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Globalization and the Challenges of Inclusion and Climate Change

“Globalization and the Challenges of Inclusion and Climate Change”

 

Graeme Wheeler, Managing Director, Operations

The World Bank

 

9th Annual Global Development Network Conference

Brisbane, Australia - January 29, 2008

 

 

As you all know, the world economy has hit a rocky patch.  Stock markets are volatile and economic risks are on the downside.  But as we survey the global economic landscape, we need to bear in mind the longer-term background and trends. 

 

The fact is - we live in extraordinary times – times of unprecedented opportunity for many in the developing world.  Powerful global forces are driving economic convergence and global poverty is declining more rapidly than ever before. 

 

The Power of Globalization

 

A global productivity shock has helped generate the strongest and most broadly based global growth for 40 years.  Investment ratios and profit shares are at historic highs in many countries.

 

Hundreds of millions of workers in emerging market economies, their productivity enhanced by the global transfer of skill enhancing technologies, are joining the global work force.  Technology – and especially information technology – is transforming lives.  Cellular technology has become a major development tool and IT inputs in services and manufacturing rise exponentially as the cost of storing, processing, and transmitting information approaches zero.  Recent evidence suggests that the pace of technology transfer to developing countries is accelerating, especially for newer technologies.

 

Fueling these developments are record volumes of private net cross border capital flows and private remittances.  Having more than doubled over the past 3 years, these combined annual flows total around US$1 trillion – about 10 times annual official development assistance.

 

Trade also is a powerful catalyst.  Trade flows have expanded at twice the rate of industrial production, and developing economies share of world exports of manufactured goods doubled to 25 percent in just 15 years.  And major shifts in wealth to commodity producers in developing countries are underway.  Developing countries now supply 60 percent of global crude oil production, and more than 2/3rds of lead, zinc and copper production.  Their overall terms of trade have improved by 14 percent since 2004.

 

Some important developing countries are also benefiting from a “demographic window” -- rapid labor force growth and declining dependency ratios.  Labor has become more mobile with around 3 percent of the world’s population living outside their country of birth - although this has often been a mixed blessing for small, poor, developing countries.

 

Governments have played a valuable role by improving the quality of their economic policy and the overall business climate.  Government balance sheets have strengthened with improved fiscal settings, debt forgiveness, greater access to global capital markets, and the build-up in foreign currency reserves.  Developing country foreign exchange reserves now total US$4.6 trillion – an increase of 90 percent in SDR terms over the past 3 years.  And it is now easier to do business in some Eastern European and former Soviet bloc countries than in many Western European economies.  The result – a boom in new business formation.

 

That said, the process of catch-up and convergence remains highly differentiated.  It can also be a slow process.  In 2007, Brazil’s per capita income grew by 3.5 percent - its fastest in 12 years.  Assuming US per capita income continues to grow at its secular trend, it would take 190 years for Brazil to catch up with the US.  On the other hand, if China maintains high rates of per capita income growth, it could catch up in around 40-50 years, even though its per capita income is 40 percent of Brazil’s.

      

Will Slowing OECD Economic Growth Derail Developing Economies?

 

Will these development prospects be derailed by slowing economic growth in OECD countries, high food and energy prices, and persistent global payments imbalances?

 

Clearly, there are risks.  Economic activity in the industrial world is slowing as credit conditions tighten and households rebuild savings and strengthen their balance sheets.  The risk of a marked US slowdown has increased and, if realized, this would be transmitted to the rest of the world through the usual trade and financial linkages, including changes in investor risk appetites.

 

Some developing countries are already badly affected.  The terms of trade losses due to commodity price changes over the past 4 years exceed 10 percent of GDP in 5 African countries.      

 

However, while supply and demand imbalances suggest that oil and other commodity prices might remain high for several years, the impact on global output and inflation is likely to be significantly different from the early 1970s and 1980s. 

 

Industrial economies are now much more resilient.  Almost all countries have significantly reduced the energy intensity of their output.  OECD central banks have had more than two decades experience in building credibility and maintaining low inflation, and fiscal and debt management policies have improved in most economies. 

 

Developing countries are also more resilient, though I would not agree with the more extreme version of the “decoupling” theory.  There is now a rising middle class in many developing countries able to generate demand and purchasing power to fuel domestic growth.  The newly-unveiled Tata Nano shows how business is beginning to respond to this trend, which is essential for the longer-run “rebalancing” of the global economy.

 

While global interdependence has increased, so too have intra regional trade and investment flows.  East Asia, for example, is less vulnerable to a US economic slowdown given regional trading patterns, high savings ratios, and its diversified investment strategies.

 

Emerging Markets Expand their Influence

 

Over the last three years, developing countries have grown at over 7 percent and OECD countries at around 2.5 percent.  The next two decades will continue to see major shifts in global economic influence.

 

East and South Asia, in particular, with their favorable demographics, high savings and investment ratios, economies of agglomeration, and rapidly growing middle classes will be a critical growth pole of the global economy.

 

Although recent work suggests that China and India may be 40 percent smaller on a purchasing power parity basis than previously thought, this represents only 3-4 years output growth at current rates.  Capital flows from this region will assume even greater importance.  At the official level, surplus savings from China, in particular, have helped finance savings and investment imbalances in key industrialized countries.  And recently, sovereign wealth funds and government owned banks in Asia and the Middle East have injected US$50 billion of capital to help shore up Western financial institutions.

 

As the rapidly growing Asian middle class and large institutional savers seek to diversify their portfolios and take on additional foreign currency exposure, they will become important investors in corporate equities in industrialized countries, further strengthening their global links.

 

In two decades time, Eastern Europe, Asia, and Latin America will have made huge inroads into alleviating poverty – reflecting the increasing integration of these regions into the global economy and stronger domestic institutions.

 

These developments are all part of a longer term process which will see China, India, Russia, and Brazil become key members of an expanded G7.  Increasingly, we will examine their policy settings and corporate performance in assessing global economic conditions and rely on them as important providers of aid assistance.   

 

The Globalization Process Faces Key Challenges

 

The powerful forces of demographics and globalization of trade, investment, technology, and labor will drive these fundamental transitions, even through shorter-run traumas in the global economy.  But two major long-run threats hang over these dynamic influences.  First, are the political and economic pressures associated with exclusion and growing inequality in many countries, along with the sheer magnitude of global poverty.  Second, is the challenge of climate change.

 

I will address each in turn.

 

Those Whom Globalization Passes By

 

The catalyst of globalization will only be sustainable if it can create opportunity and benefits for all.  This challenge extends well beyond the Millennium Development Goals.  There are signs that income distribution and inequality in most developing countries have been increasing, a change in pattern from previous decades.  Over the past decade, three times as many countries witnessed widening, rather than diminishing income inequality, and in several instances, these deteriorations were large. 

 

Most developing countries have enjoyed strong growth in recent years – but several haven’t.  Per capita income in low income countries grew by 5 percent on average in the five years to 2006.  However, in the bottom 9 countries, it averaged -2 percent per annum.

 

In development speak, the poorest on the planet—those consuming less than $1 per day in purchasing power parity (PPP) terms, are referred to as the bottom billion – although with the recalculation of poverty numbers that will follow the recent international review of per capita GDP calculated on a PPP basis, they probably number well in excess of a billion.

 

For this group, poverty is so severe that life is a struggle for survival.  They are politically and socially disenfranchised, comprise predominantly women and young children, and are discriminated by ethnic, sectarian, religious, and political divisions. 

 

They often live in fragile states wracked by years of repetitive civil conflict, in landlocked countries with major infrastructure problems, and in countries with massive governance challenges and endemic corruption – often exacerbated by windfall revenues from natural resource endowments.  Even though urbanization is accelerating, the vast majority (70 percent) of the poor continue to live in rural regions.  Their countries often have low levels of investment and experience an exodus of skilled workers.  A fifth of African born doctors, for example, work outside Africa and 80 percent of skilled Haitians live overseas.

 

For the poorest, cycles of poverty are self-reinforcing.  They have fewer opportunities to escape poverty and, with low-quality or no public services, lag others in health care and education.  They suffer higher rates of crime and violence, and are the greatest victims of corruption.  Average life expectancy for the group is 50 years and one in seven children die before the age of 5.  In El Salvador, for example, a child born to a well-educated mother has a 2.5 percent chance of dying before her first birthday.  This probability climbs to 10 percent if the mother has no formal schooling. 

 

Africa currently has the highest proportion of extremely poor, and its share is increasing, partly because of the number of fragile and conflict-affected states.  Less than 25 percent of Africans have access to electricity, the region lags every other on the Millennium Development Goals, and the challenges of governance, institution-building, and establishing functioning markets are more acute than in other regions. 

 

It is clear that powerful global forces are bypassing a large proportion of the global population.  Globalization does not work for this group which is becoming increasingly disconnected from global society.  And even with growth, the pressures will increase.  Over the next 25 years, the world’s population will increase by around 2 billion people – 95 percent of these will be in the developing world.

 

Compare the age pyramids for Sub-Saharan Africa and the Middle East with that of high income countries.  54 percent of the population of Sub-Saharan Africa is under 20 years of age compared to 24 percent in high income countries.  40 percent of the population of the Arab world is aged under 15.

 

A world where a large proportion of the population remains trapped in extreme poverty and unable to share the benefits and opportunities of globalization, carries unacceptable costs in terms of human suffering, economic losses, political tensions, and has important potential implications for security within countries and across borders.

 

Climate Change Needs to be Managed

 

Climate change is the second major threat to long term prosperity.  The need to moderate and manage climate change is central to every aspect of economic growth, development and poverty reduction, and its policy dimensions embrace issues of equity, ethics, and security.

 

The challenges are enormous.  Drought, for example, now affects twice the area of the earth’s surface than it did 30 years ago.  Modeling the distribution of world climate risks (e.g. drought, floods, storms, rising sea levels, impact on agriculture) shows overwhelmingly that low income countries are the most vulnerable to the impact of climate change, and the extreme poor are the most seriously affected.  This was born out during the 1990s where 2 billion people in developing countries were significantly affected by climate related disasters compared to less than 25 million in developed countries.

 

Climate change will be felt most acutely in Africa where 95 percent of farming is rainfall dependent, and also in low lying areas like Bangladesh, the Netherlands and small island states.    

 

Access to safe drinking water and irrigation is a related and huge development challenge, and an increasing source of tension between countries.  Chronic water stress affects nearly 800 million people worldwide.  In two decades time, 3 billion people – or around 37 percent of global population - are projected to be living in countries below the current water stress threshold.

 

Collective Solutions Are Needed

 

Addressing the challenges of inclusive and sustainable economic growth and global warming will require an unprecedented degree of international cooperation and goodwill.

 

Country ownership of growth and poverty reduction strategies, and taking responsibility for building a sound governance environment, are critical.  Growth and employment creation are the main avenues of poverty alleviation, and these can only be sustained in the longer term through private sector investment and integration into the global system. 

 

Some of the investment requirements are enormous, like the US$60 billion required over the next 15 years to help develop Mumbai.  But often, real incomes and welfare can be improved by providing basic infrastructure and access to seeds, livestock and fertilizers for farmers, or through community-based development involving women’s self-help groups, and the availability of micro-credit.

 

Initiatives that provide well-targeted development assistance and debt relief can be enormously valuable.   But they can easily be undermined by other interventions.  OECD agricultural subsidies, for example, total around US$350 billion annually and are as large as the entire agricultural exports of developing countries.

 

International cooperation on climate change will be essential.  Today’s greenhouse gas problems are mainly generated by developed countries whose energy use per capita is about 5 times that of developing countries.  But over the next two decades, developing countries are likely to emit around 70 percent of the increase in greenhouse gas emissions. 

 

These countries recognize that the levels of greenhouse gas emissions that helped generate wealth in industrial countries cannot be sustained, but they also have urgent development needs. 

 

Collective action can generate powerful benefits.  Agreements are more easily negotiated when all parties face a common threat or can all benefit from a collective response, e.g. responding to the threat of avian flu, strengthening the international financial architecture, and investing in regional transport corridors and river basin developments.

 

Yet, we also see how difficult reforms and collective actions can be when domestic politics assume overwhelming importance.  Despite a common location, a shared history, and related customs, food and culture, South Asia remains the least integrated region in the world.  Countries that have opened up trade with the rest of the world remain closed to each other.

 


 

Role of the World Bank Group

 

In the face of these powerful forces and enormous challenges, the World Bank Group has a modest financing role.  It currently commits around US$35 billion annually in loans, grants, equity investments and financial guarantees to governments and businesses. 

 

Reflecting the effects of globalization, important changes in the composition of the World Bank’s borrowers are occurring.  Within a decade, the Bank’s current 21 investment grade borrowers are unlikely to have a significant borrowing relationship with the Bank.  Today’s better performing IDA countries will be the IBRD borrowers of the future. 

 

But the Bank Group is much more than a financial intermediary.  It has important strategic assets in terms of convening power, and development databases and expertise, and draws upon them to deliver strategic advice, transfer knowledge, induce learning, and build capacity.

 

Building on these assets, the Group is addressing the challenges I have discussed.  Increasingly, it is focusing its efforts around six strategic areas where inclusion, equity and climate change are prominent.  These are the needs of fragile and conflict affected states, the poorest countries, middle income countries, and countries from the Arab world.  Cross cutting themes will expand the Group’s engagement on regional and global public goods and in knowledge, learning, and capacity building. 

 

The World Bank Group will scale up successful development initiatives and build stronger partnerships with countries and institutions.  It will place more emphasis on developing innovative products and programs, building more effective markets and helping to develop a consensus for action on key global issues.  In the area of climate change, for example, we worked with Turkey on CAT bonds and are expanding this effort to other countries.  The Group helped set up carbon markets and has recently launched a Carbon Forestry Partnership Facility to combat deforestation. 

 

Using our convening power, we have helped Caribbean countries to pool their resources and establish a Catastrophic Risk Insurance Facility which considerably reduced insurance costs and recently made its first pay-outs.  We are actively working with donors to explore new trust fund facilities to help countries improve their technology and better adapt to climate change.  In the 2010 World Development Report, we will bring together evidence and good practice relating to the climate change agenda. 

 

We are also expanding our work with poor countries and fragile states.  Our convening power and scope for providing a country-based platform for development of the poorest has also been reflected in the recent record contributions to IDA 15 - with the Group itself being among the largest donors, dedicating US$3.5 billion.  We play an important role in designing debt relief efforts and helping to clear arrears - most recently in Liberia.  And through the Stolen Asset Recovery Initiative, we are helping governments build on the experience of others in retrieving stolen funds.     

 

Conclusion

 

Even though we may have short-term concerns about the global economy, enormous opportunities will open up over the next two decades.  Global forces can help sustain productivity growth, deliver hundreds of millions of people from poverty, and bring rising prosperity to a rapidly growing middle class.   

 

But for this to happen, the catalysts of trade, investment, capital flows, technology, and migration need to flourish, and the improvements in policy settings and business climate in developing countries need to be accelerated.

 

Collective action from the countries concerned and the international community is needed to ensure that the poorest are not trapped in inescapable poverty and become political, economic, and social outcasts.  Climate change is more than an immense development challenge.  It is a major threat to all our economic and political systems and requires vision, courage, and leadership to address it. 

 





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