CategoryCurrent tpics

Trade and Welfare: Lessons Learned

When does a country benefit from trade? Many classical and neo-classical economists claim that countries benefit from “free trade.” Two British economists, Adam Smith and David Ricardo, are credited with developing the idea of free trade in its current form. Advocates of free-trade believe that trade is the singular reason why certain well-known civilizations prospered including Egypt, Greece, Rome, Bengal (East India) and China. Many classical liberals from the 19th and 20th centuries actively sponsored the ideology that free trade promoted peace and not just prosperity.

Countries committed to a free trade policy minimize restrictions on imports from, or exports to, other countries. However, most nations today despite being members of the World Trade Organization (WTO) impose protectionist policies (e.g., tariffs, quotas, taxes, and non-tariff barriers including regulation) with the intention of supporting local employment or limiting entry/exit of certain goods and services. The reality is that most countries do not practice free trade in principle.

When is Trade Beneficial

The major industrial nations, which includes the US and the majority of Western European countries, have benefited from trade because they have pioneered innovative products with high profit margins that are valued globally. Because of access to international markets, which are manifold times larger than their local markets, the benefits of trade have been immeasurably larger for the industrial nations. Encouraging the world to commit to free trade when a nation provides goods that are both profitable to produce and desired by others allows producer-nations to amass wealth because exports exceed imports.

Exporting Models

There are at least two fundamental differences in the export lead growth adopted by the US and the approach implemented by the Western European countries including Japan.

  1. Outsourcing domestic production

The US-based producers have outsourced much their production internationally to exploit differential wage rates and lower their production costs which benefits US shareholders. However, in doing so, substantial jobs are lost to international markets which causes short term economic hardships locally. The economic hardships are more resilient unless displaced workers find alternative employment by relocating or investing in human capital through retraining programs. In sharp contrast, in much of western Europe and Japan, the model has been based almost exclusively on domestic production which implies fewer jobs losses to outsourcing.     

2. Immigration

The US, which founded the new information-based economy, has been the leader in cutting edge innovation by attracting “global talent.” Because of the attraction of high wages and a realistic opportunity to amass wealth in a relatively short period of time, there has been a large influx of legal migration. The economic prosperity has also been a haven for illegal immigration. As migrants offer comparable or better services at lower wages, one notable side effect of immigration (legal and illegal) is job losses for US citizens. Moreover, in an information-based economy, workers without necessary skills may be unable to harness the benefits from innovation which also adds to economic hardships.

In contrast, Western Europe until recently has been immune to migration problems because of stringent immigration policies and from having smaller territorial borders which are easier to patrol and ward off unwanted inflow of migrants. However, this convenient model has been tested lately. The inclusion of eastern European countries into EU increased the inflow of labor migration into the more prosperous western European economies. The political turmoil in middle east also contributed to both legal and illegal migration. The western European countries are also captive to an additional economic dilemma. Because of an attractive social welfare system, their citizens must pay for non-productive immigrants.    

Outcome of the Geo-Political Shifts

A key consequence of the socio-economic shocks is a large wage gap and wealth disparity in industrial nations. In democratic countries, if the gains from production and trade are confined to the elite, the majority of the population are expected to vote opposing the status-quo and elect candidates who promise to usher in changes to existing growth models. Some prominent examples include Brexit decision, the US elections, and the shift in the socio-political debates in France, Germany, Netherlands, Denmark, and Italy (Scandinavian countries and Switzerland are relatively immune because they are not party to the EU block or EU monetary system).

Lessons Learned

As we continue to reap the benefits from trade and free markets, we are also at the vortex of their detrimental side effects. The recent political dialogue is a reminder that to preserve trade and economic co-operation, the gains from trade must accrue to all strata of society. The alternative is a protectionist and isolationist strategy which may generate near term benefits but may be harmful for a producer nation’s long term economic welfare.

December 31, 2016; 12.02A

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The Joy of Being Wise

joyconnolyJoy Connolly,1 a Professor of Classics and the Dean for Humanities at New York University, has been appointed as the Provost of the Graduate Center of the City University of New York. As the Dean for the Humanities at New York University, Professor Connolly was responsible for about 400 faculty in 30 departments, programs, centers, and institutes. Her primary research interests include Roman republicanism, rhetoric, civic discourse, classical reception, and the role that aesthetic experience plays in the formation of political judgments.

With immense pride and excitement, we welcome Professor Joy Connolly to Graduate Center and to the City University of New York.

The City University of New York (CUNY)

The City University of New York, or CUNY as it is popularly known, is the largest urban university in the United States. CUNY is an integrated system of senior and community colleges, graduate and professional schools, research centers, institutes and consortia. The City University of New York receives funding from New York State and the City of New York. Presently, the CUNY network of colleges and schools provides high-quality, accessible education for more than 274,357 degree seeking students at 24 campuses across New York City.

CUNY faculty includes recipients of the Nobel Prize, the Pulitzer Prize, the National Humanities Medal, the National Medal of Science, the National Endowment for the Humanities, the Rockefeller Fellowship, the Schock Prize, the Bancroft Prize, the Wolf Prize, Grammy Awards, the George Jean Nathan Award for Dramatic Criticism, Guggenheim Fellowships, the New York City Mayor’s Award for Excellence in Science and Technology, the Presidential Early Career Awards for Scientists and Engineers, and memberships in the American Academy of Arts and Sciences and the National Academy of Sciences. For example, Paul Krugman, the Nobel Laureate in Economics, is a Distinguished Professor of Economics at the Graduate Center of CUNY. Professor Krugman was awarded the Nobel Memorial Prize in Economic Sciences for his contributions to New Trade Theory and New Economic Geography.

CUNY alumni includes an awe-inspiring list of individuals. Some prominent examples include Colin Powell (Former Secretary of State), Barbara Boxer (U.S. Senator from California), Max Kupferberg (Manhattan Project physicist), Ray Romano (TV actor and comedian), Joy Behar (comedian and writer), and Matthew Goldstein (Former Chancellor of CUNY). Refer to the website below for a comprehensive list of CUNY alumni.

Graduate Center, the City University of New York

Residing within the City University of New York (CUNY), the Graduate Center (GC) is an advanced teaching and research center. With over 35 doctoral and master’s programs of the highest caliber, and 20 research centers, institutes, and initiatives, the GC benefits from highly ambitious and diverse students and alumni. Through its public programs, the GC enhances New York City’s intellectual and cultural life. A distinct advantage for the Graduate Center is that it can draw upon its more than 1,700 faculty from across the CUNY college-campuses and scientific institutions dispersed throughout New York City.

Devoted exclusively to graduate education, the Graduate Center provides rigorous academic training in the humanities, sciences, and social sciences. GC remains the principal doctoral-granting institution of the CUNY system. As of June 2013, the CUNY PhD in Business is offered jointly by the Graduate Center and Baruch College.

Baruch College, the City University of New York

If you want a business degree, graduate or undergraduate, you must walk about 10 blocks south and head for the CUNY’s crown jewel, or its Kohinoor, Baruch College. Baruch College has about 18,000 students with around 80% majoring in business, which makes Baruch College the largest business school in the U.S.

With a legislatively mandated mission, the CUNY education system acts “as a vehicle for the upward mobility of the disadvantaged in the City of New York … ensuring equal access and opportunity.. to students, faculty and staff  from all ethnic and racial groups.” 

In spirit, the CUNY education-system embodies the much revered Finnish education system!

 Helsinki, August 17, 2016.

 1Irish meaning of the name Connolly is wise or brave.


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Can Migration Explain Britain’s Decision to Exit EU?

BrexitNearly 52% of British citizens (17.4 million) voted in the ‘referendum’ on Thursday to exit the European Union. The outcome is startling because, from all accounts, the economic cost to Britain in the short- and long-term is expected to be staggeringly high. In less than 3 days, the global financial markets lost more than $3 trillion. During this period, the FTSE lost more than 100 billion pounds. The British pound, which was trading at an exchange rate of around $1.7 about a year ago is trading today at around $1.35.

The worst may not be over. Many sophisticated analysts believe that the pound could fall to as low as $1.10 within a year and it is projected that the U.K economy might hit a recession with a precipitous decline in property prices.

Why did the majority of the voting electorate elect to exit the EU and embrace large economic costs? One common explanation is linked to the sustained inflow of migrants from other EU countries.

Migration Statistics

Statistics disproves this theory. In 2015, the inflow of foreign nationals into Great Britain was 630,000. The increase in foreign population in 2015 as a percentage of Britain’s population, which is around 65 million, is less than 0.01%. Most economists would consider such an increase as a rounding error.

Between 1990 and 2015, Britain’s population grew from 57 million to 65 million, which translates into a modest increase of less than 1% per annum. Again, this small magnitude of the inflow of foreign nationals into Britain is unlikely to drum up mass hysteria among British citizens. Granted, the politicians have exploited the foreign migration issue to harness their individual political careers. However, the migration numbers from the census bureau do not support the casual observation that migration is a key factor driving the British anger.

If the scale of ‘legal’ migration fails to provide a compelling narrative why the majority of British nationals, principally the English, chose to exit the EU, there must be other persuasive economic explanations why 17 million rational British individuals didn’t hesitate to marry into an economic uncertainty.

Factor Price Equalization Theory

The Nobel Laureate in economics, Paul Samuelson, wrote his theory of “factory price equalization” in 1948. His theory might provide deeper insights into Britain’s current dilemma.

The Theory: According to factor price equalization theory, the prices of identical factors of production (typically labor and capital) will be equalized across countries as a result of international trade in commodities. Thus, when two countries have a free trade agreement, even without free mobility of labor, any differential in wage rate (price of labor) and rent of capital (interest rate) between two trading countries is expected to slowly dissipate. With the advent of free mobility of labor, as in the case of EU-Shengen countries, the factor price equalization process converges rapidly.  

Wage Disparity

Anecdotal evidence suggests that much of the migration of EU nationals into the U.K. has been mostly from Eastern Europe, which is typically identified as having depressed wages. For instance, according to World Bank statistics, the average monthly wage rate of Poland is €430, for the Baltic States (Lithuania, Latvia and Estonia) it is €380, for Hungary it is €358, for Romania it is €279, and for Bulgaria it is €215. For some Western European countries like Spain and Portugal the wage rates are also quite low (around €600).

In sharp contrast, the average monthly wage rate of Great Britain is around €1,550. Thus, the average wage rate of U.K is about 3 to 5 times larger than the wages of the migrant countries.

Economic Outcomes

  • Negative outcomes
  1. Wages in the host country are expected to decline as new migrants from lower wage-rate countries provide their services at a lower price in the U.K. The influx of competition injects considerable downward pressure on the wage rate of the host country. Unfortunately, U.K. workers must bear the brunt of this cost. In the absence of any barriers to entry in the labor market, i.e., specialized degrees or technical skills, wages of the host country will decline. Typically, “blue collar” workers who do not have a comparative advantage are most affected by migration. In contrast, “white collar” workers remain unaffected because migration does not affect competition in this sector.  
  2. Depending on sector specific labor migration, the abundance of labor force will also lead to some loss of jobs. Again, the job loss is expected to be confined to the blue collar working class because of fierce competition and limited growth opportunities in this sector.

The combination of job losses and a decline in wages gives rise to public discontent, anger, and resentment. This resentment is likely to be confined to working class. This is a strategic reason why the voting pattern in the referendum can be explained by the level, or lack, of education. The more affluent people or the more educated people would vote against an exit while those with lower levels of education or having less financial security would vote in favor or an exit.

  • Positive outcomes

Economists often underscore the gigantic economic benefits of migration. Yes, wages/rates decline with migration but it spurs investment, which in turn leads to more jobs. Consumers always benefit from migration and trade because of lower prices.

The Politics of Winner and Losers

A fundamental human natural law is that there are winners and losers in any society. An optimal and emancipated society aspires to minimize the number of losers while maximizing the number of winners. Judging from the referendum, a disproportionally small segment of the U.K population appropriated much of the gains from being part of the European Union, while a large segment of the population lost because of the union.

The U.K experience is a reminder that gains from trade, or common markets, must accrue to all strata of society. Otherwise, there will be social unrest or perverse outcomes that are to the detriment of the country’s long term economic welfare.

Migration issue is a sensitive topic in the U.S. as well where the discussion centers around illegal immigration. Whether the benefits of migration accrue to the majority of the citizens of the host country will decide whether ultimately host countries become more welcoming towards migration (illegal or legal).

At the end of the day, we are all migrants. Some migrated recently, while others migrated a while back.

Helsinki, July 1, 2016; 9.59P

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