POSC 2200 – International Political Economy

Russell Alan WilliamsDepartment of Political Science

Unit Six: International Political Economy "Finance"

Required Reading: Globalization of World Politics, Chapters 15

and 27.

Outline: 1. Introduction - Finance and Investment2. Key Mechanisms3. Institutions4. Multinational Corporations

1) Introduction - Finance and Investment:System of finance and currency exchange vital

Without it there would be: No Trade No Travel No Development

Challenges:i) National currencies versus international markets

Must be confidence in the system of exchange Need a management system that ensures:

Convertibility Liquidity Stability

Historically: “Gold Standard” ensured this . . . Money could always be converted into precious

metal – kept currencies stable Modern money is abstract – value driven by

perception International Challenge: Make global financial

markets secure and stable (!)

ii) Globalization of finance Makes possible emergence of MNC’s Reduces state control over currency and

investment Increases need for cooperation to ensure

financial stability

2) Key Mechanisms:a) “Currency Markets”: Private markets where

foreign exchange occurs (where currencies are “traded”)

E.g. the “exchange rate”: Rate at which one currency can be exchanged for another E.g. $100.00 (CDN) =$95.76 USD

=$61.79 USD (Jan 2002)

$100.00 (CDN) = e71.18 Euro

Why do currencies go up and down in value?

State choice E.g. Competitive devaluations that led to the “Great Depression”

Domestic economic policy E.g. Lowering interest rates to stimulate economy

can reduce value of a currency

Market “supply and demand” Large “Balance of Trade” deficit can result in

reduced value of currency

Currency speculation Currency traders benefit from market

fluctuations = instability is “good” – for them! Small currency are exposed to speculative

fluctuations

Real economic performance E.g. China (?) – Trade surpluses can increase

value of currencies E.g. EU – economic crisis can drive currency

down

Strength of the currency E.g. Perceived reliability of US $

Key Points:

“Currency Markets” have grown(!)

Markets subject states to “discipline” in economic policy . . . this is “new”. E.g. “Bretton Woods”: System of financial management

established after WWII protected states from market fluctuations – ended in 1970s.

=“Capital Controls”: Formal restrictions on the right to exchange money

Main foreign exchange market turnover, 1988 – 2007, measured in billions of USD.

b) “Balance of Payments”: Flow of money into and out of a country from trade, tourism, investment and borrowing Two main components:

Current Account = “Balance of Trade”

Capital Account – Measures investment and borrowing flows = $$

$

Balance of Payments (2001) In Billions USDUnited States Germany

Current AccountBalance of Trade Exports Imports

998-1,356

658-620

Gov Transactions & Investment income

-35 -35

Current Account Balance -393 3Capital Account Net Investment and

lending flows in (+) and out (-) of country

398 -8

ReservesChanges in Official

Reserves5 -5

“Balance of Payments” cont . . . Key points:

1) Should balance every year

2) States with “balance of trade” deficits must be capital importers

E.g. Foreign Investment

Consumer borrowing

Government borrowing from foreign sources

“Balance of Payments” cont . . . Different from government finances

Government’s Annual Budget:

Has surpluses and deficits depending on tax revenue relative to spending . . . .

National Debt: Money owed by governments because of past deficits

Can effect “balance of payments” - but only if deficits and debts are borrowed from foreign sources

Current financial positions: Attention to “balance of payments” can change

image of power in IR

Canada: National Debt: Less than single year of GDP

Large Annual Deficits . . . Early 1980s to late 1990s

“Balance of Trade”: Small trade surplus Surplus with US Deficit with rest of world

Balance of Payments:

Canada a net capital exporter – Canadian outward investment

United States: National Debt: Over $17 Trillion(!)

More than a single year of GDP Large Annual Deficits

High in early 1980s and early 21st Century “Balance of Trade”: Large trade deficits for

decades

“Balance of Payments”: Requires capital imports Unsustainable over long term??

Implications? Risk of US decline . . . . Canada? Damage to international financial system?

China:

National Debt: None

“Balance of Trade”: Large trade surplus Surplus with developed countries Deficit with rest of world

“Balance of Payments”: China also a net capital importer (???) Results in huge increases in currency

reserves More then $1 Trillion (USD) China has “Capital Controls”

Implications?

“Unbalanced” Global Economy (2000-????)

Americans buy too much, make little Pay for it through creative debt – house finances = !!!!

Chinese export too much – currency does not go up in value = !!!!

What to do with those extra USD $$$$? =Lend them to Americans!

Implications?

3) Institutions: Financial instability - exchange rate

fluctuations/balance of payments problems – need to be managed! Bad for trade

Bad for MNC’s

Bad for states and development

Requires institutions to coordinate behavior and manage financial system

Domestic Institutions - Central Banks: Control monetary policy

Influence interest rates

Control exchange rate policy Control currency reserves and interest

rates

Normally “independent” of political control – role is to coordinate policy with other countries to achieve stabilityE.g. Bank of Canada and U.S. Interest

Rates

International Institutions:

“International Monetary Fund (IMF)”: Established after WWII to manage temporary

balance of payments problems Reduces exchange rate volatility

Current role – longer term loans to countries facing “debt crisis” – Requires “conditionalities”

Supports “Liberalization” and “Deregulation”

Run by “weighted voting”

Plays favorites? = Harsh treatment of LDC’s in debt

“World Bank”: Established after WWII to make long term

loans to support development

E.g. Reduce capital account deficits of developing countries

Causes . . . .

Also run by weighted voting Loans lower cost than private lending

However resources insufficient

Developing countries borrow from other sources = high interest and debt problems

Both IMF and World Bank subject to heavy criticism E.g. 1)Management of the LDC “debt

crisis”

2) Support for economic liberalism and “Deregulation” – which has made some problems worse . . . .

Marxists, “antiglobalizers” and others point to failures of these institutions

4) Multinational Corporations “Multinational Corporations (MNCs)”:

Private enterprises with production, facilities, sales operations and investments in several states Implies control over operations of

“subsidiaries” in other countries

“Home” and “host” countries???

Can only exist with globalized finance – “currency markets” and no “capital controls” blocking foreign investment

Example: General Electric “Based” in US

250 factories in 26 countries Subsidiaries?

Products? Consumer electronics, financial services, weapons

(tanks, jets and ships), nuclear reactors, WMD’s, and NBC

$575,244,000,000 in global assets 1/2 outside the US 315,000 employees outside US

Impact of MNC’s? Home Countries?

Bring in global profits “Good” jobs

Host Countries? Hosts compete to attract MNC investment

“Race to the Bottom” – states reduce taxes, environmental standards etc. to attract companies

Bad jobs, pollution and profits go elsewhere

Power: MNC’s have ability to influence what host states do . . .

Obstacles to growth of MNC’s

1) Nationalization by foreign governments E.g. Cuba, Venezuela & Newfoundland

2) Exchange rate fluctuations and instability

Increases cost of doing business

5) For Next Time . . . Unit Six: International Political Economy

“Environmental Cooperation”

Required Reading: Globalization of World Politics, Chapter 21. David Layfield, “International policy on climate change:

after Kyoto, what next?” Environmental Politics, 19:4, (2010), Pp. 657-661. (Available from e-journals, or from the instructor.)