Widely recognized as the “father of experimental economics,” Smith commented during a keynote address on the functions served by markets for commodities and services, which he described as the foundation of wealth creation, and on the worldwide extension of such markets—that is, globalization. Markets for capital, in contrast, are far more uncertain than markets for commodities and services, he explained, because a function of capital markets is to anticipate innovation—including the commodities and services of the future.
Globalization is not new, Smith emphasized. Rather, it is a modern word describing an ancient human process of migration and the search for betterment, and the worldwide expansion of resource specialization. At many times and places in its prehistory, exchange was extended to strangers through barter and ultimately the use of commodity markets (money). “Early humans set the stage for a vast expansion of wealth and well-being,” Smith noted, “whenever a tribe discovered that it was better to trade with neighboring tribes than to kill them.”
A more current look at three different facets of globalization—trade, foreign direct investment (FDI), and human migration—reveals that the complementarities among them have become increasingly pervasive, said Faini. This is both good and bad news for the global economy, however, in that the effects of a more liberal regime tend to be mutually reinforcing but backtracking in one area tends to have a negative effect on other areas.
Trade liberalization should not be examined in isolation from other aspects of globalization, Faini said. Crucial linkages between trade liberalization, on the one hand, and FDI and human migration, on the other, have further knock-on effects on trade liberalization itself. For example, one of his main findings is that trade liberalization—aside from its standard, though somewhat controversial, effects on growth—can enhance a host country’s attractiveness for FDI, adding a channel through which a more liberal trade regime can favor growth. Moreover, Faini found evidence based on cross-country analyses that a skilled labor force is important in helping a country attract FDI and that liberal trade policies and the stock of FDI in a country are positively correlated with incentives in that country to acquire an education.
Other empirical research has shown that trade liberalization has actually been associated with diverse growth experiences, including some that have been negative, remarked Gerry Helleiner, professor emeritus at the University of Toronto, in his commentary on Faini’s findings. And trade liberalization will still reduce—rather than encourage—FDI that has as its main motive access to markets, argued Helleiner. At the same time, it is worth noting, he added, that multinational companies have always favored trade liberalization and, from their standpoint, trade and FDI have always been complementary. As for Faini’s finding that trade liberalization is positively related to the host country’s infrastructure and human capital, Helleiner pointed out that Anders Hoffmann and other economists have suggested that the obvious direct approach is to subsidize education rather than work indirectly to remove trade barriers.
It is probably no accident that the concept of infrastructure was practically ignored by development economists until 20 or so years ago, declared Prud’homme, because the concept is “not a very good one.” In infrastructure policymaking, “the devil is in the details,” he said, making it difficult, if not impossible, to design and recommend “infrastructure policies” generally. This is because infrastructure is so very heterogeneous, including in terms of type, context, financing methods, and pricing practices. “What is true for road construction might be wrong for power generation; what is true in 2000 might be wrong in 2010,” Prud’homme pointed out.
Noting that it is not possible to define an “optimal” level of infrastructure endowment and then determine the amount by which infrastructure investment should be increased or decreased, he stressed the importance of proceeding sector by sector, and even project by project, bringing to bear all the resources of public policy analysis.
Eduardo Engel, professor of economics at Yale University, praised Prud’homme’s research on infrastructure and development as an important contribution, notably for its role in pointing out that the risks and uncertainties associated with infrastructure are large. He suggested nevertheless that Prud’homme’s work would have been strengthened by more emphasis on policy lessons, particularly relating to developing countries.
For her part, Nemat Shafik, Vice President-Infrastructure for the World Bank, agreed with Prud’homme that much of infrastructure economics does not lend itself to making policy recommendations in the abstract. She added that good infrastructure economics is fundamentally empirical and, in many ways, antithetical to the deeply theoretical tendency of contemporary economics. Noting that infrastructural development is a core function for the World Bank, Shafik said that the Bank has a key role to play in working with governments to arrive at better risk allocations, which drive many of the observed efficiency gains. However, the fact that governments don’t like to admit that they might break their promises in the future poses an obstacle from an operational perspective, she said.