The Era of Happy Globalization Is Over. Welcome to the Era of High-Cost Globalization.

Companies and consumers will have to pay the price.

Deglobalization is more of a myth than a reality. It will not happen. But the emerging global economy will transform with production chains whose costs will certainly be higher. Over the last thirty years, the world economy, increasingly globalized, has been characterized by an ability to produce ever more goods at ever-lower prices.

The entry of China and the former Soviet bloc into the global labor market, facilitated by their admission to the World Trade Organization (WTO), the fall of trade barriers, and hyper-efficient logistics, has produced an era of plenty for many. Global disinflation has been one of the consequences. Some have even gone so far as to speak of a “happy globalization”.

In 2003, however, Kenneth Rogoff, then chief economist at the International Monetary Fund, warned of the risks:

“The world economy now appears to be in a long wave of low inflation, but experience suggests that many factors, including the intensification of conflicts that are reversing globalization, may bring it to an end.”

With the war in Ukraine, we are there.

Scarcity is making a comeback in the Western world

The trade war unleashed by Donald Trump, the Covid-19 crisis, and the conflict in Ukraine have reshuffled the deck. The increase in tariffs between the US and China, the confinements to curb Covid and now the sanctions and export controls are upsetting the supply of raw materials and goods.
Inflation is making a comeback.

Eventually, the most industrialized Western countries will return to a problem they thought they had eradicated: scarcity. Everyone will face higher prices. The shocks are forcing companies to rethink their organization and supply model. Higher costs and prices are likely to follow.

At the World Economic Forum in Davos, Robert Koopman, the WTO’s chief economist, said he was convinced of a coming reorganization of globalization, and the consequence:

“We will not be able to use low-cost and marginal-cost production as widely as we have.”

Last week, IMF chief economist Pierre-Olivier Gourinchas estimated that “the de-globalization that seems to be emerging will certainly raise unit labor costs. Companies will have to rethink their production chain. Today, it is more and more difficult for them to manage just-in-time production. Costs will therefore increase and be reflected in prices”.

The only glimmer of optimism, Pierre-Olivier Gourinchas mentions a simple level effect:

“For inflation to take hold in the long term, a vicious circle would have to emerge in which rising prices would lead to higher wages, which in turn would fuel inflation. We are not there.”

From “just-in-time” to “just-in-case”

Faced with geopolitical tensions, the risk of the emergence of rival blocs is pushing Western governments to think about the relocation of sensitive activities. But it can only be partial. It comes up against the limits of higher production costs that would be passed on to the consumer.

As the French example of the manufacture of anti-Covid masks has shown, this is not a miracle solution. “Reshoring, onshoring, and friend-shoring have become very common words these days. There is a demand to bring the production of goods, especially essential goods, back close to home or to friendly countries,” Andrea Presbitero, a researcher at the Center for Economic and Policy Research, explained in an IMF blog in April 2022:

“These calls may be premature, even misguided. The solution is not to stop [or slow] trade, but to make it more diversified.”

Relocations will at best involve only highly automatable activities, not traditional manufacturing. This does not prevent multinationals from rethinking their production and sourcing methods. For example, last week, the Japanese daily “Nikkei” revealed that Apple had decided to transfer the manufacturing of its iPads from China to Vietnam.

The President for Europe of Procter & Gamble said in Davos:

“We are now bringing cost and resilience of production lines into the equation. That was far from our mind even three years ago.”

The manufacturing industry, which had previously developed the “just-in-time” system, is moving toward a “dual-sourcing” system of components and production. This trend is moving from “just-in-time” production to “just-in-case” manufacturing. The price to pay will be the combination of costs with smaller production volumes and potentially higher wages.

At Citigroup, analysts insist that companies will be able to rely on long-term alliances and partnerships with their suppliers:

“Such efforts would move away from the cost-minimization approaches that have often prevailed in recent decades.”

It couldn’t be clearer. To make matters worse, another factor will enter the corporate price equation: global warming. The investment needs for this green transition are enormous. This challenge will also have a cost. For companies and consumers.

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