Globalization Disrupted

Is it time to say goodbye to globalisation? Many have already proclaimed its death, and the current crisis merely marks its unceremonious burial for them. Watching how the world seems to be collapsing around us, such a prognosis seems plausible. But from a historical perspective, the current crisis and the accompanying social turmoil echo many wrenching readjustments from the past. The only differences today lie in the scale of the crisis, the speed of change and its global visibility.

Past disruptions to global integration, whether through the Bubonic Plague, the Industrial Revolution or the Great Depression, affected much smaller sections of the planet, and that too at a comparatively gentle pace. The acceleration of transport and communication, and reduced barriers to trade over the past three decades have created wealth at an unprecedented scale and speed. The reversal too has come at a shocking pace.

Nothing illustrates the speed of the reversal more than the sharp and synchronised drop in global trade since the crisis erupted last September. According to the IMF, world trade volumes are expected to fall by 2.8 per cent this year — the first time in a quarter century that global trade will decline. The value of China’s exports fell by 18 per cent in January (year-on-year) and Japan’s fell by 47 per cent. How do we explain this dramatic collapse across the board? The drying up of credit for exporters, rising unemployment and plunging consumer demand spawned by the collapse of the financial sectors are easy to identify as reasons for falling trade.

A less obvious, but perhaps more pertinent explanation for the rapidity of the collapse is the vertical specialisation of manufactured products. A recent study, ‘The collapse of global trade, murky protectionism, and the crisis: Recommendations for the G20’, suggests that “widespread use of international supply chains” might be a major factor. Currently, as much as 40 per cent of manufactured products originate from supply chains spanning continents. Whatever their ‘made in’ labels may suggest, when a car or a refrigerator or a television reaches a consumer, it contains parts that have circled the earth many times at different stages of production. This process has enabled reduction in production costs and made efficient uses of manpower and resources in producer countries. The benefits of industrialisation have spread around the globe. This vertical specialisation has been possible thanks to the dramatic drop in transportation and communication costs and tariff barriers. Since the goods-in-process cross many borders, falling tariffs in particular have boosted this type of production.

The gains achieved through this process are now revealing their downside. As the US cuts back on its demand for personal computers, countries supplying PC components have fewer orders to fill. When they, in turn, stop importing processing chip or other US-supplied parts, American exports also fall and the impact ripples throughout the supply chain. As much of global trade is linked to production chains, pulling the plug in one location causes shockwaves all around, driving down trade in a more synchronised manner than it would in a less integrated world.

One effect of the supply chain production system is multiple counting of the components and semi-assembled products as they repeatedly cross borders. An imported transmission in a car that is exported is counted twice in trade statistics: once as an export component and once as an import, embedded in the car. The synchronised drop in trade numbers it has produced tends to magnify the psychological impact of the fall.

As global demand contracts, countries are tempted to protect their export industries by offering subsidies and raising both tariff and non-tariff barriers. According to the World Bank, various governments have proposed or enacted 78 trade restricting measures to protect domestic industries since the crisis began. Although the impact of these measures are hard to judge at this point, they are likely to add to the spiral of contraction. Attempts to protect a country, which is part of an interlinked production organism, by shutting out others ultimately risks hurting the very country politicians are seeking to protect.

In this dismal beggar-thy-neighbour scenario, one can only hope that countries that benefited from vertically specialised industries will be careful not to undermine prospects for recovery by resurrecting trade barriers. Because when the recovery begins, it will be those very industries who could be in the best position to propel a synchronised rise in world trade.