Ahearne, Part I Chapter 4

Stephen Hobden, The Developing World in the Global Economy

This chapter and the following interlinked one provide an overview of the
international context in which politics in the developing world operates. In this
chapter the focus is on the global economy. Over the past fifty years there has
been a general increase in global economic integration, often described as
globalization. The chapter focuses on three key features of the global economy
—trade, foreign direct investment, and financial flows—discussing their
significance for the developing world. As the first decade of the twenty-first
century comes to an end, the character of the global economy is marked by two
distinguishing features: the most profound economic dislocation for eighty
years; and the gradual erosion of the economic dominance of the ‘North’
(specifically Europe and North America).
Introduction: Trends in the Global Economy
Global economy: all international economic transactions that occur across
national borders : trade, financial flows and foreign direct investment ((FDI).
 Growth in the value of trade: Yet, despite the developing world’s increasing
inclusion in the global economy, few of the benefits from trade appear to
have reached the large proportion (1.4 billion people, or one in four of the
human population) of the globe’s population who live in absolute poverty
(less than US$1.25 per day). Indeed, although the developing world
increased its share of world manufacturing output from a mere 5 per cent
in the early 1950s to close to 25 per cent by the end of the century, much
of this was accounted for by only a handful of countries, which include
China, Brazil, South Korea, and Taiwan (Dicken 2003: 37). The same is true
of the increase in merchandise exports, where again China and Hong Kong
dwarf other exporting countries such as Mexico, Singa¬ pore, and Taiwan.
 Evidence of trade between different social groups for as long as written
records have existed. End 19th century: Africa & Asia included in the
European empires: trade between colonial powers and subject states
provided the bulk of trade between First and Third worlds. colonies
provided guaranteed sources of essential raw mate¬ rials, and also
markets for manufactured goods from the metropolitan centres. One
historian of empire notes that ‘Britain prospered ... by manufacturing
articles for sale abroad, which her customers paid for in raw materials and
food’ (Porter 1996: 4). An international division of labour developed in
which European powers exported manufactured goods to the colonies and
imported the materials needed to make these goods (McMichael 2008: 31-
42).
 US (outside segmented economic system of colonies). At the outbreak of
the Second World War, planners in the United States started to think about
what the post-war eco¬ nomic and political order might look like. Atlantic
Charter (1941) at its core: commitment to the end of empire and the
creation of an open world economy.
 Decolonization. Cold war: world economy segmented by the European
colonies was replaced by a world economy divided between, on the one
hand, the USA, its allies and client states, and, on the other, the Soviet
 Union, its allies and client states. These systems resembled in many ways
the imperial systems that had preceded them, in the sense that the cores
provided manufactured goods whilst developing countries were major
sources of raw materials.
 One major attempt to overcome this reliance on the export of raw
materials was the development of a policy of import-substituting
industrialization (ISI). The promotion of local manufacturing was seen to
have several advantages. It would employ local labour and thereby reduce
unemployment, and allow production of manufactured goods at prices
lower than available on international markets. Producing locally would
reduce imports, potentially allow some of the production to be exported,
and promote the introduction of new technology. To allow local industries
to develop without competition, tariffs were imposed on imports. ISI is
generally regarded as having been a failure for the developing world. In
general, it did not promote the stated objectives, but resulted in rather
inefficient government-owned industries that were unable to compete
internationally. Reason; reluctance to move towards reducing the tariff
walls so that the industries are forced to compete internationally.
Particularly in Latin America, pressure was put on governments to maintain
subsidies and high levels of protection underpinning the industries. Finally,
ISI did not even break the reliance on imports: instead of relying on
imported manufactured goods, the countries became reliant on the import
of ma¬ chine tools, spare parts, and specialized knowledge. Although ISI is
normally now depicted in nega¬ tive terms, it should be remembered that
much of European and US industrialization occurred behind tariff walls, and
that the success of the newly industrializing countries of East Asia de¬
pended to varying degrees on this approach
 Close of the first decade of the 21 st century 2 important features of the
global economic system: major dislocation in the economic system and
shift in economic power from Europe and North America to Asia.
Key Points:
- The global economy can be considered as comprising three main
activities that occur across national borders: trade; investment;
and financial movements. There is a long history of trade between
different societies, although large-scale FDI and financial flows are a
relatively more recent feature of global economic activity.
- During the period of European colonialism, the major pattern of trade
was for the colonies to export raw materials, while the metropolitan
cores exported manufactured goods. These structures of trade
have persisted into the post-colonial period.
- Following the end of the cold war, it is possible to talk about the
emergence of a global economy—a single, capitalist system. Two
contemporary features mark the global economy: a significant
slowdown in economic activity and a shift in economic power to
Asia.
Globalization
Globalization is a term much used in contemporary social sciences. Some
suggest that it ‘might justifiably be claimed to be the defining feature of human
society at the start of the twenty-first century’ (Beynon and Dunkerley 2000: 3).
However, it is a deeply problematic term because there is no accepted definition,
and little agreement about how to measure the process or even whether the
term provides a useful way of assessing contemporary global developments
(Hirst et al. 2009).
O’Brien and Williams define globalization as ‘an uneven process whereby the
barriers of time and space are reduced, new social relations between distant
people are fostered and new centres of authority are created’ (2007: 133).
When we turn to the developing world the key argument is about whether
globalization increases or decreases levels of poverty. As with the discussion over
definition and measurement, there is little agreement over the impact. Here are
two rather divergent views: .
“Globalization has been a force for higher growth and prosperity for most,
especially for those in the bottom half of the world’s population.” (Bhalla 2002:
11)
“Globalization speeds up the economy magnifying the chasm between [rich and
poor]. Both at home and abroad, the extremes of wealth and deprivation l I have
become so great that the stability of the global system is threatened.” (Isaak
2005: xxi)
How are such divergent views possible? One reason is that that there is no
agreement as to what constitutes poverty. Should poverty be measured in
absolute or relative terms? The most widely used absolute measure of poverty is
the World Bank’s figure for the number of people living on little more than a
dollar a day. Measures of relative poverty compare the proportion of global
wealth enjoyed by the richest people in the world com¬ pared to the poorest.
Although the figures are disputed, most absolute measures suggest that poverty
is declining (there are fewer people living on less than a dollar a day), whilst
relative measures suggest that poverty is increasing (the gap between the
richest and poorest is getting wider). Attitudes towards globalization may depend
on the way in which poverty is measured. The picture is complicated when the
situation within countries is also considered. The population of China living on the
country’s eastern edge has benefited much more from the country’s recent rapid
growth compared to the large rural population living on the western side.
Globalization is best understood as a multifaceted process that affects different
countries and different social groups within countries differently. Most observers
would agree that levels of inequality have in¬ creased, both nationally and
internationally, while levels of absolute poverty, when examined globally, have
decreased.
Trade
Patterns of global trade
 2nd half of the 20th century: rate of growth of trade outstripped that of
production: world trade increased almost twenty times while production
increased only six-fold (Dicken 2003: 35). But subject to fluctuation.
  World trade relatively concentrated (see table 4.1)

Relative Shares in Global Exports by Region and for Selected Countries (2007):
Merchandise: developed world = 58% and developing world = 38%
Services: developed world = 38% and developing world = 25%
The promotion of free trade
 The relative prosperity of the developed world during the latter half of the
twentieth century is linked by many economists to the rapid rise of global
trade. Washington consensus (unimpeded trade will lead to a material
benefit to developing countries is a core idea of the neo-liberal agenda)
=> The ‘consensus’ denotes the primacy of related ideas in the World
Bank and the International Monetary Fund (IMF). Policies based on the
theory of comparative advantage, implemented by international
organizations, have dramatically affected the lives of millions of people
around the globe
 National level: free trade policies in 2 main areas = promotion of a more
efficient use of labour, and the reduction of the state in the economy.
 International level: policies are advocated that aim to remove hindrances
to trade and to promote the inflow of FDI. Tariffs on imports and exports
are seen as a major impediment to trade. Reduction or removal of them =
promote trade and lead to more efficient use of resources as domestic
industries are exposed to international competition.
 Part of free trade regimes: countries have been persuaded to allow their
currencies to float freely rather than being managed by governments. free
market policies argue that there should be no discrimination against
foreign capital wishing to invest in the country, and that any barriers to
investment should be removed.
Limits on comparative advantage for developing countries
 Asian NICs: in certain circumstances free market policies can con¬ tribute
to rapid economic growth. Why have other developing countries not been
able to replicate this success? Why has the enormous growth in
international trade not resulted in a wider distribution of the fruits of that
trade, as the theory of comparative advantage would suggest? And why
have some parts of the developing world barely participated at all in the
growth of world merchandise trade — Africa’s share of such trade is now
 less than its contribution of over 5 per cent in 1980, and the developing
countries of the Americas have remained static at just under 6 per cent
(UNCTAD 2008a)? Critics of the neo-liberal agenda suggest that in some
ways much of the developing world is disadvantaged in the global
economy compared to more developed countries.
 Following decolonization the same basic pattern whereby the developing
areas under colonialism were primarily providers of raw materials and
markets for manufactured goods has largely persisted, with some notable
exceptions (see Weiss 2002). For many non-Asian developing countries,
over 70 per cent of exports still comprise primary products. For many sub-
Saharan African countries, the figure is over 80 per cent (UNCTAD 2009a).
This can be a problem for developing countries because of the failure of
the prices of primary commodities to keep pace with manufactured goods
(known as the declining terms of trade). Also primary commodities have
historically been liable to confront very large fluctuations in prices, coffee
being a particular example (see Box 4.3). Between 1997 and 2001, the
United Nations Conference on Trade and Development (UNC¬ TAD)
combined price index of all commodities in US$ fell by 53 per cent in real
terms — that is, primary commodities lost more than half their purchasing
power relative to manufactures (UNCTAD 2003: 19). Movements like this
make it harder to predict what revenues will be derived from exports in any
particular year. Agricultural products are particularly prone to large price
fluctuations.
Coffee is a commodity that illustrates clearly the problems that can confront the
producer of raw materials, espe¬ cially agricultural products. With the exception
of oil, it is the commodity that earns the most for developing coun¬ tries. An
estimated 125 million people in the developing world depend on coffee
production for their livelihoods. Yet it is an item the price of which fluctuates
wildly, and in recent years has shown a dramatic fall in price. Coffee basics: Most
coffee is grown on small indepen¬ dent farms, in contrast to, for example,
bananas, which are frequently grown on large plantations. It takes three years
from planting a coffee bush until it produces the first beans. Coffee prices: Over
the past 25 years, international cof¬ fee prices declined rapidly. After frost
destroyed much of the coffee harvest in Brazil in March 1977, coffee reached a
peak price of $3,000 a tonne, from $500 per tonne in 1975. Subsequently, it
declined rapidly to a price of around $350 per tonne. Coffee problems: Three
main problems confront the producers. • Price fluctuations: The price hike of
1977 demonstrates what can happen when a harvest fails. The fall in out¬ put
(or even a fear of a fall in output) from one region can send the price rocketing.
For a short while the pro¬ duction of the commodity can be extremely profitable,
and this of course can prompt new producers to switch to growing the product, in
the (mistaken) belief that the price will remain high. • Oversupply: The price of
coffee on the international market fell dramatically because too much was being
grown. Global overproduction has been exacerbated by a World Bank programme
to introduce coffee production into Vietnam, which has risen rapidly to account
for 10 per cent of global production. • Structure of the industry: Although the
large fluctua¬ tions in price and the oversupply of raw commodities are not
unique to coffee, the industry’s structure adds special problems. The millions of
small farmers, with very limited power, face a very small number of pro¬ ducers
with enormous power to dominate the final retailing of the product. In between
there are numer¬ ous levels of wholesalers and other intermediaries. Coffee
beans can change hands more than 150 times between farmer and supermarket
shelf, and each time they change hands a smaller proportion of the final price
reaches the grower. Thus while the coffee grow¬ ers earned $10—$12 billion of
the $30 billion global retail market for coffee in the early 1990s, by 2004 they
were forecast to earn just $5.5 billion from a market now worth $70 billion. Can
fair trade provide an answer? Much has been made of the increasing share of the
coffee market that sells under the label of Fair Trade. Fair trade coffee aims to
benefit growers by dealing directly with farmers, elimi¬ nating layers in the
supply chain. Farmers are guaranteed a floor price that at least covers the costs
of production. Additionally, a bonus is always paid above international prices
should they rise above the floor. The premium is earmarked for development
projects agreed with the producers. Clearly fair trade is advantageous for those
producers fortunate to be included. However, although fairly traded coffee as a
proportion of the total is increas¬ ing, the figure is still very low, benefiting only
thousands of farmers out of the millions involved in coffee production. (UNCTAD
2003: 24-5).
 Further problem faced by developing countries: protectionism. Perhaps
the simplest is the implementation of a trade tariff, the application of a tax
on imports. A large element of the Common Agricultural Policy of the
European Union involved the use of tariffs to protect farmers from certain
agricultural products from outside Europe. One effect of these tariffs is that
countries within the European Union produce more than 45 per cent of the
world’s agricultural exports (WTO 2008: Table 11.13). Other form of
protectionism: use of subsidies (example of cotton farmers in the USA,
disadvantage of African countries like Egypt). It has been estimated that
developing countries are losing US$1,000 billion each year from
protectionist measures in industrialized countries (O’Brien and Williams
2007: 144). Tariff barriers are far higher in developed countries than in the
rest of the world. At the same time, the richest countries in the world have
increased their subsidies to their agricultural industries, making it harder
for developing countries to compete.
Key Points:
- Since 1945 there have been massive increases in the levels of
international trade.
- Although there are some exceptions, many countries in the developing
world do not appear to have benefited greatly, and the proportion
of the world’s exports provided by Africa and Latin America has
declined.
- Although the theory of comparative advantage suggests that all
countries would benefit from participation in trading, the 'gains
from trade’ are not shared equally for various reasons.
Foreign Direct Investment

 Theory of comparative advantage suggests that a country should

specialize in those goods that it can produce relatively more cheaply. One
area in which the developing world has a distinct economic advantage is in
labour costs. Throughout the developing world it is cheaper to employ
workers than in developed economies. It would therefore seem logical for
companies from the developed world to relocate production from those
economies in which labour costs are high to those in which such costs are
lower. For some companies the employment of female workers has been
particularly attractive (see Box 4.5).
 One of the aims of much recent policy promoted by the World Bank and
IMF has been to encourage governments in the developing world to
 promote inwards investment — for example by reducing taxation levels,
and removing controls on capital flows.
 The bulk of FDI is made by companies from the developed world investing
in other developed countries (for example, Japanese car plants in Britain).
However, the figures for 2007 suggest that the proportion of investment
flowing to the developing world is increasing. It should also be noted that
developing world TNCs have Key points FDI is a major component of global
financial flows. Although the bulk of investment occurs in developed
countries, a small number of developing countries now started to emerge
as some of the largest companies in the world. Although the proportion of
FDI flowing to the developing world is increasing, it is very concentrated.
Just ten countries absorb 65 per cent of FDI directed to the developing
world. In 2007, China was the largest recipient, and the combined figures
for China and Hong Kong account for nearly 30 per cent of developing
world FDI, albeit less than in previous years. The relative proportion of FDI
flowing into Africa is increasing, and in 2007 stood at just over 10 per cent
of all developing world inward investment.
Key Points:
- FDI is a major component of global financial flows.
- Although the bulk of investment occurs in developed countries, a small
number of developing countries receive a significant, and increasing,
proportion of the global total.
- There is considerable debate over the costs and benefits of FDI for
developing countries.
FDI = foreign direct investment
Financial Flows
 World merchandise trade amounts to approximately US$ 14 trillion per
year (WTO 2008: Table 1.6), equivalent of just over four days’ trading on
the world’s money markets (BIS 2007: 1). The sheer size of these financial
flows compared to the volume of global production suggests that a large
component of these transactions is speculative (see Scholte 2005: 166).
The operation of financial markets and the rapid flows of what is described
as ‘hot’ money are often perceived as having an adverse effect on local
economies, especially those in the developing world, and have been
the subject of considerable criticism (see Box 4.7).
 Financial flows, 2 main elements: buying and selling of money (some of the
transactions related to trade and investment. However much of the activity
on the global currency markets could be more closely related to gambling
(since 1980s many of the world's major currencies have been free-
floating). Second feature of the global financial flows is investment in the
stock markets of other countries (portfolio investment)
Susan Strange on the Irrationality of Financial Markets: “Mad… is exactly how
financial markets have behaved in recent years. They have been erratically
manic at one moment, unreasonably depressive at others. The crises that have
hit them have been unpredicted and, to most observers surprising. Their
behaviour has very seriously damaged others. Their condition calls urgently for
treatment of some kind. (Strange 1998: 2).
  During the late 1980s and early 1990s, many countries in the developing
world were encouraged to open their economies to these kinds of financial
flow. Financial liberalization involved re- moving restrictions on the buying
and selling of the country’s currency, and on the movements of capital in
and out of the country. Such policies were adopted by many countries in
Fatin America, East Asia, and the former Soviet Union. For many analysts it
is not a coincidence that these regions were afflicted by severe financial
disruption during the 1990s. Examples are the Mexican peso crisis of 1994-
95, the Brazilian crisis, Russia’s rouble cri¬ sis of 1998, and a crisis in
Argentina dating from 2000.
 Most famous of the financial crisis during the 1990s: East Asia 1997. one
factor might be that these countries were simply the victims of their own
success. East Asian countries were very successful at following export-led
models of development. They also were enjoying very high levels of
domestic saving and low inflation —a perfect conjunction for continued
growth. However, following financial liberalization, the perceived
profitability of the region led to a vast inflow of speculative investment that
the countries’ domestic financial institutions were not able to manage. A
speculative boom was followed by a crash. Bankruptcies in South Korea
and Thailand led to a rapid withdrawal of funds from the entire region. The
outcome was reductions in the rate of growth and in GDP per head, the
second taking several years to recover. Analyses by the World Bank and
IMF now suggest that the pace of financial liberalization was the problem.
It is also worth pointing out that India and China, two of the fastest-
growing economies in the world, have not implemented equivalent levels
of financial liberalization, and were only indirectly affected by the crisis
that swept through the region.
Key Points:
- A major component of the global economy is the movements of money
involved in the buying and selling of currencies and stocks and
shares in local economies.
- The rapid movement of capital associated with these markets can be
extremely disruptive to local economies.
- In the 1990s, a number of countries in the developing world
adopted financial liberalization policies, removing restrictions on
the flows of international capital into and out of their economies.
Many of these countries were affected by subsequent financial
crises.
The Global Economy in Crisis: Implications for the Developing World
 First, there was the substantial drop in the rate of growth of world trade.
According to the WTO the rate of growth in 2007 was 5.5 per cent, down
from 8.5 per cent in 2006, with an expected further drop in 2009. As more
developing countries become integrated into the world economy, and often
rely on exports to contribute substantially to GDP, this is significant. A
further feature of the downturn has been a drop in the prices of primary'
commodities. As noted earlier many developing countries are heavily
reliant on the export of raw materials and are vulnerable to fluctuations in
commodity prices. According to the World Bank non-oil commodity prices
 declined by 38 per cent in the second half of 2008. There are some
benefits from a drop in commodity prices. For oil-importing countries in the
developing world the drop in the price of oil from its July' 2008 peak
provided some relief on the import side, but the price began climbing
again in late 2009. The loss of income from exporting has been
compounded by a reduction in financial flows into developing countries. As
noted above the level of FDI increased dramatically since the 1990s with a
substantial proportion of investment taking place in developing countries.
As the global recession takes hold this is expected to decline further.
According to UNCTAD estimates, global levels of FDI are expected to
decline by 50 per cent in 2009 affecting both the developed and
developing world.
 Two further sources of income for developing countries, remittances and
international development aid, will be affected. Remittances are money
transfers from workers in one country back to their families in their country
of origin. For some countries, remittances (especially from the Gulf states
to South Asian countries) can contribute significantly to GDP, and for many
families in the developing world remittances from a family member
working abroad can make a sizeable addition to the household income. In
previous economic crises, rich country governments have cut their aid
budgets (UNCTAD, 2009b) and this seems likely to happen again, as they
spend heavily on bolstering domestic economic activity.
 Countries in the developing world are therefore likely to be hit by multiple
reductions to their eco¬ nomic well-being — loss of income from exporting
possibilities, reduced commodity prices, cuts in FDI, remittances and aid.
Many developing countries (in Africa especially) are more likely to be
affected by the economic downturn: most do not have the financial
resources to substitute increased public spending for reduced capital and
income streams from abroad. However, this goes beyond the purely
economic realm. The global economic crisis is likely to result in increased
numbers living in absolute poverty, throwing into reverse recent modest
reductions in the numbers. According to the UN Standing Committee on
Nutrition, the numbers living in extreme poverty have increased by 130-
155 million in 2005-08, with a further in¬ crease of 53 million expected in
2009 (UNSCN, 2009). The World Bank estimates that an between 200,000
to 400,000 additional children will die due to poverty related illnesses as a
direct consequence of the global recession.
Key Points:
- Since 2007 the global economy has entered a period of
considerable instability. A credit crisis in the world’s most developed
economies has expanded outwards towards all sectors and regions of the
global economy.
- Developing countries have been particularly susceptible to the
downturn as a result of the slowdown in the rate of global trade, and
reductions in investment, remittances and aid.
Conclusion