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IIST e-Magazine (For the Japanese version of this article)

The End of Globalization? Risaburo Nezu Senior Research Advisor Research Institute of Economy, Trade and Industry [Date of Issue: 27/April/2018 No.0278-1073]

Date of Issue: 27/April/2018

The End of Globalization?

Risaburo Nezu
Senior Research Advisor
Research Institute of Economy, Trade and Industry

For the last 50 years, the ongoing deepening of globalization has been taken for granted. However, a close look at recent trade and investment data reveals that the pace of globalization has been slipping for the last decade now. What’s happening?

Globalization—the process whereby national economies become more deeply connected through cross-border trade and investment—has continued without pause since the mid-20th century. A number of factors have driven this trend. Governments around the world have worked to cut their tariff rates and reduce the various constraints obstructing trade. Technological innovation has enabled the large-scale transport of goods via ship, rail, and plane, driving down transport costs. In addition, the advance of information technologies has opened the way for offshore production and logistics management that is as fast and precise as manufacturing at home. This has prompted companies to expand their operations abroad, which has in turn connected national economies more deeply with offshore economies.

Various types of data can be used to check whether globalization is actually proceeding, but the easiest method is to compare the growth rates of GDP and trade, as shown in Table 1. Trade should be growing more quickly than GDP, but the table exposes an important change that has been occurring recently.

GDP and international trade (annual growth rates) Trade was certainly showing stronger growth than GDP, with the exception of the years 2001 and 2009 when the world was in the grip of an economic crisis. It was in fact on average growing almost twice as fast. However, as of 2012, the rates for both become virtually the same. Table 1 uses actual data until 2006 then estimates thereafter, but it is clear that the International Monetary Fund views the trade growth rate as failing to return to the high levels of the past while the GDP growth rate remains essentially the same.

Next we turn to trends in global foreign direct investment (FDI) according to an UNCTAD database. If companies are continuing to transfer their production, logistics, and sales operations overseas, FDI too should be continuing to grow. Table 2 suggests that the expansionary trend in FDI has virtually ceased since around 2008. Why has globalization stopped?

Global inward FDI For the last 30 years, globalization has progressed with a focus on greater efficiency, with major global companies in particular building cross-border networks for their raw material procurement, production processes and sales routes. Because economic activities also represent the process of creating value, economists call these networks global value chains (GVC). UNCTAD explains GVC as follows:

“The fragmentation of production processes and the international dispersion of tasks and activities have led to the emergence of borderless production systems, which may be sequential chains or complex networks across multiple countries. These systems are commonly referred to as global value chains (GVCs). GVCs are typically coordinated by transnational corporations, with cross-border trade of production inputs and outputs taking place within their networks of affiliates, contractual partners and arm’s-length suppliers.” [GLOBAL VALUE CHAINS: INVESTMENT AND TRADE FOR DEVELOPMENT, CHAPTER IV, P122]

GVCs are particularly marked in assembly industries such as IT (computers and smartphones, etc.) and automobiles, and actively building itself into GVCs has been the means by which East Asia has managed to achieve more rapid growth than other regions. Most computers and smart phones used around the world today were produced in East Asia.

In the first decade of the 21st century, GVCs developed rapidly for a number of reasons. First, China and other developing countries transitioned from controlled or closed economies to economic regimes that respect free economic activities. China’s accession to the WTO in 2001 in particular had a major impact.

The certainty that China would conform to international trade rules enabled major firms in developed countries to feel comfortable transferring their production operations to China, which offered an abundance of cheap, high-quality labor. China consequently grew into the world’s growth factory. It wasn’t just cheap wages—the speed of production too was on a different level.

In 2012, Foxconn, which was producing iPhones in China for Apple, found 8,000 workers within 24 hours of receiving an order and launched a 24-hour production operation that enabled it to fill an order that would have taken nine months in the United States in a mere 15 days. Those iPhones were then exported worldwide.

In 2005, foreign firms accounted for 60 percent of Chinese exports and imports. Encouraged by China’s success, the ASEAN countries too began progressively liberalizing regional trade and investment as of around 2000, pursuing economic reform and setting in place the conditions for Asia-wide GVCs.

However, GVC development peaked between 2005 and 2010, subsequently losing momentum. Why was this? While a more comprehensive analysis is needed, the following factors are likely to have been in play.

First is the swift climb in Asian wages. Chinese wages have risen by more than 10 percent per annum for the last 30 years. Laws protecting workers have also been bolstered, and management can no longer arbitrarily fire workers or order them to work long hours. Companies investing in Asia have also been taking their investment out of China and into Vietnam, Cambodia, Sri Lanka, India, and low-wage countries in South Asia, but new countries in which to invest are becoming hard to find. While countries in South Asia, the Near and Middle East and Africa might offer cheap wages, the quality of human capital, economic legislation and other conditions have not improved enough for economic activities.

A second factor is the advance of labor-saving and automation technologies such as robots and 3D printing. The automation of production processes has brought down wage costs to the extent that they can virtually be ignored. The advance of IT has accelerated that trend still further. As the Internet of Things (IoT) takes off, machines are gaining the ability to achieve optimal production without human input, with even maintenance staff no longer needed. If production processes and office work can be entirely automated at home, companies will no longer have to shift their operations abroad in search of cheaper wages.

Third, offshore production carries the strong risk of technology leaks and theft. The number of company managers who believe that leading-edge technologies should be kept at home is definitely increasing. In more and more cases, governments and companies in countries where foreign firms have their offshore operations are also pressing more frequently for technology transfer. Local companies that have acquired skills and knowhow from foreign companies are growing into strong competition, making it difficult for the original firms to maintain their profits. It is also widely believed that companies transferring technology offshore reduces domestic employment, with the result that political resistance is strengthening.

Fourth, in a Big Data era, data has become a much more decisive factor in terms of competitiveness, leading companies to introduce much more rigorous management of their own data. Companies are also becoming more reluctant to take data offshore given the social uproar that personal information leaks are now attracting. Some countries are banning or at least imposing restrictions on the offshore transfer of company data and personal information. These trends are likely to inhibit the development of GVCs.

A fifth factor is the difficulty of ascertaining what is happening at the tail end of GVCs that span multiple borders. Companies run a major risk of being exposed to international criticism for involvement in illicit behavior in places where they have operations or from which they procure, such as the exploitation of low-wage and child workers, environmental destruction, and bribery and corruption. In addition, companies have come to understand through experience that when producing abroad, it is still not necessarily possible to ensure the same quality of production even using exactly the same quality management as at home, while it is difficult to deal properly with unforeseen accidents and breakdowns.

The era in which globalization was regarded as a given and lauded as a positive trend is now over. Global companies are not simply charging ahead with GVC expansion any more, but are becoming instead far more cautious and selective in their approach, weighing each of the risk factors involved. The recent drop in international trade growth to around the same level as GDP, as well as the declining FDI growth rate, would seem to be a manifestation of that change.

(For the Japanese version of this article)

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