Geopolitical Shocks: What are the Consequences of the Retreat from Globalization in World Regions?
Some writings argue that the goal of globalization was to bring the world closer together, engaging both developed and developing economies in a network of economic and financial ties beneficial to both parties. Since around the mid-1980s, trade and financial flows between countries expanded rapidly as governments removed barriers to these flows. However, not everything went according to plan; tensions escalated because the benefits were not shared equally within or between countries. In light of this, “Foreign Policy” published an article titled “The World Regrets Its Retreat from Globalization” on March 24, 2023, by Eswar Prasad, a professor of trade policy at Cornell University’s Dyson School and author of “The Future of Money.”
Advantages of Globalization
The article notes that during the era of globalization, emerging market countries benefited in multiple ways, as follows:
Opening Advanced Companies in Emerging Markets: With lower transportation costs, companies in developed economies found they could benefit from lower labor costs in developing countries. Additionally, these companies could structure lean and efficient supply chains that span multiple countries, allowing cost savings by relying on different countries’ specialization in various intermediate products.
Increasing Foreign Direct Investment (FDI) Flows to Markets: The article indicates that emerging market countries, which long struggled to obtain foreign financing except in the form of debt and under unfavorable terms, now receive more stable flows under better conditions that do not require them to bear all the risks. According to the article, direct investment tends to be less volatile than debt or other forms of financing, with foreign investors sharing the risks of this investment in exchange for better potential returns.
Emerging Markets Benefiting from Hard Currencies: According to the article, financial flows moved in both directions, with many emerging market countries using their trade surpluses to accumulate hard currencies and invest them in government bonds issued by the United States and other developed economies. This way, if foreign investors moved to a politically aligned emerging market, that country could still pay for its imports in hard currencies and protect its currency value. Thus, a symbiotic relationship developed between developed and emerging market countries, with both sides benefiting from relatively unrestricted trade and financial flows.
Reasons for the Retreat
Despite the broad benefits of globalization, the article notes that over the past decade and a half, globalization has receded due to several geopolitical shocks and frictions, most notably:
The Global Financial Crisis: The article notes that cross-border financial flows declined after the global financial crisis. This was mainly due to Western banks curbing their global ambitions, while trade flows continued to expand. For both types of flows, economic considerations such as efficiency and cost reduction remained the leading factors determining the patterns of these flows. However, according to the article, it was only a matter of time before financial flows, or at least FDI flows, returned to pre-crisis levels.
The COVID-19 Pandemic Dilemma: The article explains that the COVID-19 pandemic disrupted supply chains worldwide; with the pandemic affecting different countries at different times and to varying degrees, it exacerbated the recession caused by the pandemic. Breaking one link could disrupt the entire chain, and China’s strategy to eradicate the new coronavirus caused further havoc on global supply chains, according to the article.
Geopolitical Conflicts Among Major Powers: According to the article, the Ukrainian war demonstrated that relying on a single energy product supplier could leave an entire continent vulnerable. National governments and corporate leaders noted this, and the article sees geopolitics taking a turn for the worse, with escalating tensions between the United States and China exacerbating these issues. Technology has become a new battlefield, with China aiming for self-sufficiency and seeking to increase its global market share of high-tech products, while the United States sees a threat to its commercial interests and national security from the increase in Chinese companies. In this context, the United States has imposed restrictions on exporting high-tech products and technologies and even tried to discourage private investment from flowing into China.
The Worsening Climate Change Issue: The article notes that trade tensions, geopolitical rifts, and efforts to combat climate change have helped shift the focus away from efficiency toward stability and resilience represented by lean and medium-sized supply chains.
Broad Consequences
As countries retreat from globalization and begin to look inward, the article suggests there could be widespread economic and geopolitical stability repercussions. The article anticipates that low- and middle-income countries will bear the brunt of this, as follows:
Reinforcing Domestic Trade Measures: According to the article, one way countries and companies have dealt with uncertainty is by diversifying sources of supply and export markets for goods and services. For example, Apple is trying to shift some of its products and assembly operations to India and Vietnam, but diversification is usually costly and adds different kinds of complexities, including managing multiple supply chains. Instead, countries and companies take a different path, redirecting their trade and financial flows to align with geopolitical commitments. These responses include trade measures (tariffs and import/export restrictions) and industrial policies to promote local technologies, which, according to the article, act as barriers to trade and investment.
Tendency Toward Local Economic Policy Making: The article sees supply chain disruptions, geopolitical fragmentation, climate change adaptation, and a range of economic and political pressures all pushing in the same direction, toward a domestic tendency for economic policy making. It has unveiled the curtain of maintaining US technological supremacy, improving energy security, and promoting domestic investment in green technologies and other new technologies. The Inflation Reduction Act includes several policies that implicitly act as barriers to free trade, such as tax exemptions for electric cars made in the United States.
Reducing Technology and Knowledge Transfer to Emerging Markets: According to the article, patterns of both trade and FDI flows are now gradually changing in ways that reflect geopolitical alliances. For emerging market economies not politically aligned with developed economies, reduced trade and financial flows will mean reduced technology and knowledge transfer, hindering their path to development.
Restricting Access to Export Markets: The article notes that as countries retreat from global integration, access to export markets may become more restricted over time. This may be less important for countries like China, India, and Brazil, which have grown significantly, become more self-sufficient, and wealthier than many other emerging market economies, but it could stifle smaller countries still in the early stages of economic development.
Hindering Development in Low-Income Economies: The article anticipates that these trends will hinder the economic development of low-income countries, many of which have relatively young and expanding workforces but remain deprived of financial and other resources. According to the article, low-income countries in sub-Saharan Africa, in particular, lack the financial capital and technological knowledge to build basic manufacturing, let alone compete effectively in future industries.
Limited Foreign Investment in Developing Economies: The article notes that limited foreign investment, especially in manufacturing rather than just resource extraction industries, and restrictions on access to global markets will make it difficult for these countries to achieve economic progress and improve living standards for their populations. However, the volume of financial flows to emerging markets may remain largely unchanged as advanced economies face aging populations, high public debt levels, and declining productivity growth. Thus, investors seeking better returns on their investments or at least diversification opportunities are likely to continue finding emerging market economies attractive. However, the nature of this financing could change in significant ways; instead of more stable flows like FDI, emerging markets may receive more of this financing in the form of portfolio investments, i.e., money flowing into stock markets and corporate debt, which tend to bring fewer side benefits, such as technology transfers.
In conclusion, the article notes that the retreat from globalization may leave countries feeling more secure and less exposed to global volatility, but the costs of this withdrawal will be substantial in the long term. All countries, rich and poor, will regret their inward turn one day, as the article argues that various forms of industrial policies drive the weak shift towards global trade and financial integration. Notably, China’s “dual circulation” policy, which aims to boost domestic demand and innovation while continuing to engage in the global economy, and India’s “Make in India” initiative, which has similar goals to promote Indian manufacturing by protecting local manufacturers in certain sectors from foreign competition, alongside US industrial policies. The article sees that even advanced economies have retreated from their absolute support for free trade.
