Work in Progress: do not quote,

unless favorably. Comments Welcome.

Globalization and the “Universal Market”:

A Framework For Understanding Increasing Wage And Salary Inequality In The United States*

James Devine

Professor

Economics Department

One LMU Drive, Suite 4200

Loyola Marymount University

Los Angeles, CA 90045-2659 USA

e-mail: jdevine@lmumail.lmu.edu

http://clawww.lmu.edu/~JDevine

revised: October 22, 2002

Leftist or liberal critiques of the current economic situation typically concern the rapid increase in inequality of wealth ownership or income receipts within U.S. society as a whole. This paper leaves that concern largely aside, instead focusing on the rising inequality among U.S. wage-earners during the last 25 years or so. For example, between 1979 and 1999, the “real” or inflation-corrected wage of poorest tenth of male workers fell by about 10 percent, while that of the most affluent five percent rose by about 18 percent.[1] Over this period, this kind of widening of gaps has been seen between and within almost all skill classifications, though was reversed for awhile during the temporary boom of the late 1990s.

This paper started as a critique of an article in Mother Jones by superstar economist Paul Krugman.[2] Despite residing at the top of what he approvingly terms the “academic pecking order” (then M.I.T. and now Princeton), he wrote an article for the traditionally Liberal muck-raking magazine in order to defend “globalization.”[3] Since the MJ article is so old, I have been tempted to drop Krugman from the focus. But I kept his role, since he has done us a favor: by bringing major suspected causes of increased inequality together in one place, it provides the structure for the construction of an alternative primer on so-called “globalization,” applying the perspective of Marxian political economy. The point of using Krugman as a foil is not to criticize his innovative scholarly research but to focus on his popular articles. The latter totally miss the depth of his more serious work.[4] But his popular works are like orthodox economic textbooks, which put forth a simplified version of the consensus among the dominant school of professionals, i.e., “what students should know,” without the sophisticated complications that just confuse them. Thus, his popular work can reveal the conventional thinking on the globalization of capitalism – while a critique can help us develop an alternative vision. This, not the criticism of Krugman per se, is the point of this essay.

Krugman rightly and forthrightly rejects “the hired guns of the right” who still claim that these widening gaps are only a statistical illusion. He therefore moves the discussion to a different and higher level, the theoretical investigation of “The Sources of Inequality.” In line with the establishmentarian defense of “free trade,” his main thesis is that “Imports from low-wage countries – a popular villain – are part of the story, but only a fraction of it. The numbers just aren't big enough.” As usual for an intelligent observer, he has something right: “globalization” per se is not the enemy. Dropping his static assumptions and his near-total avoidance of issues of international investment and macroeconomics, however, capitalist globalization is more important than he sees it. Further, the evidence presented below indicate that to some extent, the phenomenon under discussion is just beginning: from the perspective of the United States, capitalist globalization (i.e., increased U.S. international dependency) accelerated in the 1990s.[5]

Nonetheless, such capitalist globalization is only one part of a larger process, i.e., the development of what the late Harry Braverman termed “the Universal Market,” one side-effect of the competitive and aggressive capitalist drive to accumulate wealth and power.[6] It should be stressed, however, that this process is neither “natural” nor “inevitable”: in recent decades, the political dominance of the laissez-faire “Washington Consensus” has been crucial; this centers on the U.S. Treasury and the international agencies it dominates, especially the International Monetary Fund, and the World Bank. That is, the growth of the Universal Market – in which “Everything is for Sale”[7] – was encouraged by the Neo-Liberal policy revolution that took the world by storm starting in the late 1970s. This has in turn been a result of the rising class power of capitalists and the concomitantly weaker political and economic power of the working class and the poor. This power shift has been both a result of previous shifts and a cause of new shifts in the balance of power, as part of a vicious circle of capitalist accumulation.

The abstract tendency toward marketization and toward greater capitalist power should not be considered in isolation (as Braverman usually did), but in conjunction with people's efforts to resist being reduced to being treated as mere commodities, to having their social relations reduced to a mere “cash nexus.” In the absence of a broad socialist or labor movement that makes efforts to organize the least powerful, individuals' partial success at gaining security in an increasingly insecure economic system helps to explain widening income gaps. Because different individuals and groups of workers have different abilities to resist capital's depredations, the development of the universal market occurs unevenly. Specifically, those with the most power and privilege at any point are able to resist marketization and capitalist globalization the most, encouraging widening gaps to develop compared to those with less power.[8] Put another way, the universalization of commodity production (markets) increases the insecurity of almost all employees, so that only a small number are able to insulate themselves from market forces and to keep their real incomes from falling in the trend. This summarizes the main thesis of this paper: the collision between all-encompassing growth of the market and the incomplete resistance by people led to the rise of growing gaps between “winners” and “losers.”

My criticism of, and alternative to, Krugman's primer generally follows his outline, starting first with international issues, i.e., global investment and trade competition. Some historical background is presented concerning these issues. The discussion then turns to more so-called “domestic” issues that he mentions, i.e., the role of technology and the rise of secondary labor markets (to use the jargon of labor economics). But my investigation necessarily get far beyond the restricted scope of Krugman's article, because of the impact of marketization on profit rates, macroeconomic policy, inflation, and unemployment. Part of the problem with his argument is that the artificial limits he puts on the subject-matter by their very nature minimize the role of capitalist globalization; as is so common, his chosen theoretical framework helps produce his desired answer. My “going out of bounds” also has the benefit of helping to explain the surprising falls in officially-measured unemployment to rates close to 4 percent of the labor force during the late 1990s without igniting an inflationary explosion (completely contrary to the received wisdom). This essay finishes with some comments on the prospects of world economy and what can be done.

Like Krugman's, this essay is centered on U.S. concerns. Naturally enough, the contrast is between the “Golden Age” of what Tom Weisskopf termed “Security Capitalism” (reflecting a temporary truce between classes implicit in New Deal liberalism or social democracy before 1975 or so)[9] and the increasing insecurity of recent decades (the rise of Neo-Liberal Capitalism). Further, the discussion is time-limited: both the establishment of Security Capitalism and trend toward globalization of the U.S. economy started after World War II. Thus, the story of U.S. globalization is different from that of say, the United Kingdom, which had been immersed in the global economy during the 19th century and had then joined the general trend toward anti-globalism in the 1930s. Further, I avoid the common mistake of conflating both time and space by comparing the globalized status of the U.K. before World War I with the situation in the U.S. now. The focus is on a single country, over time.

Before we start it should be stressed that, unlike for Krugman, the size of the “fraction” that imports from poor countries play in encouraging growing income gaps amongst wage-earners is not very important. Whatever the size of this fraction, it must be combined with the other elements of the story. More importantly, this combination is not a simple addition, since the various elements interact with – and reinforce – each other. The whole (the universalization of markets, the rise of capitalist class power) is more than just a sum of the parts (including trade competition).

1. Capitalizing the World

Turn now to Krugman’s MJ article. Strangely, both immediately before and directly after mentioning international trade in products, he brings up the issue of foreign investment: “We [i.e., U.S.-based capitalists] invest billions in low-wage countries – but we [i.e., they] invest trillions at home.”[10] This comparison of unspecified and unreferenced amounts that “we” invest totally ignores the steady growth of the amounts that U.S.-based capitalists invest abroad. Since we [the readers and I] are living through a dynamic process, the spiraling rise in inequality, not only does the level of investment in low-wage countries at any one time deserve attention but also how things have changed. A single gee-whiz statistic, no matter how vague, will not do.

But the readers should thank Krugman for bringing up international investment – even if he does so only to dismiss it.[11] It suggests that his strategy of focusing only on foreign trade (“imports from low-wage countries”) is excessively narrow. A central fact of the current globalization that differentiates it from previous eras for the US is that more than merely commercial capital (involved in trade) and financial capital (loans) are being internationalized. More and more, it is productive capital that is being globalized as the entire circuit of capital covers the earth, in a more unified way.[12]

This increasing globalization of productive capital – i.e., of money-capital invested to garner a profit from production rather than from trade or lending – is nowadays more than the traditional investment that occurred in the poorer capitalist nations. The latter involved investment in infrastructure, raw material extraction, and some special kinds of manufacturing. The last is manufacturing that was protected by tariff walls of countries that followed Alexander Hamilton’s idea of promoting “infant-industry” manufacturing (often called import-substituting industrialization or ISI). The new investment involves what Krugman (in Brookings) terms the “slicing up the value chain” among different sites around the world, as when different components of an automobile assembled in the U.S. (or in any other country) are produced in many countries. This works in tandem with the rising role of manufacturing in the so-called “newly industrialized economies” (NIEs) such as South Korea or Mexico. This process is unified by the bureaucratic power of transnational corporations (which often out-source production in these NIEs) and by the increasingly prevalent tendency for profit rates to be equalized internationally by the mobility of capital.

This crucial long-term trend of U.S. capitalism since World War II can be seen statistically: as shown in column [1] of exhibit 1 below, the ratio of direct investment abroad by non-farm non-financial corporations to their total fixed investment varied between 5 and 10 percent before 1991 and then soared to about 15 percent in the early 2000s, showing a steep rise after 1988. As a fraction of GDP (the total production of the country sold through the market), this type of investment more than doubled, from 0.5 percent to over 1 percent, between the same periods, as seen in column [4].

Exhibit 1: the Rising Importance of Direct Foreign Investment
	as a % of total Domestic Fixed Investment			as a % of nominal GDP
period	U.S. Direct Foreign Investment	Foreign Direct Investment in the U.S.	Average	U.S. Direct Foreign Investment	Foreign Direct Investment in the U.S.	Average
1946-49	8.2%	0.0%	4.1%	0.5%	0.0%	0.3%
1950s	5.7%	0.5%	3.1%	0.4%	0.0%	0.2%
1960s	7.2%	0.9%	4.0%	0.5%	0.1%	0.3%
1970s	7.5%	2.3%	4.9%	0.6%	0.2%	0.4%
1980s	5.5%	8.5%	7.0%	0.5%	0.7%	0.6%
1990s	12.6%	11.4%	12.0%	1.0%	0.9%	1.0%
2000-01	15.0%	14.8%	14.9%	1.3%	1.3%	1.3%
	[1]	[2]	[3]	[4]	[5]	[6]
Investment numbers are for non-farm non-financial corporate businesses Columns [1] and [4] are based on line 30. Columns [2] and [5] are based on line 54. columns [3] and [6] are averages of these two. Fixed investment is from line 12; nominal GDP from table F.6, line 1.
source: Federal Reserve Flow of Funds Accounts of the United States, March 7, 2002, tables F.102.

Of course, turnabout is fair play, so that foreign investment in the United States is rising: here in Los Angeles, I have seen not only a branch of Lippobank, an organ of the infamous Indonesian group which encouraged White House corruption during the Clinton administration, but also delivery trucks for Pan Bimbo, the Mexico-based company that produces a Wonder-like bread. For non-farm, non-financial corporations, foreign direct investment in the U.S. has risen steadily over the decades as a percentage of the total domestic fixed investment, from below 1 percent in the 1950s and early 1960s to almost 15 percent in the early 2000s, as seen in column [2].[13] Column [5] shows a similar, but more dramatic, trend as a percentage of nominal GDP.

The point here is not to blame either U.S. or foreign capitalists for globalization. Both types follow the same profit imperative, while there’s no reason to automatically assume that the nationality of one’s boss is very important. Rather, the issue is the role of world capitalism as a whole in transforming the U.S. economy. Thus, a better measure of the degree of internationalization of capital for the U.S., the average of both investment abroad and foreign investment here, has risen dramatically from about 4 percent in the 1950s and 1960s to almost 15 percent in the early 2000s [column 3].[14] Again, similar trends can be seen relative to nominal GDP [column 6].[15]

Further, the profit reaped in foreign climes rose from about 5 percent of total profit in the 1950s to an average of above 12 percent in the 1990s and almost 14 percent in 1998 and over 19 percent in 2001. Though this ratio stopped rising during the middle-to-late 1990s (partly due to the rise of domestic profitability) and its upward surge in 2001 may be temporary (reflecting the short-lived domestic recession that year), the upward trend is clear.[16] Among other things, this tendency implies a greater dependency of the profits of U.S.-based corporations on the health of the world economy. Since these corporations are so central to the U.S. economy's prosperity, that economy is also increasingly dependent on international matters.

At this point in the discussion, it is commonplace to note that most U.S. foreign direct investment is in other advanced capitalist counties, not in low-wage areas, just as most direct investment in the U.S. is from other rich countries. But in recent years, direct investment in low-wage countries has risen sharply relative to that in rich countries. Consider direct investment in manufacturing, the center of most discussions of so-called “deindustrialization” and capital flight. In-person services, retail, and similar sectors are irrelevant to such discussions, since their operations are very hard to move internationally.

In 1952, about 25 percent of the total U.S. direct investment position in foreign manufacturing industries was in what the Commerce Department defined as “developing countries” in the early 1980s. As orthodox economists emphasized, this ratio fell until 1960 (to 15.6 percent). This is explained by the shift by U.S.-based companies away from investment behind third-world tariff barriers (mostly in Latin America, which had followed an ISI strategy, protecting industry to promote growth) to tap the markets and skilled labor forces of the other advanced capitalist countries (especially in Western Europe) as the latter recovered from the devastation of World War II. However, since that period the ratio of investment in “developing countries” has risen dramatically, totally reversing this trend. After some hesitation due to the international “Debt Crisis” of 1982-86, the share of investment in “developing countries” has soared to above 26 percent in 1997 and after (peaking at 27 percent in 1999), more than exceeding both the pre-Debt Crisis peak and the 1952 record.[17] The upper data line in exhibit 2 shows the trends here.

Of course, an increasing percentage of this investment has been in countries once dubbed “developing” but now seen as joining the “developed” club (though they're still on probation and currently under threat of expulsion). Most crucial are the “Four Tigers” (Hong Kong, South Korea, Singapore, and Taiwan) plus Israel (an extension of the rich countries). The U.S. manufacturing investment position in these countries as a percentage of all of the “developing countries” rose from about 6.5% in 1977 (when this data series starts) to more than one quarter in the late 1990s and 2000. But fitting with the usual globalization thesis, these countries offer lower wages than do Europe or North America.[18] They also offer crucial attractions for capitalist investment that should remind us that low wages, tame labor forces, and lenient environmental laws are not – and have never been – the whole story: these countries have also offered friendly and relatively stable political environments, relatively skilled workers, and developed infrastructure.[19]

To get a better idea of US capitalists' recent investment in the “third world,” let us exclude these five locations (as in the lower data line in exhibit 2). After this adjustment, the ratio of manufacturing investment position in the poor countries to all U.S. foreign direct investment in manufacturing fell during the Debt Crisis years but rose steeply after 1986 and especially after 1991. There is a net increase over the time period covered, so that this ratio rose from 17.4 percent in 1977 to almost 20 percent in the late 1990s. The experience of the Debt Crisis years and of the Asian financial crisis of the late 1990s (when the trend became wiggly and leveled off) indicate that this upward trend is hardly inexorable, but that hardly denies the importance of drift toward capitalizing the world.

Not show in these data is the fact that capitalist investment has spread deeper and wider across the world in search of profits, to such places as Sri Lanka and Indonesia.[20] Of course, it has not spread to many places in Africa, but that should remind us once again that businesses care about issues of civil peace, governmental honesty, the availability of infrastructure and skilled workers, and the like, and not just the cheapness of wages or the pliability of workers.

Some may argue that the fractions listed above are marginal. But as economics teaches us, marginal changes can be quite important: a marginal process of erosion eventually produced the Grand Canyon. It is precisely U.S. workers at the margin – those in labor-intensive manufacturing (goods-producing) industries using little fixed capital, such as textiles, apparel, and leather goods – that have been bearing the load of threats of capital flight. Just as they were the first ones to suffer from mobility within the U.S. (from Massachusetts to South Carolina, etc.), they lead the way in being punished by cross-border flight.

Ignoring in-person services (which involve jobs that cannot be moved easily), labor-intensive industries are more likely to move to low-wage areas for two reasons. Labor intensity makes bosses more conscious of wage costs while the relative non-use of fixed capital makes it less expensive to move (or to scrap a plant here and build a new one there). Responding to such costs is especially easy with routine production tasks having relatively low skill requirements. As the normal capitalist trend of the deskilling (routinization) of existing production processes continues, more and more of the older and established industries are subject to this kind of mobility, as noted in Raymond Vernon's “product cycle” theory.[21] With the rise of economies such as Taiwan and South Korea having relatively high skill levels (by the standards of the world outside of the capitalist core), this problem is beginning to undermine the position of even “semi-skilled” workers in less routinized industries.[22] The threat of capital mobility hits the relatively low-wage workers in routinized labor-intensive jobs first and hardest, but it slowly climbs the wage ladder. For example, the Los Angeles Times recently reported that “High-Paid Jobs [were the] Latest U.S. Export [as] Firms' shifting of technical work to Mexico and China to cut costs bodes ill for many laid-off Americans.”[23]

 The numbers on capital mobility do not capture the full impact of this phenomenon. First, those who provide in-person services or work in capital-intensive manufacturing or jobs requiring high educational credentials (who do not suffer the brunt of capital flight) end up competing with those losing jobs due to capital flight in the same country.[24] Absent successful resistance from the workforce, this depresses their wages relative to their productivity, thus depressing unit labor costs.[25] This phenomenon, as explained below, hits those at the bottom of the wage hierarchy (those least insulated from market forces) hardest, encouraging wage inequality relative to those who face fewer threats of capital mobility.

Further, to compete with the high profit rates earned on new investment in low-wage countries, i.e. to prevent the movement of capital out of high-wage countries such as the U.S., more substantial profit rates have to be garnered in the home country. Trying to eke as much profit as possible out of sunk costs (fixed capital) and to build profitable conditions for the future, capitalists press in every way possible (union-busting, lobbying, two-tiered wage systems, the super-exploitation of undocumented workers, etc.) to cut wages, benefits, work-rule protections, and thus labor costs per unit of output.[26] All of this is justified in the name of “flexibility” (i.e., their own power) and “competitiveness” (i.e., that others are doing the same). Again, assuming that resistance fails, that depresses wages and boosts profits in the home country. With the resurrection of the sweatshop conditions in many garment-producing shops, this campaign seems to be succeeding.[27]

The restoration of higher profit rates in the U.S. and other rich countries in turn prevents investment in low-wage countries from rising very quickly: it keeps the size of investment in such countries small for a long time even as the possibilities for capital mobility rise.[28] That is, capital threatens to flee more than it actually has to make that warning real.

2. Underdeveloped Wages

Krugman denies that moving manufacturing to Third World countries depresses U.S. wages, arguing instead that international equalization of wages should work in the upward direction. Quoted in the New York Times, he said that:

“If you can shift machinery from the United States to Mexico, why should you think that would level American wages down rather than Mexican wages up? If a Mexican worker's output goes from one widget to 10 widgets a day, his [sic] wages rise to that level. If you strip the story down, this is the only explanation that makes sense.”[29]

Perhaps this “makes sense” in the abstract realm of High Theory (the only place where “widgets” are made) or in the long run (perhaps after global warming has destroyed civilization), but does it make sense in the world we live in?[30] As usual in his popular pronouncements, Krugman does not make his assumptions explicit: he seems to be presuming that the demand for labor-power depends only on technically-determined labor productivity (i.e., that neither recessions nor changes in societal institutions such as management labor-control strategies occur), that the supply of labor-power does not shift, and that the interaction of supply and demand in markets is the only determinant of wages.[31] In the here-and-now, these assumptions are nothing but bullfeathers, both in terms of the empirical evidence on Mexican wages (see exhibit 3) and in terms of logic.

In Mexico, corrected for inflation, the official minimum wages (“min”) has been falling steadily at least since 1984 and took a steeper dive in the year or so after the “N.A.F.T.A. crisis” of 1995. Officially-measured real wages in Mexican manufacturing (“mfg”) rose before the N.A.F.T.A.’s cold bath of globalization, but fell sharply after that crisis. There was a rise in these wages after 1998 (likely due to the boom in the U.S. since Mexican dependence on U.S. prosperity has increased), but this still left manufacturing real wages in 2001 about 10 percent lower than in January 1982 or November 1995 and at about the same level as in 1984.[32] In general, even thought Krugman’s theory suggests that the move toward increased marketization would raise wages, the trend in real Mexican manufacturing wages is pretty flat.[33]

The widening gap between the minimum wage and the manufacturing wage seen in Exhibit 3 suggests that the problem of growing inequality afflicting the U.S. is also prevalent “south of the border.” The extent that this widening gap was due to increasing integration with the world economy or due to neo-Liberal policies (or more like, a combination of the two) still needs to be determined, but is beyond the scope of this paper.

Looking at these matters from the perspective of capitalists interested in investment opportunities, manufacturing wages fell from 23 per cent of U.S. wages in 1975 to 9 percent in 1995; the rise in wages after that left this ratio at only 12 percent in 2000, indicating a downward trend.[34] In the meantime, it seems quite likely that labor productivity in the maquiladoras – and the over-all average for Mexican manufacturing – has risen as more manufacturing capital has flowed in that direction.[35] Since unit labor costs fall as labor productivity rises, the potential is there for investors to benefit from significantly lower labor costs per unit of output in Mexico.[36]

Krugman would probably argue – correctly – that it is a mistake to generalize from a single case to the future or to other poor countries. But most of the more industrialized capitalist countries of East Asia have been undergoing a similar crunch since 1997's financial crises, which were partly a result of the opening of these countries’ financial markets to international flows of funds. At this writing, there is no end in sight and problems outside financial markets seem to be getting worse, especially as the crisis has spread to Latin America, Russia, and most crucially, Japan (which had already been suffering from a depression). At the time of this writing, the falling demand for labor-power has begun to spread to the U.S., with the 2001 recession. Though many on Wall Street have doubted the reality of that recession (given the upward surge of GDP due to Federal Reserve and government stimulus), it has clearly reduced the demand for labor and increased the unemployment rate. Most forecasts suggests slow growth of real GDP in the near future, which may lead to unemployment staying high for years.

Even absent financial crises and recessions, there are good structural reasons to expect (at least for the next decade or so) that wages will be depressed relative to productivity growth in most if not all of the countries competing to attract capital from the advanced capitalist world. First, the commercialization of underdeveloped countries' agriculture (intimately linked, of course, to the spread of capital out of the rich countries) is causing massive social transformations that expel people from the land.[37] The resulting surge of the labor-power supply helps keep wages down, often even across international boundaries. This process is further encouraged in the urban sector by the current neo-Liberal campaign in many countries (led by the I.M.F.) to privatize government enterprises and downsize private ones, shedding “redundant” labor. This has often been combined with anti-union politics, in the name of “flexibility.” Additionally, in the ruins of the old Soviet Bloc, more and more countries have entered the fray, offering relatively skilled but low-wage labor-power to (the always) profit-hungry transnational corporations. These processes are most pronounced, of course, in China, a low-wage leader in world manufacturing. The entry of China into the World Trade Organization promises to introduce that country even more completely into the world-wide “race to the bottom.”[38]

The governments and capitalist elites of these countries are the main local beneficiaries from foreign investment, collecting taxes, bribes, partnerships, out-sourcing contracts, and directorships.[39] That low-wage labor is the basis for their competitive advantage intensifies their normal vested interest in repressing unions and gutting labor laws to keep wages down, using violence, co-optation, or a combination of the two. Having been pushed (since 1980 or so) by the U.S. and the I.M.F./World Bank bloc to abandon all nationalist and populist pretensions, to pursue pro-business neo-Liberal policies and export-led growth, and to link their fate to foreign investment, these elites struggle mightily to maintain their “competitiveness.” Having abandoned nationalist ISI efforts to industrialize based on demand arising from the home market, they no longer see wage income as a source of demand. Rather, it is only as a cost of production to be minimized: they know that if wages rise too much, investment will flee to greener pastures (e.g., from Mexico to Asia, from South Korea to China). Thus, each hopes that low unit labor costs will provide it with a competitive advantage.

In one of his rare forays into empirical research, Krugman cites evidence for rising high wages in Taiwan and South Korea (relative to the U.S.) as evidence that wages rise with productivity.[40] The measure he uses (unit labor costs) doesn’t measure real wages – or back up his conclusion – at all, since it is nominal wages divided by labor productivity. (Nominal wages can easily rise due to inflation.) But exhibit 4 shows that the phenomenon that he points to has a basis in fact: since 1975, real wages have gone up in South Korea and Taiwan – much more than in the United States.[41] However, there may be problems with the data, such as inconsistencies in calculating the consumer prices measures used in calculating real wages. More importantly, these rises in wages are not corrected for the shrinkage of the availability of non-market means of subsistence (such as those provided by the “traditional” sector or by a state sector downsized by neo-Liberalism) or the added costs of urban life and so is likely an exaggerated measure of the rise of the standard of living of these workers.

But these data again do not really address Krugman’s point, since his assertion implies that real wages rise with labor productivity. A test of whether this is true is to see whether or not unit labor costs deflated by consumer prices (real wage/labor productivity, or what might be called “real unit labor costs”) have been rising. Exhibit 5 shows this calculation. For Taiwan and South Korea, real wages were rising relative to productivity (real ULCs were rising) until the mid 1990s. These numbers have fallen since then, when one of globalization’s recurrent financial crises hit and local employers had to cut costs to survive.[42] (The same can be seen if we look at how these real ULCs have changed relative to the United States, not shown here.)

However, it’s possible that the recent stagnation (which preceded the 1997 globalization crisis) is temporary and will soon be surpassed. Even so, generalizing from these two countries to the rest of the non-O.E.C.D. world is a major analytical mistake. By doing so, Krugman becomes what he terms an “accidental theorist,” spinning half-baked theories despite himself.[43] For his argument to make sense, he must assume that all of the underdeveloped countries now receiving international capital will automatically follow the lead of Taiwan and South Korea, embracing an automatic stage theory of the sort that W.W. Rostow advocated.[44] Alternatively, Krugman may be arguing that underdeveloped countries will follow South Korea and Taiwan if they follow the laissez-faire or neo-Liberal advice of the I.M.F and World Bank. But history belies that assumption.

The crucial problem with both interpretations is that the “export-led growth model” pursued by those two nations was quite different from that of their would-be followers (and encouraged by the neo-Liberal bloc), so the results should be different. South Korea and Taiwan rose toward the top at the same time the benefits of growth were distributed in a relatively equitable way, unlike in the neo-Liberal model, in which issues of equity are left to later, as part of the presumed long-term process of “trickle down.”[45] Somewhat similar to Japan after World War II, these countries had successful land reforms combined with the fostering of agriculture,[46] an emphasis on education, and state-capitalist planning aimed at entering the game of international trade in order to win (rather than following a defensive ISI strategy, which in practice often entails the protection of domestic industry from foreign competition forever).[47] Though it might be argued (as some have) that their “growth model” had exhausted its possibilities in the 1990s, it cannot be claimed that following World Bank advice was central to their success. And it was precisely in the era when South Korea and Taiwan started leaning toward obeying such advice that real wages started lagging behind labor productivity.

Further, these authoritarian countries were able to climb major barriers to growth during an era in which the U.S. policy elite wanted – and, more importantly, were willing to pay for – showcases to make the “godless Communists” in North Korea and China look bad. Further, for much of this period, the world economy was booming due to Vietnam war spending, providing a market for export-led growth. In these conditions, state-guided export-led industrialization drives could succeed.

The advice that U.S. and the World Bank have been giving other countries, such as Indonesia, China, Sri Lanka, and Mexico, has not been to emulate Taiwan and South Korea but to pursue a very different growth strategy, that of laissez-faire. Instead of a high-skill, high-wage strategy, it is low wage costs that have become the mainstay of the new export-oriented model.[48] Instead of the state-guided capitalism of Japan, South Korea, and Taiwan, a greater degree of passive receptiveness to international capital prevails. Note also that the U.S. elites' incentive to prop up the South Korean or Taiwanese economies – or to tolerate deviations from U.S. orthodoxy concerning economic policy – has fallen since the end of the Cold War. These countries have been pushed to drop their strategies, to emulate the low-wage countries, especially in the wake of the 1997 East Asian financial crisis, which gave the I.M.F. and other parts of the neo-Liberal coalition more leverage to attain their political goals.

 An additional problem is that of the “fallacy of composition”: what works for small number need not work for all of the underdeveloped world (or even a large part of it). If all or a large number of poor countries pursue the same strategy of pushing exports, it does not work. It is impossible for all nations to enjoy a trade surplus (selling more than they buy) at the same time, since some country must be running a trade deficit (buying more that it sells). This is especially true in a depressed global economy, because the poor countries compete over a limited amount of demand for their products from the rich countries. In fact, to the extent to which countries are all trying to run a trade surplus, it depresses the world economy.

The fallacy of composition problem was seen dramatically in 1997, when the aggressive competition among the East Asian nations to attain markets in rich nations started to undermine their prosperity, setting the stage for the financial crises.[49] Then competitive devaluations (cuts in the currency value) produced little or no increases in exports by the East Asian countries. Instead these cuts implied that local currency bought fewer foreign goods, so that the value of external debts (and interest payments) and the prices of crucial imports soared in terms of local currency (because debts and import prices are mostly valued in dollars). This spur to world recession was amplified as those countries that did not drop their currency exchange rates raised interest rates, stifling economic growth.

At the same time, the low-wage strategy itself rules out reliance on the home market and sales to other low-wage countries as panaceas for underdevelopment.”[50] In the end, countries that pursue the low-wage strategy of development will likely get stuck, especially since there will probably always be other countries offering even lower wages. In the end, the wide-spread application of the model of economic development that Krugman advocates undermines his prediction of rising wages in the poorer countries.

3. Global Roots

Despite the involvement of the I.M.F, the World Bank, and even the C.I.A., the depression of wages in underdeveloped nations do not reflect a conspiracy by some nefarious elite but one of the seemingly inevitable processes of capitalist development (absent resistance): there has been a steady strengthening of the process of equalization of profit rates between all countries, including between low-wage and high-wage countries. This process reflects the way in which capitalists incessantly seek out more profitable arenas to invest in, by mining loopholes in existing laws, by lobbying and bribing politicians to change laws or their interpretation (or to grant subsidies), and by developing new technologies that allow mobility.

The strengthening of profit-rate equalization tendencies is linked to that of growing international trade (discussed below), as complementary parts of a unified process.”[51] Trade and international investment are not simple substitutes for each other but instead are intertwined: the balance-of-payment surplus that high-productivity countries have when trade is opened up allows them to buy the underdeveloped countries' resources,”[52] while the ability to export to the home countries makes investment in a poor country profitable and foreign investment in the latter leads to export earnings that help them buy rich countries' products. Of course, global trade and investment are not merely complements, since the latter (capital accumulation) is a dynamic force driving the former forward.

First, improvements in communication, computational, and transportation technologies, a seemingly normal result of capitalist development that seem to have become more common in recent decades, lower the costs of world-wide corporate operations. For example, it is easier to organize a factory producing shoes in Vietnam from the head office in the U.S. if one uses e-mail or FAX instead of telephones.”[53]

Second, the move toward increased capital mobility interacted with and was reinforced by political change, more specifically the world-wide free trade and investment campaign led by the U.S. starting after World War II. Of course, increased international investment has also resulted from international agreements, culminating in the proposed Multilateral Agreement on Investment (M.A.I.) In addition, with the undermining or dismantling of trade barriers, businesses can more profitably move operations to other countries (e.g., Mexico) and then ship their products back to their original homes, the site of relatively high incomes and thus markets.

 In recent years, this process has accelerated as opposition to trade liberalization and capital mobility has faded, due to the shrinkage of those sectors of capital that are tied down to the nation-state and the sapping of labor's organizations, the major political forces favoring protectionism. The demise of the USSR implied less pressure for “Western” elites to promote domestic prosperity via high wages and welfare-state programs in order to win the ideological war. Anti-globalization forces have been swamped by arguments that There Is No Alternative (TINA), i.e., that any kind of control over capital is a bad idea. At least in the U.S., the possibility of a serious Perotista protectionist movement has fallen drastically, leaving trade war fears as mostly a tactic in free-trader hype.”[54] The victory of the free trade movement has recently been codified in such institutions as the N.A.F.T.A. and the World Trade Organization.”[55]

 Even though this force is typically seen as “political” rather than purely “economic” in origin, political decisions typically reflect economic power, as most capitalist countries follow the U.S. system of “one dollar, one vote” in the continuous process of informal elections that occurs between the formal ones, which are themselves dominated by campaign contributions.”[56] The role of these contributions is similar to that of cigarette advertising: though advertising of Camel to a large extent cancels out that by Marlborough, the net effect is to hook some new teenagers on nicotine, expanding the market. Similarly, the general impact of the contributions of competing fractions of capital is to push the general capitalist agenda.

 The third factor involves the opening of the “South” to international investment and trade. In the Brookings discussion, both Krugman and Richard Cooper misleadingly refer to this turn toward more open trade as “unilateral,” ignoring the predominant political and economic influence of the North. But this “opening” trend started in a big way in Chile, after the U.S.-aided and -abetted coup that replaced Allende's social-democratic Unidad Popular government with military terror combined with laissez-faire economics after 1973.”[57] Following this lead, the I.M.F. and consortia of private banks have leveraged their superior position in the 1980s Debt Crisis and similar events to impose structural adjustment programs.”[58] As noted, similar efforts have been made since the 1997 East Asian financial crisis.

 These force many “developing” countries to open their economies to trade and to sap any efforts to regulate investment to capture benefits and limit its costs to cultivate national development. Hoping for a piece of the action, suffering diminishing returns from efforts to promote inward-oriented industrialization, and/or fearing loss of investment to the more “open” countries, some other elites have steered their economies in this direction even without obvious Northern bullying.

 Fourth, individual capitalists learn over time how to expand their operations across the globe, learning how to get around or abolish existing barriers to trade and capital mobility, both “natural” and legal. In fact, the revived aggressiveness of the U.S. domestic competitive process (spurred by the decline of the old oligopolies that dominated many industries in the 1950s and 1960s) pushes them to do so.”[59] The intensity of the competition -- both in the U.S. and the rest of the advanced capitalist world -- has been increasing lately, partly because the barriers to foreign competition have broken down. Since causation is running in both ways, from domestic competition to trade and from trade to domestic competition, the increase in the degree of globalization is a self-feeding process.

 Similarly, the economic effects of the free-trade campaign and the spread of international investment are very difficult to reverse once they have been established: just as when a teenager gets hooked on nicotine, it is extremely hard to break the habit of internationalization. A refusal to lower trade barriers or foreign-investment controls has little or no negative effect on the world economy, but raising them evokes retaliation, destabilization, sneers by the I.M.F. leadership, and hot money flight. There is a clear asymmetry adding to the momentum of the free trade and investment movement.

 As a result of this internationalization, the national governments of the poorer countries find themselves in a rat-race, vying with each other to attract investment, in a desperate effort to get money and jobs by offering tax breaks, subsidies, infrastructure, etc. This process makes the competition among various U.S. states and municipalities to attract business investment and professional sports teams seem amateur by comparison. That government elites are dominated by business and not held responsible to the populace (except in the most attenuated way) encourages this process, since they can shift the costs to the people without having to have a public bond-issue referendum or even public debate. This state of affairs is deepening as power is shifted to the faceless bureaucracies that run the N.A.F.T.A. and the W.T.O. and threatens to be further institutionalized by the proposed M.A.I., aimed at cementing the global dictatorship of capital.”[60]

 The competition of different countries to attract direct investment, jobs, and funds is a crucial (but hardly the only) factor encouraging the global spread of austerity programs, export-promotion, and the process of downward equalization of labor costs per unit, labor laws, taxes on capital, environmental regulations, and the like. This process may explain why South Korean and Taiwanese manufacturing labor costs per unit stopped rising or even started to fall after 1992, even before the recent crisis. It is also one factor encouraging the current stagnation outside the U.S. and the rising likelihood of turning that stagnation becoming a full-scale depression akin to that of the 1930s.”[61] It also helps us understand the impact of the increasing U.S. openness to international trade.

4. Commercial Competition.

On the issue of international commerce, Krugman suggests:

“What we [the U.S. as a whole] spend on manufactured goods from the Third World represents just 2 percent of our income. Even if we [the U.S. government] shut out imports from low-wage countries (cutting off the only source of hope for the people who work in those factories), most estimates suggest it would raise the wages of low-skill workers here by only 1 or 2 percent.”

As in Krugman's parenthetical remark, I sympathize with the plight of those in low-wage countries.”[62] But as a socialist, I do not see protectionism and begging for capitalist investment as the only ways workers can prosper. Implicit TINA assumptions that capitalism and its version of globalism are inevitable should be avoided. Even from a non-socialist perspective, however, there can be alternatives, such as promoting “infant industries” via protection or the export-pushing state-capitalist route of South Korea or Taiwan. (It cannot be stressed too much that South Korea and Taiwan did better before they opened up their financial markets to the world.) There is no reason except the dictates of power why we could not shift from the I.M.F. vision of every nation following identical “one best way” neo-Liberal policies to one where each nation could experiment with policies that were seen by the people in those countries as beneficial (within the constraints set by international agreements among equal nations).”[63]

Even given his implicit political assumptions, however, Krugman's assertions are much too glib. He does not specify the source of the “2 percent of our income” statistic or how it was calculated (or to whom “our” refers).”[64] Nor does he explain the theory or the assumptions behind the “1 or 2 percent” estimated wage hike. The basis of his argument is simply that people should trust him. It is Krugman's standard method in popular works to argue by appeal to the authority of Big Name economists ensconced at the hegemonic schools.”[65] This kind of sloppy scholarship, of course, works for him because he represents the professional consensus; it also encourages his use as our representative of the orthodoxy.

In the case of the “1 or 2 percent,” it is his own authority to which he is appealing. A little digging reveals that the source is Krugman's article in the 1995 Brookings Papers on Economic Activity. There, the ratios are stated tentatively and with qualifications, as is usual in academic research. Then, in MJ, for the unwashed masses of the public, they become facts, premises for his further argument.

But as Richard Cooper notes in his Brookings comments, the model allowing Krugman's calculations “has the great merit of being free of facts.” It is an utterly idealized model, based on crucial assumptions such as full employment, perfectly flexible wages and prices, an iron dichotomy between skilled and unskilled labor (both assumed to be homogeneous), simultaneous supply/demand equilibrium in all markets, zero capital mobility, and a fixed share of national income going to property owners. The assumption of zero capital mobility is contradicted by data cited above, while data presented below indicate that capital's share of income is rising steeply. The other assumptions seem totally unreasonable and ideological. To put faith in these such abstract theory is similar to applying Ayn Rand's utopian capitalist ideal to understand the real world.

To then state the conclusions of this model as fact as Krugman does is to apply the fallacy of argument by analogy, that because the economy is in some vague ways like his model, the economy is the model. (Krugman never looks to see how his conclusions change as his assumptions are dropped or moderated.) The conservative economist Milton Friedman once justified the use of unrealistic assumptions by the predictive ability of the resulting model. But since Krugman's model predicts nothing, he cannot use this justification. The assumptions seem justified by the attractive political conclusions they produce.

Gary Burtless's very complete and critical survey of the theoretical and empirical literature on the impact of increased trade on wage inequality suggests that Krugman's opinion represents only one of several perspectives: he is in the “low impact of trade on wages” camp.”[66] For example, Adrian Wood's magisterial book used different assumptions to convince Burtless that “North-South trades plays an important role in determining the demand for less-skilled workers in the United States and other advanced industrialized countries.” He sees Wood's estimate that this trade explains half of the decline in this demand as an upper limit.”[67] This 50 percent is significantly larger than Krugman's estimates.

However, an alternative estimate of the impact of trade on wages is impossible: the internationalization of trade is inextricably connected with the internationalization of investment that Krugman tries to ignore. These two forces interact with and reinforce each other in a complex way. In turn, globalization reacts on and is conditioned by the broader process of market universalization. So such quantification -- separating trade from investment, globalization from universalization -- is as impossible as quantitatively separating “heredity” and “environment” in determining an individual's character or abilities.”[68]

As a rough and ready substitute for Krugman's assumption-intensive model, reconsider the 2 percent of national income that he assumes represents what U.S. citizens spend on third-world manufacturing. But no-one asserts that low-wage workers in poor countries are competing with high-wage and -salary workers in the U.S., except in a extremely attenuated way. The workers in China are not competing with Disney's Michael Eisner, nor with professors such as Krugman or myself. They are competing instead with workers who do similar types of work, for example, routine production labor with low skill requirements. It is these workers, of course, who have suffered the greatest declines in real incomes in recent years.

So low-skill workers in the U.S. should be compared with those in poor countries. Assume that Krugman's 2 percent is correct and assume that low-skill workers in the U.S. earn one quarter of the total income of the country, roughly the percentage of total income received by the lowest three tenths of U.S. families in 1994.”[69] This assumption as arbitrary and subject to debate, but at least it is explicit. Then, if imports from low-wage countries are only 2 percent of the total national income, that is 8 percent of the low-skill workers' national income.

As noted, the one-quarter assumption is arbitrary, just like the dividing line between low- and high-skill workers. But the point remains: moving to lower and lower skill levels, the workers' share of national income falls, so that the importance of international competition rises. Assuming that “low-skill workers” earn 3.5 percent of total income (roughly what the poorest fifth of families earned in 1994) and that foreign labor competes totally with them, then imports from low-wage countries represent 57 percent of their income. The assumptions behind this number are probably wrong, but it gives the general idea of who is suffering the impact of trade's growth. Krugman's “1 or 2 percent” would be higher if the bottom of the wage ladder is considered rather than the whole class of unskilled labor as one homogeneous bunch.”[70]

Similarly, focusing on just the textile, apparel, and leather industries, Cooper finds that 10 percent of their relative wage decline (rather than Krugman's 1 or 2 percent) can be attributed to import competition (see Brookings). Bringing in the role of capital mobility and the other factors highlighted by this paper would probably produce even bigger estimates.

 The last seven letters of “globalization” should tell us once again that the topic at hand is a dynamic process rather than some imaginary static equilibrium of the sort that entrances establishmentarian economists.”[71] What counts is how things have been changing, so some historical perspective is needed.

 Beginning in the 1860s, U.S. manufacturing relied on high tariff walls to protect itself from English competition (replacing and intensifying the “natural” protection resulting from high transportation and communication costs), as had been proposed by Alexander Hamilton. Instead of trying to compete with Britain, U.S. industry mostly aimed at serving the domestic market.”[72] Benefiting from a large home market and a relatively small technological gap vis-a-vis its competitors, the U.S. enjoyed one of the few cases in world economic history of successful promotion of industrialization via protectionism.”[73] It created conditions that allowed U.S. industry to compete and win on more equal terms, especially when its competitors suffered from World Wars.

 Unlike for England, the U.S. movement toward freer trade is relatively new, starting after the disastrous Hawley-Smoot tariff of 1930 and accelerating after World War II. (Before that, the Republicans were the part of protectionism.) Thus, it is specious to deny the importance of commercial globalization to the U.S. by saying that it was important for the U.K. long ago, as Krugman does.”[74]

 Since the 1930s, the degree of “openness” of the U.S. economy (the average of imports and exports divided by gross domestic product) has steadily increased. The index rises, to an increasing extent, from 4 percent in 1959 to above 14 percent in 1997. Robert Feenstra argues that a ratio of the average of imports and exports to output of merchandise (i.e., excluding in-person services) is more relevant, since by and large services are not traded internationally. This ratio rose dramatically, from below 10 percent in 1960 to almost 36 percent in 1990.”[75]

 Even assuming that the share of low-wage countries in total U.S. trade has been constant, the degree of competition that U.S. low-skill workers face has been rising at an accelerating rate. But while it is true that U.S. trade has traditionally mostly been with other rich, high-wage, countries, the share of poor countries in U.S. trade has been rising. The share of total U.S. imports plus exports that the U.S. has with “other” countries (non-OPEC, non-industrial, non-Eastern European) rose steadily from about 28 percent in 1969 to above 38 percent in 1998.”[76] Finally, as indicated by the figures on international investment presented above, a growing percentage of “other” countries' exports are likely to be manufactured goods.”[77]