Bridges - Dialogues Towards a Culture of Peace

- Dialogues Towards a Culture of Peace

IV: Why Have Global Markets Failed to Reduce Inequality?

Through the Asia Leadership Center, The University of Cambodia hosted the fourth in the current series of Bridges Dialogues on January 20, 2010. Nobel Laureate Professor Eric S. Maskin was the guest speaker and received an honorary doctorate in Economics from Dr. Haruhisa Handa, Chancellor of the University of Cambodia (UC), for his life-time contributions in the field of economics.

In a packed UC Conference Center, Professor Maskin delivered a riveting presentation on a topic which he is passionate about and that is relevant to the current context of Cambodia, the connection between global markets, globalization, and inequality. He explained that economic globalization, an increase of trade and production between countries, has dramatically risen in the past 20 years due to decreased communication and transport costs, as well as the removal of trade barriers.

According to Professor Maskin, globalization has promised the developing world two main things, which its proponents continue to assert: 1) it will help developing nations become prosperous, and 2) it will reduce inequality, the gap between the rich and poor, within these countries. He agreed that globalization has delivered, for the most part, on its first promise and cited China and India as “spectacular” examples of countries that have effectively utilized access to global markets and have reaped significant financial benefits as a result. However, globalization has not delivered on its second promise and instead has reduced inequality within some of these countries.

“In fact in many developing countries the gap between the rich and poor has actually increased as a result of globalization, and I am afraid to say that. . .Cambodia is such an example,” noted Professor Maskin. “Although Cambodia has made a lot of progress over the last ten years or so economically
speaking, inequality has certainly increased.”

Cambodia is not alone in this problem; other countries in Asia and Latin America are also experiencing a rise in inequality, which is cause for concern. Professor Maskin identified three main reasons why reducing inequality in countries around the world is important: 1) The egalitarian argument - Egalitarianism advocates economic equality amongst people and puts forth the notion that everyone is entitled to the same basic rights.
2) Eradication of poverty - Many people in developing nations are living below the poverty line and may potentially be worse off because of globalization
3) Political Stability - Countries with large inequality tend to be unstable societies.

“In order to have peace, we must have an economic system that creates inclusive opportunities for those economically deprived, especially the poor unskilled workers.”
Professor David J. Gross,
Nobel Laureate

Professor Maskin argued that, even if people do not support the first two reasons, “from a practical standpoint, you still must care about inequality because highly unequal societies also tend to be highly unstable societies.
It’s very difficult to keep societies together politically or socially if there are enormous gaps in well-being, in income.”
The rise in inequality in poor countries resulting
from increased globalization is quite unexpected, Professor Maskin pointed out,

and runs counter to the prevailing theory of comparative advantage. This theory refers to a party’s ability to produce a product or service at a lower opportunity cost, or with greater efficiency, than another party. Countries
trade because of these differences, the most important of which are “factors of production,” namely labor (both high- and low-skill workers), capital (machinery and technology), and land.

The theory of comparative advantage predicts that countries with greater differences in skill ratios will experience greater trading, and that globalization and free trade should reduce inequality in developing nations, rather than increase it which is a situation that several countries, including Cambodia, are currently facing. But, as Professor Maskin noted, not only does this theory fail to adequately explain current international trading patterns, it has also failed to provide a competitive advantage to developing countries.

Professor Maskin, in collaboration with Michael Kremer, proposes a new alternative theory to explain international trade in an age of globalization. Its premise is that globalization allows for international production and that four skill levels exist (what Professor Maskin calls levels “A” and “B” in rich countries and levels “C” and “D” in poor countries, versus the two before, high and low). The production process also consists of different tasks, what Professor Maskin calls “managerial tasks” and “subordinate tasks.” Parties or countries compete to maximize output, which is produced by matching managers and subordinates and depends on skill level.

According to Professor Maskin, globalization allows rich and poor countries different ways of matching workers of varying skill levels so as to maximize gains for all parties, which his theory proposes has led to cross-matching (skill level B-workers from rich country matching with C-workers from poor country) and homogeneous-matching (skill level A-workers matching with A-workers from rich country, and D-workers with D-workers from poor country).

“Competition implies a worker is paid according to productivity,” Professor Maskin stated as he described the effect of Bridges balization on wages. Wages for C-workers rise in a global market because they can be matched with B-workers from other countries,
he explained, whereas D-workers (who were once matched with C-workers prior to globalization and thus benefited from that increased productivity) are now left to match with other poor, low-skilled D-workers. The result? Lower wages for D-workers and greater inequality in that poor country.
Professor Maskin’s theory also has strong implications for economic policy and resource
allocation: developing countries should invest in educating and training the lowest skilled citizens to help them improve their lives and share the benefits of a global market.
“In order to have peace, we must have an economic system that creates inclusive opportunities
for those economically deprived, especially the poor unskilled workers,” Professor
Maskin insisted.
Towards the end of the presentation, Professor Maskin answered several questions from the audience, citing South Korea as a great example of a nation that has transitioned its workers from low-skill to high-skill levels because Korean parents have placed significant value on education and its government has consistently made significant investments in education during the past several decades. He also stressed the importance of a functioning government
without corruption to boost economic prosperity.

Professor Eric S. Maskin was awarded the Nobel Prize for Economics in 2007 for creating the foundations of mechanism design theory, a specialized form of game theory. He continues to do research in diverse areas of economic theory, including examining the causes of inequality, and currently serves as the Albert O. Hirschman Professor of Social Science at the Institute for Advanced Study. He is also a visiting Professor at Princeton University’s Economics Department.