(Reprinted from HKCER Letters, Vol. 23, November 1993)
The New Economic Order
Editor: Milton Friedman, 1976 Nobel Laureate in Economic Science, visited China for the third time this past October. He gave two lectures in Hong Kong, the first one at the University of Hong Kong before he left for China, and the second one as a research fund-raising lecture after his return. Both lectures were sponsored by the Hong Kong Centre for Economic Research and the School of Economics and Finance at the the University of Hong Kong. Professor Friedman taught at the University of Chicago from 1946 to 1976, where he is now a Paul Snowden Russell Distinguished Service Professor Emeritus of Economics. He has been a Senior Research Fellow at the Hoover Institution at Stanford University since 1977. The following is an abridged version of his speech at the University of Hong Kong, prepared by the Far Eastern Economic Review.
In the past several decades, we have had two revolutions: one a technological revolution and one a political revolution. The technological revolution has come from developments in the area of computers and telecommunications, and this has made it possible, to a far greater extent than any time in the world's history, for a company to locate anywhere, to use resources from anywhere to produce a product that can be sold anywhere. It used to be that a company located in a country to produce one whole product.
That is no longer the case. You take an automobile in the U.S.. Who knows where the pieces have been produced -- with different parts from India, Taiwan, Japan, Malaysia? From an economic point of view, this makes an enormous difference. It means that resources are available today that were not available before. And the main distinction that is relevant here is between capital: physical and human. By human capital I mean the skills of skilled people. Until now, human and physical capital have tended to be located in the more advanced nations, mostly in the West and more recently in Asia.
Until now, there have also been hundreds of millions of people stuck in countries where they earned low wages even though their qualifications might justify higher returns. In the advanced countries, the technological revolution has meant competition of low-cost labor from elsewhere, which is why low-skilled wages have not advanced greatly. By contrast, the wages of the highly skilled have gone up sharply, so that the wage differential -- between the highly skilled and the low-skilled -- has widened throughout in every major developing country. At the same time, the wages of labor in the countries which for the first time have been brought into the structure of international production have been able to go up. It is this development that has made it possible for the countries of East Asia to expand at a rate that has seldom been seen historically before.
The effect of this technological revolution has been greatly enhanced by the political revolution. The political revolution, of course, consists of the fall of the Berlin Wall and what followed promptly. The political revolution -- maybe that is not the way to describe it -- also encompasses all that has been happening in China. Throughout the world, probably something like two-and-a-half billion people have now been put together in a new interrelationship with the advanced countries of the world because of these twin revolutions. This offers the world an enormous opportunity, the opportunity of a major industrial revolution comparable in magnitude to that which occurred a few hundred years ago.
Clearly what needs to be done to take advantage of this new opportunity is to open borders, expand trade, increase cooperation and eliminate restrictions on movement of goods and services, as well as develop a better educational system. The result would be a continued burst of expansion of world trade, and, in the advanced countries, a diminution rather than an expansion in the different grades of wages. Unfortunately the actual reaction of most countries has been the opposite -- a reaction of protection, of trying to fight off the opportunity. It would be hard to cite a more extreme example than is currently being provided by the Common Market.
Unfortunately, much the same thing is happening in my own country. This is not a new thing. If there is one thing that economists have agreed on for the past 200 years, it is that free trade is a good thing. And if there is any one example that people cite to that effect it is Hong Kong. Free trade has clearly been good not only for Hong Kong itself but for all the countries with which it sells and buys. And yet, despite the unanimity of the economics profession on this issue, there has also been a unanimity around the world for tariffs, for restrictions. Producers are fewer and more concentrated than consumers, and they speak with a louder voice.
Now, it is true that developing countries such as Hong Kong, Singapore and Taiwan have been able to provide some of their own capital. But almost every case of successful development has fed on earlier success of others. When the U.S. developed in the 19th century, for example, it was assisted by capital from Britain. Likewise, there was a great deal of foreign investment in Japan in the earlier stages of its development. In the same way, the twin revolutions will tend to raise the demands for capital in those highly developed countries which are plentiful in capital, and we might expect the real rate of return on capital to rise significantly. I believe to some extent we have already seen that happen. The same thing would be true with regard to the limited supply of high-quality human capital. And it would tend to have higher wages and higher standards of living in the formerly poorer areas of the world.
In short, the opportunities are there for the making of a second industrial revolution. And because I believe the forces in favor of this revolution are so strong, I remain an optimist. Note how successful it has already been. East Asia is the best example you can think of. Today it is a different world. So it is important for us today to try to understand what is happening -- and to use our influence to make sure governments are not short-sighted and do not short-circuit the process.