Globalization policies may disintegrate world economy

The globalization process, constrained by distinct limits,
is a geographically uneven one. Consequently, policies
based on such an uneven process could ultimately lead to the
disintegration of the global economy. A rethinking of the
respective responsibilities of TNCs and nation states
becomes necessary, given the former's considerable economic
power. These were among the views presented at a UNU/WIDER
conference on TNCs in 1995, which have been published
recently in book form.

by Chakravarthi Raghavan

GENEVA: Forces "driving" the globalization process have
distinct limits, with some of them now approaching these
limits and others of which the limits are already in sight.
Constructing policies around such an "unreachable goal" may
ultimately lead to the disintegration of the global economy,
according to US academic William Milburg.

The combination of technological, organizational and
political limits to globalization may already constitute
dominant forces in the regionalism that characterizes much
international economic activity, from trade to international
economic policy, as evidenced by the importance of European,
North American and Asian regional agreements over the past
five years, Milburg adds.

The extraordinary growth of TNCs and their ubiquity and
economic power, with a relatively small number of them having
achieved considerable command over global resources while
pursuing their narrow commercial objectives, bring them into
conflict with national governments and their wide-ranging
economic, social and political objectives. This raises
important questions about the existing responsibilities of
nation states and TNCs, says Mica Panic. The Cambridge
academic (and author of several studies and books on
interdependence) wonders whether national authorities may not
be justified in demanding more from TNCs, in terms of wider
economic and social responsibilities, than they do from small
national enterprises.

The views of Milburg, Panic and other experts from academia
and international organizations are contained in the book,
Transnational Corporations and the Global Economy, published
by Macmillan Press, London of the papers at a UN
University/WIDER (World Institute for Development Economics
Research) conference on TNCs, edited by Richard Kozul-Wright
and Robert Rowthorn.

Another chapter author in the volume, Michael Mortimore of
the Economic Commission for Latin America and the Caribbean
(ECLAC), analyzes the Mexican experience of liberalized
external trade, massive TNC investments and TNC-centric
industrialization, as compared to the TNC-associated one in
Japan and Korea.

In the Mexican model, the TNC investments have created
modern plants, with productivity levels matching those in
advanced economies, and led to a mushrooming of manufactured
exports, especially of automobiles and electronic equipment
destined for the US.

But the outcome has also been that many local suppliers
have been driven out of business as the economy has been
liberalized and there has been little genuine transfer of
technology, which remains firmly in the hands of externally-
based TNCs. This, Mortimore says in the paper originally
presented at the 1995 UN University/WIDER conference on TNCs,
bodes ill for the future. This assessment is at variance with
the view presented in the World Investment Report (WIR) of

Uneven development

Challenging the contemporary strong globalization thesis
for trade liberalization and a diminishing role of the state,
based on a view of "global integration" in the half-century
before 1913 when such policies ostensibly prevailed and
created a "golden age of economic growth and rapid
convergence", Paul Bairoch and Kozul-Wright find little
evidence for the claims about the past era.

Except for a brief decade or so in the 19th century, for
three decades before 1913, trade policy in the developed world
was one of "islands of liberalism surrounded by a sea of
protectionism", while that in the developing world, as a
result of direct colonial rule, was "an ocean of liberalism
with islands of protection." And there was "uneven"
industrialization in the advanced economies, while in the
developing world, the deindustrialization process (which began
under colonial rule) continued and accelerated.

"The internationalization of finance capital, which
dominated the earlier globalization process as much as in the
contemporary era, appears to be strongly related to a process
of uneven development, often reinforcing existing differences
in the world economy rather than bringing about convergence,"
Bairoch and Kozul-Wright conclude.

William Milburg, in a chapter titled "Globalization and its
limits", has noted that though it has acquired a wide array of
usages, the term, "globalization" is being used
institutionally to describe the spread of capitalism
worldwide, and as a synonym for liberalization (domestic and
foreign) and greater openness of economies. But none of the
various notions of globalization describes any dramatic shifts
in the world economy, but simply the continuation of longer-
term trends.

A strictly global economy, Milburg points out, is one
dominated by TNCs and financial institutions operating
independently of national boundaries or domestic economic
considerations - a world where goods, factors of production
and financial assets would be almost perfect substitutes
everywhere in the world, and where a national economy will no
longer be identifiable and nation states can no longer be
considered distinct economic identities with autonomous
decision-making power.

Increasing interdependence

But there can be little doubt that the world economy is
very far from such a supra-national paradigm, and the current
situation is one of increasing interdependence between
countries where cross-border linkages have reached an extent
where economic developments in one country are influenced
significantly by policies and developments outside its

While the growth of international trade since the Second
World War has been an important element of increasing
interdependence, the cross-border exchange of goods does not
qualitatively change the nature of interdependence.

Rather, globalization is a phenomenon of greater capital
mobility, associated with increased international flows of
investment and finance, with foreign direct investment (FDI)
and international portfolio flows as the two prongs of capital

While FDI has grown, the recent growth is consistent with
longer-run trends, and does not mean production is fully
globalized, since the activities of national and international
firms have also grown. And despite the growth of TNCs over the
past 20 years, FDI still accounted for only 4.3% of gross
fixed capital formation globally in 1993; the total stock of
FDI as a share of world output reached a post-war peak of 8.5%
in 1991, which was still below the 1913 level. In 1992, sales
of TNC foreign affiliates, at $4.8 trillion, were slightly
more than total world exports of goods and non-factor
services, but still less than one-fifth of world GDP at factor
cost; TNC employment accounted for only 3% of the world labour
force in 1992.

And much of the expansion of FDI in the 1980s was in
service industries which tend to be organized along more
traditional lines than manufacturing. Most FDI since the 1980s
has been among developed countries. And while inward FDI to
the developing countries shot up during the early 1990s, this
was almost entirely due to the opening-up of China to FDI, and
the remainder of the flows being concentrated in about 10
other countries.

As for financial flows, the massive increase in aggregate
portfolio transactions, both in absolute terms and relative to
net capital flows, suggests that "a very large proportion of
international portfolio transactions are short-term, involving
round-tripping of capital and very rapid reversal of asset

And while net capital flows to developing countries picked
up rapidly in the early 1990s, they have been concentrated in
a small number of countries. Much of such flows were also in
the form of liquid portfolio investment, with the share of FDI
in net capital flows falling from 80% in 1975-82 to almost 50%
in 1991-94. This was primarily due to a sharp increase in
portfolio flows to Latin America.

While in general, the growth of international financial
transactions may be expected to exceed that of trade and
investment, since simple hedging of each position would need
multiple transactions, the pace of growth over the last two or
three decades has been far in excess not only of that of real
variables, but also of what might be expected from prudential
management of risks. Between 1982 and 1988, the annual
increments in the stock of world financial assets averaged
about $3,800 billion, while the average annual level of fixed
capital formation was around $2,300 billion.

Reviewing trends in the world economy, Milburg points out
that while globalization of production and finance is not
significantly more pronounced than in the immediate pre-World
War I period, it has increased in degree rapidly, if
unsteadily and unevenly, over the last twenty years. While
firms play a central role in this process, and movement of
firms and capital across borders in pursuit of profits is
inherent, this does not explain the market-specific and
geographically uneven globalization process. Rather, many
factors, including primarily government policies, but also
technological and organizational knowledge, and global
macroeconomic trends, have served to promote, constrain or
channel the globalization process by influencing the behaviour
of firms and markets.

Technology, particularly computers and the ability to
transmit information, has enabled firms to move beyond
economies of scale and exploit economies of scope. Financial
institutions have also been globalized, reinforcing the
tendency for financial transactions "to become self-
motivating, independently of the services required by the
process of trade and foreign investment."

In terms of macroeconomics, the floating exchange rate
system, together with the way monetary policy is conducted in
major economies, has added to the growth of global financial
activity, not only by generating opportunities for speculation
and arbitrage profits, but also by increasing the need to
diversify and hedge against risks arising from greater
volatility of exchange and interest rates.

Liberalization wave

In developed countries, liberalization of FDI regimes has
progressed much faster than trade. With FDI becoming
increasingly difficult to distinguish from portfolio equity
investment, liberalization of cross-border equity flows has
been tantamount to liberalization of FDI.

And while the liberalization wave swept the developing
world in the 1980s, and developing countries have been
liberalizing their trade and their investment policies towards
attracting new, inward, "green-field" FDI, financial
liberalization has been much more rapid. Privatization has
also served to deepen the integration of countries into the
global system of production and finance by encouraging capital
inflows and bringing about foreign ownership of state-owned

But the presence of such powerful globalizing forces does
not mean that the state of a "fully globalized economy" will
be reached soon. In fact, each of the forces driving the
globalization process has distinct limits.

Technological capabilities, even in an era of growing TNC
importance, continue to be nation-specific, and national
systems of innovation continue to vary widely.

The level of government support for innovation activities
also varies across countries. In 1990, more than one-half of
R & D in France, Italy, the UK and the US was government-
funded. In Germany, the government supported about 35% of R &
D and in Japan, public spending accounted for just over 20%.
While firms may be stateless in terms of loyalty to a
sovereign political body, most international firms continue to
reflect the ethos of their home-country management and
shareholders, and corporate control continues to carry a
strong national profile.

And while globalization may be rapidly approaching
organizational and technological limits, limits to complete
liberalization of policy are already visible. And, as
globalization occurs, there is an increase in demand for, and
social benefit from, "international public goods" -
infrastructure projects and training. Addressing this problem
on a global level would require an unrealistic degree of
central control.

"Unreachable goal"

And since an identity of interests between microeconomic
actors and macroeconomic outcomes at global, rather than
national, level is unlikely, the globalization process has
repercussions for the interests of various social groups which
exert, directly or indirectly, considerable political
pressures on policy-making. These pressures may arise from the
results of globalization - such as increased spread between
wages of skilled and unskilled workers as a result of
increased trade openness - or from heightened conflict between
rival groups in different nations (such as automobile firms or
commercial aircraft producers needing public support). And if
global institutions do not offer the necessary degree of
loyalty or accountability making for consensus-building, the
institutional structures required to solve these conflicts
would themselves reproduce discontinuities.

Recognizing the limits to globalization inherent in its
political economy is not simply an academic debating point,
"but an indication of [the] dangers of constructing politics
around an unreachable goal."

Globalization is not a new feature of the world economy.
Globalization in the period before 1913 produced a very uneven
pattern of global economic development, exposing the limits of
global economic integration. This subordination of policies to
an unattainable ideal not only prevented many countries from
finding adequate policy responses to the costs as well as
opportunities of globalization, but ultimately led to the
disintegration of the world economy.

In analyzing the roles of TNCs and nation states, Mica
Panic focuses on the conflicts likely to arise between TNCs
pursuing their narrow commercial objectives and national
governments trying to discharge their wide-ranging economic,
social and political responsibilities placed on them by their

In pursuit of narrow corporate objectives, TNCs have
achieved such command over global resources, and such an
impact on the international economy, as to raise serious
doubts over the nation state as a form of political

But unlike states, TNCs have no sovereign power, and their
decisions can be blocked and overturned by the states in which
they operate. TNCs cannot prevent an independent state from
exercising sovereignty; they can only frustrate the exercise
by making it costly in welfare terms. They have, however, to
be taken into account in terms of national and international
production, employment, distribution of income, trade, finance
and policies, even questions of war and peace.

By operating at any one time in a number of different
economic and political environments and by exploiting these
differences, TNCs are even more powerful and unpredictable
than oligopolies confined to a single country. Mainstream
analysis and economics, however, do not attempt to incorporate
TNCs into general analysis.

And while, outside mainstream analysis, there is a vast
body of literature on TNCs, it is "predominantly descriptive
in character... with little effort to analyze the extent to
which the nature of international trade, factor flows and
economic policy have been influenced by these enterprises in
ways that purely national firms would never be able to do."

Literature on international economic integration has
developed around concepts of openness, integration and
interdependence - which, although each refers to a distinct
aspect of linking different economies, are often used
interchangeably, usage that is justified only if there is
everywhere the same chain of events.

Where factors of production are mobile within countries,
but immobile outside, the only way of integrating two or more
economies is through trade. But once assumptions of
international factor mobility are dropped, the sequence of
events towards integration changes radically.

In such a situation, in terms of overcoming barriers to
international trade, while various barriers - administrative
(tariffs, subsidies and so on), geography, cultural and
religious differences, inequalities of income and wealth, and
corporate barriers - are insurmountable for national firms
without the help of governments, TNCs face no such
disadvantages. TNCs can get around administrative or
geographic barriers to access and supply markets. Exchange
controls become ineffective in preventing them from spreading
globally. But they will avoid significant disparities in
productivity, income and wealth, and hence markets in
countries with low incomes are too small to attract TNCs.

Not textbook markets

Whatever else it may resemble, the environment in which
TNCs operate has little in common with models of highly
competitive markets (commonly assumed in economic textbooks).
Given the rapid growth in number and extent of operation of
TNCs, most of them coming from the developed economies, it is
no wonder that they play such an important role in many
countries, including in some of the world's largest and most
industrialized economies.

The rise of TNCs has thus had a profound effect on the
international division of labour and the distribution of gains
and losses resulting from it. As past experience has shown,
unequal gains from global specialization are likely to lead to
the breakdown of the internationally integrated system.

"Yet this important condition is normally brushed aside in
economic literature by assuming either perfect competition in
commodity markets or perfect mobility of labour and capital
once administrative barriers to trade are removed."

Globally, the strategies of TNCs are likely to evolve
around broad objectives of protection of existing markets and
entry into new markets. To achieve these goals, TNCs have
little alternative but to engage in restrictive business
practices both internally and in relation to their
competitors. They will not, for example, export to a market
where prices are high, if that market has an affiliate
operating in it. Such corporate strategies (even within the
EC) are the main reason why important price differences remain
within different countries of the EC. For the same reason,
freedom of international capital flows has not led to the
narrowing of differences in rates of return on capital
investment in major industrial countries or in real long-term
interest rates.

International allocation of resources and the welfare of
countries are influenced by the decisions of parent TNCs, with
their preference to concentrate R & D activities mainly in
their home countries.

If the trading strategies of TNCs, following the abolition
of administrative barriers to trade, can perpetuate
misallocation of resources, their investment decisions can
create serious adjustment problems in some countries. Trade
liberalization will enable TNCs to rationalize their
production operations by reducing, eliminating or increasing
production in various countries. This could lead to a fall in
output, employment and incomes in the former and an
improvement in the latter, whose external positions could

These could happen even in the absence of TNCs, and
inefficient national firms could go out of production because
of competition unless they get time to adjust. But this last
is why countries liberalize their trade gradually. But changes
involving rationalization of production come rapidly where
TNCs are involved. And once the investment and reallocation
decisions of TNCs set in, they are difficult to reverse in
conditions of economic openness.

Different responsibilities

Hence, in a world of TNCs and independent sovereign states,
both the concept and the predictions of the familiar free-
trade model need to be revised. The conflict between corporate
and national interests is bound to have far-reaching
implications for economic policy in general, well beyond the
relatively simple issue of trade policy.

Referring to possible conflicts between TNCs and sovereign
state, Panic points out that the differences in their
respective preoccupations arise from their different
responsibilities. The "international" character of a TNC
sooner or later produces a situation where it is not clear
what the national identity of the TNC is, and hence its
concern for the "national interest" of the country where it
operates is thrown in doubt. The board of a TNC is expected to
maximize corporate profits, not the welfare of any state where
it operates.

The existence of TNCs adds considerably to the uncertainty
which is invariably present in macroeconomic management. While
national firms can be expected to respond to different fiscal
policies, the same is not true of TNCs. The latter's response
would depend on which market they are supplying from the place
where they are located. Unlike national firms, there is no
guarantee that a TNC will undertake an investment in a country
on the basis of the incentives of fiscal policy. It may even
use the higher profits generated in one country to overtly,
via FDI, or covertly, via transfer pricing, finance investment
in another country.

There are similar uncertainties surrounding TNC reactions
to a deflationary policy or an industrial policy undertaken by
the government of a country.

TNCs could decide, on the basis of evidence available to
them, that long-term prospects are more favourable in some
other country than the one pursuing an industrial policy.
National firms can be prevented from investing abroad, but
TNCs can get around this through manipulation of their
internal transfer price, thus increasing the burden of
taxation on the national firms.

Again, while countries may want to expand their economies
in a particular sector, TNCs might want to pull out of those
activities in the country concerned, thus frustrating national
efforts to diversify. Even the pace of technological change
and international competitiveness have created problems
between TNCs and governments.

TNCs, Panic further points out, are also in a position to
frustrate the effectiveness of monetary policy significantly,
since their source of funds is not confined to a single
country. By their borrowing policies, they can nullify a
central bank's effort to increase or reduce the money supply
inside a country.

Similarly, TNCs can also frustrate income policies, used
after the war in many industrialized countries. They can also
similarly frustrate social policies.

There is nothing malicious in any of these actions of TNCs.
Each is perfectly rational from a corporate point of view.

But conflicts between a national policy and that of a TNC
can arise out of differences in background and tradition
between those running TNCs and those running national

In developing countries, the presence of TNCs could give
rise to a number of problems associated with the emergence of
"dual economies" which are particularly difficult to solve.
While conflicts can arise with national firms too, there can
be little doubt that given their dominant position in many
national economies, TNCs are able to exert considerable
influence on government policies and significantly change
economic and social policies.


Thus, conflicts are likely to arise between TNCs pursuing
narrow commercial objectives and national governments trying
to discharge wider economic, social and political
responsibilities placed on them by their electorates, says
Panic. The impact of TNCs on national economic policies may be
such as to seriously undermine the authority of the "nation"
state - the only institution capable of providing economic and
political stability, and without which TNCs would find it
difficult to function effectively, and consequently justify
their character.

This does not mean that TNCs have made governments
irrelevant, even less that they have affected all states
equally. Governments of large countries still retain
considerable freedom to pursue policies in the national
interest - their economies are much more self-sufficient than
small economies and the size of their markets, combined with
institutional uniformity and greater independence and
predictability of policies, ensures that TNCs cannot afford to
be excluded from them.

"Nevertheless," concludes Panic, "the ubiquity and economic
power of TNCs raise important questions concerning the
existing responsibilities of nation states and transnational

"Are electorates still justified in expecting national
governments to effectively discharge the responsibilities
which a larger form of political organization seems to

"Equally important, are national authorities right to
demand no more from TNCs in terms of wider economic and social
responsibilities, than they do from small national
enterprises?" This last question of Panic's appears to go to
the heart of the debates on international investment and other
multilateral rules, where there is a demand from the powerful
home countries of TNCs that they should be able to get
"national treatment", that is rights no less than those
accorded to national or domestic firms and obligations no more
than those required of national firms. (Third World Economics No. 191,
16-31 August 1998)

Chakravarthi Raghavan is the Chief Editor of the South-North
Development Monitor (SUNS)from which the above article first appeared.