The U.S. and Japan battle to the brink over trade in autos and auto parts. The dollar tanks, and central banks struggle to defend its value. The Mexican peso crashes, and the U.S. cobbles together a rescue package. Leaders are learning that the global economy is a messy place, where events easily spin out of control. What's more, what one leader thinks is the best domestic policy often doesn't matter, since international considerations swamp the best-laid plans. The economic sovereignty of nations is eroding, and it hurts. "The ultimate resource of a government is power," observes Neal Soss of economic consultants Soss & Cotton Enterprises LP, "and we've seen repeatedly that the willpower of governments can be overcome by persistent attacks from the marketplace."
Today, governments large and small feel under siege. The biggest challenge comes from global capital markets, where money moves faster than people or goods ever can. But challenges are also coming from the proliferation of new clubs such as the World Trade Organization. It's grist for the mill of politicians like Pat Buchanan, whose calls for an America First policy touch a sensitive nerve.
In the swirl of news about trade disputes and currency crises, though, it's important to remember three things. First, the erosion of sovereignty is relative: Large governments continue to maintain a strong hand over their economies. Second, the erosion of sovereignty is not always a bad thing. After all, many countries voluntarily cede sovereignty so as to increase trade and gain national income. What's more, the global marketplace can be a disciplinarian--and can have the salubrious effect of forcing governments to adopt more responsible economic policies. As Federal Reserve Board Chairman Alan Greenspan recently put it: "The new world of financial trading can punish policy misalignments with amazing alacrity."
Finally, the nation-state will not soon be replaced, and national autonomy is not withering away. True, the world is moving toward more cross-border cooperation through international institutions--despite political tussles and noisy opposition in some quarters. And more finance and trade will be conducted through regional pacts. Ultimately, though, all nations can prosper, and individual governments will certainly play a big role in ensuring that economic well-being improves at home.
Right now, though, many Americans blame the harsh reality of economic life on globalism and declining sovereignty. Foreign competition appears to rob U.S. workers of jobs, while foreign capital seems to breed dependence. Fickle financial markets, meanwhile, have become judge and jury of economic policymaking. President Clinton learned this early in his Administration, when he struggled to make budget cuts deep enough to appease the bond market. More recently, he felt the heat yet again when the dollar came under fire.
Nothing is quite so striking a symbol of national prestige as a currency, yet it seems that little can be done these days to guarantee its status. In a market that trades $1 trillion worth of currency daily, the few billions that central bankers can buy and sell are peanuts. Since the late 1980s, says one European central banker, "central banks have realized that they cannot manipulate the markets--that any battle of strength they would lose."
CHIPPING AWAY. Trade disputes, too, challenge the autonomy of governments to set their own agendas. Here, the U.S. has more recently played the role of aggressor, pushing competitors such as Japan into making concessions in the trade of autos and auto parts. For the Japanese, who want to maintain a highly regulated domestic market, the threat to sovereignty is keenly felt--and heartily resisted. Over time, and through constant exposure to more open systems, that resistance is being ever so slowly chipped away. And even though the Japanese are now making some concessions, it still looks to many Americans as though it's the U.S. that has, with its relatively open market for imports, conceded the most over the years.
The U.S. no longer dominates world output as it once did, so its clout is naturally diminished. But its loss of sovereignty is not nearly so dramatic as some Americans suspect. After all, imports and exports account for only 22% of gross domestic product--a much smaller share than for most of America's trading partners. Similarly, 94% of the stocks that Americans own are U.S. issues--a sign of persistent "home bias" in investing. Fed Vice-Chairman Alan S. Blinder concludes that the U.S. economy, while more open than in the 1950s and 1960s, is considerably more closed than the "globalizers" contend, and so Americans are thus "more able to control our own destiny."
That's not the case for countries such as Mexico. Free-market policies and the North American Free Trade Agreement drew a surge of foreign capital in the early 1990s. But the surprise devaluation of the peso in late 1994 set off a stampede out of Mexican paper, and the plunge in the peso was spectacular. One government effort after another to stabilize the situation foundered, and the shock waves began to ripple as far as Argentina and even Asia, where Thailand's baht took a beating. Eventually, it took a massive U.S. rescue effort to dampen Mexico's crisis.
Even small countries not in crisis know firsthand the constraints imposed by larger economic forces--or by their bigger neighbors. The Netherlands, for instance, has hitched its monetary policies to Germany's, and so must pursue a rigorous anti-inflation policy even when more pro-growth efforts might be in order.
PRICEY RICE. Across Europe, such ceding of autonomy in economic decision-making is spreading--by design. Indeed, the European Union provides a striking example of how nations voluntarily give up something, such as the explicit right to set their own product standards or the implicit right to set their own monetary policies, in exchange for unfettered access to one another's markets. The results can be perverse. In Sweden, which recently joined the EU, rice is now pricier than before, because rice produced in the EU is protected. On balance, though, the spur to trade, financial transactions, and even the cross-border exchange of human capital promises healthier growth for all members of the EU than they might otherwise achieve.
All trade agreements are based on similar--though usually less sweeping--voluntary concessions of sovereignty. That's why the debate over NAFTA was so heated. In retrospect, it's clear that NAFTA did far more than threaten U.S. labor or environmental standards: In effect, it linked the U.S., Canada, and Mexico in an embrace that would force the stronger nation to prop up the weaker in a crisis. Right now, that concession seems pretty expensive to Americans who opposed the agreement, but the price should seem less onerous over time, as the gains from trade become more apparent.
The WTO, whose mettle is yet to be tested, also demands that members accede to globally set rules for trade. Had it ruled against the U.S. in the auto dispute with Japan, that might have prompted calls for the U.S. to pull out of the WTO. But many economists and world leaders believe there is no choice but to push for multilateralism--even while pursuing bilateral or regional solutions to trade disputes.
The best way to pry open markets and spur economic cooperation appears to be through repeated efforts on many fronts. Indeed, the U.S. experience with Japan thus far bears this strategy out: Brinkmanship in bilateral talks has wrung grudging concessions from the Japanese, which a strategy based solely on appeals to the WTO would not have produced. Yet for other disputes, such as those over intellectual property, multilateral talks have proved fruitful.
The interdependence that characterizes trade and finance around the world will be increasingly marked by disputes and conflicts that somehow must be resolved. Conflicts will also occur in multiple jurisdictions. Today, there's a buzz of activity at every level of government. In the U.S., taxpayer revolt starts at the grass roots. The states want more power to devolve from Washington to them. Elsewhere, in regions from Quebec to Catalonia, separatists are agitating. In Europe, regional integration is proceeding on an unprecedented scale, while individual governments retain the power to implement EU regulations. Meanwhile, institutions such as the still untried WTO take on a supranational cast. Slowly, and certainly with some missteps along the way, these forums will resolve differences and help smooth the frictions in the global economy.
FOR THE BEST. There is no alternative--if individual countries bar the gates, they can neither save industries and jobs nor improve living standards. No less a powerhouse than Japan must, over time, cede some sovereignty, and when it does, its citizens may begin to enjoy a more comfortable life and partake of the global surplus that the Japanese government has accumulated in its mercantilist zeal. The U.S., for its part, must maintain the openness that has characterized its role in the global economy--and continue to press other countries to become more open. Giving up some sovereignty should not be a zero-sum game. Ultimately, everyone's welfare will improve.
All of that should perpetuate the nation-state, not threaten it with extinction. Power, after all, is synonymous with economic vitality. If that vitality can be sustained, even through greater international cooperation and the erosion of traditional notions of sovereignty, then governments can and will retain power.