Changing the Dominant Paradigm in Economics: How to understand & confront critical aspects of Economic Globalization

This article addresses the discussion proposed by the World Academy of Art & Science (WAAS) about the need to build a new paradigm to confront the challenges of the global society and to move across to a New Society discussing specific problems related to economic globalization and proposing changes. The ways in which economic orthodoxy and heterodoxy analyze the role of the State and the question of sustainability of development and the problems of environmental sustainability depend on their different views or theoretical arguments about the role of the market. The article contrasts the mainstream economics arguments to support the free market context of globalization with Post-Keynesian and Marxist’s skeptical or critical views. Finally, it proposes some strategies to face the critical aspects analyzed making suggestions to move to another dominant economic paradigm.

1. Introduction
This article seeks to address the discussion proposed by WAAS about the need to build a new paradigm to confront the challenges of the global society (Jacobs, 2014) and to transit to a New Society (Šlaus, 2014), discussing specific problems related to economic globalization and proposing changes.

In order to circumscribe the contribution of this article, it is necessary, first, to define what economic globalization means, highlighting the critical aspects to be discussed, while recognizing the benefits and challenges of globalization itself. Globalization is generally seen as a way of bringing countries and peoples closer through connecting networks. Thus, what is most readily seen are the benefits of cultural exchanges, webs of discussion and collaboration and, consequently, the gains that collective action can provide. Those are undeniably positive achievements of what is usually called globalization.

Economic globalization, however, needs to be well defined and understood in order to really grasp its consequences. In economic terms, the meaning of globalization also relates to close connections, but these connections are established by market forces, as it is always the case in capitalism, because capitalism is a commodity type of economy, as stressed by Marx. But while for the orthodoxy free market forces are the best regulator of the economy (leading to more stability, efficiency and equality), for the heterodoxy the system of regulation by free market prices, leads to increased instability and greater inequality. This creates a role for the State, challenging the idea of ‘market efficiency’ and opening the space for the consideration of alternative ways of regulating the economy and building the material conditions to change the society. This is the first goal of this article.

The ways in which the orthodoxy and the heterodoxy analyze the question of sustainability of development and the problems of environmental sustainability also depend on those views or theoretical arguments about the role of the market. The second goal of this article is to examine those arguments contrasting mainstream economics with Post-Keynesian and Marxist views.

The first section stresses the mainstream arguments for economic globalization. In the second and third sections, respectively, the heterodox arguments of Post-Keynesian and Marxist economists are outlined, explaining their skepticism or even negative positions concerning the market. The fourth section discusses some strategies to face up critical aspects of economic globalization and proposes heterodox alternatives. This leads to the suggestion to move to another economic paradigm, in order to increase equality and universal interest creating a more sustainable world in both human and social terms. The conclusion shows how these proposals can also contribute to a more sustainable environment.

2. The Mainstream and the Defense of Economic Globalization
Mainstream economics is characterized by the belief in the regulating role of the market. The idea is that freedom for private initiative is necessary to guarantee the equilibrium of supply and demand of both goods and factors of production, price stability and a harmonious evolution of the economy. That is why the philosophy that sustains mainstream economic theories is called neoliberalism. The idea of liberty here is not the idea of human freedom in general; instead, it relates to the freedom of the market, or for the private behavior implicit in supply and demand. As globalization implies the opening of different markets, deepening and spreading prices behavior, it can be seen as neoliberalism in practice.

The neoliberal idea of development is, hence, one of letting different markets express individual interests. Money, in this conception, is a pure veil, neutral, and it cannot stimulate the economy in a permanent way. From this point of view development is based on individual preferences and technologies applied into the production of different goods and services. If the government issues money trying to stimulate production and employment, the final result, in the shorter or longer run, is only inflation. Furthermore, the government can decide to invest, instead of waiting for market decisions. But in so doing it will necessarily become indebted, since the government does not produce. According to the mainstream, this path will increase the interest rate which, in turn, reduces private investment. Thus, government investment is neutralized by the decline of private investment, with no net gain. This is the crowding-out effect of private investment by public sector investment (Blanchard, 2008).

The government is viewed as being needed only to manage or address certain externalities (Laffont, 2008), which means costs or benefits that affect some people, even if they do not choose to incur in them. For example, the pollution generated by a factory that affects the surrounding environment and the health of nearby residents is an example of negative externality.

Even though it admits these possibilities as adequate grounds for government intervention, mainstream economics prefers not to count on them, because the role of the State is viewed with suspicion or mistrust. Underlying this perspective there is the idea that if the government chooses to support some sector or economic policy it is frequently argued that it can also stimulate “rent seeking behavior”. This is associated with benefits that the government grants to specific sectors or economic agents prioritized by economic policy. Rent-seeking means spending resources on political lobbying aiming to increase one’s share of existing wealth without creating new wealth, which happens if the government has the power to interfere in the economy. This expenditure of wealth is seen as harmful, because it does not involve an increase in production. According to this view the effects of rent-seeking are thus reduced by economic efficiency through poor allocation of resources, reduction of wealth creation, the loss of government revenue, and general national decline (Krueger, 1974).

Once the orthodoxy, or mainstream economics, believes in the regulating role of the market, it sees instability and other economic problems as the result of factors exogenous to the market itself. In contrast, market forces can help to resolve or compensate those problems. If, for instance, there is a drought, a natural phenomenon, therefore exogenous to the market, causing the shortage of a commodity, imports can resolve the problem and this will be more efficient if the market is free than if it is regulated.

Among the exogenous factors that can cause instability there is one that is particularly important for mainstream economics and that reinforces its belief on market power: it is government intervention in the economy. As we have already discussed, the orthodox conception of neutral money, having no permanent or long-lasting effect over the real economy, makes government intervention issuing money or getting into debt an inflationary or inefficient way of doing so. When the market is free internationally, the power of national governments is reduced, leading mainstream economics to expect greater stability in a globalized economy. The government behavior, for example, of issuing money with electoral objectives is seen as being neutralized by capital flight to the rest of the world, if there is free movement of capital. That is, the mere threat of capital flight can discipline governments and prevent inflationary policies.

In relation to convergence, the mainstream argues that if movements of capital are free around the world, capital tends to leave the developed countries, where there are fewer opportunities for investment and where rates of profit and interest are lower, and go to less developed countries, where more abundant opportunities of investment guarantee higher rates of profit and interest. In so doing, investment tends to increase in these developing countries, guaranteeing them a higher growth rate and, consequently, a reduction in the income gap between countries. The same reasoning is applied to justify the equalization of wages between rich and poor countries, reducing income inequality.

It is the belief in market efficiency that justifies the propositions of the economic mainstream to resolve the problems imposed onto the environment by economic growth. The idea is to discourage environmental damage by increasing the cost to the capitalists causing it. This leads to proposals of fines, fees and taxes to compensate the damage incurred, and the possibility of buying carbon credit, leaving to the market the decision of how much to destroy the environment.

It is important to observe, before going to other paradigms in economics, that this orthodox free market-oriented position is grounded on certain assumptions, in particular those of the absence of a lasting impact of money over the real production (neutral money) and of an inherent inefficiency of the State. These assumptions are rejected by the Post-Keynesian and Marxist paradigms, which open the space to defend a positive economic role for the State. These approaches also raise important reasons for skepticism concerning the role of the market, which explains some of their critiques of economic globalization.

3. Post-Keynesian Economics, Skepticism of Globalization and the Need for Re-regulation
Post-Keynesian economics develops its ideas following the critiques to the economic mainstream made by Keynes in the latter phase of his academic activities. For Keynes, what was absent from the elegant economic theory of the orthodoxy was uncertainty, which is different from risk, and that permeates economic decisions, particularly those involving a long period of time (Keynes, 1937). Uncertainty is due to the facts that the future is unknown and that decisions are made in an atomistic or decentralized way. Consequently, no one can anticipate even probabilistically what will be the net result of those types of decisions.

Under these conditions, it is both usual and rational that agents should search for a way to protect themselves against uncertainty. It becomes normal to hoard or hold money, since money is the most liquid asset, and it gives flexibility in uncertain times. In this vein people can trade money for anything, without incurring capital losses due to exchanges made in a hurry. Keynes called this behavior liquidity preference. The problem with this type of behavior is that it leads to the reduction of consumption or, what is worse, to the inhibition of the investment, decreasing aggregate income and employment.

For Keynes, the investment decision is the most important decision in the economy, because it can increase or reduce the level of employment and the income generation in a multiplied way. This happens because when an investment decision is concluded, it implies payments to a number of people, which once added up, constitutes an income generation higher than the value of the investment itself. In turn, the investment decision depends upon the comparison between the investment expected profitability (marginal efficiency of capital), and the rate of interest, which is a proxy for the investment cost.

According to Keynes, the two key determinants of the investment decision depend substantially on uncertainty. The gain of the investors, or marginal efficiency of capital, cannot be calculated in advance. It is the result of feelings about the current state and the future development of the economy, which are inevitably permeated by uncertainty, filtered by feelings of optimism or pessimism. In turn, the rate of interest is determined by the supply of money, which depends on the liquidity preference of the banks, and the demand for money, which derives from the liquidity preference of the economic agents. Thus, for Keynes, investment in a capitalist economy is always volatile, and both income and employment are inherently unstable.

That is why, for the Post-Keynesians, the role of the State is always important, with the government stimulating the private propensity to invest or itself investing when private decisions are not made.§ The government can reduce the interest rates, to stimulate capitalist decisions to invest, and it can itself invest if the entrepreneurs remain reluctant to do so. This occurs because the government is not a profit-seeker, and therefore it does not need to compare the profitability of investment with the interest rate at the moment of the investment decision. The consequence of the increase in investment is an increase of income and employ­ment, which will improve the entrepreneur’s expectations about the demand for his or her own products and, consequently, raise the expected profitability of enterprise, improving their next decisions to invest. In doing this, the government can minimize domestic economic instability and stimulate growth and employment creation. As it liberalizes market forces, globalization reduces the scope for the government to act. For example, if the government reduces interest rates, domestic capital can move overseas searching for higher gains, which might neutralize the ability of the government to stimulate the economy.

If the government can lower interest rates through monetary policy, making more investment projects potentially profitable, this shows not only an economic role of the State, but also that money can stimulate the growth of production, employment and income. Money can thus affect the development of the real economy, and it is not, in this sense, neutral.

However, monetary policy cannot by itself guarantee higher levels of investment because the expected return or marginal efficiency of capital depends upon optimistic or pessimistic expectations of profitability, since uncertainty, differently from risk, is not the object of calculus, as we have already seen. This means that, even with low interest rates, investment decisions may not take place if the marginal efficiency of capital is even lower. Therefore, monetary policy cannot always guarantee that investment will follow, which justifies the use of fiscal policy. The latter means that the government can spend and finance its spending through taxes and debt. The obvious reason for this possibility is that government spending does not rely on individual decisions, and it does not have profit as a goal. Thus there is space for the government to spend on consumables and to invest with the ultimate goal of stimulating the economy. In this vein, the government can create income and employment, which, in turn, leads to an increase of the optimism of the entrepreneurs, stimulating new private investment decisions. In this way fiscal policy can improve economic activity. In other words, there is crowding-in and not crowding-out of the private investment by public investment.

Even if government activity is financed by public debt, Post-Keynesians do not think that it is a problem, because the increase of income and employment can raise sufficient tax collection to repay the new loans to the state. Consequently, government spending is not always inflationary, because it can expand production capacity and production itself. Then the supply of goods and services will tend to increase and prices to decrease, instead of increasing as is expected by economic orthodoxy.

Here we see some reasons why Post-Keynesians are critical of the free market system in general and globalization specifically. For the Post-Keynesians, they create more instability and inequality among economies. The higher instability can be understood with an example of the problems posed to the role of governments. If, for example, the government has to intervene to secure an exchange rate compatible with domestic growth objectives, this can be achieved only by controlling the inflows and outflows of capital. This is very difficult because the size of these capital movements is often higher than the GNP of several countries. In the past, this was obtained by legal regulations or legal prohibitions against entry or exit, which is incompatible with a free market economy.

Regarding the greater inequality expected as a consequence of globalization, this happens because uncertainty is higher in less developed countries, as a result of their lower incomes and higher dependence on foreign trade. Hence, there tends to be a higher liquidity preference in these countries, which inhibits investment. Furthermore, in those countries the financial markets are normally not very developed, meaning that there are fewer alternatives available in terms of where to place the money (Dow, 1993; Amado, 1997). Under these circumstances, money tends to escape towards developed country financial markets, meaning that resources leak from less developed to more developed countries. This inhibits once again investment in the former, and expands the development gap between the two types of countries, which is the opposite of what the mainstream would expect.

In terms of sustainable development, it is necessary to say that in the Post-Keynesian view, the stimulus to growth and development, as we have seen, must come from demand growth, which improves the environment for investment and consumption. However, this also can create incentives for perverse behaviors in terms of the environment, requiring alternative government policies to regulate and conduct the way those expenditures will be made. In conclusion, although Post-Keynesian economics supports an active regulating role of the State, more than that is necessary. It is imperative to change the logic of the market and competition, as we will discuss in the following sections.

Maria de Lourdes Rollemberg Mollo: Associate Fellow, World Academy of Art & Science; Professor, Department of Economics, University of Brasília, Brazil
The author is grateful for the comments of Alfredo Saad-Filho, Joanílio Teixeira and Andrea Cabello and acknowledges the financial support of CNPq.
† For an updated Post-Keynesian critique on mainstream economic contributions see Palley (2011).
‡ In contrast with risk, uncertainty cannot be estimated using probabilities.
§ For a didactic explanation of the differences between neoclassical and Post-Keynesian views on the role of the government, see Davidson (1991).

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