What explains the rise of populism?

Consider the following thought experiment: Sibusiso and Thulani each own a firm that competes with the other. In each of the following scenarios, Sibusiso’s firm outcompetes Thulani’s. Which of the four do you consider unfair competition?

• Sibusiso works hard, saves and invests his profits, and invents new techniques and products, while Thulani’s products change little and he loses market share.
• Sibusiso finds a higher quality input supplier in the US, which makes his products better and he therefore takes market share from Thulani.
• Sibusiso outsources some of his services to Bangladesh, where workers work 12-hour shifts under hazardous conditions, earning very low wages.
• Sibusiso brings Bangladeshi workers into South Africa under temporary contracts, and puts them to work at lower than minimum wages.

From an economic perspective, each of these scenarios have a similar result: there are winners as well as losers as they expand the economy. But people generally react very differently to them. Most people are happy with scenario 1 and 2: even if someone loses (Thulani and his employees), this comes through what is perceived as fair competition from Sibusiso. It is scenario 3 and 4 that creates problems: when Sibusiso ‘breaks’ local laws (even though it may be perfectly legal in the foreign country), his competitive advantage, and by implication international trade, is viewed as unfair.

In a provocative new NBER Working Paper, Harvard University economist Dani Rodrik use this example to argue that too-rapid globalisation – the increasing use of scenarios 3 and 4, of outsourcing production to the developing world or of employing immigrants – is the underlying cause for the rise of populism across the developed world. The ‘losers’ from globalisation feel that foreigners – abroad or as immigrants in their own countries – have taken unfair advantage of then, stealing their jobs. They have chosen the politics of populism as a way to ‘punish’ this rapidly globalising world.

Economists know that free trade creates both winners and losers, and that the winners almost always gain more than what the losers lose. If the winners could perfectly compensate the losers, everyone would be better off from a free-trading world.

But Rodrik argues that such compensation is not always easy, and rarely happens. Aside from Europe, where an extensive social safety net was institutionalized to support ‘losers’, most countries failed to find a way to sufficiently compensate those that suffered the consequences of open borders. Make no mistake: open borders resulted in massive global gains, notably for the poor of China and India. But in each country, as trade theory predicts, there were losers. In Rodrik’s words: “People thought they were losing ground not because they had taken an unkind draw from the lottery of market competition, but because the rules were unfair and others – financiers, large corporations, foreigners – were taking advantage of a rigged playing field.”

There are many new studies to back up this claim. In a 2016 paper, David Autor and his co-authors show, for example, that the trade shock of China joining the World Trade Organisation aggravated political polarisation in the United States: districts affected by the shock moved further to the right or left politically, depending which way they were leaning in the first place. Analysing the Brexit vote, Italo Colantone and Piero Stanig show that regions with larger import penetration from China had a higher Leave vote share. They repeat the study for fifteen European countries, showing that China’s entry into the WTO had similar political consequences across Europe. In a 2017 working paper, Luigi Guiso and his co-authors use European survey data to draw even more precise conclusions: the more individuals are exposed to competition from imports and immigrants (the higher their economic insecurity), the more they vote for populist parties.

To summarise: because there were uncompensated losers from global free trade, argues Rodrik, there were political consequences. Rodrik then constructs a model to explain this populist rise on both the left and the right. According to the model, there are three different groups in society: the elite, the majority, and the minority. Says Rodrik: “The elite are separated from the rest of society by their wealth. The minority is separated by particular identity markers (ethnicity, religion, immigrant status). Hence there are two cleavages: an ethno-national/cultural cleavage and an income/social class cleavage. An important implication of this reasoning is that even when the underlying shock is fundamentally economic the political manifestations can be cultural and nativist. What may look like a racist or xenophobic backlash may have its roots in economic anxieties and dislocations.”

Populists who emphasize the identity cleavage target foreigners or minorities, and this produces right-wing populism. Those who emphasize the income cleavage target the wealthy and large corporations, producing left-wing populism. The large numbers of immigrants into Western Europe has resulted in the rise of right-wing populists, for example, while Latin America, because of large disparities between rich and poor, has seen more left-wing populism. The United States, argues Rodrik, falls somewhere in the middle – with Donald Trump on the right and Bernie Sanders on the left.

These findings have important implications for South Africa too. South Africa joined the WTO in 1995 and liberalised our complicated tariff schedule, opening our borders to foreign competition. There were many winners from cheaper imports, notably consumers, but some firms and industries struggled, leading to job losses, often concentrated in certain regions. And although South Africa rolled out an impressively comprehensive social safety net for a middle-income country, they could not compensate all the losers, especially as the global financial crisis hit in 2007 and unemployment began to worsen. It is not entirely coincidental that the first large-scale xenophobic attacks on foreigners happened in 2008 (what Rodrik would call right-wing populism) and that the ANC shifted left with the election of Jacob Zuma as South African president in 2009.

Even if globalisation creates more winners than losers, the losers, like Thulani and his employees, may feel that the system is rigged, and retaliate by voting for more populist parties. As South Africa stumbles into another recession, this may have profound consequences for the ANC’s December elective conference – and the national election in 2019.

*An edited version of this first appeared in Finweek magazine of 10 August 2017.