The Power Of Free Cross-Border Trade: Fueling Global Growth

September 18, 2024

 

Free cross-border trade has long fueled global economic growth. It also has significantly shortened recessions (when an economy’s GDP shrinks in two consecutive quarters) and helped nations overcome supply and demand shocks. “Countries have become successful because they chose to participate in global trade, helping to attract the bulk of foreign direct investment in developing countries,” the IMF said. “Over the past 20 years, the growth of world trade has averaged 6% per year, [nearly] twice as fast as world output.”

The march toward lowering trade barriers took a U-turn in 2016. “We reject globalism and embrace the doctrine of patriotism,” then-US President Donald Trump told the United Nations in 2018. “Aggressively pursuing a policy of globalization [resulted in] moving our jobs, our wealth and our factories … overseas,” he told the media in 2016.

Globalization took another hit after COVID-19, as governments and businesses suffered logistics bottlenecks when some countries lifted lockdown restrictions before others. “The economic turmoil caused by the pandemic has exposed many vulnerabilities in supply chains and raised doubts about globalization,” Harvard Business Review said in 2020.

To protect their global operations, multinationals started remapping their manufacturing footprints to ensure suppliers and manufacturers are close to target markets (aka regionalization or localization).

“Deglobalization is still only a risk, not a current reality,” a 2024 DHL report noted.  Yet, governments and corporations should take note of increasing trade fragmentation. “Geopolitical threats and public policy shifts have led many to predict a fracturing of the world economy along geographic or geopolitical lines, or even a retreat from international to domestic business,” the document added.

One world, still?

“Peak globalization happened … around the time of the global financial crisis of 2008,” said Larry Elliot, The Guardian’s economic editor, in January. Research from The World Economic Forum in January found global trade and capital flows rose moderately between 2012 and 2022.

In 2023, the pace of global trade growth halved versus 2022, according to research from IMD, an academic institute. Reasons included “rising inflation, high interest rates and simmering geopolitical tensions.” The DHL report estimated the “depth of global connectedness [was] 25% on a scale from 0% (no flows cross national borders) to 100% (borders and distance no longer matter at all).”

This year, the “connectedness index depth” level will likely fall below 25%. The report also forecasted that cross-border trade would drop by three-quarters of a percentage point in 2024. Meanwhile, information exchange would moderate, if not decrease slightly, reversing almost linear growth since 2001.

Conversely, DHL expects capital flows to rise from 27% in 2021 to over 30% by the end of this year.

Declining trade and information exchange coupled with more capital movement indicate multinationals are geographically diversifying their suppliers and manufacturing to reduce dependence on distant nations. “The ratio of trade between blocs to trade within blocs has been decreasing since the second half of 2020,” said the DHL report. Cross-bloc trade went from 42% in 2020 to about 33% in 2023. The report expects further decreases in 2024.

Elections this year will also significantly shape globalization—positively and negatively. “Nearly 2 billion people living in some of the most important economies on Earth will vote [in 2024] in elections,” said the IMD note. Elliott of The Guardian noted this “super-election cycle” comes as “Washington and Beijing are in a grim struggle for economic supremacy. [Meanwhile,] the gap between north and south [parts of the globe] is widening.”

Growing protectionism

Countries ranging from wealthy advanced nations to small emerging economies are reassessing cross-border trade policies. Their primary goal is to curb foreign currency outflows by denying importers of nonessential goods access to dollars, ultimately lowering imports.

“A number of slow-burn trade policy pressures [have] come to the fore during 2024, [such as the] European Union’s Carbon Border Adjustment Mechanism,” said IMD. “This scheme will impose additional taxes on imports from outside the EU that cannot show they have paid enough charges for the carbon generated during a good’s production.”

According to IMD, the EU plans to further increase trade barriers by imposing new “regulations on sourcing products from areas with extensive deforestation and plans to impose extensive regulation on cross-border supply chains operating into and out of the European Union.”

Meanwhile, the United States is decreasing its dependence on imports via “the Chips Act and Inflation Reduction Act,” Eliott said. They are “examples of American determination to rebuild the industrial base through active government intervention.” The US also is raising customs and fees, and even banning products from individual nations, such as China and Russia.

In response, other nations could retaliate by imposing additional fees on imports from the EU or US under any pretense. “Expect headline-grabbing standoffs,” IMD said.

Geopolitics also can influence trade decisions. “Wars are now raging in two regions critical to the world’s food and energy supply — Eastern Europe and the Middle East,”  said the Brookings Institution.

That has resulted in a “sharp” increase in the number of policy measures restricting trade in 2023, Brookings added. “Trade restrictions and ‘friend-shoring’ and ‘near-shoring’ might seem like logical policy responses to national security concerns. However, such policies could postpone the rebound that is much needed in global trade.”

On the ground, “some businesses in advanced economies [retreated] from global value chains and diverted investment instead to domestic or regional supply chains,” Brookings said. “These trends bode ill for developing economies, for whom trade has been a key force for greater productivity and improved living standards.”

Potential climate change disruptions are another reason “globalization is not dead, [but] fading,” said Eliott of The Guardian. Like geopolitics, avoiding unexpected climate events requires short supply chains and manufacturing facilities close to target markets.

Warning signs?

Eliott assessed the current “mood,” saying globalization is “not doing badly, but not great, either.” He explained it was “not bad” because most countries have outperformed expectations compared to 2023. Additionally, rising interest rates didn’t plunge the biggest economies into recession and the ongoing violence in Gaza hasn’t pushed oil prices to $100 a barrel.

However, globalization is “not doing great,” as central banks are still balancing volatile inflation and economic growth. Also, the Gaza situation still threatens regional stability, disrupting trade via the Red Sea and Suez Canal. Lastly, the 2024 “Davos [meetings] showed the global economy was deeply fractured,” Eliott said.

“Despite these concerns, the much-feared split of the world economy into separate trading blocs is unlikely to happen during 2024,” said IMD. Nevertheless, fragmentation looks increasingly inevitable. The geopolitical alliance of Brazil, Russia, India, China, and South Africa are increasingly encouraging the use of local currencies in cross-border trade. African governments are pushing for more cooperation via Africa’s continental free trade agreement. Lastly, there is a growing closeness among members of the Association of Southeast Asian Nations.

“Given the dynamism of the new era of globalization, the ‘shelf life’ of a supply-chain strategy … becomes short,” a 2024 Economist survey said. “This underscores the importance of a near-constant reconsideration of what is the best … strategy for each business, given its unique demands based on regions of operation, industry trends and internal structure of operations.

This article first appeared in September’s print edition of Business Monthly.