Explain how a country’s sovereignty is compromised in the event that it is running persistent trade deficits and accumulating foreign debt when its own currency is not the global reserve currency?
INTRODUCTION
Trade has become a major component of the economy, as neo-classical economists assert that trade has numerous advantages (Anghie 245). However, from the study trade, in the context of modern economy, we learn that international trade (whether bilateral, regional or international), is based on the Ricardian notions and perceptions that pertain to trade (comparative advantage). David Ricardo asserts that when a trade is based on Comparative Advantage, rather than Absolute Advantage, all the trading countries benefit from it (Fitzgerald). It is because Ricardo explains, when comparative advantages are the basis of trade, a / a country/economy produces these products (and services) that have the lowest opportunity cost. Therefore, we witness extraordinary emphasis on trade, by countries, as these countries believe that trade would benefit them in both short and long terms (Rothbard).
TRADE-DEFICIT AND FOREIGN DEBT
The methodical study of trade suggests that when the size of trade increases (exports), the economy grows at a quicker pace. The increase in the size of exports increases producer surplus and this increase in size (of exports) provides an incentive to produce more. Intense economic activity (investment/industrialization) increases employment level to the natural rate of employment, which is one of the prime objectives of any economy or government.
Imports too are beneficial, as competition puts the local industrial system and producers under pressure, which compel them to reduce prices and innovate. Reduction in prices increases real income, which allows consumers to buy more (increase in the size of aggregate consumption that is considered an engine of economic growth. Innovation, on the other hand, affects the overall economic system, as it pushes firms/industries to exploit their resources (tangible and intangible) in an optimal fashion (Gaston and Khalid 63).
It is evident that size of trade has increased exponentially (globally), which has necessitated the birth of international trade organizations, such as the World Trade Organization, which strive to keep an international trade fair and transparent (Donnan). However, it is very apparent that such organizations are not able to regulate international trade effectively and many countries are suffering because of trade imbalances (including developed countries like the United States) (The World bank).
Statistics reveal that trade-deficits of some countries are growing at an alarming rate and in some cases, these trade deficits are persistent, which mean some countries are facing/witnessing trade deficit for a long period. For a country like the United States, this is monetarily sovereign, and has the economic capacity to absorb shocks. Along with the trade deficit, another major issue, especially for a developing country, is foreign debt, which is more of a political issue than an economic issue.
In the subsequent sections of this academic exercise, we will discuss do trade deficit and accumulating funds truly affect the country’s sovereignty?
The trade deficit is understood as an increase in importsin comparison to exports. The direct and immediate consequence of trade deficit is depreciation of the local currency. It is because when imports grow, the demand for currency to buy foreign products or services in international market increases, which increases the monetary-value (price) of that foreign currency. For instance, when Americans start to buy German goods in large quantities, the demand for German mark will increase, which will also increase its price. Therefore, increase in imports, from a particular country, appreciates its currency. In comparison, the demand for the local currency diminishes because of dwindling in exports, causing depreciation of the local currency (Gaston and Khalid 90).
The depreciation of the currency is an immediate effect of trade deficit, which is not a disadvantage, as per my analysis. It is because, depreciation of currency makes local goods and services more compatible in the international market, which generates demand for these products and services. In fact, countries around the world deliberately keep the value of their currency down, to make their goods and services more compatible. China is one such example, which is notorious for deliberately undervaluing its currency to compete against its rivals in the international market (Villaroman).
Another impact, of persistent trade deficit, is de-industrialization. The evidence regarding it is not substantial; however, it is evidence that must be considered. As the exports start to dwindle at a worrying rate, the incentive to invest in the economy also starts to depreciate. For instance, when local buyers start to prefer and buy imported products, demand for the local products decrease, which reduces revenues and thus profit. We must acknowledge that earning a profit is an ultimate objective of any firm and when it persistently fails to achieve it, it gets discouraged. In such scenarios, it invests in other economies, where the cost of production is low and from where it can sell products to lucrative markets. Such developments become of the major reasons of deindustrialization, which is a serious issue in developed economies/countries.
It is very evident that because of a decrease in exports, the economy suffers; however, it is an exaggeration to say that trade-deficit undermines sovereignty, which is understood or acknowledged as autonomy (Rothbard). Nevertheless, the other aspects of trade, such as Foreign Investment, subtly undermine sovereignty as it deepens dependency on foreign providers (Park 1007). (Note: Concept of Sovereignty evolved during the Victorian period, during which it was acknowledged that state is supreme in taking decisions and granting rights to its citizens (Anghie 24-25).
Debt is also a very controversial subject, and it is assumed that accumulation of debt undermines sovereignty. However, there is not substantial evidence in its favor. Developing and developed countries seek financial assistance (when required) from international financial organizations, such as the International Monetary Fund and World Bank. These organizations offer monetary assistance at the very low-interest rate. However, such loans or monetary assistance comes with conditions. These conditions could be soft or harsh. Normally, monetary assistance or loan, by an international organization, comes with instructions regarding the use of money. For instance, when Greece acquired a loan from the International Monetary Fund and European Central Bank, she (Greece) was instructed to adopt austerity policy and must avoid the use of fiscal instruments to improve the economy (Villaroman).
When a country, which requires monetary assistance for economic or political-economic reasons, acquires a loan from another country, it becomes passive towards that country, and such loans create opportunities for a donor country to influence policies of a recipient country. Therefore, foreign debt does undermine the sovereignty of a country, and when the size of the debt is abnormal, it does create issues or challenges in that country, which directly pertain to autonomy. Though legal loans, which are not great in size and which investment could produce desired results such as industrialization, are not harmful, but rather very facilitative in the realization of economic goals (Gaston and Khalid 81).
How are ex-colonized countries’ “endowment structures” and thus trade performances shaped by the global legal system in which they have been embedded? What is the significance of legal struggles over foreign debt contracts for a country’s ability to pursue industrialization policies?
GLOBAL LEGAL SYSTEM AND TRADE
There is strong evidence that global trade and economic systems are rigged in favor of Imperialist powers that influence neo-colonial system. In fact, almost all the global financial and trade institutions are under the influence of former Colonial powers, which allows these former colonial powers to benefit from the contradictions of contemporary economic system (Anghie 116). In addition, as these international institutions are under influence; therefore, they do not provide unconditional and sincere (with no political conditions attached) assistance (monetary) for industrialization and such other programs.
It has been witnessed, in many cases, that because of the conditions attached to financial or monetary assistance, which undermine sovereignty, ex-colonial countries avoid accepting such aid or monetary assistance. This adversely affects industrialization and overall economic progress in these countries.
TRIFFIN DILEMMA AND BANCOR
It is imperative to understand that when a country’s currency is not a global reserve currency, trade deficit and foreign debt could be a serious challenge; however, when a country’s currency is the global reserve currency, the effects of such challenges mitigate. Though having own currency as a global reserve currency has its implications for that economy. To meet the demand of international market and countries, a country (which currency is accepted as a global reserve currency) has to print more currency notes than its requirement, which causes inflation. Also, because of undying high demand for currency, the currency continues to appreciate, which reduces the competitiveness of its goods and services (Triffin Dilemma) (Mueller).
Keynes had proposed Bancor as a global currency, which would eliminate a country as a monetary sovereign and ensure monetary stability. I believe that it is a fair proposal, in accordance with current needs and requirements. This will bring Dollar to its original state and it would dominance of a single currency. It has become quite evident that because of Triffin Dilemma, national currency as global reserve currency has become unsuitable.
CONCLUSION
In the end, it can be concluded that it is true that making a currency global reserve currency has an adverse impact on the economy; however, it does not undermine sovereignty. It is because that country remains monetary sovereign, which gives that country enough capacity to influence international financial markets and thus trade. Similarly, the persistence trade – deficit is detrimental to the economy, as it causes de-industrialization. However, it does not undermine sovereignty. Only foreign debt evidently undermines sovereignty, as it comes with conditions, which are hard to ignore.
Work Cited
Anghie, Antony. Imperialism, Sovereignty and the Making of International Law. New York: Cambridge University Press, 2005.
Donnan, Shawn. “Canada takes US to WTO over anti-dumping system.” The Financial Times. The Financial Times, 10 January 2018. Web. 23 April 2018. https://www.ft.com/content/5c25a546-f626-11e7-88f7-5465a6ce1a00.
Fitzgerald, Sara J. “Trade Benefits All.” Heritage. Org. Heritage. Org,6 August 2001. Web. 23 April 2018. https://www.heritage.org/global-politics/commentary/trade-benefits-all.
Gaston, Noel and Ahmed M Khalid. Globalization and Economic Integration: Winners and Losers in the Asia-Pacific. 1. Edward Elgar Publishing, 2010. Book.
Mueller, John D. “Solving the Triffin Dilemma.” Ethics and Public Policy Center. Ethics and Public Policy Center, 20 April 2017. Web. 23 April 2018. https://eppc.org/publications/solving-the-triffin-dilemma/.
Park, K-Sue. “Money, Mortgages, and the Conquest of America.” Law & Social Inquiry 41.4 (2016): 1006–1035.
Rothbard, Murray N. “The Ricardian Law of Comparative Advantage.” Mises Institute. Mises Institute, 26 April 2012. Web. 23 April 2018. https://mises.org/library/ricardian-law-comparative-advantage.
The World bank. “WITS: World Integrated Trade Solution.” The World Bank. The World Bank, 2018. Web. 23 April 2018. https://data.worldbank.org/topic/trade.
Villaroman, Noel G. “The Loss of Sovereignty: How International Debt Relief Mechanisms Undermine Economic Self-Determination.” Journal of Politics and Law 2.4 (2009): 1-16.
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