Globalization has often been portrayed as an inevitable and accelerating force. In reality, however, international trade hasn't been growing as rapidly as it was prior to the 2007-08 Financial Crisis. Although the financial crisis did much of the damage, COVID-19 has piled on to further cloud the future pace of globalization. This combination may have investors wondering whether 2020 was the beginning of the end for globalization.
- Countries were already turning against outsourcing of production, and then COVID-19 showed how dangerous that trend could be.
- The failure of global supply chains will force many companies to consider reshoring critical components.
- The appetite for globalization may be entering a period of long decline.
A Strange Year in Trade
Even aside from COVID-19, 2020 was a strange year in trade. China and the United States started the year by signing a trade deal after spending two years in a trade dispute. The deal was basically a return to the situation before the trade fight, with future steps to be sorted in subsequent negotiations. Then China was a core member of the Regional Comprehensive Economic Partnership (RCEP) that simplified trade in Asia but did little else. This agreement was, however, significant in that the United States wasn't involved at all.
To end the year off, we had the last minute agreement between the U.K. and the E.U. on post-Brexit relations, and it held the U.K. to many of the European standards that were pointed to as a reason for Brexit in the first place. Taken together, it very much looks like the momentum for freer global trade has stalled.
The Fragility of Global Supply Chains
For many companies, COVID-19 was a decade of lessons for businesses packed into a single year. One of the most painful of these lessons was that global supply chains are not as resilient as we thought. From the 1990s right up to the financial crisis, one of the go-to moves in the CEO playbook was increasing production in lower-cost regions and shipping the cheaper components or finished product to the end market. This outsourcing hollowed out a lot of the basic manufacturing in the United States and other relatively high-cost nations, but it saved consumers money and added to the bottom line for companies.
Consumers, for their part, seemed happy with the tradeoff. We had cheaper clothes, furniture, gadgets, and so on. However, when the pandemic hit, wealthy nations discovered that they no longer made basic personal protective equipment. As shipping and the free flow of goods was affected by lockdowns, critical components for all manner of business were held up, and globe-spanning supply chains fell apart.
This reality helped to amplify an existing sentiment already present in many nations around producing more of the things they consumed. Prior to the pandemic, the United States was already embracing a buy American, hire American policy, picking trade fights and pulling out of free-trade deals. This type of economic nationalism may well be amplified by the weaknesses that COVID-19 exposed in global supply chains.
Reshoring as a Business Continuity Plan
Regardless of the political headwinds blowing against globalization, companies are now going to have to seriously consider reshoring portions of their operations in important markets to ensure continuity in the future. COVID-19 has shown that global travel and shipping is vulnerable, so companies that have profited from building lean supply lines based on lower prices may have to build more resilience into their systems even if it comes with higher operating costs.
Of course, there are degrees to reshoring. Companies may choose to build flex capacity domestically to keep critical lines running and fed with components but still source the majority from international suppliers in normal times. Even this minimal level of reshoring would introduce further drag on globalization as companies would naturally scrutinize outsourcing decisions more carefully from a risk perspective. Countries offering incentives for reshoring and disincentives for outsourcing under a "make it here" type policy would further skew the decision making.
The Bottom Line
Economic nationalism was already on the rise in many countries, and then COVID-19 showed how overdependence on other nations for essential goods could turn dangerous. Companies may well take these lessons to heart and start locating more production in important markets despite higher costs.
This could hurt many developing nations, which have benefited from globalization in terms of declining poverty rates and increased investment, and consumers would feel it in their pocketbooks as higher costs are passed on. While it is still far too early to declare the death of globalization, there is no doubt that the headwinds have grown stronger.