Economic Globalization and National Sovereignty

In R. Miller (ed)New Zealand Government and Politics OUP (2001) p.14-24. Written in August 1999.

Keywords: Globalisation & Trade; Governance;

In recent years there has been increasing concern that a phenomenon of economic globalization, in which the economic processes of production, finance, and exchange in each country are becoming more interdependent between countries, is undermining the sovereignty of the state. In the New Zealand of 1999 this was symbolised by APEC, one of the agencies which promotes this globalisation, albeit a minor one compared to the IMF, World Bank, and WTO (World Trading Organisation), but the government’s focusing on it as a part of its (failed) reelection strategy, because it was hosting the annual APEC conference in September 1999 in Auckland (and numerous preparatory ones before then) gave the organization an undeserved prominence. In particular there was widespread public discussion, much of it reflecting a concern, and some of it generating unrest because APEC (and more fundamentally globalisation) was seen to be against New Zealand’s interests, in contradiction to the government’s expressed belief that it was beneficial. Much of the debate, if it may be called that, from both sides was simplistic and rhetorical, missing the complexities and subtleties of the issue. Rather than provide a yea or nay, this chapter tries to set down the context, first by wading through the narrow economics, but later by opening up the topic to place the economics in the wider context of political economy.

Economic globalization is not a new phenomenon. Arguably the world was more globalized in the nineteenth century when migration was much easier, and national governments’ ability to interfere in the flows of capital and goods very limited because they had less political power and fewer policy instruments. Even so, since in the last half of the twentieth century there appears to be an intensification of globalization, after a period of greater barriers to economic intercourse in the earlier half of the century. Moreover, over the last decade, the process seems to be accelerating. While the intensification of globalisation may not be how future generations will judge these times, apprehension about the consequences of globalization is a popular concern in many countries, including New Zealand.

It is perhaps characteristic of this concern that the notion of globalisation is not well defined. It can mean many things, but one of the central notions is that individual countries are losing their autonomy of economic management, and as a result the public is worse off. The first view is surely ahistorical. Colonial New Zealand, trading in the international economy from virtually day one of European settlement, never had much autonomy. It may be contested whether New Zealand has ever had much autonomy, because it has always been an international trader and always dependent upon foreign capital. At times in the past, some parts of the economy were isolated from the rest of the world, but arguably this had the effect of further exposing the remaining sectors to the world economy.

The Economic Theory (in Brief)

The question of the extent to which globalisation makes some economies worse off is even more complicated. There is a well established economic theory which argues that, subject to some minor caveats which need not detain us here, the economy as a whole will be better off under a free trade regime, in which there is no government imposed restrictions to trade. “Better off” here means that there will be more material goods and services to share among the people in the country. However, that sharing may not actually occur, so that within a country some people may be worse off following the removal of protection while others better off. Those that lose are among those who protest at the removal.

Moreover, there are is the major caveat that the released resources (such as the workers in the protected firms) will be redeployed into other activities (including those which will increase exports). If unemployment rises, the country may not be better off. Of course the higher unemployment which has often occurred after the removal of New Zealand industry protection in recent years, may not be due to the specific anti-protectionist policies. In any case realistically there will be a period of transition in which the released resources are unemployed before they are redeployed. Economic theory provides little account of how long this period may be.

Nor does economic theory provide an estimate of the magnitude of the gains from free trade. When the actual potential gains are estimated they prove surprisingly small. For instance, estimates for New Zealand in the 1970s (using models based on precisely the economic theory alluded to earlier), the gains for total free trade were less than 1 percent of GDP, although protection was considerably higher than in the 1990s.

In any case the formal models usually assume that labour and capital are fixed. But a reality of the new world economy is that international investment flows are substantial and significant, while international migration may be greater than it was – say – a quarter of a century ago.

The Political Economy of Globalisation

It is worthwhile going through – albeit briefly – the limited conclusions of economic theory not only because the rhetoric suggests the gains are far greater than the theory or the evidence, but also because it poses the question that if the gains from trade are so small, why are the pressures to internationalise the economy so great? One answer is that there is some international conspiracy, or that the power elite of each country pursues globalisation because it is in its interests, although not in the interests of the rest of the population. However there are more realistic, if complex, explanations which are worth exploring. In particular, the globalisation phenomenon that we see in recent years is largely driven by technological changes which have changed the geography of the world, together with, secondarily, a converging of humankind’s interests and values.

We can see in the remains of dairy factors scattered through the Taranaki how technology undermines the local economy by making it interdependent with the regional economy. Fifty years ago there were a hundred or so factories each within a few tens of miles of one another, today there is but two – one in Waitara and the other in Hawera. What drove these changes? The sealed road and the motorised truck (the milk tanker) made it easier for the dairy farmer to deliver the milk further afield. At the same times larger dairy factories reaped economies of scale which made it worth each’s while to recruit milk from further away. Now dairy farmers were better off (since the lower costs of processing increased their return), but was the whole of Taranaki better off? Some workers had to travel further, some villages slowly died. Generally the change was slow enough, the region small enough, and people mobile enough for the communities to adapt to this provincial globalisation. Note too, that the communities may have even directly benefited from the transport change, since a wife could get a job in a place different to her husband who may also work some distance away from the house, while they may spend their evenings or weekends in a fourth place.

A more severe example of this change can be seen in terms of breweries, which were once scattered throughout the cities of the land. Today’s big four are found in Dunedin, Christchurch, Hastings and Auckland, again primarily as a result of the transport revolution combined with economies of scale in the production process. This time the closures are potentially more socially disruptive. It was not possible for the Wellington brewery worker to live in the same house and travel daily to the Hastings brewery after the Wellington one closed down. The worker could move, but that is likely to involve a significant social upheaval for the family. The difference between the dairy and brewery factory closures is that the workers are much less mobile over long distances. They may value the sealed road and the transport equipment that makes a holiday in the Hawkes Bay attractive, but that is likely to be an annual trek. Note how this time the benefits of the rationalisation are likely to go to consumers, in cheaper prices and better choice, as well as to the producer in higher profits.

(Some commentators of globalisation draw attention to boutique breweries which fill in niches the big ones can not. They exist because there are technologies not so dependent upon economies of scale and because of the growing heterogeneity of consumer choice. Certainly they generate jobs in the locality but it is also noteworthy that the boutiques do not expand into national and international businesses, nor do boutique manufacturers make up a sizeable part of employment in an industry, with the exception of fashionware.)

Suppose a major brewery was to move to Australia using increasingly cheap transport to supply the New Zealand market. Is that worse for the community which experiences the factory closure than if the business had gone to a distant part of New Zealand? One sort of answer might be that adjustment is usually slower across international boundaries than within nations. But, unlike the intra-national shift, the international relocation reduces the tax base of New Zealand (and increases the Australian tax base). Arguably this effect will be eliminated over time, as governments reduce taxation on producers as a competitive measure. In the long run the issue may reduce to the balance of job creation between the two nations. The assumption of full employment remains critical. (In the long run, labour market adjustment (migration) may resolve an imbalance – but as Maynard Keynes remarked “we are all dead in the long run.”)

However, even if these economic issues can be resolved there remains questions of national identity. New Zealanders are likely to be offended because the business leaves the shores, although the extent to which they are sufficiently offended to turn to consuming a higher cost domestic substitute puts an economic perspective on their indignation. This nationalism seems to be at the heart of the concerns about globalisation – why the shifting of activity offshore is seen to be much more troubling in proportion to regional or national rationalisations.

Note that in this account the changes are seen as a consequence of economic responses to technological change. The responses are intermediated by the profit seekers in the market, but it is far from clear that were there another economic mechanism the same phenomenon would not happen. Or rather if it did not happen, the resulting poor performance of the economy would not lead to its breakdown, as occurred with the COMECON economies a decades ago. Thus the globalisation is a consequence of the taking advantage of the technological change.

While the above illustrations involved gains from manufacturing scale and improved transport, in the last decade or so there have also been substantial potential gains from improvements in communications. Again a community need not make use of those gains – it could prohibit the provision of satellite news on television – the evidence is that as a rule they are reluctant to do so. Two important features of the communication revolution is that globalisation can now be applied to many of the service industries – even to knowledge itself (e.g. via the internet), and that it is possible to globalize business control in a way which was not possible in earlier times. (It may be possible that globalisation of political control is also increasing, except the impact of TV on the Vietnam and subsequent wars reminds us that there may be forces in the opposite direction.)

Additional to the technological changes have been fragmentation of social preferences. Communities seem more heterogeneous (or perhaps the heterogeneity is better recognised, or more easily expressed with affluence). This heterogeneity is expressed (among other ways) in the desires for goods and services, which appear to becoming increasingly fragmented, and more difficult to be supplied from a single (and hence in a small economy, local) plant. (A long time illustration in New Zealand is the preferences for a variety of motor vehicle marques and models, so that no local car assembly line has ever been able to achieve economies of scale.) This provides another reason for sourcing products from overseas.

Of course the increasingly heterogeneous communities still have commonalities. (Indeed the greater commonalities which appeared in the past may be an illusion. Was rugby ever a more dominant sport in New Zealand, or was it just presented that way by the ignoring of those who were not passionate about it?) One of these commonalities is a national identity, and that expression of an identity via state and economy, including ownership of common property and images. Thus the pressures to reap the technological opportunities that generate globalisation clash with the demands for community and national expression. Very often it is a clash between the macro and the micro. Many of those who publicly object strongly to the consequences of globalisation at the same time avail themselves of its benefits in their personal life: overseas travel, information sourced from overseas, foreign produced food, clothes, and computers, domestic transport dependent upon overseas imports, and so on.

In summary, the political economy argument is that there are technological changes which are driving globalisation, some of which are beneficial some of which are destructive. It becomes easy to identify the damaging elements and ignore the beneficial ones, or vice versa. In addition it is arguable that globalisation benefits some people rather than others. But again we need to be careful. Perhaps it is really the technological change which undermines some (especially workers with now obsolete skills, locations with now obsolete attractions). But that is a problem which goes back before the luddite cotton weavers. What is new is that the beneficiaries appear to be more likely to be offshore.

The Economic State in a Globalizing World

Globalization thus challenges us with the question “what choice (or what control), if any, does a society open to the globalized world have over its social and cultural policy?” A common view is that it will that international competitive pressures are so strong that they will drive every country down to the lowest common denominate of a pure market economy, with a minimum of government intervention. A (small) community in a globalized world, so it is argued, has no ability to shape its long run destiny.

For instance, suppose a society wanted to have a welfare state, providing a degree of public social security. That would involve taxing the incomes of factors and individuals. This would either raise the costs of production, so industries would move offshore to countries where they were not taxed. Or it would depress the returns on factors of production such as capital and labour, which would migrate to countries where their return was not so depressed. The logic of this account is that all countries will be pressured towards minimizing taxation, forcing them to dismantle their welfare state and shift to the private provision.

This seems to me to be overly pessimistic. But what it does indicate is that changes to the balance of funding government services may be necessary, especially by putting greater emphasis on user pays, user group pays, entitlements based on past contributions, and consumption taxes (rather than on factor incomes). Such changes will be resisted by traditionalists. Moreover and inevitably, there will some people who will be worse off from any rebalancing who, with their advocates, will also strongly complain (while those who are made better off are not as likely to be as vocal). It is not inevitable that the worse off will be the poorest, although any public debate is likely to focus on those among the poor who are worse off.

Much of New Zealand’s difficulties in debating such issues arises from the public prominence of the traditionalists on one hand and the right wing ideological extremists on the other. There are options between doing nothing (other than closing up the economy) and the sort of “trading naked” strategy which the extremists have advocated. (New Zealand’s propensity to strip away all interventions has been likened to someone at an picnic taking off all their clothes in the hope that others will follow. The punchline is the rest of the picnic looks at the naked one, and puts on another jersey.)

Certainly some policy instruments – increasing quotas and tariffs for instance – are becoming prohibited for international trade reasons, at least for a small economy. (Even large countries imposing border barriers are likely to be hauled in front of the WTO.) A positive conclusion may be that the policy issue is identifying new (effective) forms of industrial intervention. That seems to be the conclusion that the National Government came to after the eight plus years of lacklustre economic performance while it was in office. The mid-August 1999 “knowledge economy” package was a shift in that direction justified by the pure market not functioning well in the areas of science and technology and of education and training. It almost certainly presages a more interventionist approach in post economic policy after the election, whoever is government, although it will be a more cautious and disciplined intervention than that of the pre-1984 era. One factor which will force this is that bad policy which raises business costs or taxation without a compensating benefit will be punished in a globalized era, by migration of factors and businesses to less costly regimes.

Even so we can expect greater harmonization. Again there is a long history of this. There was grumbling when New Zealand metrified for international trade reasons (as the official statements clearly emphasize) but this was not seen to be a case against the globalization it was enhancing. Nevertheless the scope of the legal harmonization is increasing. For instance, today there is active discussion on the degree in which New Zealand should align its competition legislation with Australia. Part of the debate is which regime is more appropriate, but there is also a theme that there are advantages in having a broadly common regime. There is no compulsion to align the legislation. The issue is that of the benefits and costs of doing so. Even were New Zealand to adopt the Australian legislation in total, that would be a sovereign act, and at a later date a New Zealand government might choose another competitions policy regime. This applies for most other harmonization, although it may be increasingly expensive to abandon it.

(Harmonization and international law are not confined to economic matters. There are parallel developments for human rights, peace, the environment, and so on. Indeed those who oppose economic globalization are often strong advocates of the extension of international law in other realms.)

Foreign Investment and Capital Flows

A strong theme in the agitation against globalization is the increasing ownership of New Zealand capital by foreign firms, and the rising New Zealand debt. Again this is not new. It would have been a parallel feature of much of the nineteenth century European economy.

It would be easy to argue that the issue is not of national ownership but of national control. Historically the foreign firm that built a factory in New Zealand to supply the local markets, was as dependent upon the New Zealand government as a native one. However it is widely believed that New Zealand has less economic control than it had in its recent past.

Partly it is a matter of magnitude. There is no comprehensive indicator of foreign ownership but as good as any is the income share of production classified as the property and entrepreneurial income to the rest of the world. In the early 1980s it amounted to (on a net basis after deducting the same income from the rest of the world to New Zealanders) between 3 and 4 percent of GDP (i.e. aggregate income). In the late 1990s the ratio was between 7 and 8 percent, or double that of fifteen years earlier. However the rise is largely a consequences of the savings and investment decisions of New Zealanders. Over the period domestic savings were insufficient to fund the capital investment the economy required, so businesses (and suppliers of domestic housing finance) went offshore to fill the increasing gap. It is a fundamental rule of finance that borrowers (individuals, businesses or states) lose their independence – their capacity to make independent decisions – to the extent they are in debt. If that extent rises, their capacity – their sovereignty – falls. Now it may be argued that New Zealand’s past borrowings were unwise – a view with which most future economic historians are likely to agree – but the problem is not of the foreign investment but of unwise domestic decisions.

Such considerations are unlikely to satisfy those who must suffer the downside of the past decisions, nor does it address the symbolic significance of ownership of an asset to the dispossessed (nicely illustrated by the priority iwi have given to regaining land from which they had been alienated). While acknowledging this symbolism however, an economist might ask whether the holders are willing to make the related material sacrifices (as iwi may be doing by taking lower returns in their holdings of land than they could obtained from other investments).


However global financial markets may be overly liquid, and hence excessively volatile. New Zealand, like most debtor countries, no longer depends only upon foreign direct investment (i.e. in equity in businesses) to cover its savings gap. Much of the stock of foreign liabilities is in financial instruments which may be withdrawn at short notice (albeit at some cost to the lender). Thus the New Zealand financial system, and the economy which depends upon it, can be subject to substantial financial shocks. Although it has been New Zealanders who have one way or the other may the borrowing decision, and who have one way or another benefited from the funds that have been borrowed, in my opinion global liquidity is excessive, and potential detrimental to the global economy.

That raises the central dilemma which each country faces. The global economy is far from ideal, yet not to engage in it also has downsides. The theme of this chapter is that technological changes are increasingly integrating the economies of the world to the general benefit to those involved (but not to everyone who is involved). However it may be mismanaged at the international level (as illustrated by the dangerously high level of liquidity) and by each country involved (a proposition which probably true for New Zealand). The difficulty which confronts each economy is the how to relate to this imperfect situation. The choice is not of autarchy or even maintaining the current status quo (were that possible). Nor is it the extremism practised in New Zealand in recent years – the “trading naked” strategy. Getting a balance in between is difficult, especially for a small country which has so little influence.

The New Zealand critics of globalization confuse a number of different issues:
– the actual global arrangements compared with alternative (and possibly better) ones;
– the actual policies of New Zealand towards globalization (and other economic issues) compared with alternative (and possibly better) ones;
– the current losers from globalization compared with the gainers (and the portrayal of the losers as exclusively the poor and the gainers exclusively the rich).

In this confusion it is difficult to identify an alternative, other than one which addresses particular issues (such as protection for a car assembly plant) without examining the general consequences. Neither the uncritical anti-globalizers nor the uncritical pro-globalizers help much towards identifying the options which exist between the extremes. The result has been that New Zealand’s policy decisions have been much less effective than those of other countries (as evidenced by our poorer international trading performances).

Either approach compromises New Zealand’s sovereignty, although to be realistic we have little idea of what the long run sovereignty of nations may look like. With a few exceptions (England is one, unfortunately for Clarity of thinking in New Zealand which is so dependent upon images derived from English history), the nation state is a relatively recent development – a couple of centuries old. It may not last another two centuries. However the cultures which have underpinned the nation state are far older, and are likely to survive them. The notion that the world will end up as a grey cultural soup (based on Hollywood) seems unlikely, although it is possible that cultures may become detached directly from location, given the way that recent technologies are modifying the significance of geography.

New Zealand (and other economies) have some choice over the degree of their engagement in the world economy, although because each option has costs as well as benefit. Insofar as New Zealand can exercise this choice it retains its economic sovereignty. Yet by going into trading and other economic relationships its choice is reduced. A useful parallel with international trade is marriage. To enter into one involves some loss – even a permanent loss – of sovereignty. Yet such are the perceived benefits relative to the costs, that individuals get married, and they remained married even when it is evident to others that there are severe downsides in the arrangements). Thus it is with international trading relationships. The general benefits are judged to exceed the general costs. Similarly, New Zealand and other countries engage in the international economy.