COVID-19 doesn’t spell the end of supply chains

Author: Ken Heydon, LSE Well before the COVID-19 pandemic, global value chains (GVCs) were losing their impetus as drivers of world growth. Between 2012 and 2015, GVCs were already playing a lesser role in stimulating trade than they had in earlier cycles. Concerns about the environmental footprint of globally-fragmented production were one thing. But rising […]

COVID-19 doesn’t spell the end of supply chains

Author: Ken Heydon, LSE

Well before the COVID-19 pandemic, global value chains (GVCs) were losing their impetus as drivers of world growth. Between 2012 and 2015, GVCs were already playing a lesser role in stimulating trade than they had in earlier cycles. Concerns about the environmental footprint of globally-fragmented production were one thing. But rising protectionism was the principal reason.

This became more apparent with the onset of US punitive trade action against China under the Trump administration. Among many examples, penalty tariffs against China led Japanese firms Toshiba and Komatsu to shift the assembly part of their supply chain (at considerable cost) from China to Thailand, Mexico and, in a form of onshoring, to Japan itself.

COVID-19 has transformed and accelerated these trends, triggered by factory closures, transport restrictions and mounting national security concerns. The impact in some cases may be temporary, like the export restrictions impeding and distorting the supply chain for surgical facemasks. But elsewhere the effects will be far-reaching and persistent.

Over 200 of Fortune global 500 firms have a presence in Wuhan. Disruption to China-centred supply chains has seen plant closures affecting firms as diverse as Apple, Hyundai and Airbus. The UN Conference on Trade and Development (UNCTAD) expects global foreign direct investment — a key facilitator of globally fragmented production — to fall by 30–40 per cent in 2020–21.

To be clear, this does not spell the end of globalisation nor global supply chains. David Ricardo’s foundational insight that a country will export the product in which — on the basis of domestic opportunity cost — it has a comparative advantage and import the product in which it has a comparative disadvantage has proved remarkably robust.

One important application of this principle is the vertical specialisation of the GVCs, or specifically the location of skill-intensive production in high-wage countries and the movement of labour-intensive stages to low-wage countries. This enables goods to be produced where cost is lowest.

As former UK Treasury minister Jim O’Neill said recently, as long as firms seek to satisfy customers with the highest quality products at the lowest possible prices, globalisation will remain a fact of economic life.

A global shock also does not mean that supply chains in all sectors are being affected identically. OECD research on recovery rates after the 2008–09 global financial crisis suggests that supply chains in mining and quarrying are much less prone to external shocks than are those in, for instance, motor vehicle production. This is because they have a relatively higher services component, typically less prone to cyclical movements than manufacturing, and are composed of a less diverse bundle of technologically complex products.

Although in the aftermath of COVID-19, the global fragmentation of production will continue and some supply chains will be relatively less disrupted, it won’t be business as usual — and certainly not in the Asia Pacific region.

Over time — and probably only at the margin — there will be attempts to reduce dependence on GVCs through onshoring based on 3D printing and accelerated automation of labour-intensive activities. More immediately, the GVC itself will be radically reconfigured with the introduction of digital supply networks based on functional silos linked via the use of big data analytics to better anticipate and deal with disruption.

This could enhance efficiency, but other likely changes may not. There will be moves to shorten and regionalise supply chains, strengthening links to the distorting preferences of regional trade agreements. COVID-19-driven ‘sovereignty’ policies compelling firms to relocate their data within national borders — as already happens in China and India — could reduce future gains from digitalisation. And accelerated moves, backed by government funding, to reduce dependence on China will come at a cost.

The desire of countries to reduce supply chain dependence on China will be profoundly affected by changes taking place within China itself. Part of the dynamic of China’s rise is the goal of capturing more value-added within the supply chain. This was seen when Chinese smartphone manufacturers shifted production towards more sophisticated components, with Xiaomi launching its first processor and Huawei its own chip and memory. Still, Chinese firms developing in-house competencies will also seek benefit from global fragmentation by outsourcing production to lower-cost countries, such as Vietnam, while maintaining property rights to their advanced technology.

As China grows, its place in the GVC will change. This may complement other countries’ desires to reduce dependence on assembly in China, but it will increase dependence on more sophisticated products in the supply chain. This is shown clearly by the controversy over Huawei’s 5G mobile technology.

The compelling requirement as countries emerge from the COVID-19 pandemic is that concerns about national security and sovereignty do not serve to strengthen the protectionist forces that had already been weakening the vitality of GVCs. The real risk is that onshoring gains will prove illusory, particularly when they are pursued behind a protective tariff wall or through ostensibly temporary measures, such as state subsidies, that become subject to protectionist capture.

Addressing this risk, while preserving the potency of the GVC, will call for better harnessing of technology to supply chain management and greater international regulatory coherence in digital trade protocols. More broadly, what is needed is better domestic policies to deal with trade-related structural adjustment, as well as improved domestic advocacy of the gains from open trade.

Ken Heydon is a Visiting Fellow at the London School of Economics (LSE). He is formerly an Australian trade official, deputy director-general of Australia’s Office of National Assessments and senior member of the OECD Secretariat. His latest book is The Political Economy of International Trade: Putting Commerce in Context (Polity, 2019).

This article is part of an  on the novel coronavirus crisis and its impact.

Source : East Asia Forum More   

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Remaking the global system after COVID-19

Authors: Peter Gourevitch, UC San Diego and Deborah Seligsohn, Villanova University The international trading system was under attack even before the COVID-19 crisis. The pandemic has intensified the combat by challenging confidence in the global system. It has made the world acutely aware of the inequality and inefficiency that exists not just in economics, but […]

Remaking the global system after COVID-19

Authors: Peter Gourevitch, UC San Diego and Deborah Seligsohn, Villanova University

The international trading system was under attack even before the COVID-19 crisis. The pandemic has intensified the combat by challenging confidence in the global system. It has made the world acutely aware of the inequality and inefficiency that exists not just in economics, but also in disease management and treatment.

The pandemic has brought attention to the acute problems associated with supplying large quantities of medicine and equipment under crisis conditions. While there are many valid critiques of the global economic order, some of the market’s solutions are neither wise nor just. In the rush to reject the market there is a risk that good babies will be tossed out with murky bathwater.

The advantages of global free trade can be preserved while these deficiencies are corrected. Progressives in North America are inclined to be gravely suspicious of the free trade system. They see it as a major mechanism for losing jobs. There is considerable truth to this — the drive for profits leads to the export of manufacturing jobs to lower wage countries, as seen in the movement of manufacturing from the United States to China.

As one study exploring China’s economic rise highlights, while trade generally does not lead to an overall net job loss — there are true gains to be made for consumers and workers from international trade — it leads to concentrated job losses and injury in specific sectors and localities. This process has been going on for some time, well before the arrival of Chinese goods. Manufacturing has long been shifting to lower-cost and non-union labour in the south of the United States and elsewhere overseas.

Offshoring production to China has contributed to the shortage of medical equipment and supplies as they have become caught up in the two countries’ trade and political disputes. But this critique overlooks the unprecedented demand for these supplies during a pandemic. In normal times, importation has not led to supply gaps. Had production been in the United States rather than overseas, output and production capacity could just meet regular demand. The modern economy is not built on a system of excess capacity, but quite the opposite.

The modern economy is designed to maximise efficiency through just-in-time production. Originating from Japan, this system is based upon a brilliant, efficient idea: don’t buy more goods than necessary on a short-term basis, so money isn’t lost on idle inventory. It prevents the build-up of unneeded goods in warehouses. In Japan it enabled lower batch production which helped the correction of errors. Searching for the cheapest production inputs leads to better prices for consumers, provided they have jobs.

Still, efficiency is not the only utility function. Society, and therefore the economy, also needs security, stability and equity. Most advanced economies have realised that universal healthcare is essential. Sick people hurt everybody. All advanced economies except the United States provide government backing for healthcare for all. Most Americans would like to see the same thing.

Even if the United States had universal healthcare and produced vital materials at home, the supply situation could not cope with large-scale emergencies. The solution is to build up protection elsewhere in the system. Medical supplies require warehouses and the institutions to maintain stockpiles. No private sector will build stockpiles even if production were at home. The United States would need an institution monitored by legislatures and the press to keep it functioning well.  The United States has a Strategic Petroleum Reserve. Why not a publicly and transparently managed ‘Strategic Health Reserve’?

The current health emergency has revealed how frayed labour protection is, especially in the United States. But rather than ending trade altogether, there needs to be a focus on specific areas that need correction. We need better balance in the distribution of benefits of trade. The COVID-19 crisis has demonstrated the vital role of workers at the bottom of the wage chain — those who clean hospitals, make deliveries and drive ambulances. The economy has many participants all of whom deserve protection.

The evils of the trading system are connected to evils in taxation, regulation and spending. Tax loopholes and absurd rates distribute the benefits of trade to very few. But some of the gains from trade can be used to invest in public goods everyone would benefit from.

Everyone in today’s society needs access to computers and the internet. These need to be provided to every household as they are essential for education and jobs. Those who are better-educated have been able to work remotely, but if everyone had access, more less-skilled jobs, like phone banking, could be moved home as well. Greater investment in transportation and developing open spaces would allow everyone in society to enjoy the outdoors more safely. Universal childcare is essential as people return to work while the schools remain closed.

This model already exists — Scandinavian countries combine free trade with support for the whole population, not just for those who happen to work in the industries that benefit from trade. The benefits from the efficiencies of trade are distributed more justly and efficiently.

Progressives don’t have to condemn trade. Regardless of politics, we have to learn, adjust and change. The coronavirus pandemic has exposed many deficiencies in the distribution of income and access to services. Blaming China and other countries deflects attention from fixing those problems. Abandoning the advantages of trade will not correct them. The next pandemic will require substantial investment in a strong public health system, as well as specific pandemic-preparedness measures like public funding of excess hospital capacity and monitored stockpiles of medical supplies.

Peter Gourevitch is Distinguished Professor Emeritus and founding dean of the School of Global Policy and Strategy, The University of California San Diego.

Deborah Seligsohn is Assistant Professor of Political Science at Villanova University, Pennsylvania. 

This article is part of an  on the novel coronavirus crisis and its impact.

Source : East Asia Forum More   

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