Globalization: The Long-Run Big Picture
By George Reisman
Posted on 11/17/2006
conjunction with its essential prerequisite of respect for
private property rights, and thus the existence of
substantial economic freedom in the various individual
countries, has the potential to raise the productivity of
labor and living standards all across the world to the level
of the most advanced countries. In addition, it has the
potential to bring about the radical improvement in
productivity and living standards in what are today the most
advanced countries, and to provide the strongest possible
foundation for unprecedented further economic advance
These overwhelmingly beneficial results are
often hidden from view by the fact that at the same time globalization implies a
substantial decline in the relative or even absolute nominal GDPs of today's
advanced countries, the experience of which engenders opposition to the process.
What is not seen is that to whatever extent globalization might reduce absolute
nominal GDP in today's advanced countries, it reduces prices many times more,
with the result that it correspondingly increases their real GDP, and that to
whatever extent it reduces merely their relative nominal GDP, it again increases
their real GDP many times more.
This article shows that by incorporating
billions of additional people into the global division of labor, and
correspondingly increasing the scale on which all branches of production and
economic activity are carried on, globalization makes possible the unprecedented
achievement of economies of scale the maximum consistent with the size of
the world's population. First and foremost among these will be the very
substantial increase in the number of highly intelligent, highly motivated
individuals working in all of the branches of science, technology, and business.
This will greatly accelerate the rate of scientific and technological progress
and business innovation. The achievement of all other economies of scale will
also serve to increase what it is possible to produce with any given quantity of
capital goods and labor. Out of this larger gross product comes a
correspondingly larger supply of capital goods, which makes possible a further
increase in production, resulting in a still larger supply of capital goods, in
a process that can be repeated indefinitely so long as scientific and
technological progress and business innovation continue and an adequate degree
of saving and provision for the future is maintained. The article shows that
from the very beginning, the process of globalization serves to promote capital
accumulation simply by dramatically increasing production in the countries in
which foreign capital is invested, out of which increase in production comes an
additional supply of capital goods.
Some critics of globalization, notably Paul
Craig Roberts, do not understand how it promotes capital accumulation and
instead believe that it deprives the advanced countries of capital. Others,
notably Gomory and Baumol, view the effect of globalization on nominal GDP as
though it were its effect on real GDP and are thus led to confuse competition
for limited money revenue and income with economic conflict. This article
answers both sets of errors, including related confusions concerning
Globalization is the
process of bringing the entire world into the system of
division of labor and thus into the system of social
cooperation, of which division of labor is the essence. Its
completion will mark the highest level of division of labor
and social cooperation that it is possible for human beings
to achieve, given the size of the world's population.
In conjunction with its essential prerequisite
of respect for private property rights, and thus the existence of substantial
economic freedom in the various individual countries, its potential is nothing
less than the elevation of the productivity of labor and of living standards all
across the globe to the level of the most advanced countries, and at the same
time the radical improvement in productivity and living standards in what are
today the most advanced countries. And, finally, it will constitute the
strongest possible foundation for further economic advance and, indeed, serve to
accelerate the rate of economic progress. Its completion will represent a world
as much or even more advanced beyond that of our own as our own is advanced
beyond that of a century ago, and one poised to go further indefinitely and more
"What is not seen is that to whatever extent
globalization might reduce absolute nominal GDP in today's advanced
countries, it reduces prices many times more…"
What is to be feared in connection with
globalization is not that it will occur but that it will not occur, that the
process of its achievement will be aborted or, indeed, thrown into reverse.
Progress toward globalization can be aborted by the outbreak of war, including
large-scale global terrorism. In such conditions, outside sources of supply can
no longer be relied upon, and greater economic self-sufficiency becomes
necessary—which, of course, constitutes movement in the opposite direction of
globalization. It can also be stopped by the failure of much or most of the
world to adopt and then maintain the pro-free-market political-economic policies
necessary to its achievement, including such failure in our own country.
It is essential to realize that the process of
globalization can be aborted simply because of mistaken ideas about its
consequences. Despite the enormous advantages it holds out, large numbers of
people believe that they must suffer from the process, and thus wish to stop it.
If such people become numerous enough and obtain political power, they will stop
it, at least as far as their own country's participation is concerned.
In the United States and other advanced
countries there is great and growing fear of having to compete with industries
located in presently poor, impoverished countries with extremely low wage rates,
and where labor is suddenly rendered dramatically more productive by the
investment of capital coming from the advanced countries. The combination of
radically lower wage rates coupled with dramatic increases in productivity
results in foreign competitors in the backward countries with sharply lower
costs of production. These lower costs, it is feared, enable those foreign
competitors to be profitable at prices that producers in the advanced countries
simply cannot match without selling at a loss or without requiring wage
reductions from their own employees.
It is these fears that I want to address, and
to do so by means of economic analysis.
My analysis is inspired by the writings of my great teacher, Ludwig von Mises,
who recognized the growth or decline of the division of labor as synonymous with
the growth or decline of the foundations of economic progress and of society
itself. Indeed, Mises titled a section of his book Socialism "The
division of labour as the principle of social development." My analysis proceeds
entirely in the spirit of the economic liberalism that no one has done more to
advance than he.
However, the specific tools of analysis that I
will employ come not so much from Mises as from an earlier great champion of
economic liberalism, David Ricardo, and in one major respect, from Adam Smith.
Ricardo is justly famous for the Law of Comparative Advantage, a principle with
major application to foreign trade and international division of labor (and, as
Mises later showed, equally to division of labor within countries as well,
indeed, to human association). However, Ricardo's contributions to the analysis
of globalization go far beyond the Law of Comparative Advantage, as I will
attempt to show. Similarly, Smith is already famous for his explanation of the
advantages of division of labor and his advocacy of free international trade.
But as in the case of Ricardo, there is more of great importance in his writings
that relates to globalization than he is given credit for, and which I will
attempt to present.
The Economic World Today and in a Hundred Years
The logical place to begin a discussion of
globalization is with a description of the global economy at the present time,
in terms both of the output of goods and services and in terms of population.
This can be done in a very concise way by means of the Gross Domestic Product
(GDP) and population statistics that are available for virtually every country.
Based on GDP statistics provided by the International Monetary Fund for the year
2004, and reported in the online encyclopedia
Wikipedia, and on population statistics provided by the US Census
Bureau and the CIA, the following table offers an essential overview in terms of
Country or Economic Grouping
GDP in Trillions of US Dollars
Share of World GDP
Population in billions
Total First World:
Rest of World
Where necessary, the numbers have been slightly altered for
the purpose of making them add to more or less round figures
that will be easy to work with. Thus World GDP is stated as
40 trillion rather than 40.895 trillion or 41 trillion,
which is the actual figure shown in Wikipedia. The combined
population of China and India and of the rest of the world
outside China and India have both been stated as 2.5 billion
and the shares of global output of China and India and of
the rest of the world have both been stated as .1. As
indicated in the table, this procedure somewhat overstates
the actual data reported for China and India and
correspondingly understates the actual data reported for the
rest of the world outside China and India. As stated, the
reason for doing this is that the slightly changed numbers
are easier to work with and can thus facilitate the
recognition of relationships that are applicable to any such
data. (Furthermore, the relatively more rapid rates of
increase in GDP applicable to China and India since 2004
serve to minimize the actual degree of error entailed in
The table is subject to criticism based on what
it includes or excludes in the category "First World," that is, the group
constituted by the world's modern, industrial economies. For example, New
Zealand has not been included even though it clearly belongs in that category.
The reason for its exclusion is simply that it is too small to make a difference
and thus there is no explanatory purpose that would be served by providing a
listing for it. More significantly, it could be argued that the data for the
European Union should be reduced in order to exclude its new, East European
members, whose economies clearly do not yet belong in the same category as those
of the other members of the First World Group.
Such criticisms are not significant, however.
The essential and vital point that the table makes clear is that countries
representing a small minority of the world's population account for the
production of the overwhelming bulk of its goods and services. It shows this
fact in the relatively simple, straightforward way of attributing .8 of the
world's output to countries containing just 1 billion of the world's 6 billion
"Globalization is the process of bringing the entire
world into the system of division of labor and thus into the system
of social cooperation…"
These data imply a further major fact. Namely,
that output per capita in the advanced, industrial economies is
currently 20 times as great as it is in the rest of the world. This is because
if 1 billion people produce .8 of the world's output, while 5 billion people
produce only .2 of the world's output, those 1 billion produce 4 times as much
as the 5 billion. And if the 1 billion people of the First World produce 4 times
as much as the 5 billion people of the rest of the world, they produce 20 times
as much as do just 1 billion people in the rest of the world. In the rest of the
world, the output of 1 billion people is a mere .04 of the output of the world;
it takes 5 billion people in the rest of the world to produce its .2 of the
world's output. The ratio of the .8 of the world's output produced by the 1
billion people of the First World to the .04 of output produced by 1 billion
people in the rest of the world is 20:1.
This radical difference in per capita
productivity is the measure of the improvement needed in the rest of the world
to achieve per capita parity with the First World and the standard of living of
the First World.
A key assumption that we will make in our
analysis of the effects of globalization is that by 100 years from now, i.e.,
the year 2106, based on the date of my writing this essay, globalization will
indeed have succeeded in raising the productivity of labor and per capita output
in the rest of the world by this factor of 20.
True to our task of dealing with globalization,
we are going to assume that the increase applies to the whole rest of
the world. Nevertheless, it would not be difficult to modify the analysis, to
deal with partial globalization. We could, for example, easily assume that this
rise in productivity occurred only in China and India, the two major countries
that are presently seen as most likely to be able improve their production
dramatically. Or we could apply the assumption to China alone, which seems to be
the single most likely major candidate to achieve such success.
For all possible applications, however, we need
to develop our framework of analysis further.
The first thing we need to do is introduce the
concepts of demand and supply used by the old classical economists. When Ricardo
and Say and the other classical economists spoke of "demand," what they usually
meant was an amount of expenditure of money. And when they spoke of
supply, what they usually meant was a physical quantity of a good produced
and sold. On this basis, when they spoke of prices being determined by
demand and supply, they conceived of prices as being determined by the ratio
of the demand to the supply. Prices on this view were formed by the
division of an amount of expenditure of money, the demand, by the quantity of
goods or services produced and sold for that money, the supply. Prices, it was
held, varied in direct proportion to the demand and in inverse proportion to the
supply. For example, double the supply, and prices would halve. Halve the
supply, and prices would double.
The classical economists' concept of demand has
extremely easy application to our analysis of the global economic system. It
can be taken as equal to the $40 trillion of global GDP shown above, in Table 1.
This sum can be taken as representing the expenditure to buy the global gross
The classical economists' concept of supply
finds equally ready application. Initially, today, the global supply of goods
and services can be conceived of as consisting of 10 units. As we can see from
Table 1, 8 of those units (.8 of the world's output) are produced by the First
World countries. One of those units (.1 of the world's output) is produced by
China and India. And the remaining 1 unit is produced by the rest of the world
apart from China and India.
"It is essential to realize that the process of
globalization can be aborted simply because of mistaken ideas about
The classical economists' concept of demand,
indeed, precisely the global expenditure of $40 trillion to buy the world's
gross product, easily serves as the vehicle for a profoundly important and
highly relevant concept that seems to be virtually unique to Ricardo. Namely,
his concept of a money that was an invariable standard of value. The
purpose of this concept was to be able to zero in on changes in prices resulting
from causes originating on the side of goods rather than on the side of money.
(Unfortunately, Ricardo developed the concept in a way that made it depend on
the labor theory of value, which it was not necessary to do.)
The above $40 trillion of expenditure to buy
the world's gross product can be made into an invariable standard of value. All
we have to do is assume that between now and the year 2106, the annual
expenditure to buy the world's gross product remains at $40 trillion. Forty
trillion dollars will then be an invariable standard of value, one that will
serve to make all price changes reflect changes on the side of goods, not on the
side of money.
Making this assumption will first of all bring
into clear relief what all the fears and complaints are about in connection with
globalization. It will show the basis of the fears and complaints in the
clearest possible light, in a form much sharper and stronger than we see it in
the real world. What we see in the real world is a faint reflection of what we
are about to see here.
One final assumption. For the sake of
simplicity, we assume that the world's population and its distribution among the
different countries also remains unchanged. (The effects of population change
can be analyzed, but that's a separate job. We need to limit ourselves to one
thing at a time.)
So here we are. The expenditure to buy the
global gross product is constant at $40 trillion per year. And meanwhile, the
world outside today's First World countries is in process of drawing even with
today's First World countries. Let us look now at the world in 2106, by which
time it has drawn even, by having succeeded in raising the productivity of its
labor and per capita output by a factor of 20 times.
We are in a position to calculate the world's
gross product in 2106 relative to its gross product in our starting year. The
rest of the world, which initially had produced a mere 2 units out of the 10
units of the world's total output, now produces 40 units out of a world
output of 48 units. The 40 units is the result of multiplying the initial 2
units by the 20-fold rise in productivity and per capita output that is assumed
to take place there. The 48 units is the result of adding those 40 units to the
8 units that continue to be produced by the old First World countries. (We've
implicitly assumed that their productivity and output have remained stationary.
This is an assumption we'll drop very soon. But we need it for now.)
Let's look at the world of 2106 in terms of
shares of global GDP. The world outside the old First World now produces an
output of 40 out of the global output of 48. In terms of a fraction, that's 5/6
of global output, which is the same as the fraction its population bears to the
world's population. In monetary terms that translates into 5/6 of $40 trillion.
This is because if these countries are now producing 5/6 of the global gross
product, we should expect them to take in 5/6 of the expenditure to buy the
global gross product. That's $33.33 trillion. This is tremendous financial
prosperity for this part of the world, going from $8 trillion of GDP to more
than $33 trillion of GDP.
But what about the old First World? In monetary
terms, it's fall is as great as the rest of the world's rise. Its share of
global output has fallen from 8/10 to 1/6. In terms of money, its GDP has
correspondingly plunged from $32 trillion (8/10 of $40 trillion) to $6.67
trillion (1/6 of $40 trillion). What could be bleaker?
"In the United States and other advanced countries
there is great and growing fear of having to compete with industries
located in presently poor, impover-ished countries with ex-tremely
low wage rates…"
Now nothing remotely this negative in financial
terms has in fact taken place anywhere in the First World. In part this is
because the increase in production in the rest of the world has thus far been
only the barest fraction of what has been described here. China and India, for
example, are only now approaching 1/10 of the world's output. Indeed, the change
in the position of the two economic worlds would necessarily be relatively
slight in any given year. This is because the compound annual increase in
production in the rest of the world required to result in a 20-fold cumulative
increase over a century is only on the order of 3 percent.
Thus, the change in the overall dollar amounts of respective GDPs is
correspondingly small in any given year.
In addition, in the real world, both globally
and in every individual country, there is a substantial increase in the quantity
of money and volume of spending every year, that easily overcomes any tendency
toward a decline in a country's monetary GDP. The result is that the dollar
amount of GDP all over the world continues to rise, and average money incomes
continue to rise everywhere. Nevertheless, in the First World countries, a
powerful downward tug on sales revenues and money incomes coming from abroad is
being felt. And this, I believe, is the source of the complaints in the First
World countries about globalization. The downward tug can be especially powerful
when it is concentrated in a few industries, even in a single year.
Having described a situation in the First World
countries of 2106 that in terms of their monetary decline appears as dire or
even much more dire than that of the worst depressions in history, I now want to
point out some as yet unnoticed but very important aspects of the situation.
When we understand them, things will appear in a positive rather than a negative
light, indeed, in an enormously positive light.
Ricardo to the Rescue: "Value and Riches, Their Distinctive Properties"
Let us begin by measuring the fall in money GDP
in the old First World. In 2106 the money income of this group of countries is
1/6 of $40 trillion. Initially, it was 8/10 of $40 trillion. To measure the
extent of the fall, we must divide the 2106 fraction of 1/6 by the initial
fraction of 8/10. To do that, we must multiply 1/6 by 10/8. And when we have
done this, we find First World GDP in 2106 to be 10/48 or 5/24 of its initial
This may be seem to be nothing more than
stating the exact same bleak situation in the form of a fraction rather than in
the form of an absolute amount. But something that I find worthy of astonishment
is about to present itself.
Let us now use the classical economists'
Demand/Supply formula to measure the extent of the fall in prices
between the starting point and the year 2106. Initially, $40 trillion of global
expenditure purchased a global gross product consisting of 10 units. Now $40
trillion of global expenditure purchases a global gross product that consists of
48 units, with each unit continuing to represent the same magnitude of
To use the classical Demand/Supply formula to
calculate the change in the price level over this period of time, all we need do
is divide the price level of 2106, which is $40 trillion/48 units of supply, by
the initial price level of $40 trillion/10 units of supply. To do this, of
course, we once again need to invert and multiply by the second fraction. When
we do that, we find that $40 trillion in the numerator and $40 trillion in the
denominator cancel out, and we are left with a numerator of 10 units of supply
and a denominator of 48 units of supply, which, of course, reduces to 5/24.
What I find astonishing here is that the
fall in prices exactly matches the fall in First World GDP! The fall in
First World GDP is to 5/24 of its initial level and so too is the fall in
prices! Both are exactly the same!
"My analysis is inspired by the writings of my great
teacher, Ludwig von Mises, who recognized the growth or decline of
the division of labor as synonymous with the growth or decline of
the foundations of economic progress and of society itself."
Yes. The expansion in production in the rest of
the world relative to production in the old First World has served to reduce the
share of global GDP that goes to the old First World, but it has also
equivalently reduced prices! The result is that, in real terms, when the
dust has settled, there is no reduction in buying power or in real incomes or
real GDP in the old First World. In real, physical terms, as opposed to monetary
terms, the gain of the rest of the world has not been at the expense of
the old First World. At 5/24ths the prices, 5/24ths the
money GDP of the old First World buys just as much as did the initial GDP of the
old First World.
Could this outcome be just some kind of bizarre
coincidence? Or is it mathematically necessary that in the face of a constant
amount of spending, increases in relative production by successful competitors
serve to reduce prices to the same extent that they reduce the money incomes of
It can easily be shown that this last outcome
is in fact mathematically necessary. The share of world income or world GDP that
belongs to any particular country or group of countries is determined by its
output relative to world output. To the extent that other countries increase
their output while its output remains the same, the share of its output relative
to world output correspondingly falls. Thus, if initially, world output was
x and now world output rises to x + y, while its output
remains the same, say, at xa, then its share of world
output, and thus of world GDP, falls in the ratio of x/(x + y). It was
initially xa/x and now it's xa/ (x +
y). Dividing the second expression, which is its present, lower share of
world output and world GDP, by the first expression, which was its former,
higher share of world output and world GDP, reduces to x/(x + y).
But this resulting expression is also the exact
expression of the fall in prices that results from production rising from x
to x + y. In the face of an invariable money, the price level that
results when production is x + y relative to the price level that
existed when production was only x, is x/(x + y).
Mathematically, what is present is that x + y and x are
divided into respective numerators that remain the same and then cancel out, as
soon as the first fractional expression is divided by the second. This leaves
both the decline in share of world GDP and the decline in prices to reduce to
x/(x + y).
Assuming they understand it, many people will
undoubtedly respond to this analysis with the thought that however
scientifically interesting it may be, it would be an awfully wrenching financial
experience to go through merely in order to end up unscathed in real terms. And
so it would.
Clearly our analysis needs further development.
This is only its first significant finding.
To carry it further, we now need to realize
that production in the old First World countries would not remain stationary,
but would increase and, indeed, increase at a more rapid rate
because of globalization than it would have done otherwise.
There has been a rapid rate of economic
progress in at least some of the present First World countries, most notably
Great Britain and the United States, for well over two centuries, and some
significant rate of economic progress might be expected to continue in the
present First World countries in this century too. Let us assume that without
any further progress toward globalization, this rate of continued progress
within the present First World would be at an average compound annual rate of 2
to 3 percent per year. With globalization, however, for reasons to be explained,
the rate would be significantly higher. If it were just 1 percent per year
higher, the results over the course of a century would be dramatic.
Using a pocket calculator or spreadsheet will
quickly show the extent of the difference that would be made. At a 2 percent
compound annual rate of increase, the cumulative increase over 100 years is 7.2
times. At a 3 percent compound annual increase, the increase over the course of
a century is 19.2 times, and at 4 percent, the cumulative increase by the end of
a century is 50.5 times. At 5 percent, the cumulative increase rises to 131.5
The process of the rest of the world coming up
to parity with today's First World would occur by virtue of the First World
progressing more rapidly than it otherwise would and, at the same time, the rest
of the world progressing at a rate significantly higher than that elevated rate.
Thus, for example, while today's First World countries might progress at a
compound annual rate of 4 percent instead of 2 percent, the rest of the world
would draw even by progressing at a rate a little in excess of 7 percent. This
difference in positive rates of progress is how the rest of the world would
advance to equality. Its advance would not be at the expense of what is today
the First World, but as the source of major gains to what is today the First
"We now need to realize that production in the old
First World countries would not remain stationary, but would
increase and, indeed, increase at a more rapid rate because of
globalization than it would have done otherwise."
Let's look more closely at the arithmetic. As
we've just seen, 1.04100 amounts to a cumulative increase of 50.5.
That represents a level of per capita output in the year 2106 in the countries
of today's First World of over 1,000 times today's per capita output in the rest
of the world, since the difference was already 20:1 and now it's multiplied by a
further 50.5. But if the rest of the world could progress at a compound annual
rate of slightly less than 7.25 percent, parity would be achieved nonetheless.
This is because 1.0725100 results in a cumulative increase of 1096
In essence, the old, i.e., today's, First World
countries would produce 50 times as much as they used to produce, while the rest
of the world would produce 1000 times as much as it used to produce. The old
First World countries would lose their 20:1 initial advantage in productivity by
virtue of the rest of the world increasing its per capita productivity 20 times
as much as the 50-fold increase in per capita productivity in the old First
What is present here is an ironic twist on the
subject of economic inequality. Usually, there is unjust resentment against
economic inequality, resulting from the failure to recognize the
contribution that individuals who earn higher incomes, above all, businessmen
and capitalists, make to the productivity and standard of living of people of
lower incomes. Here there is unjust resentment against economic equality—international
economic equality—and for essentially the same reason. Namely, a failure this
time to recognize the economic contribution of those on the rise, to the
standard of living of those with whom they are drawing even.
Before we proceed to demonstrating the nature
of that contribution, we need to pause and reflect a little further on what we
have seen up to now.
In the title of this section, I referred to
Ricardo's doctrine of the distinction between "value" and "riches." Perhaps the
easiest way to grasp this distinction is to think of global GDP continuing to
remain invariable at $40 trillion, while world physical output increases in the
manner I've just described it as increasing. In that case, the GDP of the old
First World still falls from $32 trillion to $6.67 trillion, while the GDP of
the rest of the world still rises from $8 trillion to $33.33 trillion. This, as
before, would be the outcome in terms of "value"—i.e., in terms of plain old,
simple monetary value. But in terms or real physical wealth, which
Ricardo called "riches," both groups of countries would be vastly better off.
The $6.67 trillion of GDP now earned by the old First World countries, would buy
roughly 50 times more than did the $32 trillion of GDP originally earned by
those countries. At the same time, the $33.33 trillion now earned by the rest of
the world would buy 1000 times as much as did the $8 trillion of GDP it
What brings about these results is the vast
increase in the buying power of money that results from the respective
50-fold and 1000-fold increases in production and supply.
Based on the assumptions of this illustration
concerning respective rates of economic progress, overall global production
increases from its initial 10 to 2400 a century later. This is the result of the
initial 8 units of production of the old First World rising 50-fold to 400
units, and of the initial 2 units of production of the rest of the world rising
1000-fold to 2000 units, with each unit, of course, still representing the same
magnitude of supply. Thus global production in 100 years is 2400 instead of 10.
In the face of an invariable money of $40 trillion of GDP, this 240-fold
increase in production and supply implies a decline in prices to 1/240 of their
initial level. At this level of prices, 5/24 the GDP
in the old First World has 50 times the buying power of the initial GDP in the
old First World. Likewise, at
1/240 of the initial price level, the rise in GDP in the rest of the world by
more than 4 times (from $8 trillion to $33.33 trillion) serves to raise buying
power there by 1000 times.
Thus, we have whole world growing dramatically
richer, even while an important part of it declines in terms of monetary value.
This is what Ricardo's doctrine makes it possible to see.
We now need to add an important further element
to our analysis, which entails dropping our assumption of an invariable money,
and allowing for an increase in the quantity of money. This is because even if
the world possessed a 100-percent pure gold standard, there would in fact be
some significant rate of increase in the quantity of money.
The economic advance of the rest of the world would
not be at the expense of what is today the First World, but would be
the source of major gains to what is today the First World.
If the global quantity of money rose even at
the very modest rate of just 2 percent per year, in the course of a century it
would still increase by a very substantial amount. As we've seen, a sum that
grows at a compound annual rate of 2 percent increases more than 7 times in 100
years. In the face of an unchanged demand for money for holding, the implication
of this is a 7-fold rise in global GDP, from $40 trillion to $280 trillion.
Thus, even with the old First World countries accounting for only one-sixth of
global output at that point, the size of their GDP would show an increase. It
would then be on the order of one-sixth of $280 trillion, or $46.67 trillion.
And this, of course, would be a significant increase over the initial $32
trillion of GDP in those countries.
If the global quantity of gold money increased
at a 3 percent compound annual rate, which would be more likely in view of the
rapid rates of increase in production in general, the money supply 100 years
later would be more than 19 times as large, as we've also seen from our
examination of the effects of compounding. With an unchanged demand for money
for holding, global GDP would then be $760 trillion. A sixth of that would be
$126.67 trillion, which at that point would be the GDP of the old First World
countries. Thus, in reality, the whole world would grow in monetary terms as
well as in real terms.
Indeed, given the rates of increase in global
production and supply that we've assumed, prices would fall significantly over
the course of a century even with a compound annual rate of increase in money
and spending of 5 percent per year. In that case, as our examination of the
effects of compounding showed, money and spending 100 years later would be 131
times as great. With production and supply 240 times as great, prices would be
lower by almost half.
Of course, under a paper money regime, which is
what presently exists in the world, no rate of increase in production and supply
that might realistically be achieved is capable of comparing with the rate at
which paper money can be increased. Paper money is easily capable of being
increased at compound annual rates far in excess of the most rapid rates of
increase in production and supply ever recorded. At 10, 20, 50, 100 percent
annual rates of increase, the increase in the supply of paper money easily
overpowers any increase in production and supply and succeeds in raising prices
at rates that have no fixed limit. ,
The Contributions of Globalization: Extending the Division of Labor
It's now necessary for me to explain just why
globalization should have the kind of positive effects on production and supply
that I've claimed for it.
The first and most fundamental reason comes
under the heading of extending the division of labor. Adam Smith wrote that "the
division of labour is limited by the extent of the market."
By this, he meant that the division of labor is limited by the number of
cooperating producers in the society. Smith pointed out that a worker capable of
producing a thousand nails a day, if nail making were what he devoted his full
time to, would not be able to pursue such an occupation in the Scottish
Highlands. He wouldn't be able to do it, for the simple reason that he would
probably not find enough people to buy more than a thousand nails in a year.
Globalization in contrast means bringing into
the market all the producers in the entire world and thus making possible the
maximum amount of division of labor consistent with the size of the world's
Let's turn to a different example than that of
Smith's nail maker, in order to develop this point more fully and in its most
"In terms or real physical wealth, which Ricardo
called 'riches,' both groups of countries would be vastly better
Let's assume that in order for a physician to
be kept tolerably busy, he needs a surrounding population of 1,000 people. With
this number of people, we'll assume, there'll be enough colds, broken arms,
cases of pneumonia, need for appendectomies, and so forth to keep him
sufficiently occupied. Assume also that an efficient-sized medical school is
capable of turning out 100 new physicians every year, and that its average
graduate will practice for 40 years after graduating. This implies that
ultimately, there will be 4,000 graduates of this medical school out in the
world at any given time practicing medicine. It's obvious that in order for
these 4,000 graduates to be kept reasonably busy, there needs to be a
surrounding population of 4 million people.
Now assume that of the 4,000 physicians, only 1
in 1,000 is a heart specialist, or a brain specialist, or some other kind of
specialist. Given this ratio, the implication is that with a population of only
4 million people integrated into the division of labor and able to support just
1 medical school, there can be only 4 such specialists. However, with a
population of 400 million people integrated into the division of labor and able
to support 100 medical schools, there can be 400 such specialists. With a
population of 4 billion people integrated into the division of labor and able to
support a thousand medical schools there can be 4,000 such specialists. And,
finally, with 6 billion people, constituting the whole population of the globe,
integrated into the division of labor and able to support 1,500 medical schools,
there can be 6,000 such specialists.
Now the larger the number of such specialists,
the larger is the number of intellectually gifted, ambitious people dedicated to
working on the special problems of their field, and thus the greater is the
likelihood of success in discovering new and improved methods of diagnosis and
treatment. Six thousand such specialists each on the lookout for advances, and
globally interacting with one another through medical journals, conferences, and
now the more rapid methods made possible by computers and the internet, are
almost certain to succeed in discovering more such advances than are 4,000 such
specialists, let alone only 400 such specialists.
This principle, that a larger absolute number
of intellectually gifted individuals dedicating themselves full time to solving
the problems of a field is more likely to achieve success than is a smaller
number of such individuals, applies to far more than just medical
specializations. It applies to every branch and sub-branch of science,
engineering, invention, and business innovation. It is the most important of all
economies of scale.
Looking at the same facts from a different
perspective, it should be clear that one of the greatest of all gains that
results from the division of labor is the ability of geniuses to devote their
full time to activities representing the discovery and application of new
knowledge. Such is the general nature of their specializations. Instead of
devoting their labor to growing their own food, they specialize to a high degree
precisely in such fields as science, engineering, invention, and business
innovation. The result is that instead of a particular pile of potatoes or rice
being produced here and there by such people, which is almost all they can
achieve in a non-division-of-labor society, new principles of science and
mathematics are discovered, and new products and new methods of production are
developed and brought to market. The rest of the population is taught to produce
products it could never have imagined, by methods it could never have conceived,
but which it quickly comes to value and is enabled to enjoy, thanks to the
efforts of the ingenious innovators.
The proportion of geniuses, or at least of
potential geniuses, to population is almost certainly pretty much the same
throughout the world. There should certainly be no doubt that there is
potentially the same proportion of Chinese and Indian geniuses as European and
American geniuses. But everywhere, the proportion follows the pattern of the
The most important economy of scale: the number of
intellectually gifted individuals dedicating themselves full time to
solving the problems of a field …
The fact that thus far only about one-sixth of
the world's population has been fully integrated into the division of labor,
implies that at the present time, the economic system of the world is operating
far, far below its intellectual potential. Across the interior of China and
India and the rest of Asia, across the interior of Africa and South America,
there are billions of human beings still living in a state of substantial
economic self-sufficiency, devoting most of their time simply to growing their
own food. Among these billions are many thousands with the potential of making
significant to major contributions to the productivity of labor throughout the
world, but who will never be able to do so, so long as the time that they might
have devoted to making advances in science and to improving products and methods
of production must instead be devoted to growing their own food.
With globalization, remarkable developments
will originate in what is today the middle of nowhere from the point of view of
the rest of the world, and then spread throughout the world. Equivalents of
Bentonville, Arkansas and Redmond, Washington will arise in what are now merely
very obscure locales in India and China and other countries even less familiar.
They will arise because major business talent will be able to appear and develop
in such places.
All over the world, far more refined and
differentiated wants and tastes will be able to be supplied. Goods and services
that only one person in a million may want become more likely to be worthwhile
producing when there are 6,000 such millions.
The tremendous surge in scientific and
technological progress and increase in the effective supply of business talent
that globalization will bring, will be a major foundation of the accelerated
economic progress that I have argued will be its result.
Of course, globalization will also mean that in
every branch of production, it will be possible to achieve the maximum of all
kinds of other economies of scale as well, consistent with the size of the
world's population. By its very nature, globalization will mean that every
factory, every productive establishment of any description, located anywhere in
the world, will be able to regard the entire population of the world as its
potential market and to produce on a scale corresponding to the market it
achieves. Larger-scale operations will mean that it will more often pay to use
machinery and more specialized machinery, because their cost will be spread over
more units of output, thereby reducing the cost per unit of product.
Globalization implies the achievement of further economies of scale in the
production of machines themselves, as the result of the greater frequency in
which their use will pay and thus the increase in the quantity in which they
will be produced.
Globalization and Capital Accumulation
Raising the productivity of labor almost always
requires the use of more and better capital goods, that is, such things as more
and better factories, tools, machines, and previously produced materials,
components, and supplies, dedicated to producing for the market. In the
countries of today's First World, generations have had to go by in order to
achieve their present-day supply of capital goods.
"The fact that only about 1/6 of the world's
population has been fully integrated into the division of labor
implies that at the present time, the economic system of the world
is operating far, far below its intellectual potential."
through a process largely of scrimping and saving, an economy employing oxcarts
and wagons and primitive iron forges became able to construct the first,
primitive railroads and steel mills. Then with the aid of those primitive
railroads and steel mills, it was possible to go on to produce more, bigger, and
better railroads and steel mills, which, in turn, were used in the production of
still more, still bigger, and still better railroads and steel mills, and
numerous other capital goods as well, whose design was made possible by
technological progress. Step by step, generation by generation, more and better
capital goods were employed to produce still more and still better capital
goods. The advances in capital goods in each generation were the foundation for
the production of the still larger supply of capital goods embodying the still
further technological advances of the next generation. This is a process that
can be repeated indefinitely so long as scientific and technological progress
and business innovation continue and an adequate degree of saving and provision
for the future is maintained.
Today, the most backward economies of the world
are able to skip over all of the generations that have had to go by to
accumulate the capital goods of the advanced countries. They can start off with
them, ready made, thanks to foreign investment.
As soon as they get modern capital goods, the
productivity of their labor begins dramatically to increase. To the extent that
they save and reinvest out of their resulting larger output, their increased
output is itself the source of still more modern capital goods for them. Thus,
for example, foreign investment supplies a backward country with a modern steel
mill, a substantial part of whose great output serves in the construction of
more such steel mills in that country. Or foreign investment provides the means
of producing a substantially increased volume either of capital goods or
consumers' goods that are exported and a substantial portion of the resulting
sales proceeds is used to import additional modern capital goods of various
In this way, with high rates of saving and
investment, on the pattern of Japan, South Korea, and Taiwan, a country that was
previously miserably poor can be transformed within as little as two generations
into a modern industrial economy, with a standard of living comparable to that
of the United States. High rates of saving and investment provide the ability to
take great and rapid advantage of the accumulated advances of generations in the
capital goods supply of the First World countries and are what makes possible
the very high rates of economic progress in previously backward countries. The
same pattern now appears to be taking place in important parts of China and in
other places in Asia.
Ricardo on Capital Accumulation: An Answer to the Fears of Capital Transfer
Recognition of the dynamic, inertial nature, as
it were, of capital accumulation belongs do David Ricardo. By this description,
I mean the fact that in raising the productivity of labor, an increase in the
supply of capital goods makes possible a further increase in the supply of
capital goods coming, in effect, out of the enlarged product itself. "Capital,"
Ricardo wrote, "is that part of the wealth of a country which is employed with a
view to future production, and may be increased in the same manner as wealth. An
additional capital will be equally efficacious in the production of future
wealth, whether it be obtained from improvements in skill and machinery, or from
using more revenue reproductively…."
"With globalization, remarkable developments will
originate in what is today the middle of nowhere from the point of
view of the rest of the world…."
The key point here is the recognition that more
capital goods results from such things as improvements in machinery, which is to
say, from a preceding increase in the supply of capital goods. And it itself, in
turn, is capable of bringing about a still further increase in the supply of
capital goods, potentially without any fixed stopping point.
This principle is extremely important in
considering the process of globalization. For it implies that so far is the
process from stripping advanced countries of their accumulated capital, that its
actual effect is ultimately to increase the accumulated capital of the advanced
Fear of the loss of capital from advanced
countries to the rest of the world has been expressed by Dr. Paul Craig Roberts.
Dr. Roberts fears the outflow of capital from the United States to impoverished,
low-wage countries. He states:
"The collapse of world socialism has made vast
pools of cheap and willing labor in Asia and Mexico available to US capital and
technology. The mobility of capital and technology means an Asian can work with
the same capital and technology as the American. However, the Asian does not
have to be paid the same wage. The large excess supply of labor in Asian markets
means that the market wage is far lower. Our approach to the world is based on
the assumption that we are experiencing free trade. If, instead, we are
experiencing the flow of factors of production to absolute advantage, our entire
trade policy will need to be revised."
There is a measure of truth in what Dr. Roberts
states, and we can illustrate it by means of the following example. Thus, assume
that an American firm is contemplating the investment of $10 million of capital,
to build a factory. Construction materials and the use of construction
equipment, along with the machinery to be installed in the factory, will cost $5
million of those $10 million. The remaining $5 million will have to be paid to
cover the wages and benefits of 100 American construction workers for a year, at
the rate of $50,000 per man.
In an impoverished country in Asia, however,
the cost of equally capable construction workers is only $1,000 per man. In
other words, a total labor cost of $100 thousand, instead of $5 million. The
construction materials, construction equipment, and the machinery for the
factory can all be shipped there. If the costs of transportation and any other
costs associated with construction and set-up abroad, amounted to $900 thousand,
the total cost of constructing the plant in Asia would still be just $6 million,
instead of $10 million. This, of course, is a powerful incentive for building
the plant in Asia. And, then, once the plant is built, whatever the number of
workers it needs for its operation can be found locally at a comparably small
fraction of the cost of employing American workers.
Exactly such considerations explain why a very
substantial amount of American manufacturing has moved offshore. It's just so
Now Dr. Roberts sees this movement of capital
offshore. But what he does not see is that the process is much more than just a
movement of a given amount of capital from one place to another. That much, or,
better, that little, is true in terms of monetary value, but in terms of actual
physical wealth, and, in this case, physical capital, there is a substantial
increase. Being able to obtain for $6 million what one would otherwise need
to spend $10 million for, makes it possible for that same $10 million to obtain
much more. It leaves $4 million of capital funds over for purchasing other
capital facilities, perhaps another two-thirds of a second such factory in Asia.
An American firm that invested in this way,
would be in a position to supply its customers with approximately two-thirds
more output for the same money, because it conducted its manufacturing
operations in Asia rather than in the United States. Even if it were the case,
as is so often claimed, that displaced American factory workers must end up as
mere hamburger flippers, the American economic system would have this additional
output plus all the extra hamburgers the displaced factory workers would
"Some critics of globalization do not understand how
it promotes capital accumulation and instead believe that it
deprives the advanced countries of capital."
To describe the situation when the factory (or
factories) have been completed and are up and running, the lower labor costs and
resulting lower prices to American buyers simply mean that American buyers get a
unit of a good for less money and have that much more money available to spend
on other things.
Imagine that the factory turns out television
sets. American-made television sets would have to sell for $200 to cover the
high cost of American labor. But these television sets made in Asia can be sold
profitably for only $100. Every American who buys one of these sets now has $100
left over to spend on other things. Workers no longer needed to produce American
television sets can now produce these other things, or replace other workers,
who now produce these other things.
Of course, that still leaves $100 of sales
revenues and earnings that have not been made up. We should expect those $100 to
be earned in producing American exports, to pay for the $100 of imports.
Immediately, however, people will probably point out that for many years the
American economic system has been badly deficient in exports. Exports have
fallen far short of imports. Our balance of trade and our balance of payments
have been chronically "unfavorable," chronically "negative."
Indeed, the American economic system has had a
chronic excess of imports over exports. And this would actually be utterly
amazing if the fears of Dr. Roberts and others who are concerned about the loss
of capital from the United States were valid.
Any capital that the United States or other
advanced countries might lose to the low-wage, impoverished part of the world
would be in the form of exports. Just as in the example of a moment ago
concerning a factory that costs $10 million to construct in the United States
but only $6 million in Asia, there would need to be the export of construction
materials, construction equipment, machinery, and also consumers' goods to
supply the Asian workers engaged in the construction.
But the truth is, for many years, rather than
exporting capital to the rest of the world, the United States has, on net
balance, been importing substantial sums of capital from the rest of the world.
This is clearly shown in Table 2, immediately below.
Table 2 Net Foreign Investment in the United States (in millions of US dollars)
US Investment Abroad
Foreign Investment in United
Net Foreign Investment in
China in particular has been a substantial
source of capital funds coming into the United States. This is true not only of
the direct investments Chinese firms have made, such as Lenovo's purchase of
IBM's ThinkPad line of laptop computers. It is also true of China's holdings of
over $500 billion of US Treasury securities. Even though these particular funds
are not invested in US business firms, they make it possible for these firms,
along with the US home-mortgage market and other users of credit, to have over
$500 billion of capital that the US Treasury would otherwise have drained away
from them in financing its deficits in competition with them for loanable funds.
Capital funds coming into the United States
from abroad, with China prominent in the list of the countries supplying those
funds, have made it possible for the United States largely to avoid the
destructive effects on capital accumulation of its government's policy of
deficit financing. They have also made it possible for Americans to import more
than they export. As I've explained, an efflux of capital from the United States
to the rest of the world would be manifested in the opposite condition, namely,
an excess of American exports over imports, with the excess constituting
America's contribution to capital formation abroad.
The truth is that at least as far as China and
much of the rest of East Asia are concerned, the base has already been laid for
rapid capital accumulation mainly on the foundation of what are now means of
production existing within the borders of that region.
East Asia is no longer a drain on Western capital, but, if anything, as we have
just seen, a source of capital to the West. This has been the case with
respect to Japan for many years.
There is nothing unusual or novel in this
relationship. In the nineteenth century, Europe was the source of much of the
capital used to develop the United States. But it was not very long before the
resulting great expansion of production in the United States made the US a major
supplier not only of consumers' goods but also of capital goods to
Europe. Capital accumulation in Europe was increased as the result of Europe's
investment of capital in the United States. And in exactly the same way, the
investment of capital in the western United States, made possible by savings
made in the eastern United States, soon so increased production in the western
part of the country that it became a source of capital accumulation in the
eastern United States.
Today, in addition to the fact that China is a
major source of financing the US Treasury's deficits, one can see its
contribution, and that of other East Asian countries, to the supply of capital
goods in the United States in such forms as computer chips and motherboards,
steel and automotive products, and electronic components of all kinds. The high
quality and low cost of these capital goods have become essential to the
competitive success of numerous American manufacturing firms.
Dr. Roberts, it thus turns out is probably at
least a decade out of date in his worries that the United States is being
drained of capital to build up the economy of China. China is now capable of
accumulating capital on a massive scale internally and of supplying capital to
others on a large scale.
"Dr. Roberts, it thus turns out is probably at least
a decade out of date in his worries that the United States is being
drained of capital to build up the economy of China."
This is probably not yet true of India, but to
the extent that India will need substantial capital from the outside world,
China will be present to help supply it along with the countries of the First
World. And then, within a generation or so, if India pursues economic policies
promoting capital accumulation to an extent comparable to those pursued by
China, India too will become a source of capital accumulation for the rest of
the world as well as for itself.
It should be realized that the economies of scale achieved by globalization—by
movement in the direction of globalization—are themselves a major
source of capital accumulation. This is true above all of the economies of scale
associated with the increase in the amount of human talent devoted to scientific
and technological progress and business innovation. These advances serve to
maintain or even increase the output that results from the use of additional
capital goods. They thus offset and possibly more than offset the operation of
the law of diminishing returns in connection with capital accumulation. As
Ricardo pointed out, since capital goods are themselves part of the output of
the economic system, anything which increases that output promotes capital
accumulation. Indeed, the
contribution that we can expect globalization to make to human prosperity will
very largely be precisely by way of its contribution to capital accumulation.
Capital accumulation, of course, is promoted by
all of the economies of scale that result from a widening of the market, i.e.,
from movement in the direction of globalization. For they too serve to increase
output, a major portion of which is capital goods.
The Anti-Globalization Arguments of Gomory and Baumol
While Dr. Roberts's fears are mistaken, his
argument has the virtue at least of being cogent. Unfortunately, the same cannot
be said of the critique of globalization and free international trade made by
Gomory and Baumol in their book Global Trade and Conflicting National
In contrast to Roberts, who worries about
competition from low-wage, backward countries that are becoming equipped with
modern tools and machines provided by First World countries, Gomory and Baumol
welcome such developments and instead worry mostly about competition from
countries that have reached a comparable level of economic development. They
When we [sic] does development abroad help and
when does it harm? Put somewhat loosely, our central conclusion is that a
developed country such as the United States can benefit in its global trade by
assisting the substantially less developed to improve their productive
capability. However, the developed country's interests also require it to
compete as vigorously as it can against other nations that are in anything like
a comparable stage of development to avoid being hurt by their progress…. Thus,
US interests are served by progress in trading partners such as India or
Indonesia, but the United States is better off staying as far ahead as possible,
in terms of productivity, of trading partners like France, Germany, or Japan.
In view of the apparently very different
positions of Roberts, on the one hand, and of Gomory and Baumol, on the other,
with respect to where the threat from foreign trade allegedly lies, it may seem
somewhat remarkable that they are typically grouped together as having presented
some kind of unified (and successful!) challenge to the doctrine of free trade.
Apparently, just any old critique will do if the purpose is to discredit free
While Dr. Roberts's fears are mistaken, his argument
has the virtue at least of being cogent. Unfortunately, the same
cannot be said of Gomory and Baumol …
The reason that Gomory and Baumol fear the
progress of comparably advanced countries or of countries drawing within range
of becoming comparably advanced is nothing more than that they fear the loss of
significant relative "national income" to those countries. Their analysis is
permeated—and fundamentally flawed—by the significance they attach to the
relative size of a country's national income.
National income, of course, is a concept very
similar and closely related to GDP. In fact, for practical purposes, it is
simply GDP minus capital consumption allowances. Thus all that I have shown
concerning the fundamental insignificance of a decline in a country's
relative or even absolute monetary GDP resulting from other countries' increases
in production applies equally to any decline in its relative or absolute
monetary national income that results from other countries' increases in
Gomory and Baumol proceed as if they have not
the faintest inkling of the distinction between "value" and "riches" and its
significance. Essentially, they are stuck at the most superficial level of
analysis in recognizing that gains in relative productivity by any given country
serve to reduce the monetary income, or at least the relative monetary income,
of other countries. It is on this basis that they conclude that there is a
conflict of interests among countries in international trade.
Not realizing the confession of economic
ignorance that they are making, they blatantly declare that "it is share of
world income that matters primarily in our model."
And they assert, "We have shown that if a nation loses its share of world
industries because its productivity lags or for any other reason, national
income and the nation's wage-earners are apt to be the ultimate victims."
Almost the entire substance of their
allegations of conflict in international trade rests on their confusion of
economic competition—and its resulting gain or loss of monetary income—with
conflict. They might as well—with equal lack of justification—allege that
conflict characterizes practically all other economic activity as well. This is
because within each country the various industries and business firms and, more
fundamentally, all individuals who seek to earn money, are in competition with
one another for sales revenues and incomes that are always necessarily limited
by the existing quantity of money and the desire of people to hold it. The
competition between countries for monetarily limited sales revenues and incomes
is fundamentally no different. Competition between countries and competition
within countries is essentially the same. In both cases conflict is a matter of
superficial appearance only. The actual substance of economic competition is one
of a profound harmony of interests.
In a free market, the way that the competitors
seek to obtain additional sales revenues and income is by increasing their
production in terms of quantity and quality. Competition intensifies their
efforts to do this. Because of competition each is given motive to strive to
increase his production as much as possible.
To the extent that in this process some
competitors succeed in increasing their production relative to that of other
competitors, they increase their sales revenues and incomes at the expense of
the other competitors. This is not a net or long run loss to the losing
competitors because, as I demonstrated earlier, the same process—the same
increase in production—that reduces the sales revenues and incomes of the losers
ultimately much more than equivalently reduces prices.
We have already had abundant illustration of
this principle in our example of today's First World countries increasing their
production fifty-fold over the next 100 years while the countries of the rest of
the world increase theirs by one-thousand fold in that time. The loss of
monetary income in the First World countries was so far exceeded by the fall in
prices that they ended up with fifty times their original buying power—as much
additional buying power as the increase in their production.
And, of course, when one allows for the increase in the quantity of money that,
under a gold standard, would take place as part of the process of a general
increase in production, the money incomes of the losers end up substantially
higher as well as their real incomes.
"Apparently, just any old critique will do if the
purpose is to discredit free trade."
Competition increases the real wealth and
income of all participants in the economic system not only by intensifying their
motivation to increase and improve their production, but also by providing them
with the material means of doing so. This last comes about as the result of the
availability of the larger, better, and less expensive supply of means of
production, i.e., capital goods, resulting from the competition of the producers
of the means of production.
It is certainly true that, other things being
equal, earning a higher income is preferable to earning a lower income and that
this principle can be applied to countries as well as to individuals. But the
principle applies only in the context of free competition, in which the higher
income is earned on the foundation of superior productive performance, not when
it is obtained on the basis of physical force and injury to others. In the one
case, there is a net increase in wealth; in the other, a net decrease. The
greater the pursuit of higher income by means of superior productive
performance, the greater the improvement in human well-being; the greater the
pursuit of higher income by means of physical force, including, of course,
government interference, the less the improvement in human well-being and the
greater the degree of impoverishment that results.
The higher income of a holdup man is unlikely
to be of much benefit to him, because the harm he does to others leads them to
take action against him of a kind that is likely ultimately to cause him a loss
greater than his previous gains. Similarly, the higher income one might earn by
means of sabotaging competitors or otherwise being installed in a position that
someone more capable should have had loses its value to the extent that others
get away with the same policy.
Thus, whatever I and my family might gain if
somehow I could be installed as the head of a major corporation, despite my lack
of qualification for such a job, would be more than lost back by my having to
deal in my capacity as a consumer with suppliers as deficient in competence as I
was. My loss would be driven home to me when I or a loved one died as the result
of incompetence on the part of a hospital or airline, or any one of many other
suppliers whose incompetence turned out to be a matter of life or death.
There is a net loss in every instance of the
violation of free competition. This is because of the restriction of production
that it entails. The party favored by the violation has more money income, while
the party harmed by the violation has equivalently less money income, and, in
addition, less is produced than otherwise would have been produced.
That restriction on production is the net, overall loss that results from
interference with the freedom of competition. The greater and more frequent the
violations of free competition, the greater is the general loss.
It is truly to the self-interest of everyone
that the ruling principle in economic life be that of free competition, in which
all jobs can be filled by those best qualified to fill them and all industries
can be in the hands of those best qualified to run them. This is the arrangement
that can provide great and progressively growing gains to all. Its success
depends on men—and countries—of lesser productive ability not being in a
position to forcibly usurp the position of men—and countries—of greater
productive ability, lest the whole economic system be greatly undermined in
terms not only of what it is currently able to produce, but, more importantly,
in terms of its ability progressively to increase production over time. This
last is the consequence insofar as interference with free competition undermines
the production of capital goods, and thus attacks the foundation on which future
Gomory and Baumol apparently do not realize
that the parties concerned with competition are by no means exclusively those
who win or lose a given competition. The whole rest of the society, national or
international, is concerned as well. Thus when the automobile outcompeted the
horse and buggy, it was not merely a matter with which auto producers and horse
breeders were concerned. Much more was involved than a gain to the one and a
loss to the other. There was a gain to the general consuming public from the
success of the automobile over the horse and buggy, a gain that ultimately even
the ex-horse breeders were able to share, once they found new ways to earn their
living. Similarly, to the extent that more recently the Japanese automobile
industry has come to offer better, less expensive automobiles than the American
automobile industry, this is a gain to buyers of automobiles in the United
States and throughout the world, and one which ex-American automobile workers
too can share once they find new ways to earn their living.
"Gomory and Baumol apparently do not realize that the
parties concerned with competition are by no means exclusively those
who win or lose a given competition."
Every time one industry or one country
displaces another in free competition, there is a gain to the general economic
system, because now the supply of goods produced is larger and better. Whatever
the workers in a given industry or a given country may lose in a given
competition, they make up over and over again as the result of all the
competition going on in the production of the goods and services to which they
are related only in their capacity as consumers, and, in addition, given the
time required to find new ways to earn their living, they gain even from the
competition that initially displaced them, just as ex-horse breeders and
blacksmiths ultimately gained from the automobile.
Thus if it is now Japan or China displacing the
United States in some cases, or Italy displacing France in some cases, or
Slovakia and Hungary displacing Germany in some cases, in each instance there is
a gain to consumers the world over insofar as the goods involved are exported.
And to the extent that the countries involved have economic freedom, their
workers are soon as fully employed as ever and in a position to take advantage
of the improved supply of consumers' goods that initially may have caused their
loss of employment.
Perhaps without being aware of it, the
essential policy prescription of Gomory and Baumol is the application of
physical force, in the form of government coercion, for the purpose of stacking
the international competitive deck in favor of the industries of one's own
country. For the most part, they appear as though they would be satisfied with
protective tariffs for "infant industries."
However, direct government subsidies to infant industries are not to be excluded
as well. And they positively
favor government spending in support of "basic research."
In the case of the United States, the authors do not recommend a more
comprehensive "industrial policy," i.e., what they describe as "an appropriate
role for the government in encouraging, guiding, and financing industrial
development"; however, they abstain from doing so only on purely pragmatic
grounds, and they apparently believe that it is suitable for other countries.
Their faith in the benefits of a policy of
protection for infant industries is so strong that more than once they imply
that it would be desirable to pursue a policy of outright autarky in
order to secure them, as when they assert that "no-trade can sometimes be better
for a country than trade" and refer to "a country stuck in an equilibrium that
is worse for it than autarky."
If one took these statements literally, keeping
in mind the dictionary definition of "autarky," they would imply that total
economic self-sufficiency is the path to economic development, and thus, for
example, that if Singapore, which has no farm land, wishes to develop its
electronics industry, it should, if necessary, cut itself off from foreign
sources of food.
We can assume that Gomory and Baumol have
simply expressed themselves rather badly here and do not really mean autarky but
only an exclusion of foreign goods limited to those in competition with the
products of the industries they wish to see developed domestically. If this is
so, then apparently what they believe is that if a country wants to establish a
motor-vehicle industry it is a good policy for it to prohibit the import of
motor vehicles, that if it wants to establish a machine-making industry, it is
good policy for it to prohibit the import of machines, that if it wants to
establish a computer industry, it is good policy for it to prohibit the import
of computers. Of course, such "good policies" overlook the fact that motor
vehicles are employed in the production of motor vehicles, machines in the
production of machines, and computers in the production of computers, and thus
that keeping out any of these goods undercuts the development of the very
industries the government supposedly wishes to promote, not to mention the
development of all other industries that depend on these goods, and also, of
course, immediately undercuts the general standard of living.
"Every time one industry or one country displaces
another in free competition, there is a gain to the general economic
system, because now the supply of goods produced is larger and
There is a further, wider point here that is
very similar. Namely, the foundation of the development of industries is the
accumulation of capital, and the essential basis of capital accumulation in real
terms is the ability to save out of real income. Real income, and thus the
ability to save and accumulate capital and establish industries, is higher
under free trade than it is under protective tariffs. The clear implication
is that the development of industries is fostered by a policy of free trade, not
a policy of protective tariffs, irrespective of whether or not the alleged
purpose of the tariffs is to protect "infant industries."
An analogy may be useful: I would like to go
into business for myself. But at present, my capital is so modest that the only
line of business I could afford to go into in the face of economic competition
is that of a hot-dog vendor with a pushcart, a line of business in which I could
make only the most meager living. I realize that I am far better off, instead,
working for someone else for several years and saving heavily out of my higher
income until I have enough capital to enter a more substantial and more
rewarding line of business.
If to encourage my premature entry into
business, the government were to give me some kind of monopoly privilege, say,
by making me the sole lawful seller of hot dogs in a ten-block radius, all that
would be changed is that instead of producing goods and services of greater
value, I would be providing hot dogs, which people would pay much more for than
otherwise. Their paying more to me would be at the expense of their paying
equivalently less to the sellers of other goods and services. Any greater
ability to save and invest that I might have would thus be at the expense of an
equivalently reduced ability to save and invest by others. The net effect from
the perspective of the economic system as a whole is that I would be producing a
less valued good or service instead of a more valued good or service. Production
and real income would thus be correspondingly less. Thus, the overall ability to
save and invest and establish new industries would be correspondingly less.
True, it may be that if I receive enough
government-provided loot at the expense of everyone else, I may be able to
establish a successful business someday after all. Then again, I may not be able
to. In the latter case, all that will have happened is that people have been
forced to sacrifice to provide me with capital, which I end up squandering. And
they meanwhile have been prevented from accumulating as much capital as they
otherwise would have.
But suppose I succeed and my business turns out
to be highly successful, more successful than the businesses of others would
have been whose potential capital was diverted to me. (With this kind of
potential success awaiting me, it's a mystery why I couldn't have persuaded
anyone voluntarily to entrust me with their capital, including the
bureaucrats who allegedly have all the necessary good judgment to spot such good
prospects as me but somehow never want to invest their own money or go out and
earn the kind of substantial income that investment bankers earn in arranging
for capital to be voluntarily provided by others.) In any case, in the course of
my success, I hire more and more workers, expand into foreign markets, and
actually help to increase the size of my country's economy relative to that of
the rest of the world. In a word, I help to bring general prosperity to my
country above all.
These last developments, it should be realized,
are precisely the kind of things that great businessmen in a free economy
routinely do. The United States became the world's overwhelmingly largest
economy precisely on the basis of the successes of its great businessmen, who
invested privately owned capital for private profit, under conditions of
substantially greater economic freedom than prevailed anywhere else in the
Ironically, no matter how successful my
business may be, if the foundation of its success was government
coercion—however improbable it may be that government coercion can ever be the
foundation of economic success—that coercion takes away any objective basis on
which to now label what I have achieved as a "success." Viewed prospectively, by
people being compelled against their will to provide financing for my business,
the value they attach to retaining their funds is greater than the value they
attach to any prospective success I may have. Precisely that is why they wish to
retain their funds rather than turn them over to the government and to me, and
do turn them over only under the threat of physical force—i.e., they pay their
taxes to avoid being hauled off to jail and offer no resistance to the tax
collectors to avoid being injured or killed in a physical struggle with them.
And viewed retrospectively, after my alleged
success, all those who were the victims of the coercion imposed to finance my
business can no more reasonably view the outcome as a success than the victim of
any other act of violence, such as an armed robbery or a rape, can view the
outcome as a success even in the highly unlikely event that the perpetrator is
in a position to pay substantial damages. In the nature of the case, no one who
values his own person can ever desire to be the victim of any act that overrides
the judgment of his mind and violates his freedom of choice, or accept the
existence of such acts without the strongest possible rejection and protest. In
the utmost favorable circumstances, Gomory and Baumol's policies could be a
success only to those who attached no value to themselves.
The ultimate foundation of economic success is
man's reasoning mind, which acts only on the basis its own voluntary free
choice. The position of Gomory and Baumol, and all other supporters of statism
and government intervention reduces to the absurdity of holding that the
violation of the essential foundation of economic success is the cause of
"The policies urged by Gomory and Baumol are based on
the existence of imaginary conflicts."
The policies urged by Gomory and Baumol are
based on the existence of imaginary conflicts. These imaginary conflicts are the
product of ignorance of sound economic analysis and a resulting misunderstanding
of the nature of economic competition. But these policies, based on imaginary
conflicts, are nevertheless capable of igniting real conflicts. This is
because their implementation can mean nothing other than governments acting with
the deliberate intent of benefiting their own citizens by means of inflicting
harm on other countries and their citizens. At the least, such behavior must
create an environment of international hostility. Beyond that, it serves to
war—war fought in the short-sighted, narrow-minded belief that one is
harmed by others' ability to produce whenever that ability necessitates that one
find a different field of production. It is war waged on the basis of the
mentality of Luddites writ large on the stage of international relations.
A discussion of globalization is incomplete if
it does not deal with the fears raised in connection with "outsourcing," i.e.,
the use of modern means of communication to make possible the performance of
services by lower-paid workers in foreign countries instead of by higher-paid
American workers. Prominent examples of outsourcing are the shifting of
telephone-support operations by software firms and by credit-card companies to
India, in order to take advantage of the vastly lower wage rates prevailing
there. Having MRIs read by radiologists in India, who are paid a fraction of
what American radiologists earn, is another example.
Contrary to the negative associations it has,
outsourcing serves to reduce the prices that Americans pay by more than it
reduces their incomes. In fact, on overall, net balance, under today's monetary
conditions, it does not even reduce the money income of the average American
worker at all, while it does reduce the cost of production and price of some of
the things that he buys. The reason for these results is that the reduction in
cost of production, and ultimately in the price of a service that is outsourced,
corresponds to the extent to which the relevant wage rates in India, or wherever
else, are lower than those in the United States. At the same time, however, the
fall in income of the American workers whose jobs have been outsourced is much
less than this, and in the economic system as a whole, a fall in income is
Thus, for example, assume that workers who
provide telephone support to software buyers or credit-card holders must be paid
$15 per hour in the United States, while comparably good workers can be employed
in India at $1 per hour. The cost saving will probably not be as great as a
reduction to one-fifteenth of its original amount, because now there is the cost
of setting up and maintaining a longer-distance and probably more elaborate
communications network. So let's say that when allowance is made for this
additional cost, the cost works out to be the equivalent of Indian workers
having to be paid $1.50 per hour. Thus the cost is ten percent of what it was.
Now when there are cost reductions, competition
operates sooner or later to bring about corresponding price reductions, just as
when there are cost increases there will sooner or later be corresponding price
increases. To the extent that the cost of producing something is reduced by
ninety percent, the corresponding part of its price will also tend to be reduced
by ninety percent.
At this point, we must ask why the American
workers who had been earning $15 per hour do not meet the competition of the
Indian workers and retain their jobs by agreeing to work for just under $1.50
per hour. To ask the question is to answer it. There is no thought of meeting
the competition of the Indian workers in this way because the alternatives
available to the American workers while perhaps significantly less than $15 per
hour are still far, far in excess of $1.50 per hour—say, $10 or $12 per hour.
"Contrary to the negative associations it has,
outsourcing serves to reduce the prices that Americans pay by more
than it reduces their incomes."
Thus here we have a case in which the cost of
production, and ultimately the price of something that Americans will pay, falls
by ninety percent, while the wages of the affected workers fall by much less:
twenty percent or thirty-three and a third percent. It should be obvious that
the more widely that cases of this kind could prevail, the more would the
American standard of living rise. If only everything that we now produce could
fall in cost of production and price by ninety percent while our wage rates fell
by only twenty percent or thirty-three and a third percent!
Of course, if one looks only at the situation
of an isolated group of workers, such as the telephone-support workers, the
decline in income is far more pronounced than any decline in the overall level
of prices the members of this group must pay. Their incomes fall twenty percent
or more, while at most it is only the prices of a very small segment of things
that falls by ninety percent. But by the same token, in every such case the
immense majority of Americans gets the benefit of some reduction in cost and
price with no reduction in income. For example, all the people who earn their
livings other than as telephone support workers or radiologists and whose
credit-card fees and charges for tech support are less than they would otherwise
have been and who can get their MRIs less expensively. They, the immense
majority, get the benefit of lower prices with no reduction in income whatever.
And as is very often the case—indeed, perhaps is more often the case than not—if
the former telephone-support workers and radiologists could once again acquire a
level of skill and ability in different lines of work sufficient to enable them
to earn as much as they previously earned, then the long-term effect of
outsourcing on them would be no different than it is on everyone else, namely,
they would simply have the benefit of buying more efficiently produced services
at lower prices.
Actually, the case of outsourcing is
fundamentally no different than the case of adopting labor-saving machinery. The
reason that machinery has again and again replaced workers in particular jobs is
that the machines so reduce the cost of production that the only way that
workers could retain their jobs would be by accepting wage rates far below those
that are readily available to them elsewhere in the economic system. For
example, workers using hand tools could have met the competition of workers
using highly efficient machinery and thereby turning out hundreds of times more
product per hour than they, if they had been willing to work for, say, a penny
an hour. Then the unit cost of production by means of using hand tools would
have been as low as the unit cost of production by means of using the highly
efficient machinery. However, the hand-tool workers didn't dream of trying to
become competitive with the machines in this way. They didn't, because jobs were
readily available to them, or were expected soon to be available to them, at
incomparably higher wage rates than a penny an hour. Outsourcing to India (or
anywhere else) is thus essentially the same as that of substituting machinery
for human labor, and, as far as it goes, is comparably beneficial to the
American standard of living.
It does not cause unemployment, any more than
labor saving machinery causes unemployment. And, as stated, it does not even
reduce money wage rates on overall net balance.
Outsourcing does not cause unemployment because
the American workers no longer required in the jobs that have been outsourced
are now needed to produce goods and services that Americans will buy with the
money they save in buying the goods whose production has been outsourced. Or
they will be needed to replace workers leaving to take such jobs. And to the
extent that there may be some lapse of time before the prices of the outsourced
goods fall and the savings of consumers in those lines materialize, the American
producers of the outsourced goods have the funds available from saving on their
cost of production. Thus, to the extent that the customers of the software firms
and the credit-card companies may not yet have funds available to spend
elsewhere in the economic system, the software firms and the credit-card
companies themselves certainly do. Either way, there is the basis of new
"If only everything that we now produce could fall in
cost of production and price by 90% while our wage rates fell by
only 20% or 33%!"
And then, of course, there are additional new
employment opportunities in producing exports, as the Indian recipients of
dollars spent by the firms engaged in outsourcing in turn spend those dollars in
buying American goods and services (or buy from others who do this). To the
extent that the Indian recipients invest the funds in the United States instead
of buying imports from the United States, then there will be additional
employment opportunities in producing capital goods in the United States. The
net upshot is that the same total labor will be employed, though in different
lines of work than before in the case of those whose previous jobs have been
outsourced, and will produce a larger total output.
Instead of producing the services now being
outsourced, a much smaller quantity of American labor suffices to produce
exports, or capital goods made possible by foreign investments. This smaller
quantity of American labor serves to bring in the same supply of services from
India as was previously produced in the United States. The rest of the labor
previously used in the production of the services that are now outsourced, and
not required in these ways, is the labor saved in their production. It is the
labor that now makes possible an expansion in the overall production and supply
of goods in the United States.
The quantity of money in the United States is
not reduced by any of these operations and thus there is no basis for overall
spending in the United States being reduced either. And to whatever extent the
quantity of money might be reduced, say because Indians wish to add some of the
dollars they have earned to their cash reserves, the reduction is more than made
up by the continuing increase in the overall quantity of money, an increase that
we have seen would occur even under the purest gold standard, though, of course,
at a less rapid rate than is the case today.
The only reasonable conclusion to be drawn from all this is that the overall
average of money wage rates does not fall as the result of outsourcing. This is
because the economy-wide aggregate demand for labor will be rising and almost
certainly rising as fast or faster than any increase in the overall aggregate
supply of labor.
Competition, Comparative Advantage, and Capital Accumulation
The preceding discussion of outsourcing
illustrates the fact that innovation and competition continually change the
specifics of comparative advantage, i.e., that which it is relatively most
advantageous for a country or an individual to produce. Prior to the advent of
modern, high-speed communications, comparative advantage did not include
outsourcing. Today, as we have seen, it certainly does. The innovations that
resulted in computers, the internet, and greatly improved telephone
communications, and the further innovation of seeing how these developments
could be fitted together to make possible outsourcing, have given India a
comparative advantage that until recently it did not possess. They have also
changed what constitutes comparative advantage for the American workers who have
been displaced by Indian competition.
"The case of outsourcing is fundamentally no
different than the case of adopting labor-saving machinery."
The changing, dynamic nature of comparative
advantage is something that has apparently escaped Gomory and Baumol. They
appear to believe that comparative advantage is something that once present
should thereafter be fixed in its specifics for all time, and when they observe
the repeated contradiction of this belief by the facts of reality, they describe
the contradictions as matters of historical accident that are independent of
market forces. Thus, they write: "In the wine-wool world, market forces, driven
by demand and natural advantages, led the world to a single outcome. In today's
world, market forces do not select a single, predetermined outcome, instead they
tend to preserve the established pattern, whatever that pattern may be."
Gomory and Baumol fail to realize that what the
market forces are preserving is precisely comparative advantage and that the
comparative advantage was established by market forces emanating from
innovation, including that entailed in responses to changes in circumstances.
(Indeed, they themselves write: "A war may force some country to invest heavily
in some military product, like aircraft, or to develop a chemical industry
because the country is cut off from its traditional supplier. Or a single,
farseeing entrepreneur can start a company that inaugurates an industry."
) At the same time, they complain about the difficulties of entering into an
established industry with high capital requirements and extensive networks of
dealers and suppliers without large-scale government aid,
all the while not realizing that what they are complaining about is nothing
other than the difficulties of overcoming someone else's comparative advantage
when there is as yet no market-based reason to do so.
But enough of Gomory and Baumol. It is
necessary to turn to the relationship between comparative advantage and capital
We have seen that what enables a previously a
backward country to begin to compete successfully with more advanced countries
is the investment of capital in its territory. This serves dramatically to raise
the productivity of its labor, which, combined with its prevailing low level of
wage rates, gives it substantially lower costs of production and thus a
corresponding advantage over its competitors in the more advanced countries with
their higher level of wage rates.
As rapid capital accumulation proceeds in what
has up to now been a backward country, it becomes a growing supplier in one
industry after another, correspondingly displacing the producers within the
countries to which it exports. Thus China and other East Asian countries now
supply us with a major portion of our shoes, clothing, and electronic goods, and
the domestic production of these goods has virtually ceased.
Just as in the case of outsourcing, but on a
larger scale, the effect is not unemployment in the United States, but a
redirection of employment, into lines whose expansion is made possible by means
of funds released from the production and purchase of manufactures. Thus, by
virtue of being able to buy their shoes, clothing, and electronic goods more
cheaply, people have more money available for such things as the purchase of
homes and the making of home improvements, for travel and leisure, and all
manner of other services. And it is in these lines that new employment
opportunities appear. The consequence is that there is no tendency toward a
higher rate of unemployment as the result of foreign competition, but merely a
change in the lines in which our comparative advantage now lies and thus a
corresponding change in specific parts of the economic system in which we are
If not thwarted by opposing developments, such
as the rising costs imposed by environmental legislation and other government
intervention, the effect of getting more and more of our manufactures more
economically from abroad than we can produce them at home is to raise our
standard of living. We no more suffer from the cheapness of foreign labor in
producing the things we buy than we do from the cheapness of using machinery in
the production of the things we buy.
"Innovation and competition continually change the
specifics of comparative advantage…"
In responding to the changing pattern of
comparative advantage a critical factor is the availability of newly accumulated
capital to be invested in the lines into which labor must now move and which
must take the place of the capital lost in lines of production in which we no
longer have a comparative advantage. To the extent that government policies of
budget deficits, inflation, and progressive income and inheritance taxation
prevent the accumulation of this new capital and of the further, additional
capital that economic progress requires, there is a genuine economic problem,
one that does represent a threat to the standard of living of the average
Any form of government regulation that serves
to reduce output per unit of capital invested is also a threat to capital
accumulation and the domestic standard of living. As we have seen, capital goods
are produced by means of the application of labor and existing capital goods.
Anything that reduces the output of a given quantity of labor and capital goods
or, what is equivalent, requires the application of more labor and capital goods
to accomplish the same result, serves, other things being equal, to reduce the
production of capital goods. Environmental legislation that requires substantial
additional capital investment but results in no additional output thus operates
to reduce the ability to produce and accumulate capital goods.
In sum, the real threat to the American
standard of living comes not from foreign competition but from misguided
economic policies of the American government, enacted on the basis of the
mistaken beliefs and plain ignorance of millions upon millions of American
voters about what benefits them and what harms them economically.
Historically, what underlay America's pattern
of comparative advantage, including its ability to have wage rates far higher
than those prevailing in the rest of the world and yet not to be widely
undersold, was its radically higher productivity of labor. The productivity of
labor in most of the rest of the world could not remotely approach that of the
United States because the conditions required for substantial capital investment
in most of the world were lacking. What was lacking were the security of
property, economic freedom, and the enforcement of contracts. In their absence,
there was no significant prospect of profit from investing in the backward
"Any form of government regulation that serves to
reduce output per unit of capital invested is also a threat to
capital accumulation and the domestic standard of living."
What is different now is that in important
parts of the world the conditions for foreign investment have become much more
propitious. China in particular, at least in several major provinces, has gone
from a bastion of communism to a form of capitalism. The security of property,
economic freedom, and the enforcement of contracts are now present in China to
an extent that has made substantial investment, foreign and domestic,
worthwhile. But these necessary conditions still exist in China in a more or
less precarious state and to a substantially lesser degree than they exist in
the United States, and to a radically lesser degree than they would exist in the
United States if the US were once again to adopt the degree of economic
liberalism that characterized most of its history.
These fundamental political-cultural advantages
of the United States undoubtedly explain its continuing attraction to foreign
investors the world over. If the United States were once again to become the
bastion of economic freedom that it was in the past, its attractiveness to
foreign investors would be substantially further increased. And more than that,
it would benefit far more from any given amount of foreign investment, because
instead of going largely into the financing of US government budget deficits,
the foreign investment would go into building up the actual capital of the
country. And, of course, domestic capital formation would greatly increase and
take place at a substantial rate. In addition, capital, foreign and domestic,
invested in the United States would be employed more efficiently and more
productively, thereby bringing about further capital accumulation and tending
progressively to raise the productivity of labor in the United States at a
substantially higher rate than is presently possible.
In this way, the United States might retain and
even increase the proportion that its economy represents of the world economy,
at least until the time came that other major countries adopted its degree of
respect for property rights and economic freedom.
I confess to being something of an American
nationalist. I do not look forward to the United States declining to a share of
the global economy that is commensurate merely with its relative population.
Restoration of America's traditional policy of economic liberalism, indeed, a
more consistent and complete implementation of that policy than was achieved
historically, would serve to postpone that day. If and when that day finally
came, it would come only because the whole world had finally become as
"American" in its values and institutions as the United States itself originally
set out to be. At that point, American nationalism would be redundant and cease
to have any purpose.
Whether or not globalization will continue and
reach its ultimate potential depends on the global acceptance of America's
traditional values of private property rights and economic freedom. The once
seemingly insuperable obstacle of socialism has been swept away.
Environmentalism, which is merely an enfeebled, primitivized reincarnation of
socialism's hatred of capitalism, remains. It too will need to be swept aside if
the world's presently backward countries are to have access to the raw materials
they must have in order to achieve a modern standard of living. And, of course,
it will also be necessary for the world's rogue states to be deprived of the
ability to inflict harm on their neighbors or in any other significant way to
harm the further development and maintenance of the global division of labor.
If these things can be accomplished and if the
philosophy of economic liberalism can take hold across the world and further
intensify in the areas in which it already has taken hold, then for the first
time in human history a truly global economic system will be achieved, bringing
unprecedented prosperity and economic progress everywhere.
George Reisman, Ph.D. is Pepperdine University Professor
Emeritus of Economics and is the author of
Capitalism: A Treatise
on Economics. His web site is www.capitalism.net and
his blog is www.georgereisman.com/blog/.
Copyright © 2006 by George Reisman. All rights
Typographical layout by BK
Marcus of the Ludwig von Mises Institute.
There are also fears of globalization in the backward countries. Their analysis
is not part of the present discussion.
On the subject of the division of labor as constituting social cooperation and
on the nature and significance of its progress or decline, see Ludwig von Mises,
Socialism: An Economic and Sociological Analysis (New Haven: Yale
University Press, 1951) pp. 289–313. For an explanation of the advantages of
production under division of labor, see George Reisman, Capitalism: A
Treatise on Economics (Ottawa, Illinois: Jameson Books, 1996), pp. 123–128.
(Hereafter, this book will be referred to simply as Capitalism.)
The actual population of the world is currently 6.5 billion. But 6 billion is
close enough and is easier to work with.
The classical economists' concept of demand turns out to have little or no
application at the level of an individual firm or industry, because the amount
of expenditure to buy goods or services in such cases can virtually never be
taken for granted. There are many cases in which a doubling of supply would
result in a reduction in prices of much more than half, and as many others in
which it would result in a reduction in prices of much less than half. In
contemporary terminology, the outcome depends on the "elasticity of demand,"
which the classical economists essentially ignored. The actual reason the
classical concept of demand doesn't apply at the level of the individual firm or
industry is the existence of competition among the different firms and
industries. A change in the price of any one good or service relative to that of
others causes changes in its ability to compete with other goods and services
and thus results in changes in the pattern of expenditures among the various
goods and services. But at the level of the economic system as a whole, all such
competition and spending changes cancel out. If people possess the same quantity
of money and have the same preferences concerning the holding of money, their
total aggregate expenditure, however apportioned among the various individual
goods and services, will tend to be unchanged, irrespective of the aggregate
supply of goods and services produced and offered for sale. This is the finding
consistent with the quantity theory of money, which holds that, other things
being equal, the volume of spending in the economic system is determined by the
quantity of money in the economic system. It follows from the quantity theory of
money that, other things being equal, aggregate spending will remain the same if
the quantity of money remains the same.
As can easily be verified on a pocket calculator or a spreadsheet, 1.03100
equals 19.21, which is not much less than a 20-fold increase.
The situation would not actually be one of depression. This is because the
decline in spending would not be general, that is, apply to the economic system
as a whole. It would be one of a major gradual decline in a major segment of the
economic system relative to the economic system as a whole. As we have seen the
economy of the rest of the world would gain monetarily to the same extent as the
old First World lost. A good partial analogy would be the relative decline of
agriculture that accompanied the process of industrialization in the 19th and
20th centuries within the First World countries.
It must be recalled that 5/24 divided by 1/240 equals 5/24 times 240, which
reduces to 5 times 10.
Here we need to recall that 4, or more precisely 4 and 1/6 divided by 1/240
equals 4 and 1/6 times 240, which, of course, is 1000.
Ricardo's Principles contains a chapter actually titled "Value and
Riches, Their Distinctive Properties," but his best illustration of it occurs in
Section VII of Chapter I, where he shows how all members of society can grow
richer even though total profits and total wages move in opposite directions.
The inflationary increase in the money supply is a factor that operates to
undermine economic progress. For an explanation, see the author's
Capitalism, op. cit., pp. 922–950.
The existence of paper money, including a different paper money in each country,
would not fundamentally affect the proportion in which the global money supply
was apportioned among the different countries, nor the relative size of their
respective GDPs. Exchange rate depreciation would counteract increases in the
quantity of a country's money, thereby preventing such increase from increasing
the country's share of the global money supply or global GDP. Indeed, the
depreciation in the foreign exchange value of the money of countries with
especially rapid rates of increase would be so great as to reduce the proportion
of the world's money supply represented by their currencies below what it would
otherwise have been, and likewise for its GDP. For a closely related discussion,
see ibid., pp. 940–941.
This in fact is the title of Chapter III of Book I of The Wealth of Nations.
All the numbers here have been chosen purely for the sake of illustrating the
principle. They may be very different than the actual corresponding numbers in
the real world.
I've taken this illustration concerning physicians and specialists, and its
further implications, from Capitalism, op. cit., pp. 359–360.
Concerning the process of capital accumulation, see, ibid., pp. 557, 622–642.
On this subject, see Ludwig von Mises, Human Action, 3rd ed. rev.
(Chicago: Henry Regnery Company, 1966), pp. 496–499.
An essential foundation of high rates of saving and investment is the security
of private property and the enforcement of contracts. It remains to be seen to
what extent China can be relied upon to meet this requirement, given the
communist roots of its government. The recent pronouncements of China's current
President, Hu Jintao, concerning building a "harmonious socialist society" and
the Chinese government's moves to empower labor unions do not bode well.
David Ricardo, Principles of Political Economy and Taxation, 3rd. ed.,
rev. (London, 1823), chap. XX.
Ricardo himself appears to have anticipated Dr. Roberts's fear. He did not
always realize the implications of his doctrines or apply them consistently. In
a passage in his chapter "On Foreign Trade" he wrote: "Experience, however,
shows that the fancied or real insecurity of capital, when not under the
immediate control of its owner together with
the natural disinclination which every man has
to quit the country of his birth and connections, and intrust
himself, with all his habits fixed, to a strange government and
new laws, check the emigration of capital. These feelings,
which I should be sorry to see weakened,
induce most men of property to be satisfied with a low rate of
profits in their own country, rather than seek a more advantageous employment
for their wealth in foreign nations." (Italics supplied.)
Statement of The
Honorable Paul Craig Roberts, Ph.D, before
the United States-China
Economic and Security Review Commission, Washington, D.C., September 25, 2003.
This example is classic Henry Hazlitt. See his Economics In One Lesson,
New ed. (New Rochelle, New York: Arlington House Publishers, 1979), Chapter XI.
The American workers who we might have expected to produce exports have instead
produced goods purchased with funds provided by foreign investment.
Source of the data used in the table: Bureau of Economic Analysis, U.S.
International Transactions, 1960-present, XLS,
Table Creation Date: March 13, 2006, Release Date: March 14, 2006.
This conclusion is confirmed in The New York Times of April 29, 2006.
There, in an article titled "Forests in Southeast Asia Fall to Prosperity's Ax,"
one reads, "Over all, Indonesia says it expects China to invest $30 billion in
the next decade, a big infusion of capital that contrasts with the declining
investment by American companies here and in the region." Of more fundamental
significance is that, according to the China Iron and Steel Association, China
is expected to produce 277 million tons of steel this year. In the United
States, steel production is currently only about 100 million tons per year.
A further explanation of how capital accumulation is promoted in all such cases
See above, the earlier discussion of Ricardo
on the subject of capital accumulation.
For a fuller explanation of the process of capital accumulation, see
Capitalism, op. cit., pp. 622–642.
Ralph E. Gomory and William J. Baumol, Global Trade and Conflicting National
Interests (Cambridge, Massachusetts: MIT Press, 2000). Hereafter, this book
will be referred to simply as "Gomory and Baumol."
Ibid., pp. 4–5.
See ibid., pp. 21–166, passim.
In addition to the book's very title, explicit assertions of conflict in
international trade occur repeatedly in their book. See, for example, pp. 4, 9,
10, 24, 26, 32, 36. 52, 58, 61, 63, 68, 72, 99, and 107.
The full sentence in which these words occur is "While it is share of world
income that matters primarily in our model (regardless of the identity of the
industry that contributes it), industries in which a retainable position can be
established are those that offer the most substantial prospect of a long-term
gain in share." Ibid., p. 64.
Ibid., p. 72.
For a full account of the harmony of interests represented by economic
competition and a refutation of opposing views on the subject, see the author's
Capitalism, op. cit., pp. 343–374. These pages include a
demonstration of how even individuals who lose invested fortunes as the result
of competition still enormously gain from the existence of competition.
See above, the discussion of the increase in the
quantity of money that under a gold standard would accompany the increase in
See, for example, Gomory and Baumol, op. cit., pp. 25, 144, 147, and
Ibid., p. 144.
Ibid., p. 66.
Ibid., p. 65.
Ibid., pp. 25, 96. See also, pp. 97 and 183, n. 3.
Not surprisingly, that arch-Keynesian and critic of economic freedom, Paul
Samuelson, totally misunderstands these facts and explains the former special
prosperity of the United States on the basis of Americans having simply been
born with silver spoons in their mouths. He writes, "Historically, U.S. workers
used to have kind of a de facto monopoly access to the superlative
capitals and know-hows (scientific, engineering and managerial) of the United
States. All of us Yankees, so to speak, were born with silver spoons in our
mouths—and that importantly explained the historically high U.S. market-clearing
real wage rates for (among others) janitors, house helpers, small business
owners and so forth." I hope I will be forgiven when I say that Samuelson's
statement is one of such ignorance that it simply begs for a reply along the
lines of one that became popular in a recent presidential campaign, namely, "it
was the economic freedom, stupid." (Samuelson's statement appears in his
essay "Where Ricardo and Mill Rebut and Confirm Arguments of Mainstream
Economists Supporting Globalization," Journal of Economic Perspectives,
vol. 18, no.3, Summer 2004, p. 144.)
See above, the discussion of gold.
Gomory and Baumol, p. 7.
Cf. ibid., p. 6.
See above, the discussions of capital accumulation.
For elaboration of this point, see Capitalism, op. cit., pp.
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