International Economics

A Heterodox Approach

Third Edition

Hendrik Van den Berg

Ö Routledge Taylor & Francis Group

NEW YORK AND LONDON

Contents

List of figures xxi List of tables xxv Preface xxvii Acknowledgments xxix

PART I INTRODUCTION TO INTERNATIONAL ECONOMICS 1

1 Interdependence! 3

1.1 Introduction 3 1.2 The Bigger Picture 6

1.2.1 The Gains frorn Dealing with Strangers 6 1.2.2 The Three Benefits of Human Interaction Are Intertwined 7 1.2.3 Dependence on Strangers Is Inherendy Problematic 8 1.2.4 The Crucial Role of Institutions 8 1.2.5 Institutions Evolve Slowly and Unevenly 9

1.3 The Evolution of International Economic Integration 10 1.3.1 The Growth of International Trade 11 1.3.2 The Growth of International Investment and Finance 12 1.3.3 International Migration 13

1.4 International Economic Integration Is Far from Complete 14 1.4.1 Economic Integration Is Not Inevitable 14 1.4.2 New Concerns about International Economic Integration 15

1.5 The Field of International Economics 15 1.5.1 The Bias of Mainstream Economic Analysis 16 1.5.2 The Spheres of Human Existence 16 1.5.3 The Natural Environment 17 1.5.4 Social Stress 18

1.6 How Economists Deal with Complexity 19 1.6.1 Economic Models 19 1.6.2 The Dangers Lurking Behind Economic Models 19 1.6.3 The Tyranny of Models and Paradigms 21 1.6.4 The Pro-Globalization Culture of International Economics 21 1.6.5 Heterodoxy 22

1.7 Summary and Conclusions 22 Chapter Summary 23 Key Terms and Concepts 24 Problems and Questions 24 Notes 25

CONTENTS

2 Introduction to Heterodoxy 26

2.1 Holism and Economics 27 2.1.1 The System Versus the Parts 28 2.1.2 Do Systems Move Toward Stahle Equilibria? 29 2.1.3 Holism and Science 30 2.1.4 Can the Scientific Method Ever Uncover Absolute Truth? 32

2.2 Economists and Complex Systems 33 2.2.1 Economists' Embrace of Scientific Reductionism 33 2.2.2 The Neoclassical School 35 2.2.3 The Unbelievable Assumptions Behind Neoclassical Models 35

2.3 The Common Themes of Heterodoxy 37 2.3.1 Some Heterodox Ideas that DifFer from Orthodox Economic Thinking 37 2.3.2 Heterodoxy and Economic Policy 41

2.4 A Sociological Justification for Heterodoxy 42 2.4.1 Institutions and Culture 42 2.4.2 Pierre Bourdieu's Analysis of Cultures 42 2.4.3 Symbolic Violence 44 2.4.4 A Sociology of International Economics 45

2.5 Conclusions and Further Thoughts 46 Key Terms and Concepts 47 Problems and Questions 47 Notes 48

PART II INTERNATIONAL TRADE THEORY 49

3 Orthodox International Trade Theory: Why Mainstream Economists Eike Free Trade 51

3.1 A Simple Version of the Heckscher—Ohlin Model of International Trade 52 3.1.1 The Production Possibilities Frontier 52 3.1.2 Consumer Demand and Indifference Curves 53 3.1.3 Individual Indifference Curves and Society's Indifference Curve 54 3.1.4 Combining the Supply and Demand Sides 55 3.1.5 The Gain from International Trade 56 3.1.6 The Gain from International Specialization 57

3.2 Do All Nations Gain from Trade? 58 3.2.1 Why Production Possibilities Frontiers DifFer from Country to Country 58 3.2.2 A Two-Country Model of Trade 58 3.2.3 The Principle of Comparative Advantage 60 3.2.4 David Ricardo's Example of Comparative Advantage 61

3.3 International Trade and the Distribution of Income 62 3.3.1 International Trade and Factor Returns 62 3.3.2 The Heckscher—Ohlin Theorem 63 3.3.3 The Stolper—Samuelson Theorem 63 3.3.4 The Factor Price Equalization Theorem 64 3.3.5 Estimating the Precise Distributional Effects of Trade 65

3.4 Evaluating the Heckscher-Ohlin Model 65 3.4.1 Evaluating the HO Model and the Gains from Trade 66 3.4.2 Some Especially Dangerous Assumptions of the HO Model 66 3.4.3 How Important Is the Weifare Gain from Trade? 67

3.5 Supply and Demand Analysis of Trade 68 3.5.1 Producer and Consumer Surplus 68 3.5.2 From the HO Model to the Partial Equilibrium Model 70

CONTENTS

3.5.3 From the Supply and Demand Diagram to the Gains from Trade 71 3.5.4 Comparing the Partial and General Equilibrium Models 72

3.6 Conclusions 73 Chapter Summary 74 Key Terms and Concepts 75 Problems and Questions 75 Notes 76

4 International Trade: Beyond the Neoclassical Perspective 77

4.1 Transport and Transactions Costs 78 4.1.1 Transport Costs 78 4.1.2 The History of Transport Costs 79 4.1.3 Case Study: Afghan Warlords and Transport Costs 81 4.1.4 Network Effects and Trade 81 4.1.5 Transactions Costs and the Gravity Model of Trade 82 4.1.6 Tentative Conclusions 83

4.2 The Costs of Adjusting to Free Trade 84 4.2.1 Costly Economic Adjustments to Free Trade 84 4.2.2 The Fixed-Factors Model 85 4.2.3 Trade and Jobs 86

4.3 International Trade, Income Inequality, and Weifare 87 4.3.1 A Simple Model of the Distribution of Trade's Weifare Effects 87 4.3.2 In Search of a More Accurate Weifare Function 88 4.3.3 Psychology and Life Satisfaction 90 4.3.4 Evidence from Neuroscientific Research 91 4.3.5 Flappiness Surveys 92

4.4 Externalities, Prices, and International Trade 96 4.4.1 Modeling Externalities 97 4.4.2 Shifting GHG Emissions to Developing Countries 97 4.4.3 Externalities Associated with Transport 98 4.4.4 GHGs Embedded in U.K. Trade 98 4.4.5 Another Example of Embedded GHGs 99 4.4.6 Policies for Adjusting Trade for Embedded GHGs 100

4.5 Conclusions 100 Chapter Summary 101 Key Terms and Concepts 102 Problems and Questions 102 Notes 103

5 International Trade: Imperfect Competition and Transnational Corporations 104

5.1 Increasing Returns to Scale and International Trade 104 5.1.1 Intra-industry Trade 105 5.1.2 Modeling Increasing Returns to Scale 105 5.1.3 An Example of Two Identical Countries 107 5.1.4 Krugman's Model of Variety, Increasing Returns, and Trade 108 5.1.5 Some Further Inrplications of the Model 109

5.2 Another Implication of Imperfect Competition: Transnational Corporations 109 5.2.1 Foreign Direct Investment 110 5.2.2 Vertical and Horizontal Foreign Direct Investment 111

CONTENTS

5.2.3 A Brief History of Transnational Corporations 113 5.2.4 TNCs and International Trade 114

5.3 Explaining the Growth of Transnational Corporations 115 5.3.1 Why Transnational Corporations Dominate the Economic Sphere 115 5.3.2 Transnational Corporations Are Controversial 117

5.4 Comparative Advantage and International Marketing 118 5.4.1 Comparative Advantage and Competitive Advantage 118 5.4.2 Marketing and the Perceived Value of a Product 118 5.4.3 Customers Are Not All the Same 119 5.4.4 Should the Product Look Local or Foreign? 120 5.4.5 Market Segmentation 120 5.4.6 Marketing and Transnational Corporations 121

5.5 The Implications of the Growth of Transnational Corporations 121 5.5.1 Managed Trade 121 5.5.2 Transnational Corporations and Economic Policy 122 5.5.3 Transnational Corporations and National Sovereignty 123

5.6 Conclusions 123 Chapter Summary 124 Key Terms and Concepts 125 Problems and Questions 125 Notes 126

6 International Trade and Economic Development 127

6.1 The Growth of International Trade 129 6.1.1 Why Growth Matters: The Power of Compounding 130 6.1.2 Statistical Evidence on Trade and Growth 131 6.1.3 Cross-Section Studies 132 6.1.4 Time-Series Studies 133 6.1.5 The Relationship between International Trade and Institutions 133 6.1.6 The Stolper-Samuelson Theorem and Long-Run Economic Change 134

6.2 The Solow Growth Model 135 6.2.1 Technological Progress and Factor Accumulation 135 6.2.2 Increased Investment Brings Only Medium-Run Growth 138 6.2.3 Does International Trade Only Create Medium-Run Growth Too? 138 6.2.4 Technological Change and Permanent Growth 139

6.3 Technology and Technological Progress 141 6.3.1 Human Technology 141 6.3.2 Technological Progress Is a Combinatorial Process 142 6.3.3 Technological Change Is Path Dependent 143 6.3.4 Not All New Technology Constitutes Progress 144 6.3.5 Technological Change and Agglomeration 145

6.4 Joseph Schumpeter's Model of Creative Destruction 145 6.4.1 Fundamental Ideas behind Schumpeter's Model 146 6.4.2 Recent "Schumpeterian" Models of Technological Progress 146 6.4.3 The Cost of Innovation 147 6.4.4 The Gains from Innovation Depend on the Speed of Innovation 148 6.4.5 The Equilibrium Rate of Technological Progress 149

6.5 International Trade and Economic Development 149 6.5.1 The Combinatorial Process and International Trade 149 6.5.2 The Geographie Diffusion of Technology 150

6.6 Economic Growth, Trade, and the Environment 151 6.6.1 The Clash Between Economic Growth and the Environment 152

CONTENTS

6.6.2 Are There Limits to Growth? 153 6.6.3 Optimists, Skeptics, and Scientists 153 6.6.4 We Should Be Concerned 154 6.6.5 Must We Stop Economic Growth to Survive? 154

6.7 Conclusions and Implications 156 Chapter Summary 157 Key Terms and Concepts 158 Problems and Questions 159 Notes 160

7 International Trade, Human Happiness, and Inequality 161

7.1 Income Inequality 161 7.1.1 Measuring Inequality 165 7.1.2 The Lorenz Curve 165 7.1.3 The Distribution of Income in Distant History 166 7.1.4 Global Measures of Income Inequality 167 7.1.5 The Distribution of Wealth 168

7.2 Is there an Optimal Level of Equality? 170 7.2.1 Elements of a Just Society 171 7.2.2 Rawls's Veil of Ignorance 171 7.2.3 The Psychological Basis for Economic Equality 172 7.2.4 The Relationship between Social and Economic Justice 173

7.3 International Trade's Effect on the Distribution of Income 174 7.3.1 Vernon's Product Cycle Model 175 7.3.2 More Leader—Follower Models 176 7.3.3 International Trade and Technology Diffusion 177 7.3.4 Geographie Concentration of Innovative Activity 177 7.3.5 The Agglomeration of Innovative Activity 179 7.3.6 Changing Patterns of Economic Activity 180 7.3.7 Specialized Agglomeration 181

7.4 Transnational Corporations, Agglomeration, and Technology 181 7.4.1 Foreign Direct Investment, Trade, and Technology Flows 181 7.4.2 Reassessing the Gains from Trade When It Diffuses Technology 182 7.4.3 Immiserizing Growth 183 7.4.4 The Long-Run Dynamics of International Investment and

Knowledge Transfers 184 7.5 Trade and the World Distribution of Income: A Conclusion 185 Chapter Summary 186 Key Terms and Concepts 187 Problems and Questions 187 Notes 188

PART III INTERNATIONAL TRADE POLICY 189

8 Tariffs, Quotas, and Other Trade Restrictions 191

8.1 Tariffs 191 8.1.1 The Weifare Gains and Losses of a Tariff 192 8.1.2 Who Effectively Pays the Tariff? 193 8.1.3 A Numerical Example of a Specific Tariff 194 8.1.4 A Tariff in the Heckscher—Ohlin Model 195 8.1.5 The Lerner Symmetry Theorem 195

CONTENTS

8.1.6 Summarizing the Weifare Effects of a Tariff 196 8.1.7 How Much Protection Does a Tariff Really Provide? 197 8.1.8 Average Tariff Rates 198

8.2 Quotas 198 8.2.1 A Quota in the Supply and Dernand Model of Trade 199 8.2.2 The Weifare Effects of a Quota 201 8.2.3 Who Gets to Import and Collect the Quota Rent? 201 8.2.4 A Numerical Example of a Quota 202 8.2.5 Voluntary Export Restraints (VERs) 203 8.2.6 Auction Quotas 204 8.2.7 Are Tariffs and Quotas Equivalent? 204

8.3 Other Trade Barriers 206 8.3.1 Export Bans to Insure Against Domestic Shortages 206 8.3.2 Using Bureaucratic Procedures to Impede International Trade 207 8.3.3 "Buy Domestic" Regulations 207 8.3.4 Local Restrictions on Foreign Trade 208

8.4 Export Taxes and Subsidies 208 8.4.1 Export Taxes 208 8.4.2 Price Elasticity and Export Taxes 209 8.4.3 Why Doesn't the United States Tax Exports? 210 8.4.4 Export Subsidies 210

8.5 Antidumping Procedures, Surge Protection, and Sanctions 211 8.5.1 Defining Dumping 211 8.5.2 How the U.S. Government "Proves" Dumping 212 8.5.3 Price Discrimination Does Not Necessarily Imply Dumping 213 8.5.4 Countervailing Duties and Surge Protection 214 8.5.5 Trade Sanctions 215 8.5.6 National Security 216

8.6 Conclusions 216 Chapter Summary 216 Key Terms and Concepts 217 Problems and Questions 218 Notes 219 Appendix: The Complete Analysis of a Tariff in a General Equilibrium HO Model 220

9 The History of Trade Policy 222

9.1 The Political Economy of International Trade 222 9.1.1 The Median Vöter Model 223 9.1.2 The Uninformed Voter Model 224 9.1.3 Case Study: The U.S. Sugar Quota 224 9.1.4 The Endogenous Tariff Model 226 9.1.5 The Adding Machine Model 227 9.1.6 Rent-Seeking Behavior 277

9.2 Trade Policy Before the Twentieth Century 228 9.2.1 The Ups and Downs of Trade Policy 229 9.2.2 Mercantilism 229 9.2.3 The Intellectual Attack on Mercantilism 231 9.2.4 U.S. Trade Policy before World War I 232 9.2.5 Forced Trade Liberalization in the Far East 232 9.2.6 Europe Reverses Course in the Täte 1800s 233

9.3 Destroying Trade Düring the Interwar Period 234 9.3.1 The Treaty of Versailles 234

CONTENTS

9.3.2 The Smoot—Hawley Tariff 235 9.3.3 Another Policy Reversal 235

9.4 Trade Policy After World War II: The General Agreement on Tariffs and Trade 236 9.4.1 The Key Provisions of the General Agreement on Tariffs and Trade 236 9.4.2 The GATT Rounds 237 9.4.3 The U.S. Reluctance to Open Its Market 237 9.4.4 Trade Without Injury: Further Analysis 238 9.4.5 The Emergence of New Forms of Protection: NontarifFBarriers 239 9.4.6 The Kennedy and Tokyo Rounds 240 9.4.7 The Effectiveness of Trade Adjustment Assistance 241 9.4.8 Evaluating the GATT Rounds through Tokyo 241

9.5 The Uruguay Round 242 9.5.1 More Players and More Issues 242 9.5.2 Intellectual Property Rights 243 9.5.3 Replacing the GATT with the World Trade Organization 243

9.6 The Doha Round 244 9.6.1 The Agenda of the Doha Round 244 9.6.2 The Role of the Developing Countries 245

9.7 The Shift to Trade Blocs 246 9.7.1 Defining Regional Economic Integration 246 9.7.2 Trade Creation versus Trade Diversion 248 9.7.3 Regional Free Trade Is Not Necessarily Weifare Increasing 249

9.8 Conclusions and Comments 249 Chapter Summary 250 Key Terms and Concepts 251 Problems and Questions 251 Notes 253

10 International Trade Policy: A Holistic Perspective 254

10.1 Mercantilism and the Colonial System 255 10.1.1 Colonialism Is a Form of Mercantilism 255 10.1.2 The Case of Colonial Brazil 256 10.1.3 Mercantilism after Brazil's Independence 257 10.1.4 The CofFee Economy 258 10.1.5 From Accidental to Planned Industrialization 258 10.1.6 Comparing the Law of Similars and the Infant Industry Argument 260 10.1.7 Interpreting Brazil's Colonial and Postcolonial Experiences 261

10.2 Import Substitution Industrialization 263 10.2.1 ISI Gets a Life of Its Own 263 10.2.2 Prebisch's Development Model 263 10.2.3 An Assessment of ISI Policies 264 10.2.4 An Example of ISI Failure 266 10.2.5 Lessons from ISI 267

10.3 Mercantilism, Agglomeration, and the International Economy 268 10.3.1 Agglomeration and TNCs 268 10.3.2 The Reappearance of Mercantilism 268 10.3.3 TNCs and the Power to Set Policy 270 10.3.4 Dramatic Examples of Mercantilism 270

10.4 Strategie Trade Policy 271 10.4.1 Strategie Competition: Boeing vs. Airbus 272 10.4.2 Strategie Trade Policy Can Reduce National Weifare 274

CONTENTS

10.5 Conclusions 275 Chapter Summary 276 Key Terms and Concepts 277 Problems and Questions 277 Notes 277

PART IV INTERNATIONAL INVESTMENT AND FINANCE 279

11 International Investment and International Finance 281

11.1 The Balance of Payments 282 11.1.1 The Circular Flow of Economic Activity 282 11.1.2 Adding the Financial Sector and Government to the Circular Flow 284 11.1.3 The Circular Flow in an Open Economy 286

11.2 The Design of the Balance of Payments Account 288 11.2.1 The Basics 288

11.3 The Current Account and the Financial Account 289 11.3.1 The Current Account 290

11.4 Finance 292 11.4.1 The Financial Sector of the Economy 293 11.4.2 Financial Instability 294 11.4.3 Why Financial Transactions Are Not Always Completed 295 11.4.4 An Example ofRampant Moral Hazard, Adverse Selection, and Fraud 296 11.4.5 What Does Finance Contribute to Human Provisioning? 297

11.5 Orthodox Models of International Investment 297 11.5.1 A Traditional Model of International Investment 298 11.5.2 Risk and Diversification 300 11.5.3 The Dynamic Gains from International Investment 301 11.5.4 The Long-Run Weifare Effects of International Financial Flows 301

11.6 Financialization 302 11.6.1 The Manifestations of Financialization 303 11.6.2 Growing Influence of Finance on the Real Economy 303 11.6.3 The Separation of Finance from Provisioning 304 11.6.4 Is Financialization a Necessary Evil in a Modern Complex Economy? 306

11.7 International Financial Flows: Some Conclusions 307 Chapter Summary 308 Key Terms and Concepts 310 Problems and Questions 310 Notes 311

12 The Foreign Exchange Market 312

12.1 The Evolution of the Foreign Exchange Market 314 12.1.1 The Real History of Money 314 12.1.2 The Emergence of Finance Occurred before the

Emergence of Money 315 12.1.3 The Foreign Exchange Market in Ancient Times 316 12.1.4 The Development of Banking and Bankers' Role in Money Creation 317 12.1.5 Fiat Money and Exchange Rates 317

12.2 Contemporary Foreign Exchange Markets 318 12.2.1 The Over-the-Counter Market 318 12.2.2 A Worldwide Market 319 12.2.3 Online Trading 320

CONTENTS

12.2.4 Centralization of the Market 321 12.2.5 Retail Currency Exchange 322

12.3 The Supply and Demand Model of Foreign Exchange 323 12.3.1 A Simple Example of a Foreign Exchange Market 323 12.3.2 Arbitrage Integrates Markets 325 12.3.3 Triangulär Arbitrage 327 12.3.4 An Example of Triangulär Arbitrage 327

12.4 Effective Exchange Rates 329 12.4.1 The Effective Value of a Currency 329 12.4.2 Recent Behavior of Effective Exchange Rates 329

12.5 Intertemporal Arbitrage and the Interest Parity Condition 331 12.5.1 Intertemporal Arbitrage 331 12.5.2 A Simple Example of Intertemporal Arbitrage 331 12.5.3 The Covered Interest Parity Condition 332 12.5.4 A More General Form of the Interest Parity Condition 333 12.5.5 An Exercise in Interest Parity 334 12.5.6 Further Evidence on Interest Parity 335 12.5.7 A Modern Case Study ofExpectations: The Carry Trade 336 12.5.8 Exchange Rate Futures 337

12.6 Explaining the $4 Trillion Per Day Volume 338 12.6.1 Arbitrage Trades 338 12.6.2 Hot Potato Process 338 12.6.3 Explaining the $5 Trillion Daily Volume 339

12.7 Summary and Conclusions 339 Chapter Summary 340 Key Terms and Concepts 341 Problems and Questions 341 Notes 342

13 International Banking and Financial Markets 343

13.1 Stocks and Flows in International Finance 344 13.1.1 The Net International Investment Position 344 13.1.2 From the Balance of Payments to the Net Investment Position 344 13.1.3 Asset Stocks and Asset Returns ' 346 13.1.4 Is the Growth of the Net Investment Deficit Sustainable? 347

13.2 The Growth of International Banking 347 13.2.1 Shifts in the Ranks of the Transnational Financial Firms 347 13.2.2 The Eurocurrency Markets 349

13.3 Portfolio Investment 351 13.3.1 Defining Portfolio Investment 351 13.3.2 International Equity Markets 351 13.3.3 American Depository Receipts 352 13.3.4 Some Unintended Consequences of the Globalization of Financial Markets 352

13.4 Financial Innovation 353 13.4.1 The International Marketing of U.S. Collateraüzed Debt Obligations 353 13.4.2 Credit Default Swaps Insured the CDOs 354

13.5 Deregulation and Financial Fraud 355 13.5.1 The Glass—Steagall Act 355 13.5.2 Globalization and Financial Deregulation 356 13.5.3 The Great Monetary Expansion 356 13.5.4 Financial Crisis to Recession 357 13.5.5 Summary 358

CONTENTS

13.6 Financial Instability -"o 13.6.1 Neoclassical Analysis Cannot Explain Crises 359 13.6.2 Back to Keynes 360 13.6.3 The Separation of Finance and Investment 362 13.6.4 Minsky's Three Categories of Finance 363 13.6.5 The Financial Instability Hypothesis 364 13.6.6 Back to the 2007-2009 Financial Collapse 365

13.7 Conclusions and Final Comments 366 Chapter Summary 366 Key Terms and Concepts " 367 Problems and Questions 368 Notes 369

14 Exchange Rate Crises 370

14.1 The Economics of Exchange Rate Crises 370 14.1.1 Fixing the Exchange Rate under Rational Expectations 371 14.1.2 Using Intervention to Stabilize the Exchange Rate 371 14.1.3 Intervention Is Not a Long-Run Tool 372

14.2 Fixed Exchange Rates and Economic Crises 374 14.2.1 Policy Choices 374 14.2.2 The Options When Policy Independence Is the Priority 374 14.2.3 Two Dilemmas Equal One Trilemma 375

14.3 The 1982 Debt Crisis 376 14.3.1 Recycling Petrodollars 376 14.3.2 The Macroeconomics of International Financial Flows 377 14.3.3 WhatChangedinl982? 378 14.3.4 Dealing with the 1982 Debt Crisis 380 14.3.5 The Three Sides of the Negotiations 381 14.3.6 The Role of the International Monetary Fund 382

14.4 Further Foreign Exchange Crises 383 14.4.1 The Mexican Peso Crisis in 1994 383 14.4.2 The Asian Crisis of 1997 385 14.4.3 The Russian Crisis 386 14.4.4 Common Threads in 1990s Exchange Rate Crises 387 14.4.5 Exchange Rate Crises Are Very Damaging 387

14.5 Brazil's 2004 Tightrope Walk 388 14.5.1 Sustainability of Public Sector Debt 389 14.5.2 Tracing Brazil's Public Sector Debt 390

14.6 Conclusions 391 Chapter Summary 393 Key Terms and Concepts 394 Problems and Questions 395 Notes 395

PART V THE HISTORY OF THE INTERNATIONAL MONETARY SYSTEM 397

15 Early Monetary History: Ancient Times Through the End of the Gold Standard 399

15.1 The Emergence of Modern Money 399 15.1.1 Finance and Debt Game Before Money 400 15.1.2 The Development ofPhysical Representations of Money 401

CONTENTS

15.1.3 The Growing Complexity of International Finance 402 15.1.4 Fiat Money 402

15.2 The Origins of the Gold Standard 403 15.2.1 Why Britain Had a Gold Standard and Not a Silver Standard 403 15.2.2 The International Gold Standard 403 15.2.3 The Order of the International Gold Standard 404 15.2.4 The Gold Standards Fixed Exchange Rates 404 15.2.5 How the Gold Standard Really Worked 405 15.2.6 International Investment in the Late Nineteenth Century 407

15.3 The United States and the Gold Standard 408 15.3.1 Social Conflict and the Gold Standard 408 15.3.2 Bimetallism and William Jennings Bryan 408 15.3.3 The United States Remains on the Gold Standard 409 15.3.4 Evaluating the International Gold Standard 410

15.4 World War I Ended the Gold Standard 411 15.4.1 The Futile Attempt to Get Back to "Normal" after World War I 412 15.4.2 The Costs of the War 413 15.4.3 Reviving the Gold Standard Under Changed Circumstances 413 15.4.4 The Treaty of Versailles 414 15.4.5 Isolationist Tendencies in the United States 416

15.5 The Failed Return to the Gold Standard 416 15.5.1 Not Quite a Gold Standard 416 15.5.2 Did the Gold Standard Cause the Great Depression? 417 15.5.3 Exporting the U.S. Financial Shock 418 15.5.4 Some Further Consequences of the Economic Decline 419

15.6 A Change of Order 420 15.6.1 Reversing the Financial Chaos 420 15.6.2 Competitive Devaluations 421 15.6.3 The Tripartite Agreement 421

15.7 Assessing the Gold Standard Düring the Interwar Period 422 15.7.1 A Bad Report Card 422 15.7.2 The Trilemma between the Wars 423

Chapter Summary 424 Key Terms and Concepts 425 Problems and Questions 425 Notes 426 Appendix: William Jennings Bryan's "Cross of Gold" Speech, July 9, 1896 427

16 The International Monetary System: Bretten Woods to the End of the Twenty-First Century 431

16.1 The Bretton Woods Conference 432 16.1.1 A Holistic Perspective of Bretton Woods 432 16.1.2 Harry Dexter White and John Maynard Keynes 432 16.1.3 Agreement on the IMF and the World Bank 433 16.1.4 The Bretton Woods Order 434 16.1.5 The Marshall Plan and European Economic Integration 435 16.1.6 The Performance of the Bretton Woods System 436 16.1.7 The 1960s Reveal the Systems Inconsistencies 436 16.1.8 The Collapse of the Bretton Woods System 437 16.1.9 Evaluating the Bretton Woods System 438

16.2 After Bretton Woods 439 16.2.1 Many Meetings, No Agreement 439

CONTENTS

16.2.2 Exchange Rate Volatility 440 16.2.3 The Plaza Accord 441 16.2.4 The Bretton Woods Institutions 442 16.2.5 Evaluating the Post-Bretton Woods Period 442

16.3 TheEuro 444 16.3.1 The Early Steps toward Economic Union 444 16.3.2 EnJarging the EEG 445 16.3.3 The EEG and the Collapse of Bretton Woods 446 16.3.4 The Trilemma Again! 446 16.3.5 Establishing the Monetary Union 448 16.3.6 Further Expansion of the European Union 449 16.3.7 Trade Effects of the European Monetary Union (EMU) 449 16.3.8 Fiscal Policy in the European Union Countries:

Some Potential Problems 450 16.3.9 Financial Instability in Europe: The Greek Crisis 450

16.4 Some Tentative Conclusions 454 Chapter Summary 456 Key Terms and Concepts 457 Problems and Questions 458 Notes 458

17 Another Bretton Woods Conference? 459

17.1 Economic Instability 460 17.1.1 Inflation 460 17.1.2 Developing Countries'Accumulation of Dollar Reserves 461

17.2 To Fix or to Float? 462 17.2.1 The Gase for Pegged Exchange Rates 462 17.2.2 The Case for Floating Exchange Rates 463 17.2.3 So, Which Exchange Rate Regime Provides a

Higher Living Standard? 463 17.2.4 The Historical Context of Today's Regime Choices 464 17.2.5 Why the Reluctant Fiscal Response? 465

17.3 Modern Money Theory 466 17.3.1 Personal Debt versus Aggregate Debt 467 17.3.2 A Simple Example of a Monetary Free Lunch 467 17.3.3 The Fallacy of Composition 468 17.3.4 Summarizing Modern Money Theory 470 17.3.5 MMT and the Case for Flexible Exchange Rates 471

17.4 Restoring Financial Regulation and Oversight 472 17.4.1 Do We Need a New Bretton Woods Conference? 473 17.4.2 Keynes' Bancor 473 17.4.3 An International Bankruptcy Court? 475 17.4.4 Some New Proposais 475 17.4.5 Alternative Monetary Regimes: Islamic Finance 477

17.5 Some Conclusions and Predictions 478 Chapter Summary 4g0 Key Terms and Concepts 482 Problems and Questions 482 Notes 4g3

CONTENTS xvii

PART VI IMMIGRATION 485

18 Immigration: The International Movement of People 487

18.1 International Migration 487 18.1.1 Early Migrations 487 18.1.2 Recent Immigration 488 18.1.3 Why Do People Immigrate? 489 18.1.4 Many Types of Immigrants 490

18.2 A Labor Market Model of Immigration 491 18.2.1 Who Gains from Immigration? 492 18.2.2 The Effect of Immigration on Domestic Product Demand 493 18.2.3 Immigrant Remittances 494 18.2.4 Externalities in the Destination Country 496 18.2.5 The Costs of Government Services for Immigrants 496 18.2.6 Are U.S. Immigrants More Costly Today Than in the Fast? 498 18.2.7 Tentative Conclusions from the Static Supply and

Demand Model 498 18.3 Immigration s Long-Run Effects on Economic Growth 498

18.3.1 Immigrations Dynamic Effects 498 18.3.2 The Brain Drain 500 18.3.3 Can Remittances Mitigate the Brain Drain? 500 18.3.4 Replacing the Brain Drain with Service Exports? 501

18.4 Unauthorized (Illegal) Immigration 501 18.4.1 Unauthorized Immigration as Labor Market Segmentation 502 18.4.2 Unauthorized Immigration Can Be Deadly 503

18.5 Conclusions 504 18.5.1 The Economic Significance of Immigration 504 18.5.2 A More Holistic Perspective on Immigration 505

Chapter Summary 506 Key Terms and Concepts 507 Problems and Questions 507 Notes 508

19 Immigration Policy 509

19.1 The Purpose of Immigration Policy 509 19.1.1 Individual Rights and Community 510 19.1.2 Classifying Immigration Policies 511

19.2 United States Immigration Policy in the Nineteenth Century 511 19.2.1 Early Immigration Policy 512 19.2.2 The Latter Half of the Nineteenth Century 513 19.2.3 The Chinese Exclusion Act 514 19.2.4 Securing the Border 515 19.2.5 Pro-Immigration Forces Kept Immigration Open 516 19.2.6 Assessing the Early Policies 516

19.3 The Shift in U.S. Policy in the Early Twentieth Century 516 19.3.1 The Major Shift in U.S. Immigration Policy 517 19.3.2 Some Immigration Horror Stories Düring the Great Depression 518 19.3.3 Immigration Policy during World War II 518

CONTENTS

19.4 Post-World War II Immigration Policy 519 19.4.1 Slow Shifts in Immigration Law 519 19.4.2 A New Immigration Law in 1965 519 19.4.3 Unauthorized Immigration Has Grown Rapidly 520

19.5 Recent United States Immigration Policy 520 19.5.1 The 1986 Immigration Reform and Control Act 521 19.5.2 After IRCA 521 19.5.3 Temporary Work Visas 522 19.5.4 U.S. Policy at the Start of the Twenty-First Century 522 19.5.5 Immigration Reform Stalls 523

19.6 Immigration Policy in Canada 524 19.6.1 The Early Years 524 19.6.2 Canada's Treatment of Chinese Immigrants 525 19.6.3 Summary of Nineteenth-Century Policy 526 19.6.4 The Twentieth-Century Shift in Policy 526 19.6.5 Canadian Policy Shifts after World War II 527 19.6.6 Canada's Immigration Policy in the Twenty-First Century 528

19.7 European Immigration Policy 529 19.7.1 European Migration during the Colonial Era 531 19.7.2 The Nineteenth Century 532 19.7.3 European Emigration in the Twentieth Century 533 19.7.4 The Post-Soviet Era 534 19.7.5 Recent EU Immigration Policy 534

19.8 Conclusions 535 Chapter Summary 537 Key Terms and Concepts 538 Problems and Questions 538 Notes 539

20 The Evolving International Economy in an Ecologically Constrained World 541

20.1 Economic Growth and the Ecosystem 542 20.1.1 Global Warming 543 20.1.2 Scientific Evidence on Global Warming 544 20.1.3 Biodiversity 546 20.1.4 Nature's Services Crucial to Human Existence 547 20.1.5 No Sense ofUrgency among Policy Makers 549

20.2 Policy Making under Uncertainty 550 20.2.1 Risk vs. Uncertainty 550 20.2.2 The Cost of Controlling Global Warming 552 20.2.3 The Cost of Stopping Biodiversity Loss 552 20.2.4 Why Is It So Hard to Insure against Environmental Disaster? 553

20.3 Economic Growth and the Environment 554 20.3.1 Nature as the Next Source of Diminishing Returns 554 20.3.2 A Two-Sector Solow Growth Model 554 20.3.3 The Need for Technological Change in Both Spheres 558 20.3.4 The Two-Sector Models Insights 558 20.3.5 Environmental Costs and Economic Growth 559 20.3.6 Policy Options 560 20.3.7 Taxes versus Quantitative Restrictions 560 20.3.8 The Political Economy of Environmental Policy 562

CONTENTS

20.4 The Case for Globalization Taking the Environment into Consideration 564 20.4.1 National Policies and Global Problems 564 20.4.2 Support Local Commerce 565 20.4.3 International Economics and Growth Again 566

Chapter Summary 567 Key Terms and Concepts 568 Problems and Questions 568 Notes 569

Glossary 570 Bibliography 614 Name Index 634 Subject Index 640