Globalisation and Free Trade Essay

Globalisation, also referred to as global integration is an important economic concept used to understand the economic, structural, political and cultural changes that have occurred in the world today. Globalisation is argued to have shaped the post-war world. Globalisation can be defined as the increase of interconnectedness between countries through international trade. The reduced policy barriers to trade and investment in the public sector and the reduced communication and transportation costs in the private sector are believed to be the main driving force behind globalisation (Frankel, 2006). Due to globalisation, the concept of free trade operates. Free trade is a policy where countries are able to trade freely with each other as there are no tariffs applied to imports and no quotas or subsidies applied to exports. According to the law of comparative advantage, the free trade policy allows both countries to gain mutually from trade – increasing economic growth. The increase in inequality and job losses which is occurring around the world is argued to be as a result of global logic of competitive profit-making management techniques of outsourcing and corporate migrations, atomisation, downsizing and widespread technological progress which all came about as a result of globalisation and free trade (Ukpere and Slabbert, 2007) Due to some consequences of globalisation, movements were formed against it (Krugman et al, 2012). The anti-globalisation movements argue that although globalisation increases the overall income of a country however the benefits are not equally distributed between the citizens. This widens income disparities which brings up social and welfare issues and could also limit the forces which drive economic growth as opportunities brought about as a result of globalisation may not be fully taken advantage of. Maintaining citizens support is important in order to sustain globalisation, however support shown by citizens could largely be influenced by the rising level of inequality (Subir Lall et al, 2012). The Ricardian Model of comparative advantage states that goods are produced competitively using one factor of production; labour, utilising constant-returns-to-scale technologies that vary across countries and goods (Deardorff,2007) . The Ricardian model puts forward that countries would export the good in which they have comparative advantage which is determined by opportunity cost, labour cost and labour productivity. A country has a comparative advantage in the production of a good if the opportunity cost of producing that good in terms of other goods is lower in that country than it is in other countries (Krugman et al, 2012). The Ricardian model illustrates a world with two countries, A and B which both utilise a single factor of production – labour in producing good X and Y respectively. Assuming country A has comparative advantage in producing good X, then country A should specialise in the production of good X and would export it to country B. Since it is more cost effective for country B to import good X , Production of good X would decline in country B leading to a reduction in the demand for labour. As a result workers would lose their jobs leaving them with less disposable income – increasing inequality. As a result of globalisation, the cost of communication between countries is low, reducing the cost of controlling the geographically dispersed parts of an organisation. This allows organisations identify countries which have low production costs and set up branches in such countries in order to exploit the low production costs. This is referred to as outsourcing. Through this fragmentation of industry, the host countries are able to pursue their comparative advantage and maximise the use of their resources. However due to outsourcing, the movement of production to the host country causes people in the foreign country to be laid off their jobs as there is a decline in the demand for labour, increasing job losses and also the inequality gap. The factor-proportions theory stresses the importance of the interaction between the proportions of the factors of production that are utilised by countries in production and the proportion of the factors of production the country possesses (Krugman et al, 2012). The Hecksher- Ohlin model is a version of the factor-proportions theory . The model assumes that the country that is abundant in a factor exports the good whose production is intensive in that factor and can be referred to as â€Å"2 by 2 by 2†: Two factors of production, two goods, two countries (Krugman et al, 2012). Assuming we have two countries, country A and B which utilise two factors of production; labour and land to produce goods X(labour intensive) and Y(land intensive) respectively. The Hecksher-Ohlin model states that If country A has abundance of Labour and country B has abundance of land then country A would be effective in the production of good X and country B would be effective in the production of good Y. The Hecksher-Ohlin model purports that owners of abundant factors benefit from international trade and owners of scarce factor would lose from trade. Owners of the scarce factor would then be forced to lay off some workers – leading to disparities in the distribution of income which increases inequality (Krugman et al, 2012). The Stopler- Samuelson theory describes an interaction between relative factor rewards and the relative prices of goods. The theory purports that under some economic conditions (perfect competition, constant returns, equal number of goods produced to equal number of factors) the rise in market price of a good would result in an rise in the return to that factor that is most intensively utilised in producing that good whereas a reduction in the return to the other factor occurs. Due to free trade, there are reduced tariffs on imports and as a result, there is a decrease in the price of imported goods that are high skill-intensive reducing compensation of limited high-skilled workers. Also, there in as increase in the price of exported goods which the country has abundant factor, that are low skill-intensive and the compensation of low-skilled workers. In a developed country with relatively abundant high-skill factors the opposite would occur with a rise in openness resulting in higher inequality. Inequality is argued to be rising amongst countries. The differences between the global poor and global rich continues to increase (Haines, 2001). The income share of the richest quintile is increasing whilst the income share of the rest of the quintiles is decreasing. Although globalisation is argued to be largely responsible for the increase in job losses and inequality, we can also argue that technological progress has contributed to some extent. Technological progress is responsible for the increasing gap between the skilled and unskilled workforce as it puts greater importance on worker skills. As a result of this, in most countries skilled workers are paid significantly higher wages than unskilled workers as a result leading to differences in income distribution. Also, in most households nowadays, we’ll find that most people use telephones and computers, making it possible for individuals to purchase a wide range of goods and services from a global supply chain. Countries that sell goods and services at a lower price compared to other countries tend to have comparative advantage in producing the good according to the Ricardian Model. As individuals we tend to then purchase goods from the country which sells it at the lowest price when compared to other countries. These current patterns have led to a large section of the labour market withering away, increasing inequality and job losses amongst countries (Martin and Schumann, 1997). Samuelson (2004) indicated that using the Ricardian model, with two goods and two countries with different levels of productivity, technological progress in the lagging country would benefit the latter and the more developed country would end up losing from international trade. This reduces the mutual benefits from international trade – increasing inequality. In order to decrease the rising inequality and job losses the government should make providing easy and free access to education a matter of high importance. This gives unskilled and low income groups an opportunity to take advantage of opportunities which arise from globalisation as a result they would be able to lessen the disparities in income distribution and have more job opportunities (Subir Lall et al, 2012). Globalisation is believed to have significantly contributed to the increase in the overall wealth amongst countries however it has a disequalizing effect as access to wealth between the rich and poor segments of the population is unequal. Government should put in place policy reforms which are aimed at opening up access to finance, developing institutions that encourage lending to the low income groups in order to enhance the general distribution of income, which in turn helps to support the overall growth of the economy.