Post-Cold War Economics: Redefining International Trade Theory and Economic Development (again)

The Yusuf Sayigh Development Lecture 2018 Prof. Erik S. Reinert Ramallah, November 28, 2018 Ibn-Khaldun (1332-1406)

Created ‘a philosophy of history which is undoubtedly the greatest work of its kind that has ever yet been created by any mind in any time or place’

Arnold Toynbee, UK Historian (1899-1975) Ibn-Khaldun: Cyclicality of History.

Desert tribe conquers a city. Once they solidify their control over the conquered society, however, they become attracted to its more refined aspects, such as literacy and arts, and either assimilate into or appropriate such cultural practices. Subsequently they decay militarily and politically and will eventually be conquered by a new set of desert tribes, who will repeat the process. Similar concept: Anacyclosis. Giambattista Vico (1668-1744): Progress With the spirit of the Enlightenment comes the idea of an infinite universe. With it comes also the idea that life on earth is not a zero-sum game; the idea of Progress.

My talk today argues for a cyclical interpretation of the ideas of economists in the mode of Ibn-Khaldun. With progress, theory tends to get more and more abstract and decays into a lack of realism, then to collapse and be resurrected at a lower level of abstraction. These cycles repeat. Now is a time of ideological shifts.

•US: The ideological extremes - Trump and Sanders – both agreed that free trade is no longer good for the US. •UK: Brexit. •The old EU periphery: sinking deeply into debt and getting poorer (Greece, Italy, Spain, Portugal). An 1848 moment….

…when the old order collapses because it is attacked from the political right and the political left at the same time. Overly abstract theories collapse. The old elites are under attack from «all sides». The ’1848 moment’: ‘It often happens that the universal beliefs of one age of mankind – a belief from which no one was, nor without an extraordinary effort of genius and courage could at the time be free – becomes to a subsequent age so palpable an absurdity, that the only difficulty then is to imagine how such a thing can ever have appeared credible...It looks like one of the crude fancies of childhood, instantly corrected by a word from any grown person.’ John Stuart Mill, 1848. The 1848 Generation: three books – all from 1848 – covering the political spectrum from left to right, all recanting David Ricardo (i.e. creating less abstract theories).

• Marx & Engels, Communist Manifesto. Marx was so radical he had to flee to England. • Bruno Hildebrand, Economics of the Present and the Future. Hildebrand was so conservative he fled to Switzerland. • John Stuart Mill, Principles of Political Economy. English liberalism recanted on free trade! HEGEMONIC SHIFT AND THE COLLAPSE OF FREE TRADE:

The leading nation stops being liberal when free trade is no longer in its interest:

First: Holland, 1720s Then: England, 1910s Now: United States Washington Post, 2014: The average US worker, who is fortunate enough to have kept his job, today makes 3.600 $ less than he did in 2001 (adjusted for inflation) US: Productivity and wages split company Joseph Schumpeter (1883-1950) The eternal trade-off in economics. ‘The general reader will have to make up his mind, whether he wants simple answers to his questions or useful ones – in this as in other economic matters he cannot have both’. Joseph Schumpeter (1930) My assertion: Today’s ideological confusion is related to blind spots in an overly abstract (simplistic) economic theory. This theoretical ‘overshooting’ (Hayek) is recurrent in history. Hayek’s ’overshooting’ mechanism. ’Never will man penetrate deeper into error than when he is continuing on a road which has led him to great success’ Friedrich von Hayek, 1952. Compare Hyman Minsky’s ’destabilizing stability’ as a mechanism behind financial crises.

The two types of economics: ’One of the nice things about economics is that it is only a way of thinking, factual knowledge does not exist’. Victor Norman, Norwegian economist, 1994. (based on Friedman 1953) ’The root of everything we can call theory is to observe things as they are’. Hans-Georg Gadamer, Lob der Theorie. Reden und Aufsätze, 1991. Compare to Ibn-Khaldun: cultivating the aestethic mathematical elegance of theories – rather than realism – leads to decay. Thorstein Veblen’s taxonomy of knowledge.

• Esoteric knowledge. Prestigious, but often fairly useless. Arises when education has ‘contaminated’ healthy instincts. Factless economics.

• Exoteric knowledge. Useful knowledge that carries little prestige. Fact- and experience-based economics.

Harold Innis (1894-1952) A dynamic taxonomy of knowledge. Science, communicated in ’Latin’ , gets more and more abstract, and enters into alliances with the political elites (Veblen’s vested interests). Resistance to the ruling paradigm and the elites builds up among the ’vernacular’ (those who do not write Latin) and an overthrow may take place after a shock to the system. Western Civilization is again and again saved by knowledge that for a time only survives in the periphery. The persistent(?) Myth of Free Trade: «Although it looks as though free market fundamentalism has been relegated to the dustbin of history, the second pillar of neoliberalism – free trade – is not only still standing but has been reaffirmed as «indispensable» by political and economic elites around the world».

Manfred Steger & Ravi Roy, Neoliberalism. A very short Introduction, Oxford University Press, 2010, p. 137.

The crisis that started in the 3rd World is now reaching the West.

• Third World 1970s: De-industrialization, falling wages and disappearing middle class in small Latin American countries. • Second World 1990s: Massive destruction of industry in former Soviet Block. Wage collapse. • First World 2010s: De-industrialization, falling wages, disappearing middle class, Brexit, Trump/Sanders.

Russia: Exchange rate (right axis), real wages and production, 250 1992-2001 120

Index of Industrial 100 Production, seasonally 200 adjusted, 2000 = 100

80 Index of agricultural 150 production, seasonally adjusted, 2000 = 100 60

100 Real average monthly accrued wages (based 40 on CPI), seasonally adjusted, 2000 = 100 50 20 Real exchange rate (against US), DEC 95= 100 0 0 Ibn-Khaldunian Cyclical Movements of Economic Theory.

School Starting point Peak Death Physiocracy Quesnay 1758 1760s 1789 (French Revolution) (’Rule of Nature’)

Classical Ricardo 1817 1840s 1848 (John Stuart Mill) Economics

Neo-Classical Marshall 1890 1920s 1933 (John Maynard Keynes) Economics

Neoclassical Samuelson 1948 1990s NOW (Donald Trump) synthesis

Why are there so few middle income nations?

Korea (Rep.)-Somalia, GDP per Capita 1950-2001

Korea (Rep.) Somalia

16000

14000

12000

10000

8000

6000

4000

2000

0

1950 1952 1954 1956 1958 1960 1962 1964 1966 1968 1970 1972 1974 1976 1978 1980 1982 1984 1986 1988 1990 1992 1994 1996 1998 2001

Source: original data extracted from Angus Maddison, The World Economy, Paris, 2003 ..and why do some economies shrink? What is it that we are rediscovering now? The schizophrenic logic of the Cold War? 1947: George Marshall annonces the Marshall Plan in June: trade between farmers and city activities (manufacturing) is ‘the basis for modern civilization’. This is now threatened: we must re-industrialize! 1948/49: In the middle of the Berlin Blockade, US economist Paul Samuelson resurrects what was then a marginal theory from 1817 (David Ricardo) saying economic structure does not matter. Free trade will create ‘factor price- equalization: wages and capital costs will tend to even out between rich and poor countries. Samuelson became the capitalist counter-utopia against the communist slogan ‘from each according to ability and to each according to need’. Free trade would be even better: everyone would tend to get equally rich! David Ricardo’s ‘comparative advantage’ – dating from 1817 – was mainly a Cold War phenomenon Forgotten knowledge from Post-WW II Europe

‘There is the illusion that the New Germany left after the annexations can be reduced to a pastoral state (i.e. without industry). It cannot be done unless we exterminate or move 25,000,000 people out of it’. Herbert Hoover, Report from Germany to President Truman, March 18, 1947. This was probably the key argument that created the Marshall Plan. Economic structure and population carrying capacity Hunting and gathering societies 1-2 persons / km2 Agricultural societies 40 persons / km2 Industrial soc (ex. Holland) 400 persons / km2

Only nations with a large manufacturing sector (rather: a large sector with activities subject to increasing returns) are able to feed a large pupulation. Famines are normally only found in nations specializing in agriculture.

We discover that both sides in the Cold War – Western Capitalism and Communism were – were both based on the same economic theory: Industrialism Industrialism: The term that decayed with the Cold War. The World Bank confirms Friedrich List: “Except for a few oil-exporting countries, no countries have ever gotten rich without industrialization first’

Justin Yifu Lin. World Bank Chief Economist, New Structural Economics: A Framework for Rethinking Development and Policy, Washington DC: World Bank Publications, 2012, p. 350. Understanding the link between manufacturing industry and wealth ‘From manufacturing you may expect the two greatest ills of humanity, superstition and slavery, to be healed’. Ferdinando Galiani (1728-87), Italian economist.

FIGURE 4. Ecuador: Diminishing Returns in Banana Production 1961-1977

180 000 35

160 000 30 140 000 25 120 000 100 000 20 Area cultivated

80 000 15 Average yield per hectar 60 000 10 40 000 20 000 5

0 0

1961 1963 1965 1967 1969 1971 1973 1975 1977 Source: Reinert 1980, page 175. Programa Nacional del Banano y Frutas Tropicales, Guayaquil. Unpublished data. Activity-specific Economic Development: The mechanization of cotton spinning during the First Industrial Revolution.

Ave annual 30,0 increase in productivity

25,0

20,0

15,0

10,0

5,0

0,0 1750 1800 1850 1900 1950 2000 2050 Years Source: Carlota Perez, Calculations from Jenkins 1994 USA: Learning Curve of Best-Practice Productivity in Medium Grade Men’s Shoes’Shoes’.

18

16

14 Man-Hours Required by Best-Practice Methods 12 of Producing A Pair of Medium-grade Men’s Shoes at Selected Dates in the U.S. 10

8 Year Man-Hours Per Pair 6 1850 15.5 4 1900 1.7 2 1923 1.1 0 1936 0.9 1850 1900 1923 1936 Per Capita GDP Compound Growth Rate

0.07

0.06 USA 0.05 Western Europe 0.04 Greece, Portugal, Spain Eastern Europe 0.03 Former USSR 0.02 Latin America 0.01 Africa 0 China East Asian Tigers -0.01

Source: Angus Maddison&Conference board data, calculations by the author Surprising conclusion? ‘Industrialism’ under Communism could produce higher welfare than Capitalism without manufacturing industry

Source: Branco Milanovic Development: A theoretical axis independent of right and left Economic structure matters Economic structure does (Anti-physiocracy) NOT matter (Physiocracy): • Washington • David Ricardo • Lincoln • Manchester Liberalism • Stalin (1800s) • Mussolini/Fascism • Thatcher • Scandinavian Social • Neo-classical economics + Democracy neo-liberalism • ‘Developmentalism’ • Pinochet? Colonialism as a technology policy.

“That all Negroes shall be prohibited from weaving or spinning or combing of Wool, or manufacturing of Hats..Indeed, if they set up Manufactures, and the Government afterwards shall be under a Necessity of stopping their Progress, we must not expect that it will be done with the same Ease that now it may” Joshua Gee, Trade and Navigation of Great Britain Considered, 1729. The Knowledge- and Production-Based Other Canon of Economics

Tudor Realökonomisch Alexander Daniel Raymond M. & H. Carey US Industrial Policy Economic Mercantilism: Hamilton US 1820 US 19. Century Policy in Growth as US 1791 England 1485+ Activity-Specific E. Peshine Veblen and the Smith Institutional School Japan + Asian Tigers

Giovanni Botero 1588 Friedrich List Japan 1945+ Antonio Serra 1613 1841 1860+

Schumpeter Evolutionary Barthélemy de Laffemas 1597 Economics Jean Baptiste Colbert 1651+ Schmoller

Sombart Renaissance Classical Devp. Econ. Von Hornick German Cameralism German Historical 1945+ Germany 1684 & Anti-Physiocracy School 1848+ The Verein für Sozial- Marx politik 1872-1932 Other Canon Keynes