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Quantifying the Gains from Increased Global Integration

by Pankaj Ghemawat 5. March 2012 23:42

In a previous post, I presented evidence that the world is far less globalized than most people believe, which implies there is also much more headroom to expand globalization than many think. Whether we should favor a more globalized world or not, of course, is an entirely different question, requiring an honest weighing of the pros and cons. And with the Eurozone still at risk, tough talk on U.S.-China trade, and periodic threats of “trade wars” (the latest stemming from the EU’s carbon taxes), such an assessment could hardly be more timely.

In this post, I take up the pro side of the argument, laying out a rough quantification of the potential benefits of increasing integration. Ironically, because most pro-globalizers buy into the globaloney of a world that is already or soon will be perfectly integrated, they seldom bother to articulate their case in a systematic way. So, much of this will be news even to those who favor more globalization.

Start with the gains from expanding merchandise trade. The traditional economic models developed for assessing trade agreements provide estimates of how much global output would expand if tariffs and some kinds of non-tariff barriers to trade are reduced or removed. The gains such models estimate — about 0.1% of world GDP for the stalled Doha round of trade negotiations and roughly 0.5% for complete liberalization of merchandise trade — aren’t very inspiring, but they actually leave out far more than they include.

Traditional models exclude many powerful policy tools for expanding trade. One such tool alone, trade facilitation, could grow global GDP by 1%. And in calculating the benefits of additional trade, these kinds of models focus almost exclusively on growth generated by reductions in production costs as each country’s output becomes more specialized, a limited fraction of the potential gains.

To broaden the range of benefits covered, I use a modified version of the ADDING Value Scorecard, which I originally developed to help businesses evaluate international strategies. ADDING is an acronym for the following sources of value: Adding Volume, Decreasing Costs, Differentiating, Intensifying Competition, Normalizing Risk, and Generating and Diffusing Knowledge.
Because traditional models assume full employment (especially problematic in times like these) and leave out scale economies, they capture only part of the gains in the first two categories, Adding Volume and Decreasing Costs. And they leave out the last four categories entirely, whose benefits can be seen clearly, for example, in the U.S. automobile industry. Japanese entrants decades ago offered consumers differentiated (more reliable) products. Increased competition prompted U.S. automakers to improve their own quality. Now, GM sells more cars in China than in the U.S., diversifying its risks and helping it recover from the crisis. And cars are becoming “greener” faster because of international knowledge flows.

Taking this broader set of factors into account, I put the gains from expanding merchandise trade at 2-3% of world GDP or more.

Next, consider services trade. The service sector is roughly two-thirds of world GDP but only one-fifth of international trade. Barriers to services trade are more complex and some services (like haircuts) will always be delivered locally, but potential gains from opening up services trade are at least 1.5% of global GDP, putting total gains from trade liberalization at 4% of global GDP or more.

Then, look at potential gains from flows other than trade, such as people, capital, and information. Completely eliminating restrictions on migration could double global GDP, but that’s obviously not in the cards. More realistic limited increases in non-trade flows could expand GDP at least 4%, bringing the economic gains to 8% or more. And complementarities among the different types of flows push this estimate up even farther.

Finally, and more subjectively, consider non-economic benefits. Culturally, globalization expands the range of choices available to individuals wherever they live even as it blurs somewhat the distinctions at national borders. Politically, cross-border flows (especially information flows) tend to strengthen democracy. And trade ties also seem to improve national security. The parts of the world that are isolated economically experience far more military intervention by outsiders.

GlobalGDPGrowthchart.jpg

To summarize (see chart), the benefits of expanding merchandise trade are much larger than traditional models indicate, and to those one needs to add gains from services trade to have a complete picture of the benefits of increased trade flows. Then, on top of trade, other kinds of cross-border flows double the estimated economic benefits to at least 8% of global GDP. And beyond that there are complementarities and non-economic benefits that I find compelling but are harder to quantify in GDP terms.

I’m sure many readers by now are champing at the bit to raise offsetting concerns about globalization’s negative effects. I promise to address those in another post. But for now, what do you think of the potential upside from expanding globalization? Which benefits of globalization do you find most compelling?

Tags:

ADDING Value | Globalization | Merchandise Trade | Services Trade

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