Appunti di economia politica

International political economy

Basic concepts

• Political economy, economics, marginalists revolution, Keynesian revolution
• The role of the state and markets (market failures and government failures)
• What for? Growth versus development
• Major schools of thought in development economics
• Basic concepts in trade and trade policy (comparative advantages versus competitive advantages)

International political economy

• Globalization: the Bretton Woods system and how it has changed
• The role of international institutions (IMF; WB)
• The role and the debate over industrial development policy
• Industrial development strategies and trade policies: Import substitution, export orientation and their tools

International experiences of industrial development

• Case studies (Cina/Africa/USA)

Readings to prepare for the exam

• Raj Debraj (1998), Development Economics, New Jersey: Princeton University Press – chapters – 6.1; 6.2; 7.1; 7.2.1; 7.2.3; 7.2.4; 7.2.7; 7.2.8; 7.2.9; 7.3; 17.2; 17.3 and Appendix
• Chang H.J. (2007), Bad Samaritans: The Myth of Free Trade and the Secret History of Capitalism, Bloomsbury Press - Chapter 1, 2
• Chang H. J. (2011), 23 Things They Do Not Tell You About Capitalism, Bloomsbury Press – Thing 1, 7, 11
• Chang H. J (1996), The Political Economy of Industrial Policy, UK: Palgrave Macmillan – Chapter 1
• Balaam David N., Dillam B. (2014), Introduction to International Political Economy, Pearson - Chapters 1, 7, 8 (available on Moodle)

A few big questions

• Why are some nations richer than others?
• Why is quality of life better in some places than others?
• Can a poor country improve its wealth and quality of life? How?
• Are international exchanges (goods, money, capital, people…) useful? For whom?

Some basic points on the history of economic thought

• Classical economists (Smith, Ricardo, Marx)
• The marginalist revolution (Marshall)
• The Keynesian revolution (Keynes)

Some few important references

• Adam Smith, industrial revolution and political economy: The theory of moral sentiments (1759) and An inquiry into the nature and the causes of the wealth of nations (1776)
• David Ricardo, On the principles of political economy and taxation (1817)
• Karl Marx, Das Kapital. A Critique to Political Economy (1867)
• Alfred Marshall from political economy to economics: Principles of Economics (1890) and Industry and Trade (1919)
• John Maynard Keynes The economic consequences of the peace (1919) and The general theory of employment, interest and money (1936)

1- Adam Smith (1723-1790)

The study of economic systems as a unified discipline was born as political economy. It’s a discipline that originates within moral philosophy. Smith used to study Newton's mechanics and lived at the time of the industrial revolution. Smith observes the shift from a feudal society to a capitalist one and describes the birth of the so-called “market economy”. The “market” is intended as an institution where equal individuals exchange property rights. The social organisation of production as well as the organization of production within a company are at the centre of his studies.

England at that time was a society that wanted to overcome the old feudal system and let a new social and political class emerge (the industrial burgeoise). The position in a society depends upon one’s ability. For this to happen you need to have a shared system of rules and values and a system of equal rights.

Political and industrial revolution

From feudal system to market economy: The industrial revolution was possible thanks to political revolutions of 1688-89. And also the scientific revolutions of the time had a fundamental role (Copernicus, Galileo, Newton), as well as cultural revolutions (Locke).

Basic intuition of Smith

• Why are some nations richer than others?
• Division of labour and extent of the market
• “The greatest improvement in the productive powers of labour, and the greater part of the skill, dexterity, and judgement, …seem to have been the effects of the division of labour” (WN, I, I, p.13)
• “As it is the power of exchanging that gives occasion to the division of labour, so the extent of this division must always be limited by the extent of that power, or, in other words, by the extent of the market” (WN, I,3, p.40)

Still very helpful insights. Pin factory: by re-organizing production you can jump from producing 20 pins per day for each worker to 4000 pins for each worker in a day. Observational approach, positive and normative analysis, induction.

Smith and the “invisible hand”

The “invisible hand” that we all quote and remember was useful at the time to justify freedom of exchange in a society that wanted to overcome the feudal system of production and let a new social and political class emerge. If there are equal rules and rights and shared values, there is no problem in letting individuals free to exchange goods and services.

What are the policy implications for international exchanges?

2- David Ricardo (1772-1823)

• The labor-value theory
• The concept of comparative advantages
• It is possible for all countries to engage in win-win international exchanges of goods and services, provided that they specialize in the production of goods and services where they have a comparative advantage
• Subsequent developments of International Economics and Trade Theory (e.g., The Heckscher-Ohlin Model) build upon this intuition

3- Karl Marx (1818-1883)

The industrial revolution and the expansion of economic activity in the UK gave birth to an extraordinary social transformation, with two new classes actually emerging. On the one side, there was the industrial bourgeoisie, but on the other, there was the urban proletariat which was becoming the antagonist force, asking for more political power and voice.

The economist that mostly theorized this phase was Karl Marx, a philosopher, an economist and a political activist. In his most famous book “Das Kapital,” he argued that the conflict between capitalists and workers was an intrinsic feature of mature capitalism, and that the only way to manage this conflict would be to guarantee perpetual growth on a global scale.

In other words, capitalism had to become imperialism and the proletarian revolution had to become international.

Implications for the development of poorer nations?

The era of colonial imperialism

The development of capitalism in the UK emphasized a double conflict rooted in this growth process: an internal conflict between the industrial bourgeoisie and the urban proletariat and an external conflict with the “late comers” – i.e., other competing countries.

4- Alfred Marshall (1842-1924)

• “Neoclassical” or “marginalist revolution” marks a shift away from Political Economy towards Economics
• “Principles of Economics” - Economics as the understanding of markets through the laws of demand and offer. Economics gradually became the science studying the choice (over different options) of a representative agent (person or company) that, in a rational way, maximizes its utility, at the margin
• It does not require political or historical contextualisation, it’s universal
• “Industry and Trade”: treats the issues of colonialism/trade and the organization of production (for instance within clusters of firms)
• The “political” aspect is taken away in order to separate the positive analysis from the normative one; economics is meant to become a science free from “value” judgements

5- John Maynard Keynes (1883-1946)

• In “The Economic Consequences of the Peace” (after WWI) Keynes warns against forcing defeated nations to pay for the war damages. He was suggesting to help Europe and in particularly Germany to recover from war
• The bad management of the peace process (with enormous consequences on inflation) paves the way for the ascent of totalitarian regimes, and in particular for the ascent of Hitler in Germany
• He then published the “General Theory of Employment, Interest and Money” (1936). It is called “general” because Keynes provides a critique to the mainstream/neoclassical economic theory, which according to him only represented a special case and not the usual case. He stressed that unregulated markets, “free” to operate, generate “failures” and therefore public intervention is needed to guarantee employment levels
• Great Depression and how to deal with it

Keynes' basic intuition

• During a crisis a super-partes institution (i.e., the government) needs to intervene, in particular to influence individuals’ expectations (by improving economic agents' expectations)
• In brief, it advanced this apparently counter-intuitive concept: during crisis a state should spend more instead of less. Mainly through public investment the State can help the recovery when private investment are scarce (e.g., Roosevelt's New Deal)
• What about free trade? – Focus on trade imbalances; – Pragmatic approach

1944: the end of the “Age of Catastrophe” (E. Hobsbawm)

In Rostow words once the America decides not to go to war with Russia or China they have to find other ways to protect their interests (a mixture of political economic and military activity). The USA need to develop a more rigorous economic policy in Asia.

The graph represents the “trade openness index”: it’s defined as the sum of world exports and imports, divided by world GDP. Exchanges in goods and services are more important today than they were in the past for the technology, the volumes, the speed. We can see a collapse during the war.

Now we have 60% of exchanges. In 1944 at the end of the WWII there was the Conference of Bretton Woods, GATT, IMF, WB. In this conference they tried to set up a series of rules and measures to encourage countries to exchange goods. Fixed exchange rate system fixed with the national gold reserves, compared with the US dollar. IMF was planned to lead short term loans to maintain macroeconomic stability and deal with inflation; World Bank was planned to lead longer term loans and programs for countries that had to develop infrastructures or that were in the phase of economic development. They were meant to be favouring trade: increase in trade until 1970s’ collapse in exchange rates (problems within the USA).

Increasing in capital flows countries allowed to invest in foreign stocks, financial activities. In 1945 the theory of Keynes was very influential. Beginning of 70s, end of the 70s there is a stop oil shock (oil crisis). Turning point 2001 entering of China in WTO, the speed of trade until 2001 increased. 2008 financial crisis/ great recession. It was studied by Keynes. People were not able to demand. High inflation and high unemployment – something very strange and not expected.

Connection and interdependencies between countries are higher than ever: trade connections, import, export, investments across the world, intermediate goods. This is something new. Sometimes there is the tendency to go back.

Who’s the “Third World”? (graph)

After the WWII there was that question. The IMF shows the growth rate with the GDP growth, distinguishing the emerging markets, the development in the economy etc. In 2001 there was a turning point: before that year (particularly before 1990) the growth rates were going together (emerging markets, advanced economy) but starting from the 2001 the situation changed there is a gap in the growth rate introduction of China that had an important role.

Contribution to Global Growth (Graph) striking difference between Europe and US during the years, increase of China. The driving force is China itself, not US. Changes in the direction of commerce? Exports between rich countries and poor ones, or among poor countries, not only rich to rich. Commercial agreements on trade to promote it sources: “our world in Data (University of Oxford)”

What does the world export?

(The observatory of Economic complexity) the biggest share is in ICT; Cars; Oil; Medicines; chemical sector. Overland Silk Road: Increasing role of China Belt Road Initiative (BRI). How China affects world investments. There are pros and cons: you have the possibility to develop your country but at the same time it falls in a trap of interdependence. Importance of studying the contracts because they are the important point.

China contacts the country and starts with the quantity (how much we can produce here?), and they start producing. The second step is questioning if they are respecting the environment, the third step is the quality. Priorities are suggested somehow by the investors (influence). The initiative has two tools of investment: an investment bank (with a similar structure as the world bank) and the Chinese government funding. There is an issue of indebtedness of the hosting country who may be not able to pay, but this is something that does not come with the silk road, it’s something old.

Issue of channels conveys policies, special economic zones. Way of tracing the policies practices. How important is that the hosting country has its own priority? One way to ensure that the BRI is working is to combine the sustainable development goals. The role of the agencies of the UN may have to assist both sides of the initiative so that the goals are really part of the project and strategy of the regional development. Building the ability of the local government is very important: learning by doing this make sure that the investments are leaving something concrete in the country (practices, strategies). Sometimes the countries want to opt out of the deal, but China will underline the fact that the country is already trapped and getting out of the agreements it will lose a lot. The problem is the interdependence.

/case in which the country cannot pay default situation (again, this is not a new situation). In the 80s, China was in the same situation.

Political economy – Recap basic concepts

• Markets, states, international relations (balance of payments)
• Some basic concepts: the debate over the role of States and Markets in the economy

It became hot especially within Development Economics (that is why we will recall major schools of thoughts in DE in this course). To understand this debate we have to go back to the mainstream literature of economics, thanks to the contribution of Ronald Coase in the 1930s-50s. In 1937 he wrote an article on the nature of the firm. He was trying to understand what were the coordination mechanism that worked within the capitalist system: we are taught that the main mechanism coordinating the economic activity in a market economy is the price. If all of the sudden the demand increases for any reasons, people want to buy more, it is a signal that there is a scarcity on the good and this pushes the prices up. On the other hand, consumers seeing the price increases, stop to buy. He was not satisfied by this explanation because if this is real, why do we have companies? What is the purpose of the firm? Within the firm, there is a hierarchical organization. Why do market and state concept of transaction cost coexist? He tried to explain this with the concept of transaction cost: apparently there is a cost when you are engaged in a transaction in the market. Every time you go to the market for a transaction, there is always a transaction cost. Sometimes it is more convenient internalize the transaction within the company.

Consensus was emerging over the so-called market failures-the problem of social costs. Sometimes the price mechanism doesn’t work well. Market failures can occur the outcome of a firm is not socially desirable, it is not good for the society.

• “The role of governments in developing countries”

With an article on Anne Krueger (1980s-neoclassical phase) gave impetus to the government failure literature. Discussing the role of government within the developing countries, suggesting that together we should think about market failure and government failure. When market fails, a government intervention is important and necessary, regulating that market. But even government intervention can cause problems because also the government can fail. This is one of the explanations in the debate.

Briefly on market failures

Sometimes markets fail: the output produced is not optimal for the society, though it is optimal for the single economic agents.

• Cases: Externalities (either positive or negative) the action taken from a single agent has consequences on others, which however are not involved in it (externalities exist where there are some spill-over effects from an individual’s activities to those of others). The social outcome sometimes is not desirable. Negative externalities: polluting. The single company pollutes, but this has consequences for the entire society. Who do you deal with this? you need government regulations. Positive externalities when a firm invests in a worker (spends money for a new invention or training) who, then, go to work to another firm (training, knowledge, education). Everyone benefits of that.
• Public goods a public good is something that can be consumed by those who did not pay for it as well as those who have paid for it (supplying a public good to somebody means supplying it to others). Particular kind of goods which have two characteristics