Webinar Summary – The 2023 Paul Streeten Distinguished Lecture in Global Development Policy: The Blurred Contours of a New International Economic Order
On March 29, 2023, the Boston University Global Development Policy Center, the Institute for Economic Development and the Department of Economics hosted its annual Paul Streeten Distinguished Lecture in Global Development Policy, which celebrates the legacy of BU Professor Paul Streeten as an eminent economist and interdisciplinary scholar of global development policy.
Dilip Mookherjee, Professor of Economics and Director of the Institute for Economic Development, opened the event by discussing Streeten’s legacy and introduced this year’s speaker: Eswar Prasad, renowned economist and the Tolani Senior Professor of Trade Policy at Cornell University.
In his lecture, Prasad outlined an emerging new international financial order in which economic flows increasingly follow geopolitical ties. He first examined three questions on globalization, which he defined as broader financial and trade integration between countries: What was globalization supposed to accomplish? How did it play out in practice? Where is the international community headed? Prasad then dedicated the second part of the lecture to the future of money, especially digital payment systems and cryptocurrencies and their role for the international monetary system.
Globalization’s original promise, outcomes and outlook
Proponents of globalization long argued that integrating countries in the world economy would lead to a more efficient allocation of capital and, in the process, leave countries better off. Developing countries were seen as abundant in labor but lacking in finance; by contrast, Western nations and investors had access to cheap capital but little productive use. Under these circumstances, globalization would allow Western financial market participants to obtain a higher rate of return on investments in the Global South; on their part, low- and middle-income countries would benefit because they could finance growth. Globalized trade was to fulfill a similar function based on the notion that an integrated world enables countries to specialize in products or distinct parts of the supply chain according to their comparative advantage – at least, this is what a set of economic theories predicted.
In practice, anomalies emerged. Prasad noted that capital did not always flow exclusively from rich to poorer countries. During the 2000s, many advanced economies, including the United States, the United Kingdom or Spain ran current account deficits, effectively needing foreign finance to pay for their imports. By contrast, China and other emerging market economies ran surpluses. Emerging economies could apparently put their savings to better use abroad than domestically. What is more, Prasad’s research shows that the countries that were relatively short of domestic savings and exported capital tended to grow faster and even countries that did not benefit from accelerated growth continued to integrate in global finance and trade.
To solve this puzzle, Prasad introduced the term ‘collateral benefits’ to describe non-monetary benefits including technological expertise, better auditing practices, corporate governance practices or more liquid financial markets. As a result, for some countries, the promised gains from globalization did not materialize, yet, they could benefit indirectly from the integration into world markets. China and India have certainly used this playbook for a long time, Prasad said, but today, they are less reliant on foreign technology and expertise – and this is not the only challenge to globalization.
Despite aggregate welfare benefits, the gains from globalization have been distributed unequally – within and across countries. In addition, the international financial order is in flux because of the COVID-19 pandemic, Russia’s war in Ukraine, climate-related disruption and above all, rising geopolitical tensions. Prasad observed a subtle but important change: the notion of efficiency giving way to resilience.
This raises the question of how countries can increase their resilience. Prasad noted that countries typically attempt this by diversifying markets, but this is difficult and expensive. Another approach is on-shoring or friend-shoring relevant operations. The former describes relocating production to within the national borders; the latter refers to shifting production to allies. For instance, it may be more appealing for the US to move important production to Mexico rather than China due to geopolitical tensions with the latter. This is what the IMF recently described as ‘geo-economic fragmentation’ – the fact that bilateral economic relations, such as production chains, are geopolitically aligned. For decades, geopolitical tensions between the two superpowers were kept in check by bilateral economic activities, which were seen as mutually beneficial. Recent economic policies indicate this is no longer true. For example, both the US Inflation Reduction Act and China’s Made in China 2025 policy attempt to increase self-reliance. In a nutshell, protectionist trade and industrial policies mean that geopolitical and economic tensions now reinforce each other. Prasad argued that the cost of this shift will likely be felt disproportionately by low-income countries who need to choose whether to side with the US or China – and these political games are likely to fragment their economies and lead to more volatility, rather than stability.
Financial innovation amidst geo-economic fragmentation
Another disruption to the international financial order comes in the form of cryptocurrencies and digital payment systems. Since its emergence during the global financial crisis in 2008, Prasad noted that Bitcoin and the blockchain technology set off a revolution in two ways. First, new cryptocurrencies emerged, some of which address the volatility of Bitcoin (e.g., so-called stablecoins that are backed up by fiat currencies and thus, better suited as a medium of exchange). Second, and arguably more importantly, the rise of cryptocurrencies revealed the inefficiencies of global financial markets. Even in the US, about 6 percent of households don’t have access to basic products for managing credit, savings and insurance. In many low- and middle-income countries, this problem is higher by an order of magnitude. International transfers are cumbersome, expensive and slow. Cryptocurrencies offer ways to address this.
Central banks recognize this, too, and are all going digital. A host of countries have established central banks digital currencies (CBDCs): The Bahamas issues the ‘Sand dollar’ to provide access to a low-cost digital payment system. Similarly, China, Canada, Sweden and many others are experimenting with CBDCs. But how will this affect the international monetary system?
To answer this question, Prasad stated that outside of the United States, everyone “loves cheap US dollar funding … but despises the fact that the dollar is so dominant.” The number of countries on the verge of debt distress due to the US Federal Reserve Bank’s recent interest rate hikes illustrate the unhealthy reliance on the dollar. Geopolitics matters, too. The US froze Russian reserve assets held in US dollar as part of its financial sanctions due to the invasion of Ukraine. Against this background, Prasad argued that the most likely outcome of digital currencies is the fragmentation of money, which harms low-income countries disproportionately.
What makes the US dollar the dominant (payment, reserve and safe haven) currency is the size of the American economy, the deep and liquid financial markets and a relatively stable framework. China can rival the US regarding the first two aspects, but not the latter. Prasad emphasized that the US continues to be the country that offers investors, relatively speaking, the best deal. Indeed, the dollar share of global foreign exchange reserves declined only marginally in recent years. By contrast, the euro, the British pound or the Japanese yen declined much more – and the shares of the Chinese renminbi, the Swedish krona or the Australian dollar increased. Thus, a three-tiered currency system becomes apparent, and it is one dominated by the US dollar.
Prasad’s outlook is not for the faint-hearted. Emerging economies may have relatively fully developed financial markets and can hedge against bilateral risk. But for low-income developing countries, the trend towards a three-tiered currency system poses an existential threat. Their exposure to the US dollar is already stark but is likely to increase further in the new emerging international financial order.
Following Prasad’s lecture, Kevin P. Gallagher, Professor of Global Development Policy and Director of the Boston University Global Development Policy Center moderated the Q&A session, where participants asked wide-ranging questions. Prasad commented on the prospects of debt restructuring, elaborated on the risks and promises of cryptocurrencies, connected the debate to concerns about climate change, discussed geo-environmental fragmentation in more detail and gave career advice on navigating the paths between academia and policy.
Kevin P. Gallagher concluded the discussion and aptly summarized – true to the Paul Streeten tradition – that “we have been everywhere in the past couple of hours – globalization, development, cryptocurrencies, the poorest countries in the world and climate change.”
*
Never miss an update: Subscribe to the GDP Center Newsletters.