Globalization is undergoing a change that we are only beginning to understand – and it’s a profound structural change. Consider the following:
First, the diminishing importance of global trade. Global trade was a major driver of world economic growth between the early 1990s and the onset of the Global Financial Crisis (GFC): trade expanded at an average annual rate of 7.0% between 1992 and 2006, almost double the 3.7% average growth rate of global GDP.
In the ten years after the GFC and before the pandemic, the world economy expanded at almost the same pace, 3.5%; but global trade grew at a significantly lower 2.5% - it was no longer the primary driving force. The pandemic then caused a disproportionately severe shock to trade, which last year contracted by 5 ½ %, helping drag the global economy into a 3.3% recession.
Several factors have combined to cut global trade down to size:
Rising incomes in China and other emerging markets eroded the labor cost advantage: when companies decide where to open a new factory, cheap labor is no longer the predominant factor.
Protectionism has been on the rise. Even before former President Trump made trade wars fashionable, many countries had been resorting to a wide arsenal of trade barriers, from tariffs to local content requirements.
The pandemic has underscored the vulnerability of global supply chains to shocks that can come in a variety of flavors, from natural disasters to geopolitical tensions.
The pandemic shock was the most severe and unexpected; it came on top of ongoing disruptions to trade, and it caused simultaneous havoc in domestic production sectors. The consequences have been staggering. If you are in the US and want to order a new car today, you’ll probably have to wait a year for delivery. If your fridge breaks down, good luck finding a new one. When Fed’s Chairman Powell says he’s confident these problems will sort themselves out in a few months, a lot of people in the corporate world must be rolling their eyes.
Second, the rising economic and geopolitical importance of key raw materials. Technological innovation is making some raw materials a lot more sought after than ever before. Lithium is essential for the development of electric vehicles. Rare earths are crucial for electronics, clean energy and defense. Titanium is needed in aviation, space technology, defense and health care.
In short, a limited number of natural resources holds the key to the industries that will drive prosperity and guarantee national security in the coming decades. But reserves and production of these natural resources are very unevenly distributed, often concentrated in countries like China and Russia. This has further encouraged many countries to adopt an active strategic approach, where natural resources and supply chains become a geopolitical asset. China, for example, has made no mystery of its goal to achieve global leadership in most high-tech industries.
Third: the changing strategies of industrial corporates. Industrial corporates have already started to react to this new state of the world. They are striving to make their supply chains more flexible and resilient. This means making supply chains more local, and taking advantage of innovations like manufacturing platforms that provide real-time access to a wider range of suppliers, and 3D-printing that allows for smaller-scale and more distributed production. This has begun to drive reshoring of production and jobs into the US and other developed economies. Some corporates are working to develop reserves of strategic natural resources in the US. Western governments are taking heed, and are beginning to prioritize investment in infrastructure and R&D to support domestic investment and innovation.
These changes are persistent and mutually reinforcing. Governments across the globe are showing extreme caution and reluctance to relax the myriad restrictions imposed in response to the pandemic; in the end Covid-19 will have disrupted our economies and our lives for at least two years, and the fear of a new pandemic will influence individual and economic behavior for a long time. The economic and geo-strategic competition between the US and China will dominate the global scene for the next decades. The rediscovered importance of national economic priorities is also here to stay: global media like to showcase the return of globalist leaders like Biden in the US and Draghi in Europe, in contrast to the demonized populist trend epitomized by Trump and Brexit. But the truth is that governments will remain a lot more focused on local jobs and incomes than ever before – especially once they exhaust the current scope for sustaining local living standards through debt-financed fiscal handouts. Finally, technology innovations are reshaping economic incentives: the ability to access manufacturing platforms, shorten supply chains and move closer to customers creates important cost savings and efficiency gains that will continue to steer companies towards more flexible, distributed and localized modes of production.
You can’t go home again. We have a very natural, very human desire to think that after the pandemic life will go back to the way it was before. Policy makers tell us that inflation pressures and supply disruptions will be short-lived. We are told that we will keep only the positive changes of these past fifteen months: the flexibility to work from wherever we want, the courage to reinvent ourselves. Don’t be fooled. Some very important structural changes are taking hold.
Supply chains will become more flexible, digital and localized. Countries will need to invest more in securing and developing crucial raw materials. Global trade will remain under a heavier cloud of uncertainty. Global economic competition will intensify: investing in skills and infrastructure and facilitating innovation will be crucial, and the gap between winners and losers will widen. Globalization will not disappear: it still offers huge economic benefits; but it will be a very different, more fraught and adversarial game. Companies will need to navigate this new world, using technological innovation to retain some of the key advantages of globalization while limiting the risks.
The global economic game will be very different – get used to it. You can’t go home again.
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