Sunday, May 16, 2010

Political trilemma of the world economy?

Dani Rodrik has an interesting article while tries to explain the problems facing the euro zone in terms of the "political trilemma of the world economy", which he defines as

"Economic globalization, political democracy, and the nation-state are mutually irreconcilable. We can have at most two at one time. Democracy is compatible with national sovereignty only if we restrict globalization. If we push for globalization while retaining the nation-state, we must jettison democracy. And if we want democracy along with globalization, we must shove the nation-state aside and strive for greater international governance."

As recent events have shown, in the absence of political union (thereby permitting labor mobility, fiscal transfers etc), one of the biggest deficiencies with the Euro project is that it does not provide for an agency that can stabilize the business cycle across member states by either making fiscal transfers or serving as lender and insurer of last resort.

"The crisis has revealed how demanding globalization’s political prerequisites are. It shows how much European institutions must still evolve to underpin a healthy single market. The choice that the EU faces is the same in other parts of the world: either integrate politically, or ease up on economic unification."

I am inclined to the view that Dani may be going against his own "many recipes" line of narrative building by making this sweeping conclusion. A more appropriate phrasing of the trilemma may be that the processes of economic globalization and political democracy and the institutions of the nation state interact with each other in a dynamic manner and it requires a careful (and context-specific) accomodation among the three to successfully manage the political economy. In realpolitik terms, a balance of power among the three will have to be established.

Primarily, national sovereignty as we have known it will surely have to step down from its pedestal of supremacy and accomodate the forces of economic globalization. The globalized nature of many economic processes and business activities means that the nation state can no longer effectively regulate the various externalities that arise from them. The last few decades have seen the emergence of a number of supranational regulatory agencies - which aggregate some of the traditional sovereign powers of nation states - in areas like financial market transactions, international trade, counter-terrorism, environmental issues etc.

The situation of this narrative in the context of euro-zone crisis is misleading in so far as EMU is an explicit attempt at the creation of a trans-national agency, which seeks to aggregate some of the most fundamental sovereign powers (like issuing currency and framing monetary policy) of member states, to manage their macroeconomic environment. The major failing of the Euro project has been its inability to strike the right balance between the trilemma, more specifically between the powers of the nation state and the requirements of economic globalization among member states of the Eurozone. In other words, it is not a manifestation of an "impossible" trilemma, but an example of the collapse of balance of power within the trilemma.

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