POST: The Bretton Woods-after-next
Michael Pettis channels John Maynard Keynes for the answer
FOREIGN AFFAIRS: The Global Trading System Was Already Broken; But There’s a Better Way to Fix It Than a Reckless Tariff Regime
Michael Pettis, the renowned economist, has a profoundly important piece in Foreign Affairs that must be read in full. The kicker for me: discovering in his analysis that my personal hero, John Maynard Keynes, had a specific vision for a global trading order post-WWII that, if it was ahead of its time then, now accurately (decades later) predicts the right path for the world to follow as we rebuild a post-Trump global trade order (hopefully without having to traverse another Great Depression or World War).
The logic Pettis channels here is sound and it smacks of a smart incrementalism (build it and they will join), but first, I want to explain why I think John Maynard Keynes is up there with Alexander Hamilton, Deng Xiaoping, and other great grand-strategic thinkers in history.
I will do so by quoting a passage from my 2009 book, Great Powers: America and the World After Bush. Specifically, I will cite one of my Woodrow Wilson-inspired “14 Points” regarding America’s successful rise to global power.
5. NO POLITICAL SOLUTIONS FOR ECONOMIC PROBLEMS
Reflecting our “special relationship” with Great Britain across this time period, much of the grand strategic logic animating our effort to project the American System upon the global stage following World War II emanated from a British economist. John Maynard Keynes, whose “spend to save” logic launched a global economic revolution in government interventionary policies in the decades following the 1936 publication of his seminal textbook, The General Theory of Employment, Interest, and Money, had his first and primary influence as a grand strategist (or what he called a “master economist”) in his short 1919 treatise (The Economic Consequences of the Peace) condemning the Treaty of Versailles, in whose negotiations he participated as a representative of the British Treasury. In this amazingly prescient book, Keynes not only correctly foresaw how Versailles’s harsh peace would fail and ultimately unleash a German “vengeance” that he dared to predict “will not limp,” he likewise underscored how a Europe already deeply dependent on a global economy (and America in particular) could no longer operate in a mode of interstate war while holding on to a standard of living it could maintain through continuing to interweave its national economies with one another and the larger world outside. In short, “Europe before the war” had so cast its economic lot with the dynamics of regional interdependency and global economic trade that destruction of one of its main components (here Germany) preordained both destruction of the regional whole and great havoc inflicted upon global order.
To prevent such an outcome, or basically the descent toward global chaos embodied in the economic nationalism of the Great Depression, the commensurate triumph of fascism in Europe, and the unleashing of the most destructive war in human history, Keynes made a series of extraordinarily bold proposals. These proposals, none of which found sufficient execution after WWI, all found their way into being in the American-imposed international order following WWII — including the United Nations, the Bretton Woods Agreements creating an International Monetary Fund, World Bank, and General Agreement on Tariffs and Trade (forerunner of the World Trade Organization); the Marshall Plan from America; the long-term logic for a “free-trade union to unite Europe (foreshadowing the EU); and even the requirement to contain the Communist political threat from the East while promoting a detente-like policy of increasing economic trade. In less than thirty pages of text (Chapter VII: “Remedies”), Keynes projects a long-term solution set that accurately predicts the next seven decades of European history, his key insight being that economic security is the sine qua non of stable peace. In my opinion, this short book is the most compelling example of sound grand strategy ever put into print. It is also arguably the best single expression of the economic logic behind America’s unstated grand strategy throughout its history. By sticking with his “It’s the economy, stupid!” bias, Keynes articulates, really for the first time in history, not merely a theory of peace through trade, but a grand strategic vision for engineering trade for stability.
If you want to win a global war on terror through nonkinetics, there is no better blueprint, because engineering trade for stability is the essential guiding principle of our country’s entire development as a nation-state and its rise to global power. The idealism of the Wilsonian impulse notwithstanding, it’s the economic pragmatism of the Keynesian revolution, later embodied in FDR’s New Deal package and subsequently projected upon — admittedly just — the West that makes modern (as in, American-style) globalization possible. That’s not to say American-style globalization is the only answer worth pursuing as we move forward, because it can’t be. It’s just reminding us of our seminal role in shaping the world we live in today. Again, globalization is not some unfamiliar monster, even if it often appears that we are Frankenstein to its unintentional creation.
Wendell Wilkie, Republican nominee for the presidency in the 1940 election, wrote a runaway bestseller in 1943 titled One World, in which he argued that the Versailles Treaty hadn’t worked to keep the European peace because it did not “sufficiently seek solution to the economic problems of the world. Its attempts to solve the world’s problems were primarily political. But political internationalism without economic internationalism is a house built upon sand.” By the early 1940s, this essentially Keynesian view was becoming accepted wisdom, primarily because the Great Depression of the 1930s plus the resumption of world war drove home to most Americans the new reality that their personal freedom stemmed primarily from their economic security — long taken for granted — and that their economic security could be greatly threatened even if their physical security could be maintained.
As Keynes had previously recognized in WWI-era Europe, the Americans of this era were getting the first great glimpse of the complex interdependency of a then globalizing American economy that today sits so enmeshed in a global economy of our making that we do not recognize its profound revolutionary impact around the planet. Back then, the revolutionary impact of our growing economic and security connectivity with the outside world was felt more at home than abroad: By finally embracing global leadership we were forced to — really for the first time in our history — define Americanism completely, including, over the next quarter-century, finally resolving most of the residual institutional racism in our society as a result of greater international scrutiny. As we now watch globalization make similar demands on traditional societies regarding religious freedom and the rights of minorities and women, the continuing revolutionary impact of our system-creating efforts — first at home and then globally — must be kept in mind. Why? Because we still have that tendency, so much displayed by the Bush administration, to demand immediate political solutions to long-term economic problems.
Demanding immediate political solutions to long-term economic problems … remind you of any recent or current POTUS?
My point in celebrating Keynes as a grand-strategic thinker was to note that, oftentimes, the right solution appears before its time. What he projected as good answers to WWI were mostly ignored, only to later find profound expression following WWII. What interests me about Pettis’s argument here is that he notes Keynes’ vision for a global customs union that sought more balanced trade, while it did not come to fruition at Bretton Woods, may actually be the right answer for today’s evolving globalization, which is in need of some sort of a trade-balancing fix — as sought by Trump.
Let’s dig in:
The sweeping tariffs announced by U.S. President Donald Trump on April 2, along with the subsequent postponements and retaliations, have unleashed an enormous amount of global uncertainty … But whatever happens in the near term, this much is clear: Trump’s policies reflect a transformation of the global trade and capital regime that had already started. One way or another, a dramatic change of some kind was necessary to address imbalances in the global economy that have been decades in the making. Current trade tensions are the result of a disconnect between the needs of individual economies and the needs of the global system. Although the global system benefits from rising wages, which push up demand for producers everywhere, tensions arise when individual countries can grow more quickly by boosting their manufacturing sectors at the expense of wage growth—for example, by directly and indirectly suppressing growth in household income relative to growth in worker productivity. The result is a global trading system in which, to their collective detriment, countries compete by keeping wages down.
This is the China problem the world suffers today. China totally cheated and stole its way to the top, just like the Asian Tigers before it, and before them, the Japanese, and, before the Japanese, we Americans. That cheating (tariffs and other trade barriers) and stealing (IP theft) has to stop at some point in one’s rise, because the unfairness of it all gets on the rest of the world’s nerves. Domestic solutions must arise to switch the economy’s trajectory from export-driven to domestic consumption-driven. America made that switch a long time ago, and the other Risers eventually get around to something similar. But, today, the world economy is somewhat stuck on China’s inability to effect that transition under Xi, who wants and needs maximum control over his domestic economy.
Of course, Trump’s tariff war may actually work here because it gives Xi the excuse to force that shift internally while blaming it all on the Americans. This “briar patch” outcome (Oh! Don’t you make me do this!) would do the rest of the global economy a world of good, giving subsequent Risers the room to continue their ascent instead of being blocked by China’s unwillingness to move along up the higher rungs of the production ladder (and global value chains).
Actually, that’s a wrong characterization: China is moving up those rungs; it’s just also continuing to dominate too many of the lower rungs, holding up SE Asia’s rise and potentially threatening India’s as its demographic dividend comes online. Trump 1.0’s tariff fight pushed China to re-reroute a bunch of its American trade through SE Asia (good and logical move), but that didn’t answer the mail from the White House, leading to Trump 2.0’s effort to re-fight and this time win a tariff war.
Back to Pettis, because this stuff isn’t easy to understand (lotsa moving parts):
The tariff regime Trump announced earlier this month is unlikely to solve this problem. To be effective, American trade policy must either reverse the savings imbalance in the rest of the world, or it must limit Washington’s role in accommodating it. Bilateral tariffs do neither.
Too much of the world (read, mostly China) is beggaring the rest of us by sticking with export-driven growth beyond the point of fairness. We accommodate that by being the world’s reserve currency and being willing to float public debt to an unsustainable degree. That leads to the dollar’s over-valuation, which Trump seeks to correct.
Trump is not wrong in wanting to address the imbalance and to — in effect — move China along in its inevitable economic evolution. It’s just that a one-on-one tariff war won’t likely work.
Back to Pettis:
But because something must replace the current system, policymakers would be wise to start crafting a sensible alternative. The best outcome would be a new global trade agreement among economies that commit to managing their domestic economic imbalances rather than externalizing them in the form of trade surpluses. The result would be a customs union like the one proposed by the economist John Maynard Keynes at the Bretton Woods conference in 1944. Parties to this agreement would be required to roughly balance their exports and imports while restricting trade surpluses from countries outside the trade agreement. Such a union could gradually expand to the entire world, leading to both higher global wages and better economic growth.
To me, and this may just be my limited economic understanding, that passage is a wow! So simple and so logical.
America shouldn’t be taking on the world with this stick approach; rather, it should be building the future by forcing those key trade partners to collectively accommodate its demand for more balanced trade, proving the utility and stability of that approach, and then spreading that model outward to include more and more of the world — as in, build it and they will join.
This is, as I argue in America’s New Map, America’s super power:
Americans do not endure history; we make it. This is our true superpower: reliably resetting our internal rules in response to history’s punishing waves of change, and then spreading those new and better rules across the world. American grand strategy does not merely confront rivals but shapes a global environment that tames their — and our — worst impulses.
Everybody keeps saying they want a new Bretton Woods. Well, it turns out that Keynes had one model back then, that, while the US couldn’t abide by it then, may well be the answer to America’s problems now.
Keynes’s plan failed to carry the day at Bretton Woods, largely because the United States—the leading surplus economy at the time—opposed it. Today, however, there is a chance to revive and adapt his proposal.
Pettis’s more detailed explanation that follows, I will summarize as follows:
The global trading system is plagued by a dynamic in which countries suppress wage growth to boost manufacturing competitiveness and exports, a strategy that can benefit individual economies but, when widely adopted, reduces global demand and harms all participants—a phenomenon known as Kalecki’s Paradox of Costs.
Wage suppression subsidizes domestic production but depresses consumption, creating imbalances that, in a globalized world, are often exported via trade surpluses, effectively shifting the burden onto trade partners and fueling “beggar-thy-neighbor” tensions.
This system, opposed by Keynesian economists, allows some countries to externalize the costs of their domestic policies, while deficit countries like the U.S. have masked the employment consequences of persistent trade deficits through rising debt rather than addressing the root imbalances.
The result is a world where some states prioritize global integration at the expense of domestic control, while others retain control and impose their imbalances on trading partners, leading to chronic trade tensions and retaliatory measures.
Again, to me, a wow!
And it fits my understanding of globalization in general: either you focus on control of your domestic situation, externalizing the costs on others; or you integrate yourself deeply in the global economy even as you subject yourself to this sort of trade-imbalance abuse. The trick is a global rule-set that tempers that former temptation while obviating the latter damaging effect.
As Pettis puts it succinctly:
It is why in any globalized system, as the economist Dani Rodrik has explained, countries must choose either more global integration or more control over the domestic economy.
If you want more of the former, you have to address the latter danger of being abused by those trade partners who engage in beggar-thy-neighbors strategies for “rising” so as to maintain control over their domestic economy (again, the system’s current China problem).
This analysis also produces the usual take on Trump: right diagnosis, wrong therapy.
Still, with a solid idea like this out there, maybe the adults in the room (i.e., anyone not named Navarro) salvage this destructive fight with a genuine path forward.
With whom do we need to start such an effort? Pettis says keep it small but salient to our current problem of imbalanced trade: so, start with just a handful of those economies currently being “abused.”
Pettis’s brilliant close-out:
Many countries, especially ones that have structured their economies around low domestic demand and permanent surpluses, might initially refuse to join such a union. But organizers could start by gathering a small group of countries that make up the bulk of global trade deficits—such as Canada, India, Mexico, the United Kingdom, and the United States—and bringing them into it. These states would have every incentive to join, and once they did, the rest of the world would eventually have to participate. If deficit countries refuse to run permanent deficits, after all, surplus countries cannot run permanent surpluses. They would instead be forced to raise domestic consumption or domestic investment—either of which would be good for global demand—or they would have no choice but to reduce domestic overproduction.
If the world created such a customs union, international trade “would cease to be,” as Keynes wrote, “a desperate expedient to maintain employment at home by forcing sales on foreign markets and restricting purchases.” The reason countries maximize exports would no longer be to export the cost of subsidizing domestic manufacturing but rather to maximize imports and household welfare.
There you have it: Keynes-the-genius strikes again — from decades prior again.
With the marginal costs of all factors of production either declining or falling to zero, a customs union of the willing would be even easier to realize, provided domestic politics can smooth out income distribution.