March 2011

Paper Series
New Institutions for a New World: The Transatlantic Alliance and the Future of the Global Economic Order
by David Post and Pierce O’Reilly
Introduction Historically, the trajectory of international relations has been shaped by the golden rule of world politics — the countries that have possessed the most economic and financial clout have shaped the rules and institutions around which the international system is based. Since the likelihood of war between the great powers has decreased due to a range of factors, including the spread of nuclear weapons, increased economic interdependence, the diffusion of democracy, and the proliferation of international institutions, it seems safe to say that wealth and soft power — not guns and bombs — will be the primary drivers of geopolitics in the 21st century. At this point, it is not clear whether this paradigm shift will reduce or increase the transatlantic alliance’s influence. As well as highlighting structural weaknesses in Western economies, the aftermath of the financial crisis has demonstrated that the distribution of economic power is decisively shifting South and East. While the transatlantic alliance cannot and should not stop this economic power shift, it should proactively take measures to enhance its position and pursue its interests during this transition. Given the fleeting nature of power in international politics, the key challenge for the next generation of policymakers will be to leverage the transatlantic alliance’s current power advantages to establish new international rules, norms, and institutions that solidify the alliance’s long-term economic strength. The Future of Transatlantic Alliance Primacy in Context Transatlantic cooperation in the context of multilateral institutions has been a defining feature of international politics for the last 50 years. Faced with a world devastated by war and threatened by communism, the transatlantic alliance was the driving force behind the institutionalization of international politics. Blending together power and legitimacy, the international institutions forged by the transatlantic alliance during the post-World War II period have been remarkably durable.1 In addition to promoting global stability during the tumultuous ebbs and flows of international politics, norms such as free trade and institutions like
1 See John G. Ruggie (1982). “International regimes, transactions, and change: Embedded liberalism in the postwar economic order.” International Organization, 36(2), 379-416.

Summary: Political disagreements, the financial crisis, and the emergence of new powers have called both the economic dominance and the political relevance of the transatlantic alliance into question. Given these existing challenges and expected longerterm shifts in economic power, there has been much debate about how the transatlantic alliance can best ensure the future longevity of a Western-led international economic system. The conventional wisdom is that socializing rising powers into existing international norms and institutions will be the most important determinant of the stability of the existing liberal economic order. Though this approach has many benefits, in and of itself, this strategy is fundamentally incomplete. In order to cement its central position in the global economy, the alliance needs to draw on its tradition of institutional innovation to strengthen transatlantic competitiveness and define the economic rules of the game for the 21st century.

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the World Bank, World Trade Organization, and International Monetary Fund have provided the United States and Europe with enhanced economic and political influence on the international stage. While the challenges posed by the post-World War II era and post-financial crisis world differ in both scope and magnitude, today the transatlantic alliance is once again facing a world in tumult and a variety of internal and external difficulties. With a relationship strained in recent years by the wars in Iraq and Afghanistan and disagreements in multilateral forums, the United States and Europe have struggled to identify a common focal point for bilateral collaboration. Moreover, the persistent unemployment and economic stagnation caused by the financial crisis in the West — coupled with the rise of China and other emerging economies — have raised questions about whether members of the transatlantic alliance will have the same capacity to define international politics in 2045 that they possessed in 1945.

proposed to achieve this objective — including giving rising powers more of a voice in international financial institutions and reforming the United Nations Security Council — are widely recognized, a strategy of merely adapting existing institutions to accommodate rising powers is fundamentally incomplete. From a strategic point of view, the institutions established by the transatlantic alliance after World War II have been particularly valuable because they have allowed the alliance to “lock in” its long-term influence and establish a more predictable pattern of inter-state interactions by binding other states — even those that may become more powerful than the United States and Europe in the long run — to alliance-friendly rules and norms.3 Instead of sitting back and focusing solely on integrating rising powers into existing institutions, the transatlantic alliance needs to draw on its tradition of institutional innovation to proactively establish institutions that will continue to define the economic rules of the game for the 21st century long after the transition period has passed. The Way Forward Lost in the pessimism that dominates the public discourse is the fact that the United States and Europe will remain the world’s predominant economic powers in the short- to medium-term. Europe and the United States accounted for roughly 40 percent of world GDP in 2009, more than the cumulative economic weight of the next 22 countries combined.4 The gap between the transatlantic alliance and emerging economies in per capita income is even larger and will remain so for the foreseeable future even as the alliance’s overall share of world GDP decreases. In addition, the United States and Europe continue to be the world’s predominant sources of “soft” power and influence, providing support for international institutions and taking a leadership role in the international sphere on prominent global issues such as public health, human rights, and democracy. Given the alliance’s existing power advantages, the time is ripe to create new institutions that will ensure that the world’s international economic infrastructure continues to remain a source of competitive advantage on both sides of the Atlantic. To achieve this objective, transat3 See G. John Ikenberry (2001). After victory: Institutions, strategic restraint, and the rebuilding of order after major wars. Princeton: Princeton University Press. 4

Lost in the pessimism that dominates the public discourse is the fact that the United States and Europe will remain the world’s predominant economic powers in the short- to mediumterm.
Given these existing challenges and expected longer-term shifts in economic power, there has been much debate about how the transatlantic alliance can best ensure the future longevity of a Western-led international economic system. The conventional wisdom is that socializing rising powers into accepting existing international norms and institutions will be the most important determinant of the stability of the extant liberal economic order.2 Though the benefits of many ideas that have been

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2 See Daniel Drezner (2007). “The New New World Order.” Foreign Affairs, March/ April.

International Monetary Fund (2009). GDP by Purchasing Parity Power. World Economic Outlook Database.

Though socializing rising powers into the liberal international order should be a key part of the transatlantic agenda, the United States and Europe must proactively take measures to cement their positions as central players in the global economy.
lantic cooperation should proceed among three primary dimensions in the coming years: boosting trade, stabilizing the global financial system, and securing access to natural resources. First and foremost, the transatlantic alliance should establish a Transatlantic Free Trade Area (TAFTA) to strengthen the transatlantic economy and ensure that Western economic norms continue to serve as the backbone of the international economic system in the future. Members of the transatlantic alliance are facing increased economic competition from rising powers, and the trend toward regionalism in recent years means that alliance members’ large domestic markets will not provide the same degree of economic clout in the future as in years past. Establishing TAFTA would help the alliance overcome these challenges. To begin with, the agreement would provide incentives for companies on both sides of the Atlantic to do business inside the free trade area, generating jobs by boosting trade and opening up new markets for North American and European producers. As rising powers’ markets become more attractive over time, TAFTA would also have the effect of ensuring that the gains of transatlantic trade — which currently accounts for one-third of the total global trade in goods5 and more than 40 percent of the world trade in services6 — continue to accrue to
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the United States and Europe. Finally, TAFTA would attract more foreign direct investment to the transatlantic alliance by providing companies from the developed and developing worlds alike with incentives to locate in what would be the world’s largest market. Not only would TAFTA produce economic benefits, but it would also help diffuse Western economic norms. Given that a transatlantic common marketplace would be the largest in the world, other countries would be incentivized to adopt American and European standards in order to access the TAFTA market. As such, TAFTA would form a regulatory “hub” of sorts, promulgating standardized norms among American and European trading partners on issues ranging from property rights to contract enforcement and governmental trade practices. As well as leveling the playing field for Western firms, the widespread adoption of these standards would incentivize rising powers to play the economic game by alliance-friendly rules. In addition to taking bilateral steps to boost their economic power, the United States and Europe should also pursue multilateral initiatives aimed at promoting financial stability in the international economy. The fallout from the financial crisis has demonstrated that transatlantic economies remain enormously vulnerable to global financial instability. Given the importance of the financial system to Western prosperity, the transatlantic powers should work to transform the Financial Stability Board into a new International Financial Authority (IFA). The new IFA should have a similar level of authority, legal stature, and resources as other international financial institutions — such as the World Bank and the International Monetary Fund — and encompass the existing troika of global regulators.7 Functionally speaking, the IFA should act as a regulator and an international resolution mechanism for large financial institutions with a fund that would insure depositors (an international Federal Deposit Insurance Corporation) and provide resources in financial liquidity crises. Just as countries must adhere to stringent conditions when receiving loans from the IMF, strict requirements for accessing IFA funds would promote financial stability internationally without a major risk of moral hazard.

European Commission (2010) External Trade Statistics. Eurostat

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European Commission (2005) External Trade in Services. Analytical aspects: Data 1997-2005.

7 This includes the Basel Committee on Banking Supervision, the International Organization of Securities Commissions, and International Association of Insurance Supervisors.

As with TAFTA, the establishment of the IFA would provide the transatlantic alliance with material and strategic benefits. The international financial system is too interconnected to be adequately dealt with through the plethora of existing international regulatory organizations, and cross-border financial institutions have become both too big to fail and too complex to be regulated by individual countries; this has left the United States and Europe acutely vulnerable to a repeat of the 2008 crisis. The establishment of an IFA would secure the economies of the United States and Europe — increasingly dependent on finance — from another financial meltdown while solidifying international finance as a source of competitive advantage for the alliance. Moreover, an IFA would increase the likelihood that rising powers would continue to function within the context of a liberal capitalist framework. In addition to leaving Western economies weakened and governments heavily indebted, the financial crisis has also caused enormous reputational damage to the liberal capitalist system, lending credence to those who advocate more controlled market economies. Given that the United States and Europe have achieved global prosperity by competing within the context of this framework, a widespread shift toward other economic models would present the alliance with serious challenges. The establishment of an IFA would decrease the likelihood that this shift would occur by simultaneously infusing the international economy with rules to prevent future crises from occurring and increasing other countries’ confidence in the existing system. An empowered IFA would also cement the centrality of existing financial hubs like London, New York, and Frankfurt in the global financial system. Traditional hubs of financial power are increasingly being challenged by newer financial centers in emerging economies. These markets threaten the dominance of Western financial centers — as well as global financial safety — by adopting light-touch regulation and little prudential supervision, making firms more and more likely to locate elsewhere and increasing the risks posed to Western economies through contagion. While every country in the world would be invited to join the IFA, only financial institutions in countries that upheld the IFA’s regulatory standards would be able to tap into IFA deposit insurance and receive liquidity during financial crises. Even if some countries refused to join, the weight of the IFA’s standards would not only encourage businesses in nonmember

countries to abide by its rules, but also create important incentives for firms to lobby their governments to adhere to IFA regulations. As well as pursuing the two initiatives presented above, the transatlantic alliance should also use its influence to push for the establishment of Global Resource Reserves System (GRRS). As examples ranging from oil embargos in the 1970s to China’s current near monopoly on rare earth minerals demonstrate, natural resource power plays have the potential to provide rising powers with a significant bargaining chip in their interactions with members of the transatlantic alliance. A GRRS would be modeled on the IMF’s Special Drawing Rights. A supply of resources such as enriched uranium, oil, and rare earth metals would be created, with the condition that member countries could only access the reserve if these resources were being used for political purposes (the reserves could not be accessed under normal market conditions). In short, the GRRS would prevent resource-based economic power plays, making sudden strategic supply cut-offs and price hikes ineffective. As with an IFA, strict rules governing access would prevent moral hazard problems.

The existence of a Global Resource Reserves System would mean that other potentially valuable commodities that were discovered could simply be “slotted in” to an existing institutional framework.
The GRRS would particularly benefit the United States’ and Europe’s long-term competitiveness as their highly carbon- and manufacturing-dependent economies tend to demand much and supply little of these resources, making them vulnerable to supply shocks. A GRRS would provide members of the transatlantic alliance with reliable access to important resources while enhancing their bargaining power in relation to natural resourcerich states. Even if some resource-rich countries refused

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to join, the benefits provided by the GRSS would be enticing to many resource-rich states while the mere existence of the institution would have the effect of stigmatizing the use of natural resource power plays at the global level. In the security realm, this type of an institution would ensure that countries could not use the excuse of a lack of access to resources — as Iran has done with enriched uranium — to bolster their military capabilities. Perhaps more importantly, the GRRS would be adaptable to the economics of the future. In the past, oil and coal have been global resource desiderata, but it is impossible to foresee what resources the technology of the future will require, and thus which countries will win the lottery of who controls the supply of tomorrow’s most valuable bargaining chips. The existence of a GRRS would mean that other potentially valuable commodities that were discovered could simply be “slotted in” to an existing institutional framework. In short, the establishment of the GRRS would promote a predictable set of norms and rules regarding the management of natural resources that would minimize the potential for resource-based shocks and benefit the transatlantic alliance as the global power shift proceeds. While the process of establishing these new institutions will be both politically and logistically challenging, the hurdles that exist are not insurmountable. For example, the majority of states in the world would benefit greatly from enhanced financial stability and freedom from politically motivated natural-resource-supply shocks at the international level. Assuming that the GRRS and IFA were able to attract widespread support, the norms and rules embodied in these institutions would exert a strong compliance pull even on non-members. Similarly, certain domestic constituencies would certainly oppose TAFTA. However, given the relative parity in wealth between the two blocs, adjustment costs from TAFTA would likely be much lower than with other free trade agreements. Conclusion Political disagreements, the financial crisis and the emergence of new powers have called both the economic dominance of the western world and the political relevance of the transatlantic alliance into question. Though socializing rising powers into the liberal international order should be a key part of the transatlantic agenda, the United States and Europe must proactively take measures to cement their positions as central players in the global

economy while the opportunity to do so still exists. Given the expected shifts in the global distribution of power in the coming years, a failure to capitalize on the alliance’s extant economic advantages now may significantly undermine its interests in the future. As it currently stands, however, neither side of the Atlantic has the clout necessary to translate these institutional ideas into reality on their own. As such, the alliance’s success in leveraging its collective strength to drive the global agenda will be the primary determinant of European and American influence on the world stage in the long-run. By implementing a joint program of institution building, policymakers can take a major step toward laying the groundwork for enhanced economic strength — and ultimately more leverage— on both sides of the Atlantic.
About the Authors
Pierce O’Reilly is a doctoral candidate in political science at Columbia University in New York City, where he majors in comparative Politics and minors in economics. Dr. David Post is a senior consultant in IBM’s strategy and innovation practice, where his work focuses on economic competitiveness, sustainability, and business model redesign. This paper represents the authors’ opinions and not those of IBM.

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