Supply Chain New Beginnings

Change is in the air, driven by Covid-19, the war in Ukraine, and the climate crisis, among other things. Today I will take a brief look at where change is leading us.    

Overall, I fear we are heading for a more fragmented, compartmentalized world driven by revised economic and political risk assessments. It will not be a Soviet Union-style Cold War—the world is, and will remain, too economically integrated for that, but we should expect countries to look out for themselves at the expense of the rules-based system and at the expense of lesser developed countries. To the extent there is cooperation it will be among democratic rule-of-law states on one side and authoritarian states on the other.

Political risk reassessment is driven by the actions of others—Russia in particular, but also China, through its aggressive actions in the South China Sea, Hong Kong, Taiwan, and its treatment of the Uyghurs. It is also driven by growing consumer demand, particularly from Gen Z, that companies not do business with bad people. That pressure is supported by internet trolls who out companies that do not conform to their view of acceptable behavior.

Economic risk reassessment is driven by Trump’s erratic policies, Covid-19, climate change and the war, all of which have demonstrated the vulnerability of supply chains to external events—political retaliation, pandemics, earthquakes, and floods. The new buzzwords are resiliency and redundancy, fancy terms that mean don’t put all your eggs in one basket.

That means supply chain localization will continue to accelerate, reinforced by the Biden administration’s focus on reshoring or nearshoring. Companies will do what makes economic sense for them, but world events push them in the direction of shorter and more resilient supply chains and the elimination of choke points in their production processes.

Other factors will reinforce that trend. First, increased transparency and visibility of corporate actions make companies more sensitive to consumer reaction, particularly in consumer-facing industries. Second, we are seeing the injection of environmental, social, and governance (ESG) issues into business, such as prohibitions on imports made from forced labor or pressures to go green. Conservatives decry this “woke” mentality and are seeking to persuade state and local governments to take steps to prevent companies from acting on it, but this will be driven by consumers, and governments will not be able to prevent naming and shaming of selected companies or boycotts of their products.         

We continue to find ourselves in an era of “whack-a-mole” supply chain disruptions. Every month or two it will be something different. Toilet paper in 2020, Pet food last January. Guacamole in February. Baby formula. Food in Africa and the Middle East because of the war. Critical minerals. Semiconductor chips. Coming up, supposedly, is beer. Supply and demand seem to be out of whack, and the system is having trouble returning to a stable equilibrium. Global integration guarantees these imbalances will spill over and not be geographically isolated.

There is a debate about how these developments will affect energy. One argument is that the war has demonstrated the need for expanded production of fossil fuels as insulation against future turmoil. The other side argues that the war demonstrates the dangers of dependence on them in general and from unreliable sources like Russia in particular. On the whole, I believe the climate crisis tilts the debate in the latter direction, but in the short term, uncertainties in energy markets, along with European determination to reduce dependence on Russia, will mean more investment in energy alternatives, as well as fossil fuels. That will make it harder for developed countries to assist developing countries in their energy transitions, which will slow down their transitions and put the world further away from its Paris Agreement goals.

Sanctions are also accelerating risk reassessment. They have become the tool of choice because they are the only alternative short of war, but their weaponization will encourage the development of work-arounds in affected countries. That means gradual movement away from dollar-based transactions and away from SWIFT and toward Russian and Chinese-based alternatives, as well as toward unconventional currencies and interoperable central bank digital currencies (CBDCs), The U.S. dollar’s status as a reserve currency will remain, but there will be a growing number of alternatives.

Technology regionalization will grow. Access to technology is both a competitive advantage and strategic necessity—see the chip debate. That means more industrial policy (in the European Union and United States especially), the conflation of trade policy with security policy, and more controls on exports and investment, both inbound and outbound. That also pushes us toward internet fragmentation—the risk of “splinternet,” since the European Union, China, and United States have different, incompatible approaches. That would be a profoundly anti-growth outcome, but it appears hard to avoid, particularly in light of ongoing failure in the United States to develop coherent policies.

Finally, it is an open question whether the World Trade Organization (WTO) can withstand the stress. It has long been struggling to achieve consensus on anything important, although WTO's 12th Ministerial Conference (MC12) did produce modest progress, particularly on fish. There has already been discussion about the WTO’s inability to deal with China, and there is a suggestion that it is time for a new organization of countries that want more ambition on trade liberalization and stronger defenses against those who break the rules. CSIS recommended one approach last year in its Commission on Affirming American Leadership, and support for that is likely to grow. 

So, change is in the air. The human dilemma is that we welcome change and fear it at the same time. Frightened people will try to stop it. Creative people will embrace it and see it as an opportunity. As in “Closing Time” by Semisonic, “Every new beginning comes from some other beginning’s end.” Now we must ensure we are at a new beginning and not the beginning of the end.

William Reinsch holds the Scholl Chair in International Business at the Center for Strategic and International Studies in Washington, D.C.      

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