From the Great Moderation to the Global Financial Crisis: Emerging Markets and Reforming the International Economic System

By Yueh, Linda | Seton Hall Journal of Diplomacy and International Relations, Summer 2009 | Go to article overview

From the Great Moderation to the Global Financial Crisis: Emerging Markets and Reforming the International Economic System


Yueh, Linda, Seton Hall Journal of Diplomacy and International Relations


The economic rise of China heralds a transformation in the global economy that started in the early 1990s. Although market-oriented reforms began in 1978, it was not until 1992 that China's Open Door Policy took off. Meanwhile, after experiencing a major balance of payments crisis in 1991, India's economic policies also moved towards openness and integration. This was a shift away from decades of import substitution industrialization that had been undertaken since its independence in 1947. The early 1990s also marked the re-emergence of Eastern Europe and other states of the former Soviet bloc. With the collapse of the Soviet model, they embraced capitalism, institutionalizing reforms that would ultimately propel many of them to become members of Europe once again.

Collectively, these changes transformed die global labor force and by extension, the returns to capital. Previously numbering one and a half billion workers worldwide, the global labor force doubled since the early 1990s, as new workers joined the international labor pool through international trade, investment, and in some instances, migration. This effectively halved the global capital-to-labor ratio, driving down costs and increasing the productivity of capital. The growth of offshoring followed, as multinational corporations looked to capitalize on the cheap labor and low costs of producing and servicing their customers from bases in emerging markets. As a result, international trade and investment flows increased rapidly during the 1990s.

The integration of these emerging economies signalled a period of deflationary pressures whereby falling costs of goods led to low inflation in the global economy amidst strong growth, and thus what has been called 'the Great Moderation.' This was followed by a real commodity boom when demand from these emerging markets and developed economies exerted upward price pressures in 2007 and 2008. During this time, the global financial crisis also occurred. Although the causes of the global financial crisis are varied and do not stem primarily from the growth of emerging economies, the rise of these economies has nonetheless contributed to a changed world that is worth investigating in order to gain a better understanding of the new global macroeconomic environment.

To that extent, China is the major economy of note, driving global growth to rival even that of the United States. This structural shift in the global economy coincided with the remarkable 9.4 percent average annual real GDP growth experienced by China since 1979, which catapulted it over most members of the G7, making it the world's third largest economy after only the US and Japan. Perhaps more importantly, with its low level of per capita GDP and high growth rate, China has been as much a driver of global economic growth as the United States in the past two decades. In short, the rise of China affects all countries, including the EU as its largest trading partner, not only in terms of trade, but also insofar as it is an engine of the world economy alongside the US.

Additionally, by comparison with the next largest emerging market, India, which has yet to reach the level of a $1 trillion economy, China is significantly larger and has grown faster, despite having a similar sized population. In terms of its effects on the global economy, India accounts for 1 percent of world trade, while China accounts for 8.7 percent, a share that is larger than that of the US. Thus, although the global economy's recent transformation is a result of the integration of emerging markets, China is, in many ways, the key economy to assess. As previously mentioned, China is now one of the three largest economies in the world, and as such, its relations with the other major economies of the US and EU, as well as its sway over global developments, such as reform of the international economic system, are important to understand.

This paper will first examine China's growth model and the extent of its resultant global integration. …

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