Let's continue with our analysis by looking at how the geography of capital investments capital flows in the world has been changing over the last 100 years. Let me first show you a map of the world as of 1914, so this is just before the beginning of World War I. What we have on this map is capital flows in the world. We have countries and we have arrows showing where the money is going. The bigger a circle indicating a country, that means the more important that country was as source of capital in the world. And then, in terms of the arrows, the thicker an arrow that means the more money was flowing from a source country to a destination country. So you can see that back in 1914, the most important bilateral capital flow in the world was the one from the UK to the United States. That was the situation back in the year 1914. Now, let's fast forward about 50 years to the year 1967. And once again, both the circles indicating countries and the arrows are proportional to how much money we're talking about. And we see that the geography of capital flows, capital investments in the world have shifted considerably. Now the United States was the most important country in the global picture with Europe being second. We can see that China at the time, didn't play a role at all. because if you remember the Chinese economy in the 1950s and 60s was pretty much isolated from the rest of the global economy. Now let's go to the year 2012 which is the last year for which we have complete data for all countries in the world. Now we see a very different situation, one in which we have four very important nodes or countries In the global financial landscape. We have the US, we have the European Union, which at the time, in 2012, had 27 member countries. And then we have China, and we have Japan, with India and Saudi Arabia as emerging nodes. Now also notice one very important difference with the situation in 1967 or 1914. In addition to the fact that now we have four notes that are of importance. The other big difference is that now the arrows go in both directions. For example you can see that the European Union countries Invest a lot in the United States. But the United States also invests very large amounts of money in the European Union. The same is true for all of the other bilateral relationships on the chart. So it's very clear from these maps that the global financial geography has changed considerably over the last 100 years. Today I'm in London. These are the Royal Courts of Justice, a Victorian building dating back to the 19th century in the Gothic style. The United Kingdom became a safe haven for investors, thanks in part to the regular administration of justice under the common law system. These laws were always very protective of investors, but most importantly they were also courts that administered justice speedily and in a highly predictable way. So foreign investors of all sorts flocked to the United Kingdom in the 19th century, and also during the 20th century. This was a new institution that also supported pound sterling. As the world's most important reserve currency until World War II. And here, right next to St Paul's Cathedral, are the headquarters of the London Stock Exchange. This is one of the most important stock exchanges in the world. And as I just explained earlier, thanks to the institutions of common law and also thanks to the Bank of England and it's very conservative monetary policies. London continues to be a very important financial Center. And this is the present home of the Bank of England in the heart of the City of London. Now what I would like to do is to ask you a series of questions as to what has changed in the world over the last 100 or 150 years? In terms of which are the economies that are the most important? And we're going to consider here four different dimensions of influence. One is sheer size, so which is the largest economy in the world. Another one is trade, which is the largest trading country in the world. The third is, Navy, meaning not the merchant marines, but rather war ships, aircraft carriers, submarines, destroyers. So which country in the world has the largest navy, and therefore the ability to influence events in different parts of the world? Lastly, which is the country that issues the dominant currency used for research? Remember that money can be used for different purposes as a medium of exchange, for instance. But here what I want to focus your attention is on the use of money or currencies as a store of value. That is to say, when countries accumulate wealth, they accumulate surpluses, in which currencies to they prefer to keep those surpluses? I would like you to consider three different time periods. The nineteenth century until world war one that's the first one. The second one is the post world war two period until the turn of 21st century and the third one is the situation today. So my question to you is let us start with the first row Which is the largest economy in the world during each of these time periods? Think about it carefully and do not consider empires, by the way. Do not consider the British Empire or the French Empire. Consider however individual economies, such as the UK or France, or the United States or Japan and so on. Well, if you take a look at the charts and the data that I have in the lights, you will find the answers to many of these questions over here. Most people when they are are ask which country in the world had the largest economy in the 19 century until World War I, they proposed the UK as the correct answer. And I should tell you that the UK was at best the second largest economy. It was by far the richest, the most technologically advanced, and it was the world's financial powerhouse in the 19th century, but it was never the largest economy. So then, if the UK was at best number two, and during many of these years number three, in terms of size, which was the largest economy? Well, there are several candidates. There's France, there's Japan, there's Russia, there's the United States. But let's not forget about two other countries that were very poor at the time. But even their large populations, their economies were very large and those are India and China. So, you take a look at the other tables and charts that I have on the PowerPoint deck. You will notice that the largest economy in the 19th century was China until the year 1888. And at that point, the US, remember that was after the Civil War, became the largest economy. China became number two, and the UK was number three. Now, of course after World War II, it is very clear, that the US became the largest economy in the world, and remember it had been the largest since 1888. By the end of World War II The US had a big advantage in terms of size relative to all other countries in the world. And as of the present time the US continues to be the largest economy in the world according to some statistics but China according to others already is he largest. So you can see this dynamic on this chart over here where you see that at least according to this metric here from the World Bank, at roughly speaking the year 2013 or so, the Chinese economy had become bigger than the US economy. I should warn you that not all indicators of the size of economies in the world show you exactly the same Evolution, with some of them indicating that the US continues to be larger than China. So if you answer the first row in our table. For the second row, which is the largest trading nation, I'm sure that most of you were thinking that during the 19th century until World War I, the UK was the largest trader in the world and that is exactly the correct answer. From this perspective, from the point of view of trade, the UK was by a wide margin the largest trading nation in the world. After World War II, however, leadership in global trade had gone to the United States. And at the beginning of the 21st century, to be more precise in the year 2007, China became the largest trader in the world in terms of merchandise. And by the year 2012, it had become the largest trader in the world in terms of both goods and services. I'm in Trafalgar square in London and this is the monument to Admiral Nelson. Nelson was a commander of a Royal Navy fleet that combined Spanish and French navy and the Battle of Trafalgar in 1805. And that was the beginning of British naval supremacy. From that point on, and very much until World War II, the Royal Navy was the most powerful in the world. This is the old Admiralty building in London. For 350 years the Royal Navy had its headquarters in this building. Now the next question that I asked you was, which country had during each of these time periods, the largest Navy? The largest navy of course is important when it comes to the global economy because the country with the largest Navy can impose its rules of trade onto the rest of the world and can patrol and protect the trading routes, and can also protect the investments. Well during the 19th century, all the way up to World War I, it was very clear that the Royal Navy was the preeminent and the dominant, the hegemonic navy in the world. After World War II, the US Navy became the largest and the most powerful in the world and it continues to be. At the present time, the largest and the most powerful. Keep in mind that the United States spends on its Navy more money than the rest of the world combined at the present time. And then lastly is the issue of the reserve currency. So remember this is the currency issued by a government that most people, most companies, most other governments in the world. Prefer to use to store their wealth because they believe it's a safe currency. Well, I'm sure that many of you were thinking that during the 19th century and all the way to World War I, Pound Sterling, the currency issued by the bank of England was the safest in the world, and that's true. Now also remember, that if you were thinking about gold as the safest currency. Gold itself, is only available in limited amounts in the world. But what happens, often times, the governments link the value of their currency to gold and of the gold standard and that's exactly what the Bank of England did. There in certain periods of time in the 19th century. In a way to offer additional guarantees about the stability and the safety of pound sterling. After World War II however pound sterling was no longer the prefered or the dominant research currency in the world. The dollar has taken its place. And also remember that between the years 1944 In 1971, the dollar wasn't the gold standard. And that effectively meant that if you were holding a dollar bill, you could go to a federal reserve bank and demand the equivalent in gold. 1971 the convertibility of dollars into gold was suspended because remember the US had been printing a lot of money to fund the Vietnam war and you'll realize that they didn't have enough gold in the bolt to pack it up. Today the dollar continues to be the dominant reserve currency in the world and the second most important one is the Euro
