Week 1 LECTURE NOTES/RECITATION QUESTIONS/W ANSWERS for DISCUSSION

1. What is globalization? It is the result of the increased economic integration of nations that follows the opening of nations to trade in goods, services, financial assets and - to a lesser extent - labor. 2. What are the driving forces underlying globalization? Declining transportation costs, innovations in communication technology, liberalization policies of national governments and well-established international "rules of the game" such as those established by the Bretton Woods Agreement (signed July, 1944 in Bretton Woods New Hampshire) in the post WW II period. 3. What are the benefits of a nation's economic integration into a global trading system? Increased opportunities to trade, increased access to technology and to new markets, improved efficiency and hence productivity, better health of its citizens, and participation in an active, global, civil society. 4. How are these benefits achieved? Through intensified competition, which leads inefficient industries to either innovate or exit the market, thereby freeing scarce resources for allocation to more efficient industries. On a national scale, this process leads competitive firms to use a nation's relatively cheap, abundant resources intensively (e.g., China's labor supply, which leads to labor-intensive production, vs. America's abundant supply of technology, which leads to skill-intensive production methods). As a nation's industries specialize in the production of output that uses its abundant resources intensively, it exports those goods to its trading partners and imports goods, which it no longer produces efficiently. This market dynamic generates increased joint output (more goods, services, etc.), for the global economy, than could have been achieved if each nation had continued to produce output that is more efficiently produced by its trading partners. The 19th century classical political economist David Ricardo described this global market dynamic as the "law of comparative advantage." In essence, Ricardo's seminal insight was that international trade promotes greater efficiency and productivity (output per unit of input, which was labor at that point in history) of a nation's industries if the industry specializes in the production of output, which is less costly to produce, relative to its trading partners. 5. What are the detriments of globalization? As industries and even entire sectors of an economy fail to remain competitive, they contract and possibly even fail, leading to significant job losses and declining incomes of newly unemployed workers. The fundamental policy choice of every nation that opens its economy to international trade, then, is whether the increased global output that results from increased economic openness outweighs the costs of lost jobs, lost skill sets, and uprooted individuals and families. This is an empirical question and cannot be answered a priori. The point, here, is that international trade creates winners and losers. 6. Is globalization inevitable? Is it irreversible? As history has demonstrated (e.g., the end of the first wave of globalization in 1914), the process of increased economic

openness of national economies may be reversed as a result of the decline of a nation s GDP, exports or protectionist/isolationist policies. 7. Identify some of the major challenges confronting the international trading system. Among the major challenges facing the international trading system today are maintaining cooperation, and avoiding destructive "tit-for-tat" behavior by the system's many participants; establishing and enforcing international standards for fair labor practices and establishing standards that promote environmental quality.

8. How does an international trading system create "winners and losers"? Why should governments care? The inherent dynamic of market competition, in Josef Schumpeter's famous words, is one of "creative destruction." Perfect competition rewards firms that pursue innovation, specialization, increased productivity and thereby achieve costsavings and improved quality of production. Firms unable to achieve these objectives fail and exit the market. As a result of this dynamic, income is re-distributed and hence creates "winners and losers." Economists, (as practitioners of theories embodying the central ethical, political and economic tenets of 18th century Liberalism), cherish this logic and its outcomes. Government policy-makers, by contrast, seeking to promote the power of their states and or the welfare of their citizens (as embodiments of the central tenets of Mercantilism), want to resist it. Governments in countries (both low- and high income) with struggling industries and low GDP growth rates seek to mitigate the costs of intensified international competition to protect economically significant domestic industries and their owners and workers.

9. In what ways is protectionism similar to the logic and outcome of the famous "Prisoners' Dilemma"? Like the zero-sum outcome of this game when two prisoners, exercising rational self-interest, "rat" on each other, and as a result, both end up in jail, two trading nations, pursuing rational self-interest through the imposition of trade barriers, end up reducing national and global income, which is equally self-defeating. In other words, while protectionism appears rational from the individual nation's short-term perspective, when pursued collectively by all trading nations, it is terribly destructive in the long-term.