Domestic solutions to global problems

Trade Wars are Class Wars by Matthew Klein and Michael Pettis is an excellent account of the global imbalances that have emerged in the 21st century, contributing to the GFC among other consequences. “A core argument of this book is that the distribution of purchasing power within a society affects its economic relations with the rest of the world,” they write. They trace the imbalances problem to the inequailities of income and wealth within China and Germany that mean domestic demand in each case is inadequate to absord domestic production, so the two run large current account surpluses with the rest of the world. “People who cannot buy what they produce must rely on foreign demand for their output.” Hence the ‘class wars’ of the title.

While the US should have been in the same position, given how unequal it is, foreign demand for US assets means it has run a consistent deficit instead: “For more than six decades the United States has satiated savers in the rest of the world at the expense of its own workers” – the dollar being an “exorbitant burden” in this perspective. (Another great virtue of the book is spelling out the fact that balances balance and so the capital account will be in deficit if the current account is in surplus; and if some people are saving – eg the rich in surplus countries – others will have to be borrowing – Greece, or ordinary Americans before the GFC.)

A lot of the commentary has focused on the bilateral US-China trade deficit and the “China shock” due to offshoring, but Klein and Pettis argue that the link is less direct than Chinese vs American factories, and must include an account of capital flows. It portrays inequality within China and Germany, rather than China’s low-wage manufacturing capabilities, as the root cause. The book is just as critical of German as of Chinese domestic policies: “Germany’s ideological and constitutional commitment to fiscal rectitude caused lasting harm to ordinary Germans.” The harm has taken the form of welfare cuts, eroded protection in the labour market, massive under-investment in infrastructure. One doesn’t think of Germany as particularly unequal. Yet although the average German is twice as rich as the average Spaniard, the median German is much poorer – about as wealthy as the median Polish person.

The book refers back to the writings of John Hobson in the early 20th century, when the US was the surplus economy in its gilded age, and Britain the bearer of the reserve currency burden. In Imperialism: A Study (1902) Hobson wrote: “When the distribution of income is suchas to enable all classes of the nation to convert their felt wants into an effectiove demand for commodities, there can be no over-production, no under-employment of capital and labour, and no necessity to fight for foreign markets.” Inequality and the competition for overseas markets led to what what he described as “the greed of empire.” It didn’t end well a century ago, and it isn’t going so well now.

Trade Wars are Class Wars is a tale of three economies, China, Germany and the US. I’m not sure where others fit in – including the UK, also highly unequal but with a (Brexit-augmented) current account deficit. (Greece gets a walk-on role.) Still, I found the argument persuasive and in any case reducing within-country inequality from today’s socially-destructive levels can only be a good thing. It’s a terrific book.

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4 thoughts on “Domestic solutions to global problems

  1. Once again, Diane, thank-you for an informative review. I agree that this is a terrific book. It is useful in providing a way to think about global imbalances from both political and economic standpoints.

    It may be worth noting that the book has similar arguments with Pettis’s earlier 2013 book “The Great Rebalancing”, which you reviewed favourably here . In 2013, Pettis’s arguments were not well received by some – especially in Germany – and the book received a luke warm review in the Financial Times. To my mind, Pettis’s arguments have stood the test of time, and this latest book updates his 2013 book.

    When thinking about international trade (which is not my specialist area, but one no economist can avoid thinking about), I find Pettis’s books and those of Rebecca Harding and Jack Harding (The Weaponization of Trade from 2017 and Gaming Trade from 2019 ) insightful and – unfortunately – prescient. And then, of course, there are Dani Rodrik’s books still relevant books on globalisation and trade.

    • Thank you Ian – and I applaud your other recommendations too. It isn’t my area either but I always find his tweets as well as his books very interesting.

  2. This sounds like a recapitulation of Pettis’ earlier book, The Great Rebalancing. I suppose there must be more or different detail on offer. One thing I appreciate about his perspective is that he reminds us that macroeconomics was once called political economy–and that there was no honest reason to change its name. The Chinese and German surpluses are political decisions, as is the American deficit. The pretense that economic/financial/monetary policy transcends politics is at best another lie of omission, but usually an explicit lie. I find that Pettis’ work is complementary to that of Robert D. Atkinson, who explains the effects of the present trading system in terms of global interstate strategy and differential innovation rates.

    I hold that a high level of financial inequality within a nation is “socially destructive” mainly because the oligarchy is incompetent and irresponsible. A better elite would generate more growth relative to negative externalities than the current Western elite manages. A specific example is their failure to devote more resources to R&D on nuclear fission. The science and tech underlying SMRs like those NuScale is working on were available many years ago. We could be building these reactors by now at one hundred per year in America. Solar on every roof hasn’t happened at a suitable pace due to the failure to account for externalities and the plague of what David Graeber aptly called “bullsh*t jobs,” which drive out productive jobs. A larger scale example is the negligent American approach to its trade relationships, which has resulted in lost industries–which lost industries have cost the world the sort of lost innovation at which the Americans truly excel. If the wealthy were applying their financial resources in these ways, their wealth would be well justified. But, wealth redistribution will not rectify this kind of lost growth. Only a high functioning elite can do that. I’m pessimistic about the prospect of that possibility. The trend in elite quality has been negative for generations. Of course, if economists and the elite they advise cannot understand how national trade accounts necessarily balance, they never can comprehend the nature of the driving force of economic growth, innovation.

    • It is indeed complementary to the earlier book, as Ian also noted. There is a stronger focus on inequality that I didn’t highlight enough in my post,

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