The Vanishing State?

More permeable borders seem to make it more difficult for a nation to maintain a mixed economy, regulate capital in the public interest, provide decent wages, and foster a political coalition to defend all of the above. Indeed, there is an extensive conservative literature contending that the global market renders the role of the state moot, and good riddance. Yet it remains entirely possible to maintain a domestic social contract while developing a robust internationalism with rules that benefit everyone, not just the elite, and to build a wealthy and competitive nation that boasts the most productive citizens on the planet.

Global commerce in goods and services does make it easier for a dominant elite in Washington to pursue its preferred brand of laissez-faire and seek to remake America into a low-tax, low-regulation, low-wage nation. All of it seems to be happening by chance -- but, of course, specific policy choices are driving it.

Financial capital, abetted by laissez-faire rules, is becoming ever more footloose, while governments are rooted in particular places. This asymmetry enables global owners of capital to conduct bidding wars, playing off one country, state, or locale against others in an international race to the bottom. In this race, countries with higher taxes and more public services -- as well as higher wages and higher labor standards -- are put at a competitive disadvantage, all other things being equal. Global financial players can (or credibly threaten to) park their profits where taxes, wages, and regulatory requirements are lowest or nonexistent.

The result is a downward spiral: As tax bases shrink, the government cannot deliver high-quality services. The successful secede, demand even lower taxes, and the ranks of secessionists grow. The cycle is magnified by revenue cuts cascading from the federal government to states and local governments, further eroding tax bases, and imposing particularly large costs on poor communities with already small tax bases. The downward spiral occurs in too many locales, dispersed all over the nation, for the citizenry to see the pattern and to draw the connections. All the public knows is that government no longer seems to work. The current administration, rather than leaning against these trends, is serving as their enabler.

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International diplomacy used to be about the high politics of war and peace. That's what it still appears to be on the nightly news. But much of the business of diplomacy today is more about attracting investment and avoiding capital flight. And many of the most important meetings take place between heads of state and world bankers and fund managers. Like carnival barkers trying to herd passersby into their assorted tents, presidents, prime ministers, governors, and mayors try to lure (and keep) global investors by promising “good business climates” -- code for weak tax and regulatory standards and an abundance of low-wage labor.

When DaimlerChrysler, now a multinational corporation headquartered in Stuttgart, Germany, recently decided to replace its big Jeep assembly plant in Toledo, Ohio, it notified the city and the state that it might locate the plant elsewhere unless it received sufficient incentive to stay put. The city of Toledo and the state of Ohio dutifully came up with $300 million to keep the replacement plant where it was. DaimlerChrysler's bottom line was thereby improved by $300 million, a bonanza surely appreciated by DaimlerChrysler's shareholders. But the transfer meant that the governments of Toledo and of Ohio were left with $300 million less with which to provide services to their citizens. Altogether, such corporate giveaways now cost cities and states an estimated $50 billion a year.

In the United States, corporate taxes have dropped precipitously as a percent of the gross national product, from more than 4 percent in 1965 to 2.5 percent in 1995 to a bit more than 1.5 percent today. Federal personal taxes on investment income now average only 9.6 percent, and the top capital gains rate is just 15 percent. Meanwhile, federal personal taxes paid by the typical worker on wages and other earnings -- including income taxes and Social Security and Medicare taxes -- now average 23.4 percent, according to an analysis by the Institute on Taxation and Economic Policy.

At the same time, worldwide tax havens have grown in number, as has the amount of wealth they shelter. Data from the Internal Revenue Service reveal that offshore profits skyrocketed from $88 billion in 1999 to $149 billion in 2002, with most of that increase socked away in places like Bermuda and the Cayman Islands. The recently contrived tax amnesty for U.S. companies to bring their profits home at a onetime tax rate of 5.25 percent (instead of the standard corporate rate of 35 percent) is causing many companies to consider repatriation, but, obviously, at a huge cost to average taxpayers.

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The race to reduce taxes on global capital is only one manifestation of this new international competition. There is also competitive pressure on governments to gut regulations -- a pressure abetted by the World Trade Organization (WTO) and the North American Free Trade Act (NAFTA), both of which enable global capital to challenge rules once assumed to be well within the sovereignty of nation-states. As in the case of tax policy, however, this race to the bottom is not inevitable. It is merely the preferred policy outcome of the elites who currently hold power, and globalization under their desired rules is both the mechanism and the excuse.

Last fall, in a case initiated by the government of Antigua and Barbuda at the behest of Internet gambling businesses headquartered there, WTO judges ruled that gambling restrictions in Utah and many other U.S. states violated America's duty not to discriminate against other nations that provided “recreational services.” In another case last December, California Governor Arnold Schwarzenegger's administration put the brakes on a proposed tax incentive to encourage road builders to grind up discarded tires and blend them with asphalt. Schwarzenegger vetoed the bill, fearing that the provision would contravene NAFTA by putting Canadian and Mexican recyclers at a competitive disadvantage. His fear was well founded. A Canadian company called Methanex is already suing the United States over California's ban on the use of a gasoline additive utilized by the company, which, according to California, contaminates groundwater.

The WTO and NAFTA are efficient vehicles for global capitalists to eviscerate regulations they don't like, but the pressure on governments to downgrade regulations would exist even in the absence of these arrangements. Just like cutting taxes on global capital, minimizing regulatory “burdens” is a means of creating a “good business climate.” The logic applies equally to the wages and benefits of relatively unskilled workers, which presumably must be held down in order to attract and keep global investment. The same argument offers a ready justification for allowing in “guest workers” from poorer nations, who will labor for a fraction of the cost of regular citizens.

Thus does the United States find itself in ever more intense competition with every other nation to attract and hold capital. But this strategy for meeting the competition gives the United States no means of maintaining high living standards for its citizens. If nothing is done to reverse the strategy, the public sector will eventually shrink to the point that it can do almost nothing other than defend the nation. Most of what is now provided by government will be turned over to the private sector, available to individuals depending on their ability to pay. The wages and benefits of ordinary workers will continue to drop. Economic security will vanish as individual incomes will depend on continuous spot auction bids for each individual's services. At some point, as capital and labor move ever more freely across the nation's borders, the spectrum of exceedingly rich to exceedingly poor in the United States (and other nations) will exactly reflect the widest spectrum of wealth and poverty in the world. American society will be sharply sorted and pulled apart.

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What's the alternative to this somber vision? Not protectionism. This would make us even poorer because it would cut off Americans from goods and services that can be produced more cheaply elsewhere around the world. And it would be unfair to the citizens of developing countries that depend on us to buy their exports. (Agricultural trade barriers and subsidies in advanced nations already do more to keep poor nations poor than almost anything else we do or fail to do.)

But there is an alternative strategy by which we can embrace globalization and at the same time maintain a high, broadly distributed standard of living. For more than a century, our democracy has seen a tug of war between elites who preferred that government enforce only property rights and citizens who fought to balance purely commercial rights with regulations and social investments intended to provide a society of more balanced growth and opportunity. Today, as the economy has globalized, that ongoing struggle necessarily escalates to the community of nations.

At present, the rules that have been created to define how commerce flows across national boundaries have been designed by and for the propertied classes. The rules carefully defend intellectual property rights, for example, but scarcely address labor or social rights. However, these rules are written by democratically elected national governments, and the rules can be changed.

One place to begin would be by reversing the game by which corporations play off nation-states in a competition to reduce taxes. The United States could collaborate through “capital treaties” with Europe and Japan in order to prevent zero-sum payoffs to corporations and investors, as the European Union already does internally. The federal government would prevent states and locales from striking their own separate deals with global capital (perhaps by means of a federal tax on companies that reap the benefits of such deals, equaling 100 percent of their take). We would further agree with other advanced nations to refrain from competitive rounds of tax cuts in order to attract capital, and would enter into a tax treaty for preventing offshore tax havens. (Bill Clinton and the Europeans were on the verge of a tax-reporting deal to put such havens out of business, but the Bush administration scotched it.)

We also need international agreements on behalf of tighter, rather than looser, social and economic regulation. Again, the European Union does this on one continent. As the differential treatment of Microsoft's anti-competitive product bundling illustrates, Brussels is far tougher in its antitrust regulation than the current regime in Washington, and even a company as big as Microsoft does not have the luxury of just blowing off the European market. Europe also maintains much better social regulation to protect workers.

In Europe, the cushion of a strong welfare state coupled with public investment seems to be the political price the electorate demands in exchange for tolerating the vagaries of the open economy, where jobs are always at risk.

The negotiations between Third World countries and large pharmaceutical companies over the pricing and distribution of lifesaving drugs and vaccines for the Third World, in which the drug companies backed down and Africa got its cheaper AIDS drugs, suggest that power does not just flow one way. We have also seen the beginning of international collaboration to make sure that corporate books are accurate and transparent. And even though Washington has refused to participate, the Kyoto accords suggest that transnational environmental regulation is possible, too.

If the advanced nations got together to recreate the mixed and regulated brand of capitalism that we have fought for in many of our individual societies, trade agreements would reflect the importance of social and environmental regulations, and the WTO would be in the hands of officials who respected them (rather than those who understand their job primarily as representing the interests of global corporations). Goods, services, and capital would still flow plentifully across international boundaries, but social rights would have equal place with property rights.

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In short, the best way to prevent a race to the bottom among advanced nations is to call off the race. In this “Great Common Market,” as we might call it, global companies would no longer be able to play one jurisdiction against another because access to virtually all the advanced economies of the world would require that they play by common rules that balanced property rights against social rights. As a result, tax revenues collected from corporations and wealthy investors would increase substantially. Hence the second part of the strategy: Those revenues would be invested in the productive capacities of Americans.

With adequate revenues for social investment, we would create first-class schools with small classes and well-paid and highly skilled teachers, even in the poorest of communities. Working families would be able to give their preschoolers high-quality early-childhood education. We would invest in our great public universities and research institutions in order to maintain their leadership in the world. Workers who lost their jobs because of global competition would have a system of wage insurance and retraining opportunities, with income assistance during retraining. The infrastructure that connects our people and improves our productivity -- highways, ports, public transportation, energy grids -- would be kept up to date. And every American would have access to at least a minimum quality of health care, not only because that it is the right thing to do but also because it would enable more our people to lead full and productive lives.

In this way, the essential strategy for attracting and keeping global capital would be to become more productive rather than to lower our wages and standards and cut taxes on capital. Global investors would still get a sufficiently high rate of return to be fully satisfied, thanks to high and rising productivity.

This two-pronged approach -- seeking collaboration among advanced nations to avoid zero-sum games and races to the bottom, while investing revenues in the productivity of our citizens -- is, of course, the exact opposite of the prevailing orthodoxy. Ultimately, that prevailing orthodoxy will wreck American society. But although alternatives are painfully absent from public debate, the current model is not the only possible form of globalism.

We need a globalism that promotes a race to the top. This kind of globalism is sound policy -- and, with some leadership, it could be good politics.

Robert B. Reich is co-founder of The American Prospect.

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