Econ 115: Lecture 5: The Iron-Hulled Ocean-Going Steamship: One Economic World, 1870-1914

Lecture 5: The Iron-Hulled Ocean-Going Steamship: One Economic World, Indivisible, 1870-1914 For September 10, 2009 J. Bradford DeLong Professor of Economics, U.C. Berkeley Research Associate, NBER This Draft: August 26, 2009 From “South Australia”: And as you wollop round Cape Horn Heave away! Haul away!

You'll wish that you had never been born And we're bound for South Australia I wish I was on Australia's strand Heave away! Haul away!

With a bottle of whiskey in my hand And we're bound for South Australia In South Australia my native land Heave away! Haul away!

Full of rocks, and fleas, and thieves, and sand And we're bound for South Australia…

Even before the U.S. Civil War of 1861-5, the export of cotton from the American south and of sugar from the Caribbean islands had shown for the first time in world history how transoceanic trade could matter not just for a ruling elite but for an economy as a whole. Cotton and sugar (and also tobacco, tea, coffee, chocolate, and so forth) meant that European

1

agriculture did not have to grow nearly as much flax or raise as much wool or produce as many calories.

After the U.S. Civil War the coming of the steam engine and the ironhulled steam-powered ocean-going vessel made possible the export to and from Europe not merely of cotton and sugar—crops which could not be grown in the climate of the European industrial core—but also grain, meat, wool, practically every other non-fragile and non-perishable staple or other commodity, but also people.

The extent to which the navies and trading fleets of the great European sea-borne empires of the sixteenth, seventeenth, and eighteenth centuries shaped the industrial development of western Europe has always been one of the most fiercely-debated and unsettled topics in economic history. That European expansion in the sixteenth, seventeenth, and eighteenth centuries had catastrophic consequences for the regions of west Africa that were the sources of the slave trade, or for the Indians of the Caribbean, or for the Aztecs, Incas, the mound-builders of the Mississippi valley, or the princes of Bengal is not in dispute. But how much did trade and plunder affect European development? That is not so clear. And I will dodge that question.

But what is clear is starting in 1870 the presence of transoceanic trade was a decisive factor in the world economy as a whole.

9.1: The Rising Importance of Trade 9.1.1: Coal, Steam, and Iron In the nineteenth century canvas sails and wooden hulls began to be replaced by first steam-powered paddle wheels and then by screw propellers and iron hulls. By the end of the nineteenth century wooden hulls had been replaced by iron ones, message sloops had been replaced by submarine telegraph cables, and new methods of packing and preserving made it possible to transport a much broader range of commodities across oceans cheaply. The first transoceanic shipping of

2

perishable organics came before 1850. Well before 1900 Europe’s beef was raised in Argentina, its mutton and wool was raised in Australia, and its butter raised in New Zealand. International trans-oceanic trade was no longer limited to luxuries, rarities, drugs–tobacco and tea–and the occasional strategic, bulk, easily-shipped commodity like cotton. Instead, nearly anything could become the object of international trade.

Figure 9.1: The Price of Wheat in London, New York, and Chicago 1800-1980

Source: Federico and Person (2006).

3

Figure 9.1 shows the price of wheat in London as a multiple of its price in Chicago and in New York since 1800. Ignore the post 1960 rise—that comes about not because of any rise in ocean wheat transportation costs but rather as a side-effect of the European Union’s agricultural subsidy policy. Look instead at the earlier years. From 1800 to 1850 or so wheat cost half again as much in London as in New York. Take the cost of growing the wheat, harvesting the wheat, milling the wheat, packing the wheat, carrying the wheat (by oxcart or barge or railroad or whatever) to the city, and selling the wheat. The cost of moving the wheat in a boat across the Atlantic for 3000 miles is fully half as much as the total delivered New York price—and the price fluctuates a lot from year to year, showing that it is not possible to get the ships and the grain organized quickly enough to take advantage of the extraordinary profit opportunities that arise when demand in Britain is very high relative to supply. By 1850-1875 the average premium is down to 20% of so. And by 1900? Pennies in an average year.

For London-Chicago, add the cost of moving the wheat by barge and canal or railroad from Chicago to New York to the ocean transport cost from New York to London. Even as late as 1875 moving the wheat from Chicago to London adds fifty cents to every dollar that the wheat was worth in Chicago. But by 1900, once again, we are talking pennies.

Transport costs are no longer a major factor, no longer an important piece of the structure of prices, no longer a significant cost in turning the sun, rain, and soil nutrients of the Dakotas into flour in London.

Figure 9.1 shows us the fall in transportation cost across the second half o the nineteenth century. But there is more: there is the rise in opportunity produced by the growth and differentiation of the world economy—and the consequent rise in inequality across regions. Even had transport costs not changed at all as a fraction of commodity values there would still have been an enormous international trade boom in the second half of the nineteenth century. The potential profits—even the potential profits counterfactually holding oceanic transportation costs constant—from long-distance trasn-oceanic international trade were greatly amplified the

4

industrialization of northwest Europe. All of a sudden northwest Europe had an enormous comparative advantage in making manufactured goods, and thus an enormous increase in its desired trade of its manufactures for the raw materials and agricultural goods of what was to be the periphery of the first global economy. There was a second, complementary shock. In the nineteenth century the natural resources out on the periphery become more valuable as well: o copper, coal, coffee, and all of the other mineral and agricultural products could be much more cheaply mined or grown or otherwise extracted—and then shipped by rail to the ports where the ironhulled steam-powered ocean-going cargo ships lay.

Thus two gigantic sets of comparative advantages—in extracting and producing resources and delivering them to ocean ports where they could be shipped, and in making manufactured goods—had been created from nothing. And lowered intercontinental ocean transport costs suddenly made it possible to take advantage of these comparative advantages through specialization: the core specializing in the manufactures that its superior access to industrial technologies allowed it to produce cheaply, the periphery specializing in the primary products that its new infrastructure allowed it to export.

Worth noting in all this is the role of the British Empire. As Stephenson puts it, when the British come they build docks, a fort, and a botnical garden—the botanical garden to discover what valuable plants grown elsewhere might flourish here as well. As the British Empire arrives, the crops that a region could grow were not limited to those that it had traditionally grown. During the nineteenth century the rubber plant came to Malaysia, the tea shrub came to Ceylon, and the coffee tree came to Kenya. The comparative advantages of the regions that were to become the periphery of the late nineteenth century global economy were not so much given as made: made by innovative and entrepreneurial use of mineral deposits and climatic zones.

Given these differential potential comparative advantages—to make manufactured goods in northwest Europe in the late nineteenth century, and to extract materials and grow crops elsewhere—the coming of low-

5

cost ocean transportation costs produced enormous pressure to specialize: to create a region-by-region international division of labor. Exports boomed even half a world away from Europe’s industrial revolution.

Between 1870 and 1913 exports as a share of national product doubled in India and in what was to become Indonesia, and more than tripled in China. And in Japan–forced out of two and a half centuries of Tokugawa isolationism–exports rose from practically zero to 7 percent of national product in the generation of the Meiji Restoration.

9.1.2: Slaves and Cotton The first half of the nineteenth century prefigured what was going to come with the creation of the trans-Atlantic trade in the first industrial staple: cotton. The ménage a trois between the United States’s African-American slaves, the rich river valley cotton-growing soils of the American south, and Eli Whitney’s cotton gin together produced a cheap material input to an important manufacturing industry. This time the industry was dynamic enough and the raw material important and cheap enough that the presence of the Americas did change the shape of the leading European economy, that of Britain.

The availability of cheap American slave-grown cotton, as opposed to more expensive and more distant Egyptian and Indian varieties, may have saved Britain as much as four percent of national product in the reduced prices it had to pay for raw material inputs in peak years in the first half of the nineteenth century, and saved perhaps two percent of national product in reduced foreign materials prices in average years.

If the pattern of consumption had been maintained in the absence of slavery in the U.S. south, then this reduction in real national product would have come entirely out of investment–and would have reduced the pace of growth of the pre-Civil War British economy by perhaps 0.3% per year (cumulating to perhaps 15% over fifty years). If the cut had come proportionately out of investment and consumption, the reduction in growth would have been only 1/4 as large (cumulating to perhaps 4% over fifty years).

6

In an era in which British standards of living and levels of productivity are grew at roughly 1/2 a percent per year, the availability of slavery in the U.S. cotton south could have been responsible for between 15 and 60 percent of British economic growth in output per capita and per worker before the midpoint of the nineteenth century.

Yet cotton was a uniquely important good. And British imports of cotton were a uniquely strategic pressure point to apply to a pre- or an earlyindustrial economy. No other commodity, or set of commodities, had the potential to affect the destiny of any European economy in the years before the late nineteenth century. Trade was simply too small relative to domestic production for it to have been the prime mover or the balance wheel of any of these economies.

9.1.3: The Ricardian Global Economy of 1870-1914 Thus the second half of the nineteenth century saw the development of the first global economy based largely on an international division of labor derived from Ricardian comparative advantage.

What Arthur Lewis calls the "regions of European settlement"–the United States, Canada, Australia, New Zealand, Argentina, Chile, Uruguay, and perhaps South Africa–soon demonstrated that they could produce and ship staple grains, meats, and wool at vastly cheaper prices than could Europe itself. The steam-driven iron-hulled ship and the steam-driven iron-riding locomotive quickly brought down transport costs. From the 1870s German farmers found themselves with new competitors: not just new world producers, but Russian grain shipped from Odessa. In 1870 wheat cost nearly fifty percent more in Liverpool than in Chicago, meat cost more than ninety percent more in London than in Cincinnati, and iron cost seventy-five percent more in Philadelphia than in London. By 1913 all these prices were within twenty percent of one another.

By 1900 the harvest west of Chicago affected grain prices in Odessa and Hamburg; the price of lambs in Auckland affected meat prices in London;

7

the agricultural sector was the first to become globalized–and in becoming globalized, to demonstrate that farmers could feed more people better than had ever been possible before. In commodity after commodity, prices drew together in the years between 1870 and 1913. In 1870 it would have cost you 60 pre to buy wheat in Liverpool than in Chicago. By 1913 the price differential was down to 15 percent. In 1870 copper cost some 33 percent more in Philadelphia than it did in Londos. By 1913 the prices of copper in the two cities were almost exactly the same.

Figure 9.2: General Price Convergence ANGLO-AMERICAN COMMODITY PRICE CONVERGENCE Price Gap by Year Commodity Wheat Meat Textiles

Markets Liverpool/Chicago London/Cincinnati Boston/Manchester

1870 0.576 0.925 0.137

1895 0.178 0.923 0.037

1913 0.156 0.179 -0.036

Iron Cotton Copper Wool

Philadelphia/London Liverpool/New York Philadelphia/London Boston/London

0.750 0.133 0.327 0.591

0.434 0.112 0.136 0.659

0.206 0.097 -0.001 0.279

Tin

New York/London

0.159

0.053

-0.023

Improvements in food processing and preservation meant that mutton from Argentina and Australia, beef from the American west, grain, and hides for leather could be produced on the praries or the pampas and consumed in the growing economies of Europe. A sharp division of international labor began to emerge: "temperate" settler colonies, like the western United States, Canada, Australia, and Argentina, produced and supplied grain, meat, leather, wool, and other high-value agricultural products to Europe and to the eastern, urban, industrialized United States; "tropical" regions, like Malaysia, Colombia, Cuba, Brazil, or Ghana (and to some degree the U.S. south), supplied rubber, coffee, sugar, vegetable oil, cotton, and other relatively low-value agricultural products to Europe; Europe paid for its imports by exporting manufactured goods—some 75%

8

of Britain's exports were manufactured goods in the years before World War I, and textile exports made up half of Britain’s manufacturing exports.

Figure 9.3: The Growth of North Atlantic Manufacturing Exports

Manufacturing Exports as a Share of GDP (10 Industrial Country Average) 14%

12%

10%

8%

6%

4%

2%

0% 1700

1800

1870

1913

Year

By contrast, some 40% of United States exports in 1900 were food, feeds, and beverages; and a futher 35% were industrial supplies and materials.

Industrial supplies and materials would rise to be fully half of exports by 1910.

9

Falling transport costs led to an integrated world economy. By 1910 exports of goods and services amounted to more than a quarter of British, and Australian, and Canadian, national product; and to perhaps a fifth of German and Italian national product. Even the enormous and largely closed economy of the United States managed to import and export roughly five percent of national product in the years before World War I. The social returns to the investments in technology and infrastructure that created this late nineteenth-century world economy were enormous.

Robert Fogel calculated that the social rate of return on the Union Pacific Railroad’s trans-North American tracks and vehicles was some thirty percent per year.

9.1.4: The Spread of Capital, Knowledge, and Biology The development of the integrated world economy brought new industries and new agricultural specialties to all the corners of the world. As William Ashworth points out, the rubber tree was not introduced into Malaysia, Indonesia, and Indochina until the last quarter of the nineteenth century.

But by the end of World War I these three regions had become the principal sources of the world’s natural rubber supply. Tea was introduced to India and Ceylon through a similar process. And the world was covered with railroads: some 12,000 miles of railroads in Africa, 38,000 miles in Asia, and 26,000 miles in South America by 1900; some 40,000 miles of railroads in Africa, 80,000 miles in Asia, and 60,000 miles in South America by 1930.

W. Arthur Lewis (1979), Growth and Fluctuations, 1870-1913 (London: George Allen and Unwin): [T]he core committed resources—specifically capital and people.

Private international investment in the periphery (i.e. excluding the USA) was small in the middle of the century, moving upwards to a peak just before World War I, at a level which it would not again attain… until the 1960s. It was also the great age of international migration, not only from all over Europe into “the countries of new

10

settlement,” the Americas and Australasia, but also from India and China into countries throughout the tropical world….

Third, the core contributed its own markets; it was willing to buy some of the products of the periphery. This, however, was a limited opportunity…. [W]ool, through which Argentina and Australia received their stimuli. Apart from this the core’s principal imports in 1850 were palm oil, furs, hides and skins, a little3 timber, tea, coffee and other commodities in small quantities. It is hardly an exaggeration to say that the industrial revolution in the core did not depend on the periphery.

The situation changed as the nineteenth century drew to a close. New technology demanded copper for electric wiring, rubber for bicycle and motor cr wheels, oil for the internal combustion engine, and nitrate for the wheat fields. It created new trdes in refrigerated meat and bananas…. [The core demand] for tea, coffee, cocoa, vegetable oils, raw silk, and jute. The closing of the American agricultural frontier gave new opportunities to the wheat fields of Argentina, Australia, Canada, and eastern Europe. In addition the periphery created one new international trade internal to itself… rice…

9.1.5: Jumping onto Lewisʼs Escalator W. Arthur Lewis (1979), Growth and Fluctuations, 1870-1913 (London: George Allen and Unwin): [A]n escalator, taking countries to ever higher levels of output per head.

Countries get onto the escalator at different dates—only half a dozen before 1870, perhaps another fifteen before the First World War....

During the nineteenth century the escalator moved upwards at a speed of perhaps one and a half percent per annum (in terms of growth of output per head) but the countries on it... can move faster or slower by stepping up or stepping down. It is also possible to fall off...

Our study originates from interest in the proposition that the upward movement of those already on the escalator helps to pull more and more countries into the moving company. The proposition is not obvious, and its opposite—that it is the enrichment of the rich that impoverishes the poor—is perhaps even more widely held.... The words we use now we owe to Dennis Robertson and Raoul Prebisch.

Robertson, writing in 1938, referred to international trade as "the

11

engine of growth"... Prebisch sriting twelve years later referred to the relations between the industrial world and the "periphery"...

Most of the countries of the periphery outside Europe trace the quickening of their rates of growth to [1870].... Many [economies] had of course been in the world market long before 1870, but if we ask in how many real income per head grew by 10 percent over two decades, are answer would yield only Ceylon, starting in the 1830s, Brazil and Australia in the 1850s and Argentina in the 1860s.... The reason for this is the rapid growth of their foreign trade after 1870.... [D]istant trade depended on the great fall in transport costs that occurred after 1870.

Shipping freights had been falling for a couple of decades as iron and steam replaced wood and sail, but the downturn after 1873 was spectacular. According to Cairncross, the index of inward freight rates to the United Kingdom fell 73 percent from 1873 to its lowest point in 1908.... Also important... was the building of railways inwards from their ports.... The first transport revolution had largely bypassed the rest of the world [outside North America and western Europe], which... did not begin extensive railway building until well into the second half of the nineteenth century, when international lending for this purpose began to increase.

9.2: Trade and Living Standards What effect did this enormous expansion in world trade have on standards of living across the globe?

9.2.1: A Globalization-Driven Immiserization?

Some believe that the explosion in world trade (and in international migration) put substantial downward pressure on the wages of labor in the labor-scarce land- and resource-rich parts of the periphery (North America, the southern cone of South America, Australia and New Zealand), gave a boost to real wages in labor-abundant Europe, and raised the returns to owners of capital on both the periphery and in Europe—in Europe because the development of international capital markets allowed

12

European owners of capital to take advantage of high rates of profit on the capital-scarce periphery.1 Yet the proxies for economy-wide real wages assembled by O’Rourke, Taylor, and Williamson do not suggest that workers on the western, peripheral side of the Atlantic lost relative to workers in northwest Europe. American, Canadian, and Argentinian real urban worker wages appear to have grown at 1.0, 1.7, and 1.7 percent per year in the years leading up to 1914—compared to growth rates that averaged 0.9 percent per year in northwest Europe. Only in Australia, where real wages seemed to stagnate in the half-century before 1913, does the logic of economic theory seem to hold: only there does increased trade appear to erode the relative wages of workers in a labor-rich economy.2 Outside of the North Atlantic economy the wage-raising impact of expanded international trade and migration on labor-abundant economies is even harder to see. In India and China there were no increases in real wages. And in countries to which workers from India and China were allowed to migrate—whether Malaysia, Kenya, or South Africa—increased potential competition seems to have been associated with stagnant or falling real wages in the late nineteenth century as well.3

9.3: Failure to Adopt (and Adapt) It is understandable that China, India, and the other regions of what would become the post-World War II third world did not produce and export the relatively high-value commodities like wheat and wool exported by temperate settler economies: agricultural productivity was too low, and climate was unfavorable. It is understandable why–with heavy downward pressure put on wages in Malaysia, Kenya, and Colombia by migration and threatened migration from China and India–the prices of the export commodities that they did produce were and remained relatively low.

What is more puzzling is why industrialization did not spread much more rapidly to the future third world in the years before World War I. After all, the example of the industrial core seemed easy to follow.

Inventing the technologies of the original industrial revolution–steam

13

power, spinning mills, automatic looms, iron- and steel-making, and railroad-building–had required many independent strokes of genius. But copying the technologies did not, especially when you could buy and cheaply ship industrial capital goods made in the same New and Old England machine shops that supplied the industries of England and of America.

As industries in the industrial core became more and more mechanized–more and more characterized by mass production–they should have become more and more vulnerable to foreign competition from other, lower wage countries. Throughout the twentieth century, the U.S. had the highest wage level in the world; inside the U.S., firms devoted immense time, energy, and thought to redesigning their production processes so that lower-skilled, and lower paid, workers could replace highly-skilled craftsmen. One would think that manufacturing would have fled the United States. If Ford can redesign production so that unskilled assembly line workers do what skilled craftsmen used to do, why can’t Ford also—or someone else–redesign production so that it can be carried out by low wage Peruvians or Poles or Kenyans rather than by Americans, who are extraordinarily expensive labor by world standards?

Industries do migrate, but they have done so surprisingly slowly in the twentieth century. One reason is added risk: political risk of all kinds tends to make investors wary of committing their money in places where it is easy to imagine political disruptions from the left or the right. Moreover, there are substantial advantages for a ?rm in keeping production in the industrial core, near to other machines and near other factories making similar products. It is much easier to keep the machines running. A reliable electric power grid is much more likely to be found in the industrial core. And so are the services of specialists needed to fix the many things that can go wrong: minimum efficient scale for an industrial civilization can be far larger than the apparent minimum efficient scale for a plant.

14

9.3.1: Infant Industries Arthur Lewis hypothesized that barriers to starting up an export-oriented industry were large, that infant industries on the periphery of the world economy had to rely on domestic demand, and that where domestic demand was low because of mass poverty modern industry could not flourish. Thus only a small share of output in what was to become the third world came from the industries of the industrial revolution.

Figure 9.4: The State of the World Textile Industry in 1910

Certainly attempts to industrialize in what is now the third world in the early (and, save for Japan, the late) nineteenth century were not successful.

The machines could be bought, shipped, and installed. The domestic market could (in some cases at least) be protected to provide captive consumers to pu the products of industry. Managers could be found. Yet in Egypt, in India, in Mexico–even in Italy and in Spain–attempts at the

15

periphery to copy what was going on in the industrial core were unsuccessful.

But we still understand far too little about why the pace of technological diffusion out of the industrial core was so slow back before World War I: why "peripheral" economies did such a good job at specializing in plantation agriculture for export, and such a bad job at creating modern manufacturing industries.

Gregory Clark has counted the staffing levels–how many operatives for each machine–at textile firms worldwide early in the twentieth cenury, and found enormous differences in how many workers watch, operate, and maintain the same machine across countries and continents. It is not that places where labor is abundant use the same machines more efficiently: it is that it appears to take many times the workforce to achieve the same level of machine performance. Workforces in the industrial core appear to have an acquaintance with machines and how they work, which was very, very hard to duplicate in the periphery. It is as if one’s social capital allows an economy to overleap one or perhaps two stages of technological development, but no more: and the gap between the quality and sophistication of machinery needed to be competitive in the late nineteenth century and the largely-handicraft traditions of the periphery appears to have been just too large.

9.3.2: Chinaʼs Failure The first iron-hulled ocean-going steamships called on a China where the government and the economy were in crisis for three reasons: The first was that China's government in the late nineteenth century was the ethnically Manchurian Qing Dynasty which could not play the nationalism card: “revere the emperor and resist the foreign barbarians” was not a possible political slogan where the emperor and his relatives identified themselves as foreigners themselves, and were regarded by the Han people as barbarians. The second was that China in the late nineteenth century had deliberately trained its Confucian landlord-bureaucrat-scholar aristocracy to be incapable of taking any kind of effective action. The third

16

was that the people were in crisis: China's population was on the downswing of a Malthusian population cycle.

Thus the outcome of China's late-nineteenth century encounter with an intruding world was foreordained. Because of the three reasons for crisis, the Chinese government was overwhelmingly weak compared to the forces that first Britain and later other European powers began to project into the western Pacific. In the mid-1880s the Qing Dynasty, having bought foreign metal-working machinery and built a navy, arsenals, and docks, thought it was strong enough to oppose the French conquest of Vietnam. The fleet was destroyed in an hour. Jonathan Spence reports that the Chinese navy lost 572 dead, while the French lost five. In 1895 the Qing Dynasty thought it was strong enough to oppose the Japanese extension of their sphere of influence to Korea. It was wrong. The Treaty of Shimonoseki added Taiwan, Korea, and southern Manchuria to Japan's sphere of influence. European and American mercenaries, concessionaires, merchants and manufacturers went where they wanted, did what they wanted, and enforced whatever laws they thought were good.

In the late nineteenth and early twentieth centuries, in the last years of the Qing empire and the first years of the Republic of China, economic growth and development took place around China's coastal fringes in and near foreign enclaves, but not elsewhere. In 1929 China produced 20K tons of steel—less than two ounces per person per year. It produced 400K tons of iron—that's 1.6 pounds per person per year. It mined 27M tons of coal—that's 100 pounds per person per year. Compare this to America's 700 pounds of steel per capita in 1929 or 200 pounds in 1900, or to America's 8000 pounds of coal per capita in 1929 or 5000 pounds of coal per capita in 1900.

China specialists see and can almost touch an alternative history in which late-nineteenth century China managed to match the political and economic achievements of Meiji Japan. They see an alternative in which China stood up economically, politically, and organizationally. Japan, after all, won its short victorious war against Russia in 1905, negotiated as an equal with Britain and the U.S. over warship construction in 1921, and

17

was perhaps the eighth industrial power in the world by 1929. Why couldn't China have done the same?

Jonathan Spence, for example, praises the nineteenth century: Confucian statesmen [like Li Hongzhang] whose skill, integrity, and tenacity helped suppress the [Taiping and other] rebellions... showed how imaginatively the Chinese could respond to new challenges... managed to develop new structures to handle foreign relations and collect customs dues, to build modern ships and weapons, and to start teaching international law and the rudiments of modern science.... It was true that there remained complex problems... rural militarization... local autonomy over taxation... landlord abuses... bureaucratic corruption... bellicose foreign powers.... But with forceful imperial leadership and a resolute Grand Council, it appeared that the Qing Dynasty might regain some of its former strength...

And he laments that: forceful leadership was not forthcoming... the empress dowager Cixi... coregent for her son Tongzhi from 1861-73... coregent for her nephew Guangxu from 1875-89.... [A]bsolute political authority... while Guangxu [was imprisoned in the palace]... on her orders from 18981908.... Cixi had clashed badly in 1869 with Prince Gong.... Zeng Guofan died in 1872... Wenxiang died in 1876... Zuo Zongtang remained preoccupied with the pacification of the Muslims in [Xinjiang].... The grand councilors... worthy... with distinguished careers... lacked the skill or initiative to direct China on a new course.

Although self-strengthening programs continued to be implemented... a disproportionate number of them were initiated by one man, Li Hongzhang... governor-general of Hebei... commissioner of trade for the northern ports...

We economists are more skeptical. We note that the "new structures to... collect customs dues" consisted of things like the Qing Imperial Maritime Customs Service built up in the 1860s under Robert Hart窶馬o Chinese officials allowed. We note that the enormous bureaucracies that allegedly managed the Yellow River dike works and the Grand Canal had grown corrupt and incompetent. We note that the Qing could not get their local officials to collect the salt tax. We do not find it satisfactory to attribute

18

China's stagnation through the first decade of the twentieth century to poor choice of ministers by the dowager empress Cixi—even though Spence is following in a long tradition that treats her as the original mold for the figure of the Dragon Lady.

Let's go back to Jonathan Spence's observation that "a disproportionate number" of self-strengthening attempts to adapt and use modern technologies were due to "Li Hongzhang... governor-general of Hebei... commissioner of trade for the northern ports..." Li Hongzhang's achievements were indeed impressive: the 1877 Kaiping coal mine, in 1878 cotton mills in Shanghai, the Tianjin arsenal, the telegraph between Tianjin and Peking, a seven-mile railroad to ship from Kaiping to the river and then downriver to Tianjin, and so forth. And what wasn't undertaken

by Li Hongzhang appears likely to have been undertaken by Zhang Zhidong, governor-general of Hunan-Hubei for two decades: the railroad from Hankou to Beijing, the Wuhan Han-Ye-Ping heavy industrial complex. In the last generation of the Qing empire, individual governorsgeneral who made economic development a top priority could make some things happen—elsewhere it didn't, save to some degree in and next to the foreign concessions and treaty ports: Qingdao, Tientsin, Shanghai, Guangdong, Hong Kong.

Return to the puzzle of why industrialization did not spread much more rapidly in the years before World War I. After all, the example of the industrial core seemed easy to follow. Inventing the technologies of the original industrial revolution—steam power, spinning mills, automatic looms, iron- and steel-making, and railroad-building—had required many independent strokes of genius. But copying the technologies did not, especially when you could buy and cheaply ship industrial capital goods made in the same New and Old England machine shops that supplied the industries of England and of America. If Ford could redesign production immediately after World war I so that semi-skilled assembly line workers could do what highly-skilled craftsmen used to do, why couldn't Ford also—or someone else—redesign production before World War I so that it could be carried out by low wage Peruvians or Poles or Kenyans rather

19

than by Americans, who were extraordinarily expensive labor by world standards eve back then?

Industries do migrate, but they have done so surprisingly slowly in the twentieth century. Let's take a look at one attempt at indudtrial migrtation in some detail: the first attempt to build a modern industry in China—the Kaiping coal mine. We are lucky in that we can draw on Ellsworth Carlson's 1957 Harvard east asian monograph to understand how and to what extent Li Hongzhang could midwife modern coal-mining technology in late-nineteenth century China.

In 1877 Li Hongzhang—a senior scholar-landlord-bureaucrat high in the confidence of the Qing court—joined forces with Tang Tingshu—a prominent, experienced, and wealthy treaty port comprador-merchant who had managed Jardine, Matheson's interests along the Yangtze—to establish a modern, industrial, large-scale coal mine in Kaiping, in Chihli.

Li Hongzhang and Tang Tingshu faced unusual forms of opposition to their mining plans. Carlson quotes a British cable of 1882 stating that mining work had been stopped because Chi Shihchang, a vice-president of the Board of Civil Offices, had declared that "foreign mining methods angered the earth dragon... [and so] the late empress could not rest quietly in her grave" sixty miles away from Kaiping: The Governor-General [Li Hongzhang] has been ordered to make inquiry and report... work has partially ceased.... Either he must throw over a company... formed with his direct sanction... [and] a very large quantity of capital, or he must... declare the mines harmless with the knowledge that he will then be considered responsible for any bodily ailment or other ill which may befall the Emperor or his family...

Tang Tingshu had originally proposed to build a steam railway to get the coal from the mines to the port of Tientsin, but dropped that idea and replace it with a proposal for a seven mile mule-drawn tramway to be connected to a twenty-one mile canal. Shen Pao-chen had in 1877 dismantled China's first railway—the Shanghai-Woosung. According to David Pong, Li Hongzhang was furious, blaming the destruction on Shen's narrow-mindedness and his desire to curry favor with anti-foreign

20

elements. Moreover, the Manchu court had just rejected Liu Mingchuan's request for permission to build railways. When the mining began and the tramway started up, however, there were no mules: there was a locomotive—the "Rocket of China" with, engineer Claude Kinder reported, a boiler from "a portable winding engine, the wheels had been purchased as scrap castings, the frames... made of cast iron." Ellsworth Carlson believes that Li Hongzhang and Tang Tingshu were able to get their steam railroad going because of three reasons. First, it was built in a remote and sparsely populated area with no Confucian scholar-landlordbureaucrats around. Second, Li Hongzhang used all his political skills to keep the existence of the steam railroad. Third, Carlson believes that Li had the blessing of the empress dowager Cixi to proceed—and thus her protection from his superiors on the Grand Council and elsewhere.

Tang Tingshu and Li Hongzhang persevered. Production began with modern machinery in 1881 excavating coal seems about ten feet in diameter 200, 300 and 500 feet down. 200 tons of coal a day were excavated by 1883. By 1889, 3000 workers in three shifts were producing was 700 tons of coal a day, nearly 500 pounds per worker per day, using steam lifts underground coal cars on rails, and pneumatic drills—but still only two pounds a year for every person in China. At the end of 1888 a railway to carry the coal from Kaiping down to Taku was finally opened.

But it could not be extended to Tientsin. As chief engineer Claude Kinder wrote: high officials who detested the railway... foster[ed] trouble with the junk people.... So great was the clamor... that the Viceroy... gave the order for the nearly completed bridge [over the Peiho to Tientsin] to be destroyed, although hundreds of the largest junks had already safely passed through...

Starting in 1889 the company began paying dividends: annual dividends amounted to 10 to 12% on the company's equity capital of 1.5M taels—about £150,000 pounds, or $750,000 dollars of the time. The mine had 3000 workers in 1889, and 9000 in 1900, paid about $6 a month (with the highest-paid Chinese-born technical employees earning some $60).

About four miners died each year. As Herbert Hoover reported to his

21

bosses at Bewick, Moreing: "The disregard for human life permits cheap mining by economy in timber [supports].... The aggrieved relatives are amply compensated by... $30 per man.... cases have been proved of suicide for that amount..." Hoover's judgment was that the miners were producing 1/4 to 1/8 of what was expected of miners in America or Australia. By 1912 Kaiping was producing 1.4M tons of coal a year—seven pounds for each person in China—and accounted for perhaps 20% of China's total coal production.

Without the aegis of Li Hongzhang and his position as governor, the enterprise is unlikely to have survived. Ellsworth Carswell quotes Tang Shouchien on the difficulties that merchants and entrepreneurs had outside the coastal foreign concessions: "The officials have rights; the merchants have no rights; their influence does not go beyond the bringing together of capital; and naturally the profits of the merchants are lost to the officials ceaselessly..." Even with his aegis, not everything went smoothly.

Carswell quotes the North China Herald of June 24, 1887 as pessimistic about the future of Kaiping as a capitalist economic enterprise: "if a mine is at a promising state, Kaiping to wit, the kinsmen of the Director, Managers, and officials, come in shoals, and without the slightest regard to competence are provided with posts and fatten..." But as long as Li Hongzhang was in control and his attention was focused on making the mine a successful economic enterprise, Tang Tingshu, his team, and his specialist foreign engineers could do their work. Their position, however, was shaky, for the mine was both a public governmental project and a private capitalist enterprise: shang-pan kuan-tu: official supervision and merchant management. This meant that each manager of the mine wore two hats: on the one hand, they were intendants in the Qing administrative bureaucracy with jurisdiction not over a town and its villages but over a mining enterprise, and on the other hand they were employees of the shareholders. Should push come to shove, it would turn out that they worked for the governor of Chihli rather than the shareholders of the company.

Mine director-general Tang Tingshu died in 1892. His successor was a very different man. Tang Tingshu was a merchant. Chang Yenmao was a

22

bannerman—a hereditary retainer of Prince Qun. Tang Tingshu was a merchant who had worked extensively for British bosses. Chang Yenmao was a retainer and fixer. He had little education. In spite of his lack of literary attainment, he somehow acquired official rank, played on his connections with the empress dowager Cixi, and was slotted to become an intendant in Kaingsu when the director-generalship of Kaiping fell vacant.

In The Making of Herbert Hoover, Rose Wilder Lane, claims that Chang Yenmao played a key role in Cixi's coup of 1885 when she placed the Gwangxu emperor on the throne.

By 1900 Chang Yenmao—once a poor bannerman and retainer—was one of the wealthiest men in Tientsin. When Herbert Hoover looked at the books of Taiping in 1901, he reported that the 9000-worker payroll had been padded by 6000 names, and that the director of personnel doing the padding and collecting the wages had paid Chang Yenmao $50,000 for the post. Chang Yenmao's company paid £20000—$100000—a year in dividends. After Herbert Hoover took over as director-general in 1901, he was able to pay out £150,000—$750,000—a year.

Herbert Hoover? you say. Yes, Herbert Hoover: at the time a 26 year old mining engineer on the make, later to become the architect of food relief to Europe after World War I to prevent mass starvation, the wonderworking Commerce Secretary during the Roaring Twenties, and president during the slide into the Great Depression.

What happened was this: Herbert Hoover, mining expert, arrived in Tientsin in 1900 just in time to be besieged in the city by the Boxers (a better translation for this grassroots uprising influenced and encouraged but not controlled by the Forbidden City would have been "Fighters United for Justice"). In Tientsin Hoover met Gustav Detring of the China Maritime Customs Service, a friend of Chang Yenmao's. He also met Chang Yenmao. Chang had fled to Tientsin as well, fearing that the Boxers would execute him as a corrupt puppet of the Europeans; in Tientsin, however, the Europeans arrested Chang—fearing, probably correctly, that he was passing intelligence to the besieging Boxer armies as

23

a way of hedging his bets. The British charge d'affaires on the scene later said that Chang "ought to have been shot in 1900."

Somehow Detring and Hoover, probably, got Chang released from prison.

Somehow Chang decided to reincorporate the Kaiping mines as a Britishflag enterprise incorporated in London in order, he said, to make it easier to raise capital to expand the mines and to provide some political cover: Russian or Japanese proconsuls would love to confiscate a working Chinese-flag industrial property as reparations or indemnities, but would not dare touch a British-flag industrial property. Chang commissioned Detring and then Detring and Chang commissioned Hoover and then Hoover commissioned his boss C. Algernon Moreing back in London to do the deal.

The old company had owned the mine works, had little spare cash, and had owed £250,000—$1.25M—in bonds that paid 12% per year interest.

When the dust cleared, the new company owned the mine works, had about £250,000 in free cash, and owed £500,000 in bonds that paid 6% per year interest. When the dust cleared, the shareholders of the old company found that they owned 37.5% of the new company, and that C. Algernon Moreing and his friends owned 62.5% of the new company without having contributed more than a few cents to the enterprise. The old company had been controlled completely by Chang Yenmao in his dual status as director-general both elected by the shareholders and appointed by the governor of Chihli. The new company was controlled completely by Herbert Hoover as the representative on the spot of the London majority shareholders. The old company had a management and advanced technical staff of 620 Chinese managers and 10 foreign-born engineers and foremen. The new company had a management and advanced technical staff of 170: 120 from china and 50 from abroad. The new company also had a Europeans-only club.

Charge d'affaires Townley was disgusted. He wrote to Britain's foreign secretary, Lord Salisbury, recommending against the British government's "giv[ing] its countenance to a financial transaction which had fleeced Chinese shareholders and lined the pockets of an Anglo-Belgian gang....

24

Moreing and others have made a pretty pile at the expense of the Chinese.... legally the Board of Directors were unassailable... but... morally they were in the wrong." Others were upset as well—especially Detring and Chang Yenmao. Townley's interpretation was that they were "wild... [because] they thought themselves rather smarter... and got themselves fairly had by a Yankee man of straw [Hoover] acting for Moreing..."

We have a pretty good idea of what Algernon Moreing and Herbert Hoover would have said if they could have been gotten to speak truthfully about the transaction. First, they would have said, if we had not done the deal then the Russians would have confiscated the mine in 1901 as reparations: we brought the British flag's protection to the table, and that is easily worth 62.5% of the company. We gave the original-company shareholders 37.5%, while the Russians would have given them zero.

Second, they would have said, Chang Yenmao was a corrupt thief stealing from the company and untouchable because of the protection of the governor of Chihli. 6000 extra workers at $50 a year is $300,000 a year, at least, stolen from the company. Third, they would have said, Chang Yenmao is neither a mining engineer nor a merchant. Herbert Hoover is both, and can make the mine run. 37.5% of the $750,000 a year in dividends that the new company paid is about $270,000—almost three times the $100,000 the old company paid. We did the original shareholders three big favors, they would have said, and 62.5% of the company is a bargain for all we have done.

Chang Yenmao was displeased. He had to explain to the new governor of Chihli, the formidable Yuan Shihkai, why the Imperial flag was not being flown over the mine, which meant that he had to admit that he had conspired or western sharpies had tricked him or something had happened by which the Kaiping mines were now the property of a British-Belgian investors' syndicate. Yuan Shihkai was then displeased: Although Kaiping had sold commercial shares, it was not a private property that could be bought or sold by people like Chang and Hoover.

25

The mines had not been started... [until] Li Hongzhang had... obtained imperial approval... they could not be alienated without imperial approval.... Chang, said Yuan, was a person of humble origins to whom the country had given great favors, but he had not been properly grateful... [had sold] mining land [to foreigners] without authority... deceived the throne... about Chinese-foreign joint management.... If unpunished, Chang's action might become a precedent... losses of the country's mines, the merchant's capital, and the dynasty's ports...

It turned out that in the process of browbeating Chang Yenmao, Herbert Hoover had signed a "Memorandum of Understanding" that the change of corporate form would not alter Chang Yenmao's status: that he would remain director-general of the mine "as before." Chang Yenmao, ordered to recover the mines, went to London and sued. One British judge was shocked at the deception and dishonor, and ruled that the "Memorandum" was a valid instrument that had to be followed by the new company. Other British judges in London ruled that the "Memorandum" was a valid instrument only insofar as the powers granted Chang by the memorandum were legal according to British corporate law, but that those powers weren't. In the end Yuan Shihkai started up another coal company with rights to much more extensive deposits in the area, and the two were amicably merged. Later on, Herbert Hoover scrambled as he launched his political career to buy up and destroy all copies of the trial record containing his testimony—missing the one in Oxford's Bodleian Library.

As Albert Feuerworker summed up the story of Kaiping in the 1959 Journal of Asian Studies: Despite its pioneering achievements, Kaiping faltered... [like] other kuan-tu shang-pan enterprises in the late nineteenth century. The first was the lack of sufficient capital and the inability to raise more from domestic sources. The second was the unpropitious political environment into which it was born. Little aid could be expected from the tottering Manchu regime either in the form of financial assistance to compensate for the reluctance of private investors, or protection from foreign encroachment such as eventuated in British domination of this enterprise.... [T]he contrast with the history of early industrial efforts in Meiji Japan is a striking one...

26

Feuerworker sees three things going wrong: no private capital, a poor cash-strapped government that could not contribute public capital, and a weak government that could not protect incipient enterprises against rapacious foreigners. These three were certainly important, yes, but I see three others that were even more important: A social-economic structure that could not find and promote executives, but instead replaced Tang Tingshu with a corrupt political fixer like Chang Yenmao.

A political-ritual culture that required that a modernizing governor focus his attention constantly on the enterprise and run interference to protect it from anti-modernizers An educational system that continued to turn out literati instead of engineers and thus required foreign technical personnel for everything.

The fact is that, outside the charmed circles created by the extraterritorial foreign concessions, and to a slight degree the immediate span of control of the few modernizing governors, modern industries did not develop and modern technologies were simply not applied in late imperial China. The typical Qing bureaucrat was hostile. But the typical Qing bureaucrat was also interested. There was rough equilibrium in how much money Qing bureaucrats were expected to squeeze from landlords (not that much), merchants and traders (significant but limited), and others who needed government action (as much as they could grab). New people doing new things had no customary, social, or countervailing power protections against their overlords. And overlords with limited intelligence, limited types of experience, and limited official tenure could not be expected to nurture economic growth when there were loose assets to be stripped.

And, as the shareholders of Kaiping and Chang Yenmao discovered, to flee into the arms of foreign legal systems was to flee from Scylla to Charybdis.

The loss of the Japanese-Chinese War in 1895 brought matters to a head: was the government going to make a more serious effort to mobilize the

27

country for modernization and progress or not? The Guangxu emperor said yes: he allied himself with reformer Kang Youwei and launched the "hundred days of reform" of 1898. The dowager empress Cixi—who we have seen before as patron and protector of modernizer Li Hongzhang—said no. she imprisoned the emperor inside the palace and encouraged the grassroots "Fighters United for Justice" to see what would happen. The attempt to mobilize anti-European sentiment to support the conservative regime failed, as an all-European expeditionary force relieved the beseiged European embassies in Beijing, exacted indemnities, and wreaked destruction. A tack back to the left was not possible. Kang Youwei's memoranda on such things as the partition of weak-government poland by Russia, Prussia, and Austria and on the successful Meiji reforms in Japan could still be read, but Cixi had executed Kang Youwei's younger brother and other reformers in 1898. And when Sun Yatsen had offered his services to Li Hongzhang in 1894, Li had sent him away.

Sun Yatsen built up a financial and propaganda network among Chinese emigrants beyond the reach of the government. Military politicians like Yuan Shihkai came to the conclusion that working with the Manchu court was useless. And at the beginning of 1912 the last Chinese imperial dynasty fell, as Yuan Shihkai and his peers refused to suppress Sun Yatsen's rebellions. The six-year-old emperor abdicated. But the new Chinese republic's president was military politician Yuan Shihkai. And his authority over his peers and near peers—army commanders, provincial governors, and other would-be warlords—was nil. China descended into near-anarchy.

9.3.3: Japanʼs Success: The Meiji “Restoration” In the early seventeenth century the Tokugawa clan of samurai decisively defeated its opponents at the battle of Sekigahara, and won effective control over Japan. Tokugawa Ieyasu petitioned the—secluded—PriestEmperor to grant him the title of Shogun, the Priest-Emperor's viceroy in all civil and military matters. From its capital, Edo—now Tokyo—the Tokugawa Shogunate ruled Japan for two and a half centuries.

28

Early in the seventeenth century the Tokugawa Shogunate took a look to the south, at the Philippines. Only a century before, the Philippines had been independent kingdoms. Then the Europeans landed. Merchants had been followed by missionaries. Converts had proved an effective base of popular support for European influence. Missionaries had been followed by soldiers. And by 1600 Spain ruled the Philippines. The Tokugawa Shogunate was confident that it could control its potential rivals and subjects in Jpan. It was not confident that it could resist the technology, military, and religious power of the Europeans. he country was closed: trade restricted to a very small number of ships allowed access to the port of Nagasaki only, Japanese subjects returning from abroad were executed, foreigners discovered outside of their restricted zone were executed, and Christianity was suppressed. The Tokugawa Shoguns did adopt one more foreign practice: crucifixion—which they saw as a fitting punishment for those who refused to abjure the foreign religion of Christianity. For two and a half centuries the Tokugawa ruled a largely peaceful Japan.

Population few. Rice-growing productivity increased. The arts and crafts flourished. rade flourished. The military skills of the samurai warrior class atrophied, Japan's technology fell further and further behind tht of Europe, but the country did not become a European colony.

In 1851 the President of the United States commissioned Commodore Perry to open relations with Japan. American warships enter Tokyo Bay in 1853. There argument for why the Tokugawa Shogunate should change its policy and open up trade was simple: if they did not, the U.S. fleet would burn Tokyo. The Tokugawa Shogunate submitted, and began trying to grasp how to deal with a world in which European powers would no longer permit isolation as an option.

For fifteen years the Tokugawa Shogunate muddled along. Then in 1868 it was overthown by the coup termed the "Meiji restoration." The shogunate was abolished. Theoretically, at least, the Priest- Emperor Meiji resumed the direct rule that his ancestors had turned over to the first Shoguns more than a thousand years before—hence "restoration." In fact Japan was ruled by a shifting coalition of notables interested in absorbing European technology while maintaining Japanese civilization and independence:

29

"western learning with Japanese spirit" in the interest of creating a "rich country with a strong army."

The Priest-Emperors with their imperial court moved to Tokyo, took over the palace of the Tokugawa Shguns, and changed the name of Edo to Tokyo—"the Eastern Capital." There followed the rapid adoption of western organization: prefects, bureaucratic jobs, newspapers, an education ministry, military conscription, railways, and the Gregorian calendar were all in place by 1873. The samurai class's right to receive rents from the peasanst were transformed into bonds—debt owed by the central government. Within a generation inflation had expropriated the samurai. Representative local government was in place by 1879, and a bicameral parliament (with a newly-created peerage) was in place by 1889.

Even as early as 1876 Japan was flexing its muscles as a junior colonial power by putting pressure on Korea. A successful war with China in 1895 made Korea a Japanese protectorate. In 1899 the Japanese government abolished extra-territoriality—the immunity of Europeans from Japanese justice and law. Japan allied with Britain, seeking the role of Britain's viceroy in the North Pacific, in 1902. Disputes with Russia over spheres of influence in Manchuria led to the Russo-Japanese War in 1905. The Japanese were eager to escalate to test their armed forces; the Russians were eager to escalate as well, Czarist ministers believing that a "short victorious war" would solidify support for the Czar. The Japanese won decisively, bringing Manchuria into their sphere of influence. Formal annexation of Korea followed in 1910. And Japan's declaration of war against Germany in World War I brought it rule over all Pacific islands that had been German colonies.

9.4: International Migration The fall in the price of carrying goods across oceans carried with it a fall in the cost of carrying people across oceans as well. And people did move.

International migration has played a signi?cant role in raising and

30

beginning to equalize material wealth over the past century. Those presently living in Ireland are, compared to Great Britain and the United States, relatively poor. But the descendants of those who lived in Ireland at the start of the nineteenth century are, today, one of the richest groups in the world: less than half of the descendants of the Irish of 1800 live in Ireland today; instead, they are spread throughout America, Britain, and Australia, and they have prospered.

The half century before 1925 saw perhaps one hundred million people moved from one continent to another in search of a better life. About ?fty million left Europe, largely eastern and southern Europe, for Australia, and the Americas. Perhaps ?fty million (although we are not really sure) left China, India, and other Asian countries for destinations in the Americas, in lands surrounding the South China Sea, and in east Africa.

Peru in the late twentieth century could have a President surnamed Fujimori. The author V.S. Naipaul was born not in India but in the Caribbean. The redwood forests of northern California contain shrines to the boddhisatva Guan-Yin. Tension between descendants of peoples whose ancestors had resided in the areas for somewhat longer (after all, ultimately all humans are indigenous to Africa) and descendants of migrants from China and India has dominated the politics of many countries in the twentieth century. And since World War I migration has been tightly restricted by national governments, and population flows have been much smaller as proportions of the total world population.

But the roughly one hundred million migrants of 1870-1925 made up onetenth of the world’s population in 1870. Because the migration stream contained relatively few children and few old people, the 1870-1925 intercontinental migration stream amounted to perhaps one one out of every seven people of working age.

Even before 1925, there were substantial restrictions on the migration of Asians to areas that Europeans considered "their" province of settlement.

One of the most popular causes in late nineteenth century America was the

31

restriction of immigration from China and Japan. Railroad barons wished to continue the expansion of the Asian-born population in America.

Workers and populists wanted the Chinese, Japanese, and (Asian) Indians kept out of California and on the other side of the Paci?c. The plutocrats like Leland Stanford (the railroad baron and governor of California who founded and endowed Stanford University in memory of his son) favored immigration; the populists favored exclusion–and "Chinaman go home."

By and large, the populists won. Asian immigrants were largely kept out of what Arthur Lewis calls the “temperate countries of European settlement”–the United States, Canada, Argentina, Chile, Uruguay, Australia, and New Zealand. The flow of migrants out of China and India was directed elsewhere, to the tea plantations of Ceylon or the rubber plantations of Malaysia. Arthur Lewis believes that this redirection of the migration stream had enormous consequences for the distribution of income in the twentieth century world. Europe had escaped the Malthusian trap of low living standards and populations high relative to agricultural resources and technology at perhaps the end of the eighteenth century. The availability of resource-rich settlement areas like Canada and Argentina with Europe-like climates provided a further boost to European living standards: industrializing European countries at the turn of the twentieth century found their land/labor and capital/labor ratios, and thus their productivity levels and living standards, rising as migrants left for America.

India and China, through ill-luck and bad government, had not escaped the Malthusian regime. Technology had advanced: the population of China in the late nineteenth century was some three times what it had been at the start of the second millennium, and living standards were no (or not much) lower. But improvements in productive potential had been absorbed in rising populations, and not in rising living standards.

So potential migrants from China and India were willing to move for what seemed to Europeans to be starvation wages.

32

Thus the large populations and low levels of material wealth and agricultural productivity in China and India put downward pressure on wages in any of the areas–Malaysia, Indonesia, the Caribbean, or east Africa–open to the Asian migration stream. Workers could be cheaply imported and employed at wages little above the physical subsistence level. These workers would be very happy with their jobs: their opportunities and living standards in Malaysian or African plantations would be far above what they could expect if they returned to India or China.

Low wage costs meant that commodities produced in countries open to Asian immigration were cheap. And competition from the Malaysian rubber plantations pushed down wages in the Brazilian rubber plantations as well. The late nineteenth century saw living standards and wage rates become and remain low (although higher than in China and India) throughout the regions that were to come to be called the third world.

Conversely, the restriction of migration to temperate latitudes to European natives meant that the prices of temperate agricultural commodities–like wheat, beef, and wool–would be relatively high because wages had to be high enough to lure Europeans, with agricultural productivity levels three or four times those of China or India, off the farm and across the ocean.

Save for cotton (grown by African-American sharecroppers living at standards closer to physical subsistence than the rest of America cared to know about or cares to remember), temperate economies simply did not produce any of the commodities that could be produced in regions open to Asian migration: they could not compete. Instead, the temperate settler economies concentrated on the resource- and technology-intensive agricultural and mineral products that could nnot be produced closer to the equator.

The politically-set pattern of migration ensured that one set of countries would be relatively rich, and another set relatively poor, as of the beginning of World War I. Since 1900 destinies have diverged further. In most vicious and virtuous circles have acted to push them further toward the nearest edge of the world’s relative income distribution. But some

33

have followed aberrant and surprising trajectories through the world income distribution. The countries in the southern half of South America were first world nations in 1900. They are not so today. Japan, with in 1900 a relatively poor developing economy, is now one of the leading industrial powers.

It is impossible to determine what the world would be like if there had not been substantial restrictions on poor people–Asians–moving to rich countries–Europe and its overeas settler colonies–throughout the twentieth century. California would certainly be very, very different if migration from Asia had been allowed to continue up until the general restrictions on all immigration were imposed in the mid-1920s.

It might have been easier for poor people to move to rich economies than it has proven to be to transfer the political institutions and economic technologies from rich to poor economies in the twentieth century. If so, the world would today be a more equal and a richer place if not for the white Australia and analogous policies of the pre-World War I era, and for the tight restrictions on all kinds of immigration imposed from the 1920's on.

Alternatively, the institutions of political democracy and the capitalist economy in the rich settler countries might have collapsed under the strain of coping with more massive immigration flows, and the resulting increased degree of internal inequality–or so has always been the argument of those favoring immigration restrictions.

9.5: The First Global Economy: The Gold Standard From practically any point of view, the global economy functioned remarkably smoothly in the decades before World War I. Very large shifts in international investment patterns, in migration, and in trade and comparative advantage were carried out with remarkably little structural disruption. Business cycles, which we would expect to have been much

34

larger than in our day given the lack then of all the stabilizing institutions and policy rules of thumb, were in fact not all that much larger than they have been in recent times.4 The—unplanned, semi-automatic, barely-managed—system that kept the pre-World War I global economy’s pattern of adjustment less disruptive than it might have been was the gold standard. Yet the gold standard was not a purely economic mechanism. It had strong cultural and political elements as well. Most of all, the gold standard was a historically specific and fortuitous combination of institutions and patterns of behavior.

Attempts to resurrect it in the 1920s proved disastrous, and were among the principal causes of the worst economic disaster of this century: the Great Depression. Outside of its—pre World War I—historical context, the gold standard simply does not seem to work.5

9.5.1: The Theory of the Gold Standard What made the upward leap in international trade, the creation of an integrated world economy—a world economy where for the first time trade was not confined to luxuries and intoxicants but extended to staples and necessities—possible in the years before World War I? Falling costs of ocean transportation was one major necessary factor. But there was a second: the development and extension of that international political and economic order called the gold standard.6 The gold standard was in its origins a very simple thing: governments and central banks all over the world declared that their currencies were as good as gold-show up with £100 note, or a $100 bill, at the British Bank of England or the U.S. Treasury and the man behind the counter would give you a specified, fixed, unchanging quantity of gold: about 4.5 (troy) ounces in the case of the $100 bill, and about 22 (troy) ounces in the case of the £100 pound note.

Why did this matter?

35

It mattered because as long as the gold standard stood entrepreneurs could make their plans for and build their factories engaged in international trade without having to worry about what we today call foreign exchange risk.7 Consider the plight of an American manufacturer deciding in 1980—when one British pound sterling sells for $2.32—to compete with British producers by exporting to London; spending the early 1980s building factories to expand capacity, and then finding in 1985 that one pound sterling sells not for $2.32 but for $1.30 on the foreign exchange market.

The simple movement in exchange rates since 1980 has raised the manufacturer’s costs relative to those of British competitors by 80 percent.

You can bet that a very large number of productive operations and markets that looked profitable to American businesses in 1980 no longer looked profitable in 1985.

Figure 9.5: The Dollar-Pound Exchange Rate, 1971-2009

This is foreign exchange risk: the risk that governments following sensible or nonsensical policies or international currency speculators responding to their own “animal spirits” will cause exchange rates to shift in a way that destroys a particular line of trade or bankrupts importers and exporters.

This foreign exchange risk is in large part avoided under a gold standard.

36

And this near-absence of foreign exchange risk was one powerful factor driving the expansion of international trade and finance in the years before World War I.8 It is important to recognize that the gold standard was not the result of any rational design process, undertaken by Wise Men who sought to minimize international foreign exchange risk. The ideas that justify the gold standard—the recognition of its logic and advantages as a system—all come from well-after its founding, from times near its close, when some Wise Men sought to defend the gold standard against its critics and others tried to determine what characteristics a better alternative international monetary system would have. 9 The gold standard grew because each country’s choice of its monetary arrangements was heavily influenced by what other countries were doing, both beause of economic interdependence and because of ideological interdependence. As Barry Eichengreen writes: In fact, monetary arrangements established by international negotiation are the exception, not the rule. More commonly, such arrangements have arisen spontaneously out of the pragmatic choices of countries constrained by the prior decisions of their neighbors and, generally, by the inheritance of history… 10

As a result, an event that was essentially chance—the British adoption of the gold standard early in the eighteenth century 11—could put the world economy on a different path than it might well have otherwise followed. 12

9.5.2: The Growth of the Pre-World War I Gold Standard The pre-World War I gold standard was not invented. It just grew. Its growth accelerated in the 1870s when Germany joined Britain in defining its currency primarily in terms of gold.13 Increased German demand for gold pushed up its price; increased American mining of silver pushed down its price. Countries that had long tried to keep both gold and silver coins legal tender found their gold reserves falling, as people would buy

37

cheap silver on the world market, exchange it for currency, and then bring the currency into the Treasury for gold.

Figure 9.6: Silver and Gold

By the end of the 1870s nearly the whole world was on the gold standard.14 International monetary arrangements—their patterns of crystalization, breakdown, and reform—are one of the clearest examples we have of path dependence: of situations in which it is the historical development of the economy, and not some long-run time-independent position of equilibrium, that determines how things happen.15 How did the gold standard reduce foreign exchange risk—and close to eliminate the risk that a country would embark on a policy of inflation that would endanger established wealth? In its idealized form, the gold standard carried out these tasks by virtue of its working as an automatic equilibrating mechanism.

38

If ever a central bank or a Treasury printed “too many” banknotes under a gold standard, the first thing that would happen—in the theory of the gold standard, at any rate—would be that those excess bank notes would be returned to the Treasury by individuals demanding gold in exchange. Thus each country’s domestic supply of money was linked directly to its domestic reserves of gold.

Suppose a country under the gold standard ran a trade deficit in excess of foreigners’ desired investments. It, too, would find those who had sold goods to its citizens lining up outside the Treasury looking to exchange banknotes for gold. And these foreign suppliers of imports would then ship the gold back to their countries. The money stock at home would fall as gold reserves fell. And with a falling money stock would come falling prices, falling production, and falling demand for imports.

So balance of payments equilibrium would be restored, and countries' price levels kept in roughly appropriate competitive alignment, by the gold standard as sources of disequilibrium were removed by shipments of gold, or threatened shipments of gold, that raised and lowered nations’ reserves.

Monetary authorities would find themselves restrained from pursuing over-inflationary policies by fears of the gold drains that would result.

And since central bankers in every country were all working under the same gold standard system, they would all find their policies in rough harmony without explicit meetings of G-7 finance ministers or explicit international policy coordination.16 That exchange rates were stable under the pre-World War I gold standard is indisputible. Devaluations were few among the industrial powers, and rare. Exchange rate risk was rarely a factor in economic decisions. But the gold standard had drawbacks, some of which are implicit in its theory of operation and others of which arise because of deviations between theory and practice.

39

Figure 9.7: Pound-Dollar Exchange Rate since 1790

9.5.3: The Pre-World War I Gold Standard in Practice In practice the gold standard worked somewhat differently than its theory.

First, commitment to the gold standard was never absolute. Among major economic powers, however, the possibility that a country might someday abandon the gold standard was so close to zero that it had no effect on preWorld War I monetary arrangements except for one country alone: the United States. The United States’ commitment to the gold standard was weak, and as a result between its post-Civil War resumption of hard money17 in 1879 and 1900 it managed to combine all the disadvantages of a deflationary gold standard with all the disadvantages of monetary uncertainty.

Legally, the United States’ pre-1900 attachment to the gold standard was modified by laws that required the U.S. Treasury to purchase (and coin as legal tender) limited amounts of silver. The so-called “Crime of 1873” had deprived the U.S. of the possibility of free coinage of silver, and both

40

western silver-mining interests and midwestern agricultural interests hoping for lower interest rates were extremely angry. In 1878 and again in 1890 the political establishment attempted to appease the free-silver interests by offering the limited coinage of silver. But the fact that such interests had to be appeased made investors uncertain about the long-term durability of U.S. commitment to the gold standard, and gave the U.S. at leasty a decade of high interest rates and relative economic depression.18 Second, even before World War I flows of gold were too small, the link from quantities of gold to quantities of money too tenuous, and wages and prices too sluggish and unresponsive, and central bank behavior too unrelated to exchange rate pressure19 for the price-specie-flow mechanism that has always been the theory of the gold standard to operate smoothly and transparently.

Barry Eichengreen argues that ultimately the pre-World War I gold standard stabilized itself. It was a self-fulfilling prophecy. Because everyone expected the gold standard to continue, stabilizing speculation by international investors prevented significant pressures from arising, and allowed central banks to maintain their gold parities with only minimal shifts in monetary policy.

Thus the cornerstone of the pre-World War I gold standard was the nearabsolute commitment by the central banks of the leading European powers to ultimately do whatever was necessary in the long run—to raise interest rates, ultimately, as high as was necessary—in order to maintain the convertibility of their currencies into gold. Thus whenever it looked as though fluctuations in a currency might be about to happen, stabilizing speculation took hold. If the value of any one core currency had dropped to the point where it might be profitable to turn that currency into gold at the mint price and ship it out of the country, international investors would conclude that the currency had nowhere to go but up: that investing in it was a highly-profitable one-way bet, and so a wave of capital would flow into the country in expectation of these profits.

41

Thus the exchange rate would strengthen by itself, without central bank action. Central banks could follow their own policies—could avoid following the rules of the game—as long as they did not cast doubt on their long-term commitment to do whatever was necessary in the last instance in order to maintain the gold standard.20 Confidence in long-run stability obviated the need to do much of anything in the short run, and certainly eliminated the need to do anything at all very quickly.

Moreover, each central bank’s potential resources were amplified by those of other central banks. In Britain’s Baring Crisis of 1890, the Bank of France loaned reserves freely so that the British Bank of England could act as a lender of last resort. In 1893 the U.S. Treasury’s gold reserves were bolstered by a syndicate of European banks. In 1898 the Bank of England and the Bank of France used their reserves to stem a financial crisis in Germany. Germany’s Reichsbank and the Bank of France loaned their reserves to the Bank of England in 1906. Large-scale—albeit informal and case-by-case—international macroeconomic policy coordination was thus the rule under the pre-World War I gold standard.

Thus in the industrial core the pre-World War I gold standard functioned very well indeed. It eliminated exchange rate risk. Yet it did not require that central banks shape policy month-by-month and year-by-year with an eye toward the external situation: they could carry out whatever monetary policy they thought was appropriate for the domestic economy, and rely on stabilizing speculation and their long-term commitment to the gold standard to keep them from having to face a conflict between short-run policies that were good for internal balance and short-run policies needed to maintain the gold standard.21 It is important to recognize that this—well functioning pre-World War I—gold standard was a historically-specific institution. The cornerstone of the gold standard was the commitment by all industrial-economy governments and central banks to maintaining convertibility of their currency. The pressure that twentieth-century—democratic—governments would feel to abandon currency convertibility and the stable exchange rate peg in order to boost employment or attain other economic objectives was

42

simply absent. The credibility of the government’s commitment to the gold standard rested on the denial of the franchise to the working class. As long as the right to vote was still limited to middle and upper-class males, those rendered unemployed when the central bank raised is discount rate and tightened monetary policy had little voice in politics. As long as union movements remained relatively weak, the flexibility of wages and prices that would allow the gold-standard system to quickly readjust to equilibrium was present.22 And the gold standard would be stable.

Later on these two preconditions for the functioning of the gold standard would erode, and the gold standard would cease to be a politically and economically-feasible institution.23 After World War I the gold standard would be a disaster waiting to happen.

9.5.4: The Pre-World War I Gold Standard at the Periphery Morever, at the periphery of the world economy the gold standard functioned with markedly less success, and the gap between theory and practice was larger. Primary product-producing economies were subject to large economic shocks as the prices of their exports rose and fell.

Countries at the periphery were also subject to large shocks as British investors’ willingness to loan capital abroad went through its own lessthan-rationally-based cycles. Latin countries were repeated forced off of the gold standard and into devaluation by financial crises.

The reasons for the instability of the gold standard at the periphery were many. A first was the absence of central banks: thus a balance of payments deficit which turned into a gold drain did deflate the economy, and reduce production and employment. Combine such vulnerability to deflation with the fragile financial systems of a frontier—in which many have placed large bets in the hopes of winning fortunes if growth continues—and you have a situation in which the maintenance of the gold standard in a time of adverse pressure is very difficult and potentially painful. Combine this with the vulnerability of primary-product exporting economies to adverse supply shocks, and the liking for devaluation on the part of large landowners with mortgages and exporters seeking greater competitiveness.

43

Is it surprising that the gold standard was unstable at the periphery, and that countries like Argentina, Brazil, Chile, Italy, and Portugal underwent repeated crises and devaluations before World War I? Not only did trade expand under the gold standard, but international capital markets expanded in the years before World War I as well. It became a commonplace for rich people in Europe or North America to have their money invested in far-flung enterprises on other continents.

This outflow of capital from the industrial core to the industrializing, mineral-rich periphery was greatly assisted by the gold standard.

Later, the British economist John Maynard Keynes was to look back on this era of free trade and free capital flows as a golden age: ...for [the middle and upper classes] life offered, at a low cost and with the least trouble, conveniences, comforts, and amenities beyond the compass of the richest and most powerful monarchs of other ages. The inhabitant of London could order by telephone, sipping his morning tea in be, the various products of the whole earth... he could at the same moment and by the same means adventure his wealth in the natural resources and new enterprises of any quarter of the world, and share, without exertion or even trouble, in their prospective fruits and advantages.... He could secure... cheap and comfortable means of transit to any country or climate without passport or other formality....

But, most important of all, he regarded this state of affairs as normal, certain, and permanent, except in the direction of further improvement, and any deviation from it as aberrant, scandalous, and avoidable.24

9.5.5: Informal Empire in Latin America Overseas Investment Certainly free trade, free capital flows, and free migration helped greatly enrich the world in the generations before World War I. And certainly those economies that received inflows of capital before World War I benefitted enormously. Details of overseas investment‌ It is not so clear that the free flow of capital was beneficial to those in the capital-exporting countries. France subsidized the pre-World War I

44

industrialization of Czarist Russia (and the pre-World War I luxury of the court and expansion of the military) by making investments in Russian government and railroad bonds a test of one's French patriotism. A constant of French pre-World War I politics was that someday there would be another war with Germany, during which France would conquer and reannex the provinces of Alsace and Lorraine that Germany had annexed as part of the settlement of the Franco-Prussian War of 1870-71. (And that France had taken from the feeble and oddly-named Holy Roman Empire of the German Nation as part of the settlements of the Thirty Years' War of 1618-48 and the Wars of Louis XIV of 1667-1715.) French military strategy depended on a large, active, allied Russian army in Poland threatening Berlin and forcing Germany to divide its armies while the French marched to the Rhine. Hence boosting the power of the Czar by buying Russian bonds became a test of French patriotism.

But after World War I there was no Czar ruling from Moscow. There was Lenin ruling from Petrograd—subsequently renamed Leningrad—subsequently returned to its original name of St. Petersburg.

And Lenin had no interest at all in repaying creditors from whom money had been borrowed by the Czar.

British investors did better from their overseas investments, but they still did not do very well The year 1914 saw close to 40 percent of Britain's national capital invested overseas. No other country has ever matched Britain's high proportion of savings channeled to other countries. Britain's overseas investments were concentrated in government debt, in infrastructure projects like railroads, streetcars, and utilities, and in securities guaranteed by the local governments.25 However, in the forty years before World War I, British investors in overseas assets earned low returns, ranging as low to perhaps 2% per year in inflation-adjusted pounds on loans to dominion governments. Such returns were far below what presumably could have earned by devoting the same resources to the expansion of domestic industry. British industry in 1914, and British infrastructure, were not as capital intensive as American industry and infrastructure were to become by 1929. It is

45

difficult to argue that Britain's savings could not have found productive uses at home, if only British firms could have been challenged appropriately and managed productively. And the difference in rates of return cannot be attributed to risk: overseas investments were in the last analysis more exposed to risk than were domestic investments.26 But for capital importing countries, like the U.S., Canada, Australia, and others like India and Argentina, the availability of large amounts of British-financed capital to speed development of industry and infrastructure was a godsend. It allowed for earlier construction of railroads and other infrastructure. It allowed for the more rapid development of industry.

Of course, the actual, real-world gold standard did not work as smoothly as the idealizations of economic theorists. But it did provide a stable underpinning to the growth of the world economy in the years before World War I.

9.6: The Pre-World War I Business Cycle 9.6.1: International Transmission of Business Cycles However, there is a negative side to the gold standard. The gold standard was good not only at encouraging international trade expansion and boosting international capital flows, but also at quickly transmitting business cycles and financial panics around the world as fast as the telegraph wire could carry them. So borrowing foreign capital from Britain had costs as well: it tied the borrower’s economy to the financial and employment cycles of Great Britain. “When London sneezes,” the saying went, “Argentina [or Canada, or the U.S.] catches pneumonia.” The much-vaunted self-stabilizing speculation to keep gold standard recessions short and small worked only in the core of key gold standard countries—France, Britain, Germany. Things were very different out on the periphery. And in this case the periphery included practically everybody else.

46

How did this work? Look in some detail at the industrialization of the United States to see how the typical pre-1929 depression had its origin in the gold-standard links with the London-centered world economy.

9.6.2: An Example: The panic of 1873 The years between the Civil War and the 1890s saw the great railway booms. In 1870 and 1871 U.S. railroad construction reached its first postCivil War peak. The number of miles of operated railroad in the U.S., then around 50,000, grew at about twelve percent per year. The construction of 6,000 miles of railroad track each year employed perhaps one-tenth of America’s non-farm paid labor force and half of the production of America’s metal industries.

Figure 9.8: Annual Growth in Railroad Miles in America

Four years later, railroad construction had collapsed. In 1875, railroad mileage grew at only three percent. Railroad construction employed less than three percent of America's non-farm paid labor force, and required

47

perhaps fifteen percent of the production of America's metal industries.

The depression of 1873 had its origins in British investors loss of confidence that American railroads and infrastructure—that day’s equivalent of investments in the Pacific Rim. The largest investment house in the United States—that of Jay Cooke, politically well-connected industrial visionary who financed Abraham Lincoln’s armies—went bankrupt.

Figure 9.9: Pre-WWII Business Cycles

As a result of the collapse of Jay Cooke and Company the City of London sneezed. The U.S. economy caught pneumonia. The share of America's non-agricultural labor force building railroads fell from perhaps one in ten in 1872 to perhaps one in forty by 1877—a perhaps (we do not really

48

know) seven percentage point boost to non-agricultural sector unemployment from this source alone.

Figure 9.10: Guesses at Pre-WWI Unemployment Guesses and Estimates of U.S. Unemployment 14%

12%

10%

8% Romer Estimates Backcast from Okun's Law

6%

4%

2%

0% 1870

1875

1880

1885

1890

1895

1900

1905

1910

Year

Such a wave first of expanded railroad construction as capital flowed in, and then of contraction as capital flowed out must have been difficult to absorb, just as the Mexican recession of 1995 proved very painful. Each wave of railroad building required an expansion of capacity in iron and

49

steel for rails, timber for ties, equipment for locomotives and cars, furniture to equip the cars to carry passengers on the new lines, and most important the redirection of one million workers to railroad construction.

As the wave passed, suppliers and workers would have to find new markets and new jobs. The dislocation generated may well have been extreme and severe. But we know little about how it was accomplished, or about what workers who built railroads in 1871 were doing in 1875. Our knowledge about pre-World War I business cycles is vastly less than we would wish.

It is hard to attribute such spasms of construction to independent disturbances in finance: railroad finance was then more-or-less the sole business of Wall Street. By default such depressions appear to have been driven by waves of optimism about future growth, followed by recognition of overbuilding and contraction until the economy had grown enough that it seemed that shipping by rail was a railroad’s and not a farmer’s market.

9.6.3: The gold standard and pre-World War I business cycles The gold standard appears also in the depression of the 1890s. The possibility that “free silver” might sweep American politics made investors and financiers uneasy. Relative to what they would earn if they kept their cash, investments, and capital in London, a free-silver victory and subsequent devaluation might well have cost them a third of their wealth as measured by the international yardstick of the gold standard.

Perhaps the free-silver movement was powerful enough to cause capital flight, investment shortfall, and depression, but not strong enough to secure devaluation and monetary expansion to reduce the debt burdens of farmers and create a booming labor market for urban workers. The U.S. thus got the worst of both worlds: it suffered the disadvantages of being on the gold standard without reaping the gold standard advantage of keeping financiers confident and investing. Moreover, the panic of 1907 followed a recession in Great Britain. As a result of the recession, the Bank of England raised interest rates to pull gold to London to boost its reserves.

This left the United States short of currency to be paid out to farmers and middlemen during the fall shipment of the harvest to the East. Financial

50

panic followed, and recession followed the financial panic.

How large were these recessions? There is some evidence that recessions back before World War I were larger in relative terms than they have been since. But the evidence is not overwhelming.27 It is, however, very clear that depressions before 1929 were more painful than depressions today. Those who lost their jobs had no welfare state to cushion them. Individual states had sketches of a future welfare system, but such embryonic systems did not have the resources to cope with episodes of widespread unemployment. Extended families, friends, and local benevolent associations provided some support for those who lost their jobs to remain, for the most part, fed and housed. But American cities during depressions at the turn of the century were centers of large-scale poverty and want.

16,446 words: August 26, 2009

51

1

See O’Rourke and Williamson (1998), Globalization and History (Cambridge: MIT Press: ????). Their book is excellent. Their case is strong. Their argument is theoretically impeccable and backed up by powerful general equilibrium reasoning. It is almost convincing.

The problem is that the forces they point to were overwhelmed by other forces in the half-century before World War I: the U.S. and Canada substantially increased their real wage and real productivity edge over Europe in the half-century leading up to World War I, despite large-scale immigration that raised the supply (and presumably lowered the wage) of American labor, and despite large-scale trade that allowed American consumers to substitute imports made with (cheap) European labor for (expensive) labor-intensive America-produced goods. The fact that other forces overwhelmed pressures for factor price equilization makes it unsatisfactory to rely on a Heckscher-Ohlin model that ignores them entirely. Yet we do not know enough to build a convincing alternative model that might generate different predictions of the impact of late nineteenth-century globalization.

For the Heckscher-Ohlin-Vinik model, see Eli Heckscher (1919), “The Effect of Foreign Trade on the Distribution of Income,” Ekonomisk Tidskrift ??, p. 497-512. Maurice Obstfeld and Ken Rogoff (1997), International Macroeconomics.

For other attempts to figure out the implications of late nineteenth-century globalization, see…

2

O’Rourke and Williamson might well say that I have misread their evidence. They would point to very rapid real wage growth in

52

Scandinavia, Italy, and Ireland before 1913 as a sign that trade and migration raise the relative wages of workers in labor-abundant countries.

The point is a good one, but the fact remains that North America increased its per capita GDP and real wage edge vis-à-vis northwest Europe in the years before World War I in spite of rapidly increasing trade and high rates of international migration.

3 See W. Arthur Lewis (1978), The Evolution of the International Economic Order (Princeton: Princeton University Press: ????). What is Lewis relying on?…

4 See Christina Romer (1999), Book (forthcoming).

5 If the last chapter bears the imprint of Jeffrey Williamson, this chapter bears even more strongly the imprint of Barry Eichengreen, who has taught me everything I know about the history of the international monetary system—and who still knows vastly more about it than I do. For his magna operes see Barry Eichengreen (1997), Globalizing Capital: A Short History of the International Monetary System (); and Barry Eichengreen (199?), Golden Fetters: The Gold Standard and the Great Depression ().

6 Where does the name “gold standard” come from?

7 See Paul Krugman, Exchange Rate Flexibility 8 Yet our world has seen steadily expanding world trade even though foreign exchange risk is rampant. Is there something wrong with this traditional argument?

9 See Barry Eichengreen and Marc Flandreau, eds. (1997), The Gold Standard in Theory and History ().

10 Barry Eichengreen (1997), Globalizing Capital.

11 Because the then-Master of the Mint in London, Sir Isaaac Newton, chose a price of silver in terms of gold that was too low. As a result silver coins quickly disappeared from circulation and into either the table settings and tea services of the British gentry or into the trading stock of the East India company.

12 The British decision should not have been decisive given Britain’s relatively small place in the European economy of 1700. It was the fact that Britain’s adoption of the gold standard was followed by Britain’s industrial revolution that made Britain an important trading partner for

53

many countries, and made it attractive to them to try to minimize exchange rate risk by joining Britain on the gold standard.

13 Footnote: Germany’s decision for gold in the aftermath of the FrancoPrussian War. 14 For the transition, see Charles Kindleberger (); Guilio Gallarotti (1995), The Anatomy of an International Monetary Regime: The Classical Gold Standard (Oxford: Oxford University Press); Barry Eichengreen (1997), Globalizing Capital (); Marc Flandreau (1993), “An Essay on the Emergence of the International Gold Standard” (Palo Alto: Stanford University ms.).

15 On path dependence and the international monetary system, see Barry Eichengreen (1997), Globalizing Capital: A Short History of the International Monetary System (). On path dependence more generally, see Paul David ()…

16 See David Hume (), “On the Balance of Trade”. No reason in Hume why adjustment should be painful, or unduly prolonged.

17 The U.S. government had gone on a fiat-money, paper standard in order to help raise the funds to fight its 1861-65 Civil War. Full gold convertibility was not achieved after the war until 1879.

18 See Lawrence Summers (); Robert Barsky and J. Bradford De Long ().

19 In David Hume’s model of the gold standard, an overvalued real exchange rate generates a trade deficit and an outflow of gold. This outflow of gold reduces the economy’s money supply, and so reduces prices and raises the real exchange rate until equilibrium is reattained. But by the end of the nineteenth century the economy’s money supply depended not directly on the monetary stock of gold but on all reserves of high-powered money, and the stock of total reserves of high-powered money was controlled by the central bank. Post-World War I analysts—starting perhaps with John Maynard Keynes in 1925 (according to Eichengreen) talked of how central banks had an obligation to “follow the rules of the game” and take steps to shrink reserves of high-powered money whenever gold flowed out of the country. The problem is that central banks apparently never did “follow the rules of the game.” See Arthur Bloomfield (1959), Monetary Policy Under the International Gold

54

Standard, 1880-1914 (New York: Federal Reserve Bank of New York); David Hume (), “On the Balance of Trade.”

20 As Eichengreen points out, the theory behind such stabilizing speculation—and thus the implication that a central bank credibly committed to the gold standard almost never had to alter policy in a contractionary direction to support its commitment—is the theory devised

by Paul Krugman to explain exchange-rate fluctuations when central banks have set credible target zones. See Paul Krugman (1991), “Target Zones and Exchange Rate Dynamics,” Quarterly Journal of Economics 106: 2 (May), pp. 669-682. In the presence of such stabilizing speculation there is no necessary conflict between a central bank’s responsibilities as a lender of last resort a la Bagehot (see Walter Bagehot (1882), Lombard Street (Lond: Keagan Paul)) and its responsibilities to follow the rules of the gold standard game because it does not have to follow the rules of the game.

21 Footnote on what little we know about the size of European pre-World War I business cycles. Contrast with the United States before 1896.

22 Think on this again. Are unions really big players in wage rigidity?

Probably not. Cite Akerlof, Dickens, and Perry.

23 Barry Eichengreen argues that the gold standard was a disaster waiting to happen as early as the eve of World War I, that even before World War I the preconditions for a stable gold standard had been “heavily compromised by economic and political modernization.” I believe that he is probably too pessimistic.

See Barry Eichengreen (1997), Globalizing Capital: A Short History of the International Monetary System (), where he argues that even before World War I “… the rise of fractional reserve banking had exposed the gold standard’s Achilles’ Heel. Banks that could finance loans with deposits were vulnerable to depositor runs in the event of a loss of confidence. This posed a danger to the financial system and created an argument for lenderof-last-resort intervention by the central bank. The dilemma for central banks and governments became whether to provide only as much credit as was consistent with the gold standard statutes, or to supply the additional liquidity expected of a lender of last resort. That this [pre-World War I]

55

dilemma did not bring the entire gold standard edifice tumbling down was attributable to luck and to political conditions that allowed for international solidarity in times of crisis.”

On my reading “luck” was not particularly good in the generation before World War I, and “political conditio that allowed for international solidarity in times of crisis” was the more important factor.

24 John Maynard Keynes (1920), Economic Consequences of the Peace (London: Macmillan).

25 Footnote to Michael Edelstein.

26 Footnote to Grossman and DeLong 27 Romer debate footnote.

56

57