Economic Power

What makes a country economically powerful? The concept of a state's economic power and the power it can hold due to its geographical size is similar, as both are interrelated. However, it is important to understand how the two aspects of a country differ, particularly when talking about the superpowers of the world. Let's take a look at these differences and some examples of countries who have economic power.

Definition of economic power

Economic power is usually a result of its economic size. It is also the basis of economic growth. Economic power is related to the country’s purchasing power. The purchasing power is determined by the strength of the country’s currency. The American dollar is currently considered the most powerful currency to the level that other countries hold it for emergency backup in their central banks. There was a global economic depression when the value of the American dollar crashed during the Great Depression in the 1920s.

The economy is driven by a productive workforce with disposable income, which produces a market to encourage TNCs to reside in the country. The higher the number of businesses that contribute to the economic activity of the country, the stronger the economic concentration and the cheaper the goods and services available to the population are. This is because the company can increase its scale of product and become more efficient while still earning profit.

Case study: Economic power of India

The concentration of economic power in India is caused by the accumulation of resources by large industrial houses following the country’s independence and subsequent vacancies in ownership positions resulting from the exit of the British. 'Large industrial houses' is the Indian term for business groups that span many industries, usually in related processes. For example, the Tata group is one of the largest multinational companies in India and owns subsidiaries in automobiles, steel, fashion, hotels, and e-commerce.

In the 1960s, the Mahalanobis Committee found that the rapidly growing economy was supported by (public-private) partnerships with financial institutions and commercial banks but was more heavily influenced by the large industrial houses. The concentration of economic power in India by these industrial houses comes from the monopolisation of the market. So, what does this mean?

When you monopolise a market, you essentially dominate it. For example, if the people of a town can only access one clothing store, that means it (the clothing store) acts as a monopoly because the people of the town can't get their clothes from anywhere else. Monopolies tend to be bad for the economy because they prevent diversity in the market and can create high prices for consumers. In 1964, the Monopoly Enquiry Commission suggested that the monopolisation of the market in India was the result of lax laws and corrupt licensing means.

Antitrust laws (laws aimed at preventing businesses from becoming monopolies) try to regulate businesses in India to ensure a level playing field and effective competition in the market. These laws came into effect as part of what is called the Competition Act 2002. The Act aims to prevent vertical or horizontal agreements, abuse of dominant positions, and combinations such as acquisitions, mergers, amalgamations, and joint ventures that have no potential benefit to consumers or improvements in production and distribution of services. Let's break down what a few of these things mean:

So essentially, the antitrust laws introduced by India as part of the Competition Act 2002 try to prevent businesses from becoming monopolies by introducing restrictions on how much they can expand, both vertically and horizontally.

How is economic power measured?

There are different methods to measure a country’s economic power, with Gross National Product (GNP) and Gross Domestic Product (GDP), as the most commonly used. Both are measures of economic productivity. GDP is the most widely used as it is the most direct measure but is not the most representative measure.

Measuring Economic Power: Gross Domestic Product (GDP)

• Gross = total.

• Domestic Product = productive outputs that are exported.

• The term productive output represents the efficient use of resource input into total economic outputs.

• For example, paper is a productive output of a timber factory.

Measuring Economic Power: Gross National Product (GNP)

• Gross = total.

• National Product = total income of the country’s residents over a specific time frame.

• The GDP of the Philippines is 100x larger than its GNP because the economy contains a large number of foreign-owned factories.

• The income of timber factories is part of the GDP as it is produced within domestic borders but is not part of GNP as the majority of the income is not received by local residents but by the international paper production company.

Economic power can be assessed by comparing the GNP and GDP of a country as a measure of how much money is flowing out of the country and not retained in the local economy.

Fig. 1 - The City of London is one of the largest financial centres in the world.

Examples of economic power

The largest economies in the world are the European Union, the United States, and China. The data look at GDP, the exchange rate from one euro, and population to produce purchasing power parity (PPP). PPP compares the amount of local currency that buys the same volume of goods and services in the country as one euro does in the EU.

Grouped together, the EU is responsible for 15% of the world’s trade in goods. The largest traders are China, the EU, and the United States (in order).

The world's most economically powerful countries

How do countries gain economic power?

Countries can gain economic power by improving their income. The laws of supply and demand suggest common niches to break through the market are the manufacturing of high-tech equipment (think Japan 1970s), cheap labour for consumer products (China 2000s), and lots of oil (Iran 1970s).

Who has economic power?

Economic superpowers have economic dominance. Dominance is not only held by governments of countries, TNCs are beginning to show vast wealth and power. Through trade and investments, corporations are able to exert influence on the governments, showing that economic power and size may not be the most important measure of dominance. Such exertion of influence includes impacting tax structures, trade deals, and even direct aid programmes. A further example demonstrating that economic power and size may not be the most important factor is that the top 10 richest countries do not match up to the top 20 richest entities.

Revenues represented on the richest entities list could be a better representation of economic power. This is because revenues suggest the movement of money before outgoings have taken place. The local economy relies on the movement of money to pay for wages and resources to propel further spending for goods and services by the local population. The richest countries also are the largest consumer markets.

The importance of economic power

Economic power is important to superpowers because money can be used to buy or invest in other forms of power to grow the superpower potential of a country. Purchasing power drives a country’s economy. A larger purchasing power can buy cheaper goods and afford high-tech equipment to expand its industries for exports further. Currently, the US Dollar is the most powerful currency. Other governments consider it a safe currency with minimal risk when investing. Some nations borrow in US dollars as there is less trust in their currencies for example during the Venezuela hyperinflation in 2016. This is despite the fact that the United States does not sell many material exports.

Foreign direct investments (FDIs) are sources of money coming from foreign investors including other governments. The United States gained $221B in 2019 from foreign direct investment which continues to fuel the economy. The large number of American start-ups and TNCs attract this investment. It also spends a large amount in other countries. The United States has helped Japan transform from post-war depression into a tech kingdom by the provision of management, technology, and equipment into automobile manufacturing during the 1970s. Likewise, the One Belt One Road Project by China is a larger scale FDI project to aid recipient countries in building new infrastructure and creating local higher-skilled jobs. The financing country benefits by expanding its reach into international markets in the hope of dividends and other political sways. This is an essential part of smart power in international relations.

FIg. 2 - FDI by country from 1985 to 2018.

What is the weakness of focusing on economic power?

The development of economic power is difficult and often plateaus. Many developed countries have fallen into the middle-income trap. An example of this is the current turbulence of China’s economy. The China Ever Grande Group debt crisis and resulting international financial panic, ongoing supply chain delays due to the COVID-19 pandemic, and a critical electricity crunch has affected its main industry of manufacturing. This is a mixture of internal and external factors affecting economic stability. Other examples of internal factors include hyperinflation, civil unrest, and natural disasters.