Globalization’s Achilles’ Heel

We've been having the wrong discussion about globalization. For years, we've argued over whether this or that industry and its workers might suffer from imports and whether the social costs were worth the economic gains from foreign products, technologies and investments. By and large, the answer has been "yes." But the truly significant questions about globalization, I think, are harder to answer. Is an increasingly interconnected world economy basically stable? Or does it generate periodic crises that harm everyone and spawn international conflict?

Let's concede that the present U.S. economic slowdown—maybe already a recession—stems mostly from familiar domestic causes: the burst housing "bubble," shoddy lending practices and households' heavy debt burdens. All have depressed housing and consumer spending. Still, global factors, notably high oil and food prices, have aggravated the slump, and there is a general anxiety that we are in the grip of worldwide economic and financial forces that we do not understand and cannot easily control. This sense of foreboding is not unreasonable.

It helps explain the yawning gap between the economy's actual performance (poor, but not horrific) and mass psychology (almost horrific). June's unemployment rate of 5.5 percent, though up from 4.4 percent in early 2007, barely exceeds the average since 1990 of 5.4 percent. Contrast that with consumer confidence, as measured by the Reuters–University of Michigan survey. It's at its lowest point since 1952 with two exceptions (April and May 1980). The expectation is for things to get worse. People fear what they don't understand, and the global economy seems both mysterious and menacing.

The good that globalization has done is hard to dispute, though some do. Trade-driven economic growth and technology transfer have alleviated much human misery. If present economic trends continue (a big "if"), the worldwide middle class will expand by an additional 2 billion by 2030, estimates a Goldman Sachs study. (The global definition of middle class: people with incomes from $6,000 to $30,000.) In the United States, imports and foreign competition have raised incomes by 10 percent since World War II, some studies suggest. Job losses, though real, are often exaggerated. In the late 1990s, U.S. trade deficits increased while unemployment fell.

But a disorderly global economy could halt or reverse these advances. By disorderly, I mean an economy plagued by financial crises, interruptions of crucial supplies (oil, obviously), trade wars or violent business cycles. This is globalization's Achilles' heel. Connections among countries have deepened and become more contradictory. Take oil producers. On one hand, high oil prices hurt advanced countries. But on the other, oil countries have an interest in keeping advanced countries prosperous, because that's where much surplus oil wealth is invested.

Global money flows are now vast with oft-unintended side effects. In the past six years, foreigners purchased $5.7 trillion of U.S. stocks and bonds, reports economist Harm Bandholz of UniCredit. From 2004 through 2007, that included 80 percent of new marketable Treasury securities and 40 percent of new corporate bonds. He says the inflow of money cut U.S. interest rates by 0.75 percentage points. So: surplus savings from Asia and the Middle East, funneled into U.S. financial markets, may have abetted the "subprime" mortgage crisis by encouraging sloppy American credit practices. Too much money chased too few good investment opportunities. Bandholz figures that foreigners lost $300 billion on investments related to subprime securities.

A loss of confidence in U.S. financial markets could be calamitous. But just possibly, we're at a crucial—and desirable—turning point. For several decades, the U.S. economy has been the world's economic locomotive. Americans borrowed and shopped; the U.S. trade deficit ballooned to $759 billion in 2006, stimulating exports from other countries. The trouble is that this pattern of growth could not continue indefinitely, because it required that Americans raise their debt burdens indefinitely. Fortuitously, then, China and other emerging markets may be moving beyond export-led growth. There are signs that their economies are "increasingly driven by domestic investment and consumption," say economists at Deutsche Bank. But these signs could prove false, if high inflation (8 percent in China and India) derails domestic expansion.

Today's global economy baffles experts—corporate executives, bankers, economists—as much as ordinary people. Anyone who says differently is either deluded or dishonest. Countries are growing economically more interdependent and politically more nationalistic. This is a combustible combination. The old global economy had few power centers (the United States, Europe, Japan), was defined mainly by trade and was committed to the dollar as the central currency. Its major countries shared democratic values and alliances. Today's global economy has many power centers (including China, Saudi Arabia and Russia), is defined by finance as well as trade and is exploring alternative currencies to the dollar. Major trading nations now lack common political values and alliances.

It is no more possible to undo globalization than it was possible, in the 19th century, to undo the Industrial Revolution. It is not a choice so much as a condition. But we should recognize that its intellectual and political foundations have weakened and that the practical problems transcend the debate of "free trade" versus "protectionism." Globalization has occurred so rapidly that we understand less about how international markets, shaped by impersonal economic forces and explicit political decisions, operate. Countries try to maximize their own advantage rather than make the system work for everyone. Considering how much could go wrong, the record is so far remarkably favorable. Alas, that's no guarantee for the future.