Theme – Aspects of Globalisation

INTRODUCTION AND SUMMARY

There is no single definition of globalisation, but it is often characterised as a dynamic process with an increasing tendency for goods, services, labour and capital to move freely, coupled with global exchange of technology, knowledge and ideas– in other words, development of a kind of single market at the global level.

Globalisation is an expression of growing interdependency in the global economy and thus still keener competition in the international markets, influenced by developments in a number of emerging markets, including China and India. Several factors have contributed strongly to the process, with the development of technology and communication, as well as improved means of transport, as the main drivers. Globalisation enhances international competition while boosting productivity via better and more efficient distribution and application of the factors of production.

The impact of globalisation on inflation is particularly interesting for central banks, whose primary objective is often to ensure price stability. Efficient and reliable monetary policy centred on this objective has been essential to the considerable success of central banks worldwide for almost two decades in terms of curbing inflation and subsequently maintaining price stability. Low inflation was thus achieved before globalisation became a key theme in economic policy debates. It is generally believed that globalisation has both aided and impeded central banks in their efforts to ensure price stability. The negative impact has become more pronounced recently.

Globalisation has led to a fall in the relative prices of imported processed goods against the backdrop of soaring output in a number of emerging markets, including in Asia. At the same time, intensifying global competition and migration of cheap labour have dampened wage developments in the industrialised world. According to calculations by the European Central Bank, ECB, the price of e.g. manufactured goods (such as energy), which cover approximately 30 per cent of private consumption, rose by only around 0.7 per cent p.a., i.e. substantially less than prices overall, in the period 1999-2007.

Recently, focus has been on the surging energy and food prices, which are to a large extent attributable to rapidly growing demand in China and other emerging markets, although various other factors also play a role, as outlined in the chapter on recent economic and monetary trends. Production in these economies is far more energy intensive than in traditional industrialised countries. Calculations by the International Monetary Fund, IMF, show that the emerging markets and the developing countries jointly account for approximately 95 per cent of the growth in the demand for oil since 2003. Combined with increasing supply-side limitations, this has pushed up real oil prices to the highest level in recent years, somewhat above the 1979 level, while real food prices remain below previous historical peaks.

These developments have brought global inflation to a level of 5½ per cent, up from less than 4 per cent in recent years. Consequently, there have been growing international concerns about inflation risks, including the risk that the temporarily high inflation rates will trigger "second-round" effects in wage and price formation. This risk is monitored closely by central banks in their efforts to anchor inflation expectations at a level that is compatible with price stability.

This Monetary Review includes three articles on issues that are linked to various economic consequences of globalisation – the first two with a specific Danish angle.

The first article, Globalisation, Labour Market and Inequality, discusses the impact of globalisation on remuneration of labour and on the degree of income inequality in society. Globalisation and the technological development have contributed to rising real wages in Denmark. Thanks to globalisation, Danish output has moved up the value chain, thus selling at higher prices, while on the other hand consumers benefit from low-cost imports from low-wage countries. This accounts for around 25 per cent of the increase in real wages since 1980. At the same time there has been downward pressure on the share of value creation that accrues to labour, i.e. the wage share has been declining while the profit share has been rising. The same pattern is observed in other industrialised countries. Globalisation and technological advances in general also tend to increase income inequality across individuals. The Danish social model to a large extent counters this underlying trend.

The second article, Globalisation and Danish Direct Investments, focuses on the breakdown by country and industry of Danish foreign direct investment (FDI), while also illustrating the employment effects in Denmark when Danish business enterprises increasingly engage in foreign activities. Danish FDI is still mainly concentrated in countries geographically close to Denmark, as is Denmark's trade in goods. The share of Danish FDI that goes to e.g. China has been rising in recent years, but remains low, although China is in the global top five in terms of inward FDI according to estimates for 2006. On the other hand, investments in Denmark by China and other BRIC countries (Brazil, Russia, India and China) are virtually zero. The analysis points to a continued structural shift from manufacturing to service in the Danish economy. This may influence demand for labour with specific qualifications and within certain professional groups. Consequently, the economy must be adaptable and prepared for change, not least in terms of labour market conditions and education and training.

The third article, Foreign-Exchange Reserves and Sovereign Wealth Funds, illustrates how such Sovereign Wealth Funds (SWFs) differ from traditional foreign-exchange reserves in central banks in terms of management and risk profile. Central banks typically incur large risks in relation to exchange-rate fluctuations and gold, which has historically yielded low risk-adjusted returns. The aggregate central-bank risks may thus be perceived as high in relation to net capital. In contrast, investments in SWFs are spread out on other asset types, which – viewed in isolation – ensures better diversification and higher potential returns. SWFs may thus assume risks in the expectation of a higher reward. Central banks also have to take monetary policy into account, whereby they incur considerable exchange-rate risk and costs for financing their foreign-exchange reserves.

SWFs have grown substantially in recent years, particularly against the background of high oil and commodity prices, financial globalisation and major imbalances in the global financial system, which have resulted in strong growth in the accumulation of foreign assets in surplus countries, notably China. SWFs have thus become still more important players in the international monetary and financial system; a trend which is expected to continue. The IMF estimates that the aggregate wealth held by SWFs will increase from 2-3 trillion dollars today to 6-10 trillion dollars within five years. For comparison, total foreign-exchange reserves (excluding gold) were in the range of 5 trillion dollars in 2007.