• Varun Rao

What will Globalisation 2.0 look like?

by Varun Rao, Rahul Rao and Yasir Aheer


Summary:

  • The grim spectre of COVID has turned several decades of economic canon on its head. Recent events have laid bare the stark reality that many goods, particularly medical, are in fact matters of national security, not just economics.

  • Self sufficiency is suddenly the name of the game. In the short term, it is all hands on deck with respect to manufacture of medical equipment. Longer term, self-sufficiency in manufacturing is a non-trivial aspiration for the vast majority of countries.

  • Developed high-wage economies will need to compete on value, as they will inevitably struggle to compete on cost. This drives the need for innovation.

  • While the demagogues make powerful emotional cases for deglobalisation, it is vital to assess the benefits and drawbacks of this dramatic reversal of our outlook. Governments will need to lay down a framework and strategy for on-shoring key industries, while continuing to enjoy the fruits of a globalised economy in some areas.

It is a truism that globalisation is the bedrock of modern society. This is in many ways the economist’s dream as economic theory dictates that optimum efficiency is achieved when entities, be they countries, companies or units, produce goods or services that they are specialised at, thereby offering these at the lowest possible cost. There is another less obvious benefit to international trade – peace. First mentioned in 100 AD by Plutarch, the idea that peace between countries is a consequence of trade has gained momentum in recent decades. As a result, we live in a world that is more connected than ever.


However, the grim spectre of COVID has turned several decades of economic canon on its head. Recent events have laid bare the stark reality that many goods, particularly medical, are in fact matters of national security, not just economics.


No longer is it sufficient to argue that importing ventilators from another country is good economics – when the chips were down countries simply refused to play ball. President Trump used a law dating to 1950 to order 3M to stop export of US-made masks to Canada and Latin America. Closer home, Australia has banned the export of various personal protective equipment to aid in our domestic battle against COVID, a move also taken by the European Union, China and India. Global food supplies are also subject to these restrictions, as food-exporting countries hoard supplies to prepare for the imminent catastrophe.


The message is clear – self sufficiency is suddenly the name of the game, a brutal admission echoed by the White House trade adviser Peter Navarro, who said, “People need to understand in crises like this, we have no allies”. Worse, there is considerable rancour over accusations and counter-accusations related to allegedly faulty COVID tests [1,2].


In the short term, it is all hands on deck with respect to manufacture of medical equipment. In Australia, the government issued an urgent call to local manufacturers to produce personal protective equipment; by all accounts, the response has been admirable. In another act reminiscent of war-time measures, carmakers in the US were ordered to produce ventilators.

This experience begs several questions – what other products do countries need to be self-sufficient in? Is there a way to plan ahead instead of panicking in the middle of another emergency? What other products could be vital to the security of nations, when viewed with the correct lens? Mandarins in government offices the world over are likely poring over vast numbers of documents pondering the answers to these questions.


In the broader context and looking longer term, self-sufficiency in manufacturing is a non-trivial aspiration for the vast majority of countries. Blue collar jobs have seen a steady decline in developed nations such as Australia [also here] as industries struggle to compete with less developed countries exploiting their advantages of low wages and lax regulation. On the other hand, less developed countries simply lack the technical expertise to design and manufacture good for high tech and precision industries.


It will be interesting to see how the situation pans out with self-sufficiency stated as the avowed goal, rather than efficiency (and therefore cost) of production. In Australia’s case, a 2018 study showed that manufacturing supported approximately 1.3 million jobs, not an insubstantial number. The Federal Government has also set up the National COVID-19 Coordination Commission, headed by the former head of Fortescue Metals, Nev Power, to help formulate the sector’s role in a post-COVID world. Mr. Power appears to be whole-heartedly in favour of supporting local manufacturing, boldly stating: "We have an opportunity that we can take out of this crisis to change that and put in new investment, new technologies, take advantage of our low dollar at the moment to restart a lot of manufacturing."


While a large part of the onshoring drive must inevitably come from government policy through regulation and financial incentives, there is likely to be a significant demand-side push for locally-sourced supplies (also see this), even at marginally higher costs than imported goods. The economic costs of the COVID pandemic could dwarf any potential savings companies have accrued over years of streamlined, pared-to-the-bone supply chains.


This once-heretical sentiment is now being tossed about in the highest echelons of Australian government. Andrew Liveris, part of the government’s National COVID-19 Coordination Commission recently declared, "Australia drank the free-trade juice and decided that off-shoring was OK. Well, that era is gone". India, Japan, and the EU have expressed similar sentiments.

Even if developed countries manage to on-shore parts of their business, it is unlikely to be smooth sailing. To persist with nautical metaphors for the moment, this is uncharted territory. These countries will need to compete on value, as they will inevitably struggle to compete on cost. This drives the need for innovation. Legacy methods of production simply will not cut the mustard in a brave, new world where the titans of industry do not produce tangible goods, perfectly summed up by the title of The Economist’s 2017 article “The world’s most valuable resource is no longer oil, but data”. Automation, artificial intelligence and robotics will be the key differentiators that determine the success of this initiative.


As with most things, even if done well, there is no free lunch in the on-shoring game. There are several sound reasons to enthusiastically support globalisation and free-trade. A recent report by the Productivity Commission describes the many benefits Australians have enjoyed due to tariff reductions – cheaper cars, whitegoods, clothes and shoes, to name but a few. Even in developed countries, life in a post-globalisation world will be “most expensive and less free”.

A staggering 90% of Australia’s merchandise imports (and 33% of its export income) come from China, its biggest trading partner. To state the obvious, China’s position as manufacturing superpower is well deserved – it relies on low cost, large scale manufacturing with well integrated supply chains. In 2018, China’s production share (as a percentage of global production) in a number of industries was staggering:


· Household goods: 35%

· Hi-tech goods: 46%

· Textiles and Apparel: 54%

· Chemical Products: 42%


There are also concerns that on-shoring advocacy is merely rent seeking behaviour with a more palatable façade. Australia’s Treasurer, Josh Frydenberg cautioned that demand for locally manufactured goods "should not be seen as an argument for protectionism", and rightly so. There is also the small matter of free-trade agreements with a host of trading partners, who would no doubt retaliate should Australia seek to unilaterally breach these binding contracts.


While the demagogues make powerful emotional cases for deglobalisation and on-shoring, it is vital to assess the benefits and drawbacks of this dramatic reversal of our outlook. Governments will need to lay down a framework and strategy for on-shoring key industries, while continuing to enjoy the fruits of a globalised economy in some areas. Wholesale one-size-fits-all promises to bring back the glory days of manufacturing, while popular, are unlikely to be practical or desirable.

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Disclaimer: This article is based on our personal opinion and does not reflect or represent any organisation that we might be associated with.