The ICAS Lectures

No. 2003-0509-LRK

International Economic Performance
and Conflict Resolution

Lawrence R. Klein

ICAS Spring Symposium &
Humanity, Peace and Security
May 9, 2003 12:00 PM - 5:45 PM.
U.S. Senate Dirksen Office Building Room 106
Capitol Hill
Washington, D. C.

Institute for Corean-American Studies, Inc.

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Biographic Sketch & Links: Lawrence R. Klein

International Economic Performance
and Conflict Resolution

Lawrence R. Klein

I plan to review where the world economy sits at the moment, maybe spend some time on the position of the Korean Peninsula within that framework, and then I'll say a few words about what we finished talking about in the last few minutes, whether there are alternatives to pre-emptive wars and such, whether there's a way of resolving conflicts, other than going to war.

First, I will explain what I handed out. I handed out two view of the world economy at the moment. One view is the IMF view that is labeled Chapter 1, Table 1.1. That's a summary table of the world economic outlook that was published about two months ago by the IMF. And Table 1, which I'm partly responsible for is the similar summary table produced for the United Nations by Project Link (?) and that meeting took place about three weeks ago at the U.N. in New York. And we meet twice a year and at these meetings we always have the IMF view, the World Bank view, OECD view, the National Institute of London view, and so on, and usually everybody is fairy close together. We don't have very - we could have, but we don't have very big differences. But sometimes we have some subtle differences, but there's one feature of these handouts today and that is that the people who try to keep track of movements in the international economy are all simultaneously marking down their perceptions, and in the Project Link viewed from the U.N., the last two columns are what we were saying last October about 2002 and 2003, and the left hand columns are the April numbers. The IMF presents their current projections and recent history through 2004, and how they differed from their September figures in 2002 and 2003. One quick way of looking at it is - if you look at the right hand column, the 2003 column of the IMF publication, you see a whole string of negative numbers, and that's indicative of the fact that people are marking down their forecast.

That's not necessarily the worst situation, but what we really must pay attention to and what we really want to avoid is a world economic crisis. This would be a very bad situation, and from the previous presentation, many people were thinking along those lines in 1997 when we had the East Asian crisis because there was what we called the "contagion" effect and many countries got into trouble all at once, and countries that we'd previously thought were star performers. And at that time many people questioned whether the world was heading for a very big synchronized recession or synchronized crisis. That didn't happen. It was contained. It was very serious what happened, but it was contained.

Now people are worried again and there are big worries in the United States of two or three days ago: are we in a deflationary situation as Japan is? And why do we have a jobless recovery? The unemployment rate is relatively high and still rising. And yet we're growing at a very slow pace. So people are still worried about the overall economic situation.

Now, I've said that the first thing to note on whichever table one consults - the first thing to note is that projections for 2003 are rapidly being marked down, and almost always, when people do this, they say, "Well, 2004 is going to be - the next year is going to be a recovery year," but 2003 was supposed to be a recovery from 2002, and it didn't happen. Now, there are many interesting aspects of this. One interesting point is this. Can you look anywhere in the world and find some optimism? And for a while people had singled out Canada. Canada was very proud that they were - they usually trail the United States and now they're a step or two ahead. They're growing somewhat faster. They're improving their labor market a little bit better. They're having a very good foreign exchange and balance of payments position because of the high prices for energy, and they are often singled out for having the highest ranking for human development under the UNDP's Human Development Index. If they're not No. 1, they're No. 2 or No. 3. And they have been pre-emptive, not necessarily in a military way, but in interest rate or monetary policy, and they have been raising their discount rate for the last two or three months, and they have a strong Canadian dollar at the moment. It went from about 58 cents, and yesterday it was over 70 cents. So they're doing quite well.

Australia about whom we heard earlier today with respect to East Asian policy - Australia is doing very well, also having an exchange rate go up. So Canada and Australia were singled out usually. And in addition, the two biggest countries of the world were singled out: China and India. But China is having some doubts at the moment because of the SARS epidemic and we don't know when it will stop or exactly how big it has been and when it will stop, and it's too early to figure out just what setback this will prove for China. But in a country as large as China, they will still have probably a very elevated rate of improvement even though there'll be some disappointments now.

And India suddenly got into a problem of severe drought last year and India, which had been a very fast-growing economy and almost trailing China and trying to catch up to China, got set back by the drought, and when we had thought that India had gone sufficiently into software and high tech distribution, that they would no longer suffer so much from a bad monsoon, but they did. And that's shaving at least two points off India's growth rate for the last six to twelve months.

And the other strong growing country that most people cited was the Republic of Korea. And 6% growth or 6.5% growth was the number, and now the Koreans whom I talk to, former students and people from university and government positions think that Korea will be marked down 4.5% or something below 5%. And you can see on this tabulation in the South and East Asia block of the U.N. presentation for 2003, Korea's estimated at 4.4% growth, and in October that had been slightly over 6% estimate. And indeed, in 2002 it was better than 6%.

So there is some reason for saying that there's a little more trouble in the world economy. It hasn't yet developed to a significant collapse, but one country after another is scaling back and the projections are being scaled back.

That's one feature of this. We can still find countries doing better than others, or areas doing better than others, but not an overwhelming drive for good performance of the world economy.

In addition, the developing countries have somewhat higher growth rates than the industrial countries. Another way of looking at that, you can see that either in the U.N. tabulations, if you weight the different countries by converting their currency and purchasing power parity rather than market exchange rates, the purchasing power parity gives a higher growth rate for the world because the developing countries' purchasing power parity rates usually exceed the market exchange rates, and you'll notice that on the Project Link U.N. tabulations and all of the IMF tabulations averaging countries together use purchasing power parity, so they tend to be about a half a percent higher across the board than other world tabulations.

A third feature of this tabulation is that Western Europe is slipping a lot. More unemployment, sorry growth, more disappointment, especially in Germany and France, but generally speaking, Western Europe is not a powerhouse at the moment. The other thing to consider is the economies in transition and I'm doing a lot of work at the moment with some young people who've studied in the United States coming from Russia, and suddenly Russia's picking up and looking better. Russia had a very rough time after the fall of the Soviet Union and the end of the Cold War until about the middle of the 1990s, and now Russia is going ahead very nicely and we've been making, with these two young scholars from Russia, making business cycle modeling calculations for the modern Russia and one would have thought from the kind of rough period they went through, a period that can be compared very similarly to the United States in the Great Depression. Year after year of high unemployment, year after year of falling production, and year after year of falling life expectancy, all kinds of problems. They're falling into nice patterns now, and indeed, in these U.N. tabulations, we have a slight pick-up from 2002 to 2003 and a pick-up again from 2003 to 2004. It's not a wildly expanding economy, but it's just nicely recovering and that is worth looking at.

Another feature of these calculations is world trade, and that, on the U.N. sheet, is on next to the bottom line - World Exports corrected for price change. There you can see that the economies of the world had extremely low growth in world trade in 2002, and that is worth pointing out because there are so many more new countries in the world, and what used to be internal trade is now international trade, and yet we went to a very low level. And my sort of guideline is this: when world trade is growing at about 10%, the world is doing well. That was what we found in the late 1960s. We found it again in - I think in the '80s again. But now, at best, we should recover, it is expected, to 6% or 7%, below these very high targets and when world trade is very strong. And after the introduction of the WTO and the admission of China to the WTO, it's still a relatively sluggish growth. So there's something troubling about that aspect of the world economy.

Finally, we watch a thing that is watched very closely, particularly for Russia, but particularly for some of the countries that are doing well like Canada and others - the price of oil, and high oil prices are very unfriendly for the United States economy. And there are some doubts now, particularly after the battle in Iraq, that - we had thought there was no conceivable high price we could put for the moment on oil, and it was seeming to go toward $30 a barrel again. Now it's about - I think West Texas closed yesterday about $26, and the rent price which we use a lot, especially in studying Russian oil tendencies, runs a little lower. And so we would say the trading range for oil prices is more $20 to $25 rather than $25 to $30 and there had been some anticipation they would go much higher. So we can say, yes, oil prices for the moment are contained. It is very unlikely that we would get back to the prices below $20, but it is a very possible kind of projection that we would stay in a moderately high range and that would be the $20 to $25 trading range.

So the medium term, short run/medium term outlook for the world economy is for the developed market economies, industrial countries, to grow at 2-3%, and continue - and for the United States 2-3% means a jobless recovery. That was our problem after the Gulf War. We couldn't get much better growth than that until we introduced a vigorous combination of fiscal and monetary policy. My complaint is that we are operating almost entirely on monetary policy, and monetary policy alone can't do the job, and we need some felicitous combination of monetary and fiscal policies. I don't mean any combination, but I mean a felicitous combination.

The other countries, the European countries, especially the Western European countries are in the same kind of situation where they're just going along and the unemployment rate is even creeping up. We may have exhausted the upward movement of our unemployment rate. It's not certain. We could have some tenths of a point higher, but we're not doing anything to bring it down very significantly at this time point.

So this is a picture of an all right world economy that's muddling through and not heading necessarily for a crisis at the moment but it is in reasonably good shape, but not good enough for what we would like to do.

Now, I would like to turn some attention to the concept of conflict resolution in this economic environment for the world, and what do I mean by "conflict resolution"? The executive director of the World Bank, Mr. Wolfenson (?), came to our University - the University of Pennsylvania - a couple weeks ago and had a discussion about world issues and I asked him, I said, "Is the World Bank looking at possibilities of conflict resolution rather than heavy military activity, especially of a pre- emptive nature?" And he said, "Yes, that's just a new thing" - he said he's recently gathered together groups at the World Bank to study more carefully what kinds of policies would make a better environment for conflict resolution

. Now, my interpretation of conflict resolution, and thinking about it in terms of the Korean Peninsula as we have been - as you have been looking at it today - is - yes, there is always the possibility of going to war, but I would say - going to war is the last thing you do when all options are exhausted. And there's of course debate when the options are exhausted. But it seems to me that not enough has been done by way of conflict resolution. One way, of course, is economic sanctions, but that has not been fully successful. Another way is U.N. peace-keeping or - I've written a paper with a colleague some years ago on "What is the possibility of world volunteer forces of $50 billion a year for the" - I forget the exact number; maybe it was $10 million under armed forces, and then the U.N. has gone further with rapid reaction forces to be deployed anywhere in the world. And those are techniques for two things. One is creation of peace, and the other is maintenance of peace - or peace keeping and peace making.

Now in the case of the North-South Korea problem, I would look at it in this way. If Germany spent $100 billion a year for about four years in a complete transfer from West Germany to East Germany, what would be a corresponding magnitude for the Korean Peninsula? And of course applying that to Russia too - did Russia have to go through this horrible great depression of 1990 to 1995 by getting maybe $5 or $10 billion a year instead of even a larger sum than the $100 billion transfer that came from West Germany to East Germany. The orders of magnitude were all wrong. And East Germany is not yet the prototype of West Germany but a huge amount of funding went into that. So between North and South Korea, there must be an understanding that this is a very expensive proposition and if it's done right, it could pay off. And I would say to keep the dialogue going, and while the dialogue is going, we have some assurance, not complete assurance, that war will not erupt, and through the dialogue, we would, say, collect as much information as possible about North Korea from an economic point of view; try to build a decent statistical base, and try to estimate just what is needed to make that into a viable economy which delivers a much better level of living than is there now. And I think pursuit along those lines might eventually pay off and this would be my way of saying there should be-you have to be very patient. You have to put in a real effort, and I think there are some promising ventures that are already underway. The UNDP's venture, the T..... River Basin and the integration of Northwest Asia in which China, Russia, Mongolia, Japan, North Korea, South Korea all participate - I think is a very good program, and the Japanese in Igata (?) take a very careful monitoring interest in that and try to show how the natural resources of the Northeast region could be further developed with more infrastructure, especially transportation of basic resources, opening up year-round seaports and putting things in the world market.

So I think that demonstration projects like that can in fact be of great value. And this would be the kind of outcome that one would look for to be very patient and show what level of living could be achieved in North Korea if there were a reorientation of activities. That doesn't mean to go into North Korea and say, "Now, open your markets and use prices to allocate and deregulate, and you will get the outcome." That was really a flop in Russia. And that would be what could be - that might be what some people would think should be done in North Korea. I would say don't impose western institutions, western values, but impose or demonstrate what sensible economic institutions and economic infrastructure could do regardless of the environment in which they are recommended, and show by that technique what could be done. People would - after the Gulf War, walked around Iraq and said, "Just think what a good country that could have been if all the money that's spent on the military had been channeled instead into useful civilian projects." And do that over and over again for North Korea, and eventually they might catch on.

So things like that are what the World Bank should be doing for conflict resolution and others. I have at various times been attached to the advisory groups at the ..... University in Tokyo and a Korean scholar, actually one of our former students at Pennsylvania, wanted a project to do just this thing, to build a statistical database and try to estimate better lives for North Korea, and the Rector of the ..... University gave no support to such a project. I think that was a very narrow view, and one should keep pushing, and pushing along those lines and see if we could get a viable and plausible project going to assist in this concept of conflict resolution.

Thank you.

This page last updated 8/14/2003 jdb

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