088：A Quick Tour of the Modern World Economy and Its Challenges

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Hello, Himalaya’s subscribers. My name is Timothy Taylor, and today  we're going to discuss a quick tour of the world economy and its challenges. Many years ago, I studied French as a foreign language in school. And when you learn a foreign language, there's a period where you're just learning some basic words. You can say sentences, but they are not very useful sentences. You can say things like the man sat on a chair, but there's a point where you're learning a language and you're practicing your new words in your new sentences. And then your brain starts putting the ideas together in new ways. You start thinking using this new language. 

Well, economics is a kind of language,too. There's an old one line joke about economics which is“ Economics is about what everyone knows but using language that no one understands.” With economics, some of the terms themselves are new, like externality, lender of last resort, comparative advantage, and gross domestic product. But in many cases, the problem with economics isn't the words are new. The problem is that the meaning of the words is different from the way the words are often used in normal conversation. Words like supply, demand, equilibrium, unemployment, inflation, money, and all of these start taking on a slightly different meaning when you hear how economists use those terms. 

So when you're learning economics, it can feel awkward for a time. But with more practice and listening, it begins to become clear. And at this point, my friends and listeners, as we get toward the end of these lectures, we can start talking with each other using the terms and ideas that have been developed and used all along the way. We can talk to each other, like economists. So this lecture will be divided into two main parts. First, we'll start with a quick overview of the world economy looking at measures of GDP, gross domestic product and population. 

Then we look at some of the main challenges facing the global economy. And since China is a big part of the global economy, you will not be surprised that these are challenges facing China too. So let's start with our overview of the world economy. It's common to divide the countries of the world into four main categories, high income, upper middle income, lower middle income, and low income. For example, this is done in many reports from the world bank and others. So let's do a quick tour of the world economy with these four categories in mind. 

Let's start with high income countries, which the world bank classifies as countries with a per capita gross domestic product of more than twelve thousand US dollars. Call it roughly eighty thousand yuan per person. Now, that's the low end. I should say that countries the high end, like the United States, have a per capita GDP about five times as high as that level of twelve thousand US dollars. Well, what countries are in this group?

 Well, the United States, countries of western Europe, Japan and Canada, and some countries you might not think of, including Korea and Poland in central Europe, and Uruguay in south America. Taking this whole group together，it's only sixteen percent of total world population, but its share of world gross domestic product is sixty four percent. 

Now that share may seem high, but actually has been decreasing over time. If you go back to nineteen sixty and look at the high income countries of that time, they had about eighty percent of world gross domestic product. Our next category are upper middle income countries. The world bank classifies them as having per capita gross domestic product between four thousand and twelve thousand US dollars. Uh, you could think of that is about twenty five thousand yuan up to about eighty thousand Chinese yuan per person. An example here would be China. And this would also include countries like Brazil, Russia, south Africa, and Turkey.

Taking all of these countries as a group, there are about thirty four percent of world population and about twenty eight percent of world gross domestic product. So these countries are roughly the same in the share of world population and the share of world economy. 

So in some ways, the standard of living in these countries is more or less average for people in the world economy. Our next category is lower middle income countries, and these for the world bank range from one thousand to four thousand US dollars. We could call this maybe six or seven thousand Chinese yuan per person, up to about twenty five thousand Chinese yuan per person. Countries in this category would include India and Bangladesh, the Philippines, Vietnam, and Egypt. Countries in this group, the lower middle income group, have thirty nine percent of world population, but only eight percent of world gross domestic product. So their share of world population is about five times as high as their share of world gross domestic product. 

The final category of low income countries, the world bank categories as those with a per capita GDP of about one thousand dollars US per person or less. And we could call this maybe six thousand or seven thousand Chinese yuan per person. Examples here are the poorest countries in the world, including, say many countries in Africa, like Ethiopia, as well as countries like Afghanistan and Tajikistan. These countries combined have about ten percent of world population, but less than one percent of world gross domestic product as a group. So their share of world population is more than ten times as high as their share of world GDP. Now I should emphasize here we're working with economic statistics, you know, from earlier lectures. These can be tricky. 

The broad categories here makes sense. But remember, these kinds of comparisons are not precise measures of standard of living for all the reasons we discussed earlier. But that said, these categories do help us perceive an enormous shift that is under way in the world economy. Basically, there's been a dramatic rise in the economies of middle income countries in the last few decades. China is, of course, a main example here, but it's common to discuss emerging markets more broadly, including India, Brazil, Indonesia, Russia, and others. Now, if you look back a few decades, it was true that when you looked around the world, all the big economies of the world were also the economies that had the highest per capita income. 

So if you wanted to sell in global markets, it basically meant selling to consumers in high income countries. But looking ahead, it's going to be true that many of the biggest economies in the world are not those with the highest income levels. Instead, they're going to be countries with large populations that on a per capita or average basis are in the global middle. Again, China is a main example depending on what exchange rate you use. China is either the world's largest economy already or it will be in a few years. 

But if you look out a few decades to say twenty fifty, it's common to see projections that not only will China be the largest economy in the world, but India may well be the second largest economy. And countries like Indonesia, Brazil and Mexico will also be among the very largest economies in the world, all of them ahead of Japan and Germany. 

There's always kind of in economic terms, kind of gravity that feels like a pull of gravity to the largest economies in the next few decades. If you want to sell to the largest economies in global markets, it will not be selling to the highest income countries anymore. The biggest economies are going to be the middle income countries of today. Let's now talk about some challenges for the world economy. And I'm just gonna say a few words about each of these, because at this point in the course, we don't need to explain everything from the very start. We can use terms and ideas and background from earlier lectures. 

One main challenge is investing in economic growth. Remember the formula for economic growth that has worked for countries around the world and has been working for China since its economic reforms started. The formula is investing in human capital, physical, capital, and technology, and then combining these in an environment where their incentives for hard work and innovation. This process of investment is likely to require a mixture of private firms and government actions. We know that when private firms have to compete with each other, they're often very good at thinking about specific investments and products, thinking about how to be a low cost efficient producer and how to come up with new innovations. 

But we know that investment in technology has positive externality for the rest of society. So private firms alone will often under invest in research and development. Government will often step in to support research and development and new technology. Also, private markets probably won't invest enough in educating children or in university education. So all over the world, governments will step in to support education and health care as well. Another challenge is to make sure the benefits of this growth are spread across national economies and the world economies. And we've talked about this in a number of different ways. We've talked about helping the poor, an area where China's had so much success, but still has some tasks to complete. 

We've talked about spreading growth to rural areas in China, and we've talked about giving women greater opportunities to participate in growth. We've talked about how economic growth can increase inequality for a time, but as growth spreads out across an economy, it leads to greater equality. In fact, that seems to be what's happening in the world economy. As ideas about technology, management, production methods, and trade all spread to middle income countries, and they've grown so rapidly, global inequality has been reduced. Yet another challenge for the world economy very much in the news this last year so involves the global trading system. 

And it's important for both direct and indirect reasons. The direct gains involve nations each playing to their comparative advantage trading goods and services along global supply chains. And this has a number of indirect benefits as well. With trade comes knowledge about management and technology and innovation, as well as connections to far away markets and customers. Trade also brings greater competition for domestic producers, but we know the global trading system is under strain. It has been under strain at times in the past, too. I remember, for example, there were enormous strains between the US and Japan over international trade in the nineteen seventies and nineteen eighties. There was also an anti globalization movement that was very vocal in the US and western Europe in the nineteen nineties and into the two thousands. 

So it's not unexpected. Trade would bring strain. After all the gains from international trade come from an economy shifting to areas where it's more productive in global markets. And those shifts can be painful for different parts of the economy. If we remember that trade is potentially win-win, even though it causes some disruptions in an economy, then often trade negotiators can find their way through the solutions. But if trade is perceived as nothing but losses and disruptions without any gains, it obviously becomes a lot harder to fix. Our next main challenge is the issue of the financial system, one main cause of the great recession that spread over the world economy in two thousand and eight, two thousand and nine was that global financial systems malfunctioned. 

There's always going to be periods when economies speed up or slow down. The question is, do the slowdowns turn into something much, much worse? And in two thousand and eight, two thousand and nine, the world learned an old lesson all over again, when there's too much risky lending, too much debt, and a high proportion of that debt isn't going to pay off, it can really shake up the financial system. It can shape up, shake up banks, investors, what we call the shadow banking system, really the entire financial system. And we've discussed how this is a real change for China, which has had sharp rises in borrowing in recent years. And then China's government has, for the last few years been making it a top priority to make sure that the problems of excessive borrowing don't spread and cause broader issues for the economy as a whole. 

Our final challenge is to environmental protection. We've talked about why markets are not very good at limiting pollution, because pollution is a negative externality of production. And we've talked about market oriented environmental tools like pollution charges, marketable pollution permits, and how they're being used in China and around the world. We've talked about the dangers of climate change. Now we could add to this list of challenges of course, but the real point I'm making here in this very quick tour of the world economy and these issues is that I just used a lot of economic terms very quickly. 

If you weren't familiar with economics before this course, a lot of what I said would sound like a foreign language or maybe some kind of strange English, not very well translated. But now I hope we can all talk together about economic issues using the language of economics. Let me hand with a couple of brief review questions. And in answering these questions, don't just think about this lecture. Think back to earlier discussions. We talked at the beginning of this lecture about gross domestic product. Well, what does GDP mean? How is it measured? 

And what's the difference between a regular exchange rate and a purchasing power parity rate? For all of the main challenges mentioned in this lecture，can you describe them using economic terms, the challenges of growth, spreading the benefits of growth, uh, the international trade system, the financial sector, and the environment？ The next lecture we’ll continue our process of saying goodbye by returning to a question from the start. Just what is economics anyway? 

I'm Timothy Taylor. Thank you for listening to Himalaya.