Paul Diggle

Hello and welcome to Macro Bytes economics and politics podcast from abrdn with me, Paul Diggle. This week, we are talking about globalisation and indeed trends towards deglobalisation, fragmentation of the global trading system reshoring and friendshoring going to talk about what these terms mean, how the nature of globalisation is changing, whether an increasingly hostile political backdrop is or will send globalisation into reverse, and what all that might mean for economies, financial markets and investors. So, I'm joined by James McCann in this discussion. Welcome, James.

 

James McCann

Thank you for having me.

 

Paul Diggle

So the obvious place to start, I think, James is to ask, what is globalisation? I mean, how do we define it? How do we measure it? Has globalisation gone through phases, changes historically?

 

James McCann

Yeah, I think that's a great starting point. And we can look at this a couple of ways. First of all, we could take a textbook definition of globalisation. And this sounds very formal, but we can think of it as a process that erodes national boundaries that integrates economies, cultures, technology and produces complex relationships, that stretch across borders. You know, and I think that gives some headline sense, but obviously sounds very, very ivory-tower-ish. If we think more practically a great example might be the smartphone that people are perhaps listening to this podcast on. Think about the company, perhaps Apple, perhaps another, that the smartphone was produced by probably trading on international stock indices owned by a wide range of global investors, created IP (intellectual property) in one part of the global economy, but then the production of the physical product stretching across an enormous supply chain, probably talking about dozens of countries involved in that. Distributed and sold across, you know, the global economy too. On that smartphone, you can get access to Korean television, you're gonna get access to news from Europe or Japan or Latin America, you can read research from the Royal Bank of Australia, Reserve Bank of Australia, I should say. So think about the ways in which the combination of global trade, finance, information technology integration has reshaped the economy and the world in which we live would be a very headline way of thinking about it.

 

Paul Diggle

Brilliant, and that I think, previews a lot of our discussion that we're going to have that there are lots of different angles to globalization. It’s not just trade. But of course, trade is what most people think about first when they think about globalisation. And that as well as perhaps the movement of people across borders has faced something of a backlash over the past decade or more. And that's playing out in measures of global trade and broader indices of globalisation. Let's talk about the ways in which that traditional trade engine of globalisation has stalled or gone into reverse. What are the headlines here, James, about trade intensity tariffs, WTO membership and the like?

 

James McCann

Yeah, that's absolutely right. And I think the reason people associate trade with globalisation is, as you mentioned, it's been the real driving engine, this, you know, the deepening of global supply chains, the rise, the inexorable feeling rise for many decades of global trade. And you asked earlier about the different phases of globalisation. There's a phase that we call hyper-globalisation that occurred between the 1980s and just before the financial crisis. And there you saw a real explosion in global trade facilitated by falling tarrifs, facilitated by an increasingly important role of the WTO, the integration of emerging markets into the global trading system. But you're absolutely right. What we've seen, perhaps, since the financial crisis, has been signs that this engine has been stalling and really quite alarmingly so. So if we think about that global trade intensity, global imports and exports as a share of GDP, they essentially doubled during that period of hyper-globalisation. They've made no progress since the financial crisis. In fact, they’ve fallen back somewhat. So, there's this sense that that global integration of trading networks, of supply chains, has absolutely stalled, maybe reversed ever so slightly, at the margin. And I think critical to this has been some of the policy environment around trade, as you mentioned, has become more more hostile. So, we have certainly not seen further progress on reducing tariffs, if anything the push towards tariffs has moved in another direction. We've seen a tariffs spat between the US and its major trading partners, particularly China. WTO membership has stalled, and perhaps most importantly, the WTO resolution system has broken down effectively. And so, it's not just the size and the scale of that institution, it’s its functioning as policing the global trade system that seems to be really coming up against critical issues. One interesting dynamic we are seeing is a rise in regional trade agreements. So maybe some sense that as global trade integration is stalling, we're seeing maybe more efforts for politically focused smaller trade integration across networks. So, you know a good example of that might be Trump's previous term. You know, there was clearly a big trade spat with China, there was progress on the regional trade side, though, with the signing of a USMCA trade agreement for North America. Obviously, that replaced an existing trade agreement too, but you see this sense that there's a degree of regional focus or perhaps even friendly trade partner focus around trade.

 

Paul Diggle

And what's the driver of that focus on smaller, closer groups of countries integrating even if global trade integration has stalled or even gone into reverse? What are the drivers of what you might call a balkanization of the global trading system?

James McCann

I think they're I think they are political. And I think they are strategic around geopolitics as well. So if we look at the elephant in the room here, and that's probably the US and China and their increasing and long running strategic conflict or bubbling away sort of competition, then I think there's a great deal of angst on a few fronts. One is potentially ways in which China has manipulated aspects of the free trade system and the globalisation of trade, but also technology to its advantage to allow it to stand on a more even technological and economic footing with the US. So this, you know, comes out in terms of the fears around globalisation, and the shifting in supply chains towards China, the anxiety that created around local US manufacturing jobs. But then there's also a more direct sort of security concern. And that relates to issues and fears around trade being a method and a tool to allow these countries to gain a geopolitical advantage. So, we see particularly sensitivity over high technology and strategic trade investment around let's say, sensitive areas, sensitive technologies. So broadband technology is probably the best example of that, but also semiconductor chips is another great example of that. So, there's these competing sort of economic and security motivators that mean that countries are looking to use trade to their advantage, as part of that broader political pivot to see off strategic competition with other non-friendly powers.

 

Paul Diggle

And the most recent concern that the US has vis-a-vis Chinese is overcapacity and accusations of dumping? That's not so much an issue of too little trade – it’s too much, right? How is this playing into this picture of a geostrategic angle to global trade relationships? Why is the US so worried about overcapacity in China?

 

James McCann

Well, I think the fear is that this just continues to exacerbate production issues at home. And we've certainly seen alongside that strategic desire to at least be more active around industrial policy in protecting domestic industries and potentially even bringing some jobs back into the US. That's been a key component of Biden's politics. And I think that's something that, albeit the method is different, that he shares with President Trump. I think both Presidents would be potentially more protectionist or potentially looking to protect US manufacturing jobs albeit the methods they use might be relatively different. One would go through unilateral trade disagreements and conflict the other looking to involve friendly members of their allies and strategic alliances. But you know, this translates to traditional industries. So we see a lot of sensitivity around the steel trade, but it also translates to those new economy aspects, so new technologies like electric vehicles too and I think there's a desire on both fronts not to see a further hollowing out of the US industrial base, but also to secure those areas of manufacturing that are seen as high value add, strategically important as part of the energy transition, and things that the economy maybe needs to protect in a more interventionist way. And that comes through the industrial policy angle potentially, to make sure that the US doesn't lose out on this. And we've seen a good example of this around what's happened on solar technology. So Chinese incredible investment in that and what you know, what they've done to the cost structure around that, you know, I think that's probably been in aggregate a good thing for the global economy, but I think developed markets are keen for that example not to be followed and for them to miss out on building their technology base and building their production base around those critical industries for the next coming decades.

 

Paul Diggle

It's also interesting that overcapacity is a way in which China may be imparting a deflationary impulse to the global economy. And that is perhaps the silver lining for the US at a time when, as we've talked about on many other podcasts and with yourself, James, about when the US is struggling with too high inflation. But let's move then from trade to these other aspects of globalisation and what they are doing. And you made a great case at the start with the phone example that information is part of globalisation. So how do you measure that? And, you know, tell us why that is such a crucial part of how you understand globalisation?

 

James McCann

Yes, there's a couple of ways that we try and measure the information component of globalisation. One is thinking about the technological forces that enable the cross-border transfer of information. So, we're thinking there about internet usage, we're thinking about mobile phone ownership and usage those key technological enablers, which have continued to rise very, very steadily and there’s scope for them to continue to rise further, particularly in emerging markets, obviously. And then on the more formal side, we look at things like evidence of intellectual property moving across borders. So, there we want to capture things like patenting activity, and in particular, patents that are triadic in nature. So that's where you go for a patent, but not just in your local jurisdiction, but across the major patenting global agencies, too. And I guess critically there, the thinking is that you're looking to protect that intellectual property across a wide range of countries, which is symptomatic of wanting to move that intellectual property into those markets. You know, and similarly, we look at trademark protection across markets as well. So, we think that these are symptomatic of those technologies, those business models, those new breakthroughs moving over borders, and you know that desire to protect them is a good indicator of that, albeit maybe not the most perfect, it's difficult to capture these things precisely. In terms of championing why this matters, you know, perhaps, India and when we think about aspects in which global trade could improve, let's think about services trade. That's always been the part of global trade that has lagged. It's harder to deliver services across borders traditionally, at least, and that's why manufacturing and goods trade has exploded but for cross border services, it's lagged for many years. If we think about recent years, we've had significant digitization, potentially that's enabling a greater degree of cross border transfer of services and India has been in a position to take advantage of that given you know, aspects of its domestic specialisation, its English language skills. And consultancy is an area in which it's really gained some comparative advantage and we've become more used to outsourcing. And as part of that, and the technology enablers, a country like India might be well placed over a number of years to be using this these technological changes and the ability to transfer services across border to gain in the global trading system. Even as that you know, traditional export focus trade engine via manufacturing goods is stuttering, maybe there's some potential for more information and cross border technology led economic activity to move forwards.

 

Paul Diggle

So, flows of capital across borders are another aspect of a rich understanding of globalisation. They took a big hit after the financial crisis in the late 2000s. What his most recent picture on the globalisation of capital?

 

James McCann

It’s absolutely right that he was enormous after the financial crisis and in some ways there, when we look at the headlines, that continues to distort the headline signals, particularly given the decline in cross border banking claims. So, the sense that before the financial crisis, the financial sector became so heavily integrated, there is enormous movement of capital between the banks across borders. And I think the unwinding of that has probably been a positive signal for the global economy that banks are moving on to a more solid footing underpinned by stronger regulation and restrictions on the way in which those capital networks can become perhaps precariously exposed internationally. When we exclude that though, I think there are one or two of them are positive signals particularly around foreign direct investment, which is traditionally thought of as the stickiest type of cross border investment if banking capital flows can be very, very volatile foreign direct investment tends to have longer time horizons behind it. That has been rising, actually very steadily. It did take a hit in let's say the five years or so after the financial crisis, but it's fully recovered that and continues to rise. And then portfolio flows so more sort of traditional flows into equity or debt products, they have been increasing too. So this, sense that in the aggregate there looks like a degree of stalling in terms of global cross border financial flows, if we break it down, I think really, a lot of that is down to banks, perhaps rolling back some of the excesses that they built up before the financial crisis and a healthier, more sustainable form of cross border financial flows, continuing to rise. So, I think we take some modest encouragement from that, that investors are still seeing compelling opportunities across borders, and capital is flowing towards those, I think that's a positive, dynamic still.

 

Paul Diggle

And then our fourth aspect of globalisation is people moving people across borders. Now just like capital took a huge hit during the financial crisis, the movement of people took a huge hit during the pandemic, but it seems like if we're to judge by recent US immigration numbers, James, that has really come roaring back. So, what's the picture on the globalisation of people?

 

James McCann

Yes, it's hard to smooth out some of the pandemic distortions just the enormous hits obviously, to tourism and cross border movement. As those borders were closed for a long, long period of time. I think ahead of the pandemic, what we had been seeing with very steady increases in those cross- border flows of people. And I think as we try and smooth through and look beyond that pandemic hit, it does seem to be that those underlying trends are probably intact, to some extent. And I think the US immigration data or forming immigration data that we're starting to see, which is deepening the picture of the scale of immigration over recent years, is probably bearing that out. So, you know, certainly the headlines around migration, the scars of the pandemic will be there for a while. But I still think there's a lot of cross border movements of people, I think that's resuming as the shock from that pandemic fates. And I think that in itself is creating a great deal of tension. And we see this in the US ahead of the 2024 election. We know it's been an issue in Europe over the 2010s, let's say around the Brexit referendum, but also around the significant immigration into Europe after crises there, sorry, in the Middle East. So, you know, I think this is an interesting aspect of globalisation in which there continues to be significant progress, but maybe similar to the trade side, we're seeing a political backlash against that, and it's one of the concerns that we have is that across a few angles, that the politics of globalisation continues to become more toxic.

 

Paul Diggle

Yeah, well, let's get into that. But perhaps before I ask you about how the policy backdrop is changing, you've published work for abrdn James, that pulls all this picture of globalisation together, and you've called it globalisation 3.0. How would you characterise the state of globalisation 3.0 then?

 

James McCann

Yes, I think globalisation 3.0 is structurally slower, so it's a step change from that hyper-globalisation through the 1990s and early 2000s. That hyper-globalisation was characterised by stronger global growth, by weaker rates of global inflation, by strong growth in corporate earnings, you know had huge  global macro ramifications. I don't think that this latest globalisation 3.0 phase will have the same significant macro benefits behind it. You know, I think the second conclusion is that, while the pace is slow, maybe the most interesting thing has been that compositional shift. And this reflects the conversation that we've had. There's been a shift away from that very global trade supply chain-oriented model towards a more information centric balkanized capital flow centric and people centric model of globalisation. I think that creates interesting implications too around what the macro implications might be. So, we might not be expecting those big global forces driving growth, driving equity earnings driving inflation lower. But you know, potentially, this is something that shifts the winners towards different proponents in the global economy, different sectors, maybe more service sector orientated, more information and technology sector orientated and maybe it keeps the benefits contained within different regional blocs as well. So, I think it will be an important phase. I think the sense that globalisation or hyper-globalisation was something that lifted all boats, and I think that's debatable anyway, but I think this latest phase of globalisation will be one in which perhaps, the benefits or the characteristics are even more sort of regionally specific than the earlier phase.

 

Paul Diggle

So, globalisation occurs within a legal and institutional context, things like the World Trade Organisation, and you have spoken about how the WTO is dysfunctional, how tariff levels are rising, but the legal context, the institutional context also of technological globalisation, capital globalisation, freedom of movement, that's also changing as well. How?

 

James McCann

That's right. And I think that this reflects the underlying sense, as we spoke about earlier, that  globalisation has become, ‘toxic’ might be too strong a word, but ‘’controversial’ in parts of the global economy. You know, I spoke about those big sort of global positives, raising global growth, bringing hundreds of millions of people out of poverty along the way, there have been if not losers, there have been places in the world which haven't won from globalisation. And in particular, they feel like aspects have developed market manufacturing communities in which the production has shifted overseas. And there's been a big hollowing out of employment prospects there. And I think that aspect of globalisation has created a backlash, and I think the movement of people too, has created a degree of backlash. And I think politically, particularly in Western economies, there is a shift towards a more, a slightly more protectionist, and a slightly more nativist politics, which is providing barriers. So, you know, we mentioned the freedom of movement indices, that's something that we track in our movement of people. And it's deteriorated across a fairly wide range of of economies, as there's a greater degree of scepticism around the benefits of immigration, or at least a desire to put more restrictions on immigration across a wide range of particularly developed economies. We've seen capital controls used more frequently. Now there's a strong macro prudential reason for that, but equally, it's something that could get in the way of that natural flow of capital in towards the best returns. It can create macroeconomic distortions, too. We've seen tariffs start to come back on the agenda. And it's, you know, before President Trump tariffs had been something that we had studied a long time ago as economists, but for longer greed is as an economic tool that wasn't used. And now more and more, we're seeing the threat of tariffs come back into the discourse. And we try and map all these across the work that we do on globalisation. So we split out those indicators that we think of as de facto as reflecting realised trends in the global economy and in globalisation. So, trade flows, capital flows, movement of people, movement of information. And then as you as you mentioned, the more de jure sort of style indicators, which try and capture these institutional dynamics. And there's a huge divergence, and in particular, the de jure environment is turning much more hostile. And I suppose the fear is that we've already seen this slowdown in globalisation towards a weaker structural pace and a change in its composition. It's not impossible that that continuing unfriendly and hostile policy environment that could even undermine that slower globalisation dynamic and make that even harder to achieve.

 

Paul Diggle

I also think of limits on technology transfers, the balkanization of information. I mean, the US potentially banning certain Chinese social media companies, you know, domestically. It’s another way in which the de jure environment, the legal environment, even for information globalisation, that component, which really has raced ahead, could also be in rollback. But of course the, so you said it yourself James, the US election looms very large in this debate. Tell us what Trump's tariff proposals are, and perhaps more importantly, how seriously should we be taking them as economists, as market participants, at this stage?

 

James McCann

Yes, well President Trump has quite a radical set of tariff proposals. First of all, we could characterise what he's saying he will do on trade with China as having the potential to lead to quite a significant decoupling in that relationship over a not too long time horizon. Talk about 60% plus tariff rate on all Chinese imports will be a significant step up from what he did during his first term. Now we always have to take what Trump promises to what he delivers with a with a grain of salt. It's not impossible that some of this is posturing - looking to create leverage around a deal - but taking the claims at face value

I think that level of tariff could create a significant rift in the US / China economic relationship. And a much broader one than let's say, President Biden is pursuing under his small fence high yard strategy where you're looking to decouple among certain very sensitive strategic areas, but you're allowed to continue trading in other aspects of economic activity, which aren't seen as so strategically sensitive. So that's the policy against China. There's talk of a 10% tariff across a much broader range of trading partners. Again, we have to think about what that means in terms of end policy game versus what will actually be delivered. But at face value that will be a very significant rise in US trade barriers with a wide range of economies. You know, my suspicion is that's probably more used as leveraged to pursue specific Pacific trade outcomes with individual countries. So, we know that trade around vehicles, autos and electronic vehicles with Europe might be a key area of focus on the next Trump administration. And the threat of those type of tariff measures might add a little bit of a ballast to the US arguments and to the US side. But certainly, if we were to aggregate, Trump is threatening to use tariffs in a very aggressive way against China to force a decoupling and in a still relatively aggressive way against a broader range of trade partners more likely to force, you know, leverage in certain trade disagreements. But the tariff tool in itself, you know, looms larger for a second Trump presidency, I think it'll be a key part of his agenda.

 

Paul Diggle

And even under President Biden there has been a focus on industrial strategy and protection of certain strategic industries as part of his small yard high fence policy or approach and a turn to industrial strategy has occurred in many economies - and what do these industrial strategies look like? Which strategy, which industries in particular are being prioritised for protection and why?

 

James McCann

Yeah, I mean, industrial policy is again, a tool that maybe fell out of fashion, particularly in developed economies having been maybe abused and misused for many years, and people are really sceptical about the use of public funds to support key strategic industries. It's come back into fashion in this world of increasing geopolitical tensions, strategic conflict over certain technologies. So really, the aim is to use public funds and public support for areas that are seen as strategically important. So, in the US has a couple of big areas that that falls into. One is around strategically important areas around defence, let's say, microchips – there was the Chips Act by Congress, which essentially subsidises or supports the restructuring and build of a chips manufacturing base here in the United States. And then thinking about the green energy transition too and the technology required to enable that and the technology driving that there's, you know, significant investment going in, be it around the electric vehicle adoption, the infrastructure supporting that, you know, other aspects of investment to support the green transition. So that's what it looks like in the US. It's diversified across a whole range of different economies. But really, it's trying to pin down I suppose some of the strategic benefits of those technologies and show leadership in those technologies, and secure the economic benefits of what's seen as you know, over the next 10 to 20 to 30 years, is going to be critical economic growth sectors for the economy as you go through these necessary transitions. I guess the challenge is you've got lots of economies with a similar idea. So, the US has an industrial strategy. Europe has moved in that direction. In Japan too. Emerging markets have been more frequent advocates of industrial policy and remain so. So, the risk is you're getting a lot of private support focused, sorry public support, I should say focused on these individual sectors. And from an economic standpoint, we might be concerned that there'll be capital misallocation in that environment or that will create a lot of distortions. And we can think back to your conversations around overcapacity in the Chinese economy. It's not impossible that we create a lot of overcapacity in these sectors over the coming years as each economy thinks I want to be the winner in this. I'm going to artificially spur a lot of activity in this in my economy.

 

Paul Diggle

Yeah, globalisation existed for a reason, right? There were gains from trade to be exploited and were going to work in the opposite direction for other maybe good reasons, strategic reasons. But maybe as a final question, then James, is reshoring, friendshoring these are crucial terms in this debate as well production moving back to where the goods are sold or nearby. Is that actually happening? And can we identify winners from that process - countries that are more likely to benefit from reshoring and friendshoring?

 

James McCann

So this is, when we speak to clients, I think this is one of the things that we're asked about almost most frequently - to what extent is reshoring and friendshoring happening? I think there's early evidence coming through perhaps in aspects of the foreign direct investment data and aspects of local industry, manufacturing and production data. So if we look at what's happening, for instance in Mexico, I think there's investment in capacity, production capacity in Mexico, that maybe tells us there’s some reshoring into Mexico. And of course, that would fit the friendshoring dynamic. You're moving within the US MCA that North American Free Trade Agreement. So I think there's some dynamic coming through there in local Mexican production and construction activity. I think when we look at global trade networks, the effect of US tariffs has clearly been to redistribute US trade linkages, and they've moved into other aspects of the Southeast Asian supply chain in particular. Vietnam is a good example of that. I think it's a more complicated question around how much the value added has shifted. So we suspect there’s some tentative evidence that some of that trade has moved from China, through Vietnam and through other economies. But certainly there's potential as that strategic conflict with China continues for those changes to become embedded and enhanced and more of the value added to be driven by those other Southeast Asian manufacturing economies, particularly as they move up through the value chain themselves as well. And I think one of the focuses of a second Trump administration would be to avoid that repackaging and repurposing of Chinese production through another country. So that might be another policy focus that they'll try and avoid China mitigating direct tariffs by sending exports to the US through and through another economy. So I think there's some tentative evidence that we're seeing already supply chains adapt to the new global trade environment. Looking forward, we do think that Southeast Asian economies sit in a favourable part of the global supply chain. For that they have favourable industrial structures, favourable skills among their human capital stock. So we probably would think of a number of those Southeast Asian economies as being in good shape and probably Mexico and other examples, sitting within the US MCA, as a country that that looks relatively well positioned.

 

Paul Diggle

James brilliant, tour de force overview of the current state of globalisation. It’ll continue to be a crucial theme in the years ahead. That's about all we have time for. Thank you very much for listening to Macro Bytes. Please let me remind you to like and subscribe on your podcast platform of choice but otherwise, thank you for listening. Goodbye and good luck out there.

 

 

This podcast is provided for general information only and assumes a certain level of knowledge of financial markets. It is provided for information purposes only and should not be considered as an offer investment, recommendation, or solicitation to deal in any of the investments or products mentioned herein and does not constitute investment research. The views in this podcast are those of the contributors at the time of publication and do not necessarily reflect those of abrdn. The value of investments and the income from them can go down as well as up and investors may get back less than the amount invested. Past performance is not a guide to future returns, return projections or estimates and provides no guarantee of future results.