR)

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International Public Goods

Provision of the international public good by an hegemon

Realists who hold to a national-interest theory of

international politics maintain that international public

goods are produced, if at all, by the leading power, a

so-called "hegemon," that is willing to bear an undue

part of the short-run costs of these goods, either because

it regards itself as gaining in the long run, because it is

paid in a di�erent coin such as prestige, glory,

immortality, or some combination of the two

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International Public Goods

Provision of the international public good by institutions

Moralists/institutionalists recognize that hegemonic leaders emergefrom time to time in the world economy and typically set in motionhabits of international cooperation, called "regimes," which consistof "principles, norms, rules and decision-making procedures roundwhich the expectations of international actors converge in givenissue areas"

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International Public Goods

Provision of the international public good in history

• British hegemony, the regimes of free trade and the goldstandard developed more or less unconsciously

• American hegemony, a more purposeful process of institutionmaking was undertaken, with agreements at Bretton Woods,on tari�sand trade, the Organization for EconomicCooperation and Development, and the like

• More costly to set up than to maintain: WHO• In the first 20 years of IMF,GATT leading role of USA, an in

Europe of duumvirat by France and Germany

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International Public Goods

Provision of macroeconomic coorination

• Minding one’s own business-operating in the robust zone ofindi�erence-is a sound rule on trend when macroeconomicvariables are more or less stable but

• fallacy of composition• free riding

• Experience teaches that crises may arise. When they do, therule changes from government and public indi�erence to theproduction of public goods by leadership or by a standbyregime. But how to maintain the machinery?

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Europe

Economic Integration

• Marshall Plan• ECSC 1950• EEC 1957 - EFTA 1957• EU 1993

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Europe

Financial Integration

• 1950-1960, European borrowers turned to NY to obtain fundsand selling to their CB

• edn of 50’s Eurodollar market: 1)lower importance of Sterling,2)regulation Q, 3)24h trading, but not european more global

• EUA, EMS 1979 (ecu)• EMU 1999 (decided in 1969, Werner group)

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Europe

macroeconomic imbalance procedure the case of Germany

MIP November 2013For a given level of national saving, an increased current accountsurplus implies lower investment in domestic plant and equipment

• returns on domestic capital may be easier to tax than thoseon assets located abroad

• second, an addition to the home capital stock may reducedomestic unemployment and therefore lead to higher nationalincome than an equal addition to foreign assets

• Finally, domestic investment by one firm may have beneficialtechnological spillover e�ects on other domestic producersthat the investing firm does not capture

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Europe

macroeconomic imbalance procedure the case of Germany

• If a large home current account surplus reflects excessiveexternal borrowing by foreigners, the home country may in thefuture find itself unable to collect the money it is owed.

• In contrast, nonrepayment of a loan between domesticresidents leads to a redistribution of national wealth withinthe home country but causes no change in the level ofnational wealth.

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Europe

macroeconomic imbalance procedure the case of Germany

Figure : Germany External PositionFrancesco Franco Global Business Environment 17/28

Europe

macroeconomic imbalance procedure the case of Germany

Internal balance requires:

Y

f = C + I + G + CA (EP

ú/P, A) = A + CA (EP

ú/P, A)

• When exchange rates are fixed monetary policy maintainsE = E . And if used it is to change the parity E

• In a currency area E = 1. Adjsutment can only occur with A

and P or P

ú

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Europe

macroeconomic imbalance procedure the case of Germany

External balance requires:

CA (EP

ú/P, A) = X

• When exchange rates are fixed monetary policy maintainsE = E . And if used it is to change the parity E

• In a currency area E = 1. Adjsutment can only occur with A

and P or P

ú

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Europe

macroeconomic imbalance procedure the case of Germany

Swan Diagram on blackboard

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Europe

macroeconomic imbalance procedure the case of Germany

• A change in fiscal policy that influences spending is called anexpenditure-changing policy because it alters the level of theeconomy’s total demand for goods and services

• The accompanying exchange rate adjustment is called anexpenditure-switching policy because it changes the directionof demand, shifting it between domestic output and imports.

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Europe

macroeconomic imbalance procedure the case of Germany

Under Bretton Wood and EMS the adjustment were supposed tobe infrequent. But reality was di�erent...

Figure : French franc and German deutschemarkFrancesco Franco Global Business Environment 22/28

Europe

macroeconomic imbalance procedure the case of Germany

Figure : Current Account in France and GermanyFrancesco Franco Global Business Environment 23/28

Europe

macroeconomic imbalance procedure the case of Germany

Figure : Unemployment rate in France and GermanyFrancesco Franco Global Business Environment 24/28

Europe

macroeconomic imbalance procedure the case of Germany

Figure : French franc and German deutschemarkFrancesco Franco Global Business Environment 25/28

Europe

macroeconomic imbalance procedure the case of Germany

Eight European nations agreed today to realign their currenciesafter West Germany accepted French demands and agreed to a setof currency values that avoided the possible collapse of theEuropean Monetary System. . . ()...German o�cials said Mr. Delorshad given assurances that France would reduce its budget deficitby cutting spending on social programs and welfare payments. Mr.Delors also reportedly said that France would try to reduce thedeficits of its nationalized industries, another cause of inflation.The devaluation itself would cut the trade deficit by makingimports more expensive and exports less costly to others. NYT1983

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Europe

macroeconomic imbalance procedure the case of Germany

• Draw adjustment within EMS: realignment namely revaluationand devaluation

• Draw adjustment within EMU: internal devaluation namelyadjustment in prices

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Readings

*International Public Goods without International GovernmentCharles P. Kindleberger The American Economic Review , Vol.76, No. 1 (Mar., 1986), pp. 1-13

Krugman P., Obstfeld M. and Melitz M. InternationalEconomics Theory and Policy, 9th ed. Pearson, chapter 19 forthe Swan Model

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