The geoeconomics of the supply shock beyond the pandemic
By Miquel Vila
07/12/2021
Geopolitics often analyses how polities design, compete and secure access and transport of resources, armies, and people across territories. That is to say, logistics. Therefore, the current global supply chain crisis will indisputably impact the geopolitical realm, going way beyond the challenge of dealing with empty shelves during Christmas.
Mainstream analysts still insist that we are just facing temporary disruptions. Although the current situation will not last forever, it might stay with us until 2023. That means that temporary though it may be, it will last long enough to have lasting effects on how supply chains are organized in the future. Besides, the crisis has exposed structural weaknesses in global logistics which were already threatened before the pandemic by climatic and geopolitical risks.
Why is there a supply chain shock?
The supply chain disruptions are affecting all levels of the value chain, as well as a wide range of end products, from cars to toys and pharma. While industries downstream of the value chain are suffering mostly from a lack of raw materials – that being the case of China and the developing economies – industries at the upstream are experiencing a shortage of components.
To understand how this aggregated crisis may leave its mark on the global scale, we first need to understand how we reached this point. The short answer is COVID19, but the pandemic was just the detonator of an already latent problem ready to explode.
At the beginning of the pandemic, developed economies experienced a combination of liquidation of stocks and cancellation of orders, expecting a severe decrease on the demand side. That was true for some areas of the economy, but in others, we experienced an increase in demand during the lockdown. For this reason, many analysts held that global trade wasn’t being affected by the pandemic and globalization was as healthy as ever.
Nevertheless, the subjacent reality began to contradict those short-sighted analyses. The “canary in the mine” was the strategic semiconductor chips, the first component that suffered widespread shortage. At the early stages of the pandemic, demand decreased because car factories in Europe were closed, but once they reopened they found that the increase of demand for electronics during lockdown had derived the supply to the manufacturing of electronic products.
Later on, different parts of the supply chain began to crumble in all economic sectors. The protracted effects of the pandemic began to hit the maritime sector hard. Due to the trade imbalances, containers that left China rarely make it back, and local producers couldn’t meet the demand at home. That caused an increase in the price of containers from Shanghai to New York from around $2,500 to $15,000 in fall 2021. Commodity prices soared for aluminum, iron ore, coal, oil, and gas. Labor felt the accumulated fatigue of the pandemic and shortage of staff spread through the logistics sector, affecting ship’s crews and truck drivers, but also agriculture workers, and miners. Soon, the image of ships unable to unload their cargo began to be common in the most important harbors of the world.
On top of that, we need to add other disruptions, such as geopolitical tensions targeting semiconductors and natural gas supply; natural disasters, such as tropical storms, and even human errors such as the blockage of the Suez Canal by the Ever Given.
The truth is that not all these problems may be causally related to each other, but each of them makes the others worse, and when put together, it generates an aggregate blow to the whole logistic chain. For instance, the shortage of truck drivers generated an increase in costs, aggravated by the increase in the price of fuel, which at the same time was related to the impossibility of transporting gas to filling stations due to the shortage of drivers. Hence, the disruption of the global supply chain is not facing a vicious circle, but a web of problems. That means that dealing with one issue won’t necessarily solve the others.
The crisis beyond COVID19
But if we blame everything on COVID19 we will be unable to understand what the scars that this crisis leaves will be. The fact is that most businesses were already working with narrow margins, and the logistic chain was overstressed at different points. Even if the COVID19 ends, its effects on the supply chain are likely to last.
The logistics sector was already characterized by chronic understaffing. For instance, the shortage of truck drivers was a well-known problem years before COVID19. However, in most developed economies there haven’t been any policies for training the next generation of drivers, the only solution implemented was to import cheap labor. On the infrastructure side, power grids, ports, roads, and rail were already in a bad shape in many developed countries such as the US.
The dominant approach to economic policy, and organization of global supply chains favored low costs over security. Developed countries practiced offshoring of those parts of production that were more polluting or could be produced at a cheaper cost in developing countries. A single product might be designed, manufactured, incorporated into components, and finally assembled by different companies. In most cases, the fragmentation of supply chains across different countries have made it difficult to trace the root causes of many supply congestions. Besides, most businesses have been working with limited inventory to be more cost-efficient. This model was sustainable thanks to the immensely cheap costs of maritime transportation. That meant that in case of a major disruption, they had little margin to act, and hence they suffered. Global supply chains organized in that way have been proven totally exposed to rising geopolitical, climatic, and sanitary risks.
For a period characterized by a more or less stable international system, this policy could be reasonable because risks were limited in time and scope. However, in 2021, we have moved beyond such a scenario. Indeed, companies are already expecting severe long-lasting disruptions in the logistics chain coming from different sources in the coming years. Thanks to COVID19 we are learning about it the hard way, but the signs of change were already there before the pandemic.
At least since 2017, the US, and later on other developed nations, have been pursuing a strategy aiming at being less dependent on China’s supply chains. On the other side, China has also been working to protect itself from its dependence on exports to Western markets and on imports of key technologies. That generated geoeconomic incentives to rethink the organization of supply chains, reinforced now by the need to face the challenges of the supply shock.
How are we moving forward? Self-reliance, diversification, and protection
Even when the pandemic ends, we will need to learn how to deal with a world where geopolitical risks – such as trade wars, diplomatic tensions, threats to blockade maritime shipping routes – will be combined with climate change-associated disruptions – as frequent natural disasters like droughts, fires, and storms. In this scenario, governments and businesses alike are already thinking ahead of the present supply disruption and have begun to readapt their supply chains following three main lines of action: self-reliance, diversification, and protection.
Boosting self-reliance in strategic sectors is nowadays the top priority of all great powers. Companies have both economic and political incentives to begin processes of onshoring parts of their production. In the case of semiconductors, these trends have been made evident. We can see how the US, Japan, South Korea, the EU, and China are working diligently to boost their semiconductor capabilities. Beyond microchips, we could expect that components vital for areas upstream in the value chain like biotechnology, renewable energy, electric vehicles, space industry, and others, will also be part of these projects to boost self-reliance.
However, autarky is neither possible nor desirable for modern economies. Besides, developed countries are unlikely to take back home pollution-intensive production. On downstream segments of the supply chain, an alternative to onshoring might be redirecting production to geographically closer areas, as European companies are doing in North Africa and Turkey. Nonetheless, it is unlikely that in this scenario those locations will experience the same degree of offshoring as East Asia.
That is why governments and companies will need to implement a strategy of diversification. Economic actors will avoid relying on a single provider and will seek to achieve connections with different partners. Although diversification and onshoring will likely increase costs, it will give some assurance against disruptions. With diversified supply chains, countries and companies will gain reaction time, flexibility, and adaptability, which are the best assets to lay one’s hopes on at moments of uncertainty.
Finally, a more robust governmental intervention will be needed to boost and protect a nation’s internal capabilities from external threats and to protect its position in global supply chains. Governments are likely to be more willing to use aggressive geoeconomic, diplomatic, and conventional tools of power to secure their economic interest. In this fashion, the capacity of projecting one’s power and influence in the territories of providers will be a crucial part of economic policy. The liberal mirage that trade and economic policy could be independent of geopolitical and security considerations has fallen apart.
This scenario does not mean that global trade and globalization will end. That’s simply something we cannot really decide on anymore. Nevertheless, the conflictive nature of economic interconnection will receive more attention from decision-makers. Something in line with what Dani Rodrik presents as a shift from hyperglobalization, to a more rationalized form of globalized economy.
The early signs of this shift in the global economy can be seen in the direction that post-COVID19 recovery policies are taking. Despite their meaningful political differences, we are witnessing how all great powers are converging around the aforementioned policies. Take a look for instance at Biden’s Build Back Better; Kishida’s Japan stimulus package; Macron’s France pledged to invest €30 billion for industrialization, and of course, Xi Jinping’s China Belt and Road Initiative and Dual Circulation.
So, although COVID19 and the current shortages will (eventually) end, neither their impact nor further risks for supply chains will end with them because the problem did not start with them, to begin with. The lessons learned from this period, and the strategies implemented to reinforce supply change fit pretty well with existing pre-pandemic geoeconomic trends, which means that we are at a moment of change in the dominant paradigms of the world economy that will consolidate the new geopolitical landscape for the next decades.
What does it mean for Catalonia?
Catalonia has also been vastly hit by the supply shock and inflation. Due to soaring commodity prices, small and medium enterprises – which represent the main bulk of the Catalan economy – are experiencing a daily increase of €200 million in their production costs. Factories in the industrial city of Martorell (Barcelona) were forced to close on different occasions due to the lack of semiconductors and other component shortages. SEAT calculates their losses this year will be around €159 million. Even genuine local products like wine and cava are also being harmed because they have shortages in the external provision of glass for bottles.
A separate article would be needed to tackle this specific issue in-depth, but for now what can be said is that political agents, along with Barcelona’s Chamber of Commerce and business associations should pay attention to how other countries are preparing for this new context and try to adapt the strategies of “self-reliance, diversification, and protection” to the Catalan context. The lesson to be learned for Catalonia’s decision-makers is that they cannot keep thinking about the organization of global logistics using the same approach they used to. Geopolitics, security risks, and strategic goals should be borne in mind as much as economic efficiency. That said, this scenario also offers an excellent chance for redressing the situation of decline in Catalonia’s industry, presenting opportunities for existing and future initiatives that could positively contribute to Catalonia’s prosperity.
Miquel Vila is the Executive Director of the CGI. He specializes in geopolitics and geoeconomics, and China and the Indo-Pacific region.
The opinions expressed in this publication are those of the authors. They do not purport to reflect the opinions or views of the CGI or its contributors. The designations employed in this publication and the presentation of material therein do not imply the expression of any opinion whatsoever on the part of the CGI concerning the legal status of any country, area or territory or of its authorities, or concerning the delimitation of its frontiers.
