The Next Stage of Globalization
 
Globalization was perhaps the most significant institutional development marking the Installation Phase of the Digital Techno-Economic Revolution. For the first time, information technology enabled people on opposite sides of the planet to coordinate, collaborate, and interact, instantaneously. But, during the revolution’s transitional phase, which began with the collapse of the dot-com bubble, globalization effectively ground to a halt.

What happened, and what will happen next?

To answer these questions, let’s examine the history of globalization and its drivers. The A.T. Kearney Global Business Policy Council recently reviewed the available data and divided globalization into three stages.1

International economic interactions have obviously existed for millennia, but the current wave of globalization - defined as “the cross-border movement of goods, services, capital, and people” really took off after the end of the Cold War in the early 1990s. As former Soviet bloc countries and China liberalized their economies and integrated into the U.S.-led global economic system, they powered globalization as never before in modern times.

After decades of a global economy partitioned into separate blocs, truly global integration accelerated. Over the next decade, global trade grew by 85 percent and Foreign Direct Investment flows rose by an astonishing 580 percent. This 1989-2000 period is referred to as Globalization 1.0.

The period beginning in 2001 and leading up to the 2008-2009 global financial crisis is termed Globalization 2.0.

In that stage, the cross-border movements of goods, services, capital, and people seemed to be on an ever-upward trajectory. Globalization declined temporarily following the U.S. dot-com crash of 2000 and the attacks of September 11, 2001.

However, it rebounded relatively rapidly throughout the rest of the 2000s on the back of strong growth and international integration of the BRICS economies, as well as of many other smaller emerging markets, which provided seemingly unlimited fuel for the new engine driving globalization.
 
By 2007-2008, global trade flows had hit an all-time high of 64.3 percent of global GDP, and Foreign Direct Investment inflows had reached an apex of over $2.2 trillion. Global portfolio investment flows were also far above their historical average, at almost 2 percent of global GDP in 2005 and 2006.

In many ways, 2007 represented the peak of globalization. But, as with many other economic and financial indicators that peaked in 2007, it was a bubble burst by the subsequent global financial crisis.

The 2008?2009 global financial crisis and recession proved more disruptive to globalization than any previous challenge. The U.S. subprime mortgage crisis that nearly caused the American financial sector to collapse and created waves in financial and housing markets around the world was not only detrimental to global economic output, but also to the intercountry economic linkages essential to globalization. As a result, all major economic indicators of globalization fell during that period - both in absolute terms and as a share of global GDP.

After contracting in 2009, the global economy returned to growth in 2010 thanks in large part to the economic strength of emerging markets, and in particular to China. The emerging markets were less affected by the global financial crisis than were developed markets; as a group, they maintained a positive GDP growth rate of 3 percent in 2009 while developed markets contracted by 3 percent in the same year.

Although emerging markets suffered from lower demand for their exports and reduced global capital flows, they largely were able to decouple themselves from the economic dislocations in developed markets and forged ahead with trade and investment among themselves. Seven years later, however, profound cracks are starting to show in many emerging market growth models, with 2015 GDP growth in those markets declining to its lowest level since 2009.

This emerging market slowdown, coupled with the continued low-growth environment in most developed markets, makes it clear that when the global economy hit bottom in 2009, it entered a new phase in which the march of globalization has halted. One factor is that most large economies were already globalized; only frontier markets in Sub-Saharan Africa and a few other regions remained untouched. This contrasts with the 1990s, when former Soviet states, as well as the areas of the world that had been caught in the struggle between capitalism and communism, offered seemingly unlimited growth potential or with the 2000s, when the BRICS led the second globalization wave.

During the global hiatus since 2009, real global economic growth has slowed to around 2 percent. Not good when compared to almost 3 percent during the Globalization 1.0 and Globalization 2.0 phases.

So that leads us to ask: “What’s behind the halt in globalization?” And, “What comes next?”

The global hiatus, which has persisted since 2009, differs from Globalization 1.0 and Globalization 2.0 in several important ways. Specifically, the current global economic order is underpinned by five new forces that are reshaping the global business environment. Two of these new forces are the result of developments that arose during prior periods of globalization and which laid the groundwork for the current time-out. The other three are independent forces that have arisen in the post-crisis period, defining new rules-of-the-road for global companies.

The first new force is increased prosperity. Vast numbers of people in emerging and frontier markets have been pulled into the global workforce and the prosperity of households in many emerging markets has increased dramatically.

According to the IMF, income per capita at purchasing power parity has risen by more than 300 percent in emerging markets since 1990. As a result of this rising prosperity, emerging and frontier markets now account for more than 57 percent of the global economy (at purchasing power parity), compared to just 36 percent in 1990. Consumer spending has also increased sharply in emerging markets. According to numbers from the Economist Intelligence Unit, real private consumption in emerging markets in 1995 accounted for only 20 percent of global private consumption, but it represented nearly 30 percent in 2015.

Ironically, the rising prosperity of a number of emerging markets may be reducing international trade. Many formerly low-wage manufacturing markets have developed economically and achieved higher income levels, meaning wages are now higher too. There is anecdotal evidence to suggest that higher labor costs in such markets are increasingly driving businesses to locate production facilities closer to home; this is seen in the American “re-shoring” trend. As more production takes place in home markets, the flow of international trade in goods slows.

Furthermore, rising prosperity in emerging markets is likely another factor contributing to the reduced flow of economically motivated international migration. This is particularly true in the current macroeconomic environment, in which the economic prospects of many key developed markets are somewhat uncertain.

On the other hand, rising emerging market prosperity is a key driver of increased international tourism. For instance, China is the powerhouse behind much of the growing demand for tourism?having surpassed the United States in 2012 to become the world’s top spender on international tourism.

The second force is the rise of the knowledge economy. Thanks to technological advancements in recent years, knowledge-based capital has become much more important. This includes

- Computerized information such as databases and software

- Innovative property like copyrights, R&D, and patents

- Economic competencies including management know-how and brand building

As explained in prior issues, the knowledge economy is the result of the Digital Techno-Economic Revolution which was born in 1971, when the Mass Production economy was at its zenith. Led by innovation and growth in technology and human capital, the knowledge economy took center stage in the late 1990s and early 2000s. Knowledge-based capital investment in OECD countries exceeded the investment in physical capital (machinery and vehicles) for the first time in 1997; and it has been increasing at a higher rate ever since.

Interestingly, the rise of the knowledge economy seems to have reduced global trade in goods. Why? Increasingly sophisticated industrial robots erode the business case for outsourcing production to lower-wage markets because fewer workers are needed to run factory operations wherever they are located. Similarly, the upsurge of additive manufacturing or 3D printing is already lowering the incentive for companies to locate their manufacturing operations overseas; a trend that will accelerate as the technology advances and decreases in cost. Companies such as Amazon and UPS are stepping up their experimentation with 3D printing technology to meet growing consumer demand for rapid delivery of highly personalized goods. On the other hand, the knowledge economy may be boosting international services trade. Advances in infotech, and the use of the Internet in particular, have enabled the growth of the business-to-business services trade in recent years, making outsourcing widely available to even medium-sized and smaller companies.

The third force is persistent macroeconomic stagnation. Over the past 18 months, the IMF, World Bank, and G20 have voiced concern about long-term prospects for global economic growth and prosperity. Most major developed markets continue to underperform, and there is growing unease about weakness and volatility in emerging markets. In particular, declining momentum in China, modest growth in the United States, and a sluggish, uneven recovery in Europe are weighing heavily on the global economy.

Consider the facts:

- The macroeconomic performance ofChina is critical to the global operating environment. Over the past four decades, China developed more rapidly than any nation in recorded economic history, moving from one of the poorest nations in the world to a global economic engine averaging 10 percent economic growth annually from 2000 to 2010. However, over the past few years, the Chinese economy has slowed, and the Economist Intelligence Unit predicts that its economic growth will average just 6.0 percent over the next three years. This has profound implications for the global economy and has created mounting pressure on Chinese policy makers to stimulate the economy further. However, recent volatility in China’s stock market and failed government intervention to correct the market crash have thrown into doubt how much control China’s government has over its economic performance. Regardless of whether Chinese growth stabilizes around 6 percent or falls further in the coming years, it is clear that global businesses have been affected by this shift to a lower growth environment.

- In contrast, theUnited States appears to finally be experiencing an economic resurgence spurred by a host of factors including the shale oil and gas boom, rising consumer demand, and increased financial sector stability. As a result of these stronger economic fundamentals, the Economist Intelligence Unit predicts that U.S. economic growth will average 2.4 percent annually over the next three years and political outcomes in 2016 could improve that outlook. This relatively robust performance will create opportunities for business. For instance, as American consumers begin to feel more confident, they may unleash pent-up demand for durable goods and other big-ticket consumer goods. In addition, businesses operating in the United States will enjoy lower costs for domestic energy and imported inputs due to the strength of the U.S. dollar.

- As the largest economic bloc in the world, the performance of theEuropean Union (EU) economy matters greatly to the global operating environment. The sovereign debt crisis that began in 2009 has yet to be fully resolved. The Economist Intelligence Unit forecasts that EU economic growth will average only 1.8 percent annually over the next three years. High unemployment rates remain one of the greatest threats to EU stability and competitiveness. The IMF estimated that unemployment in France in 2015 was 10.2 percent, while in Greece and Spain it was 26.8 and 21.8 percent, respectively. This low-growth, low-employment environment is weighing on European consumer confidence and spending levels, reducing opportunities in EU markets.

These divergent growth prospects and key uncertainties surrounding the world’s three largest economies are creating persistent macroeconomic uncertainty. Current forecasts put the annual global economic growth rate at around or just under 3 percent on average in the 2015-2020 period. Notably, without dramatic changes in tax and regulatory policies in developed countries, economic and financial cross-currents as well as profound asymmetries could easily reduce global growth prospects. As a result, vigorous debate continues among economists as to whether the global economy can and will return to stronger, more stable growth, anytime soon.

Emerging and frontier markets also face structural challenges to higher economic growth. In its June 2015 Global Economic Prospects, the World Bank suggests that the contribution of emerging and frontier markets to global growth peaked in the 2011?2014 period, and that they are now facing a “structural slowdown” likely to last for years as growth in their working age population, productivity, and investment have all weakened. This is reason for genuine concern, because it was emerging markets that helped to stabilize the global economy after the global financial crisis. Over the past several decades, it had become conventional wisdom that these markets would be fresh, sustained sources of growth for global business. However, business leaders increasingly express their intent to seek the safe harbor of investing in developed markets as they navigate this volatile global economic environment. This is reflected in the 2015 A.T. Kearney Foreign Direct Investment Confidence Index®,2 which showed that nearly three-fourths of all countries ranked in the top 25 were developed economies, rather than emerging ones.

The persistent stagnation and macroeconomic uncertainty is a primary reason that globalization has stalled in recent years. The number one reason for lower foreign direct investment flows is a lack of confidence in the macroeconomic outlook. This uncertainty is likely also affecting the nature of cross-border portfolio investment flows. Given business leaders’ concerns about the stability of the macroeconomic environment, it is hardly surprising that developed markets continue to receive such a large share of global portfolio flows.

The fourth force relates to the return of geopolitical confrontation. Geopolitical tensions have negative economic implications not only for those markets that are directly involved in geopolitical disputes, but also for their neighbors, as well as the regional and global economy. Key geopolitical hotspots today include Russia and Eastern Europe, East Asia, and the Middle East.

The return of geopolitics is having a complicated effect on globalization. On the one hand, geopolitical tensions are likely reducing cross-border trade and investment flows. On the other hand, geopolitical instability is exacerbating the cross-border flow of people. The Syrian civil war, now in its fifth year, has displaced more than seven million people internally and more than four million internationally, according to mid-2015 figures from the UN High Commissioner for Refugees. Syria’s neighbors have thus far taken the majority of the migrants - for example, more than 1.1 million Syrians have settled in Lebanon, while more than 2.2 million have fled to Turkey - but these flows are now expanding into Europe and elsewhere. Flows of refugees are fundamentally different from those of economic migrants, who tend to arrive in more easily manageable numbers and have more resources with which to start a life in their new homes. Following the November 2015 attacks in Paris, the migration crisis has been made more complex by a far-right political backlash against Muslim immigrants and asylum seekers in Europe and the United States.

The fifth force is a heightened nationalism and protectionism. Market liberalization and economic integration, carried out by countries looking to reap the benefits of connected global supply chains during times of global economic expansion, can also generate tensions when economic activity slows and governments seek ways to improve local economic performance. After decades of agreeing to lower global barriers on a host of economic interactions, countries are now increasingly as likely to erect new obstacles to cross-border activity, including financial regulations, rules governing the Internet, immigration restrictions, and trade barriers.

Seven years after the global financial crisis, many developed economies continue to face low or stagnant domestic economic growth, high unemployment, and a growing income inequality gap. Developed economy governments have struggled to raise middle-class incomes and create middle-class jobs. These woes - in particular income inequality, which is in part driven by competition from overseas workers and new technologies - have resulted in anxiety that is fueling inward-looking politics and nationalism. In Europe, these economic and social challenges have resulted in the rise of radical parties on the left and right, while in the United States they have resulted in polarization and gridlock. The growing popularity of “outsider” or fringe candidates and political parties in democracies around the world is a response to popular sentiment that the global economic order is not meeting people’s expectations for rising prosperity.

These tendencies are not limited to developed markets, though. Multinational companies have noted a shift among emerging market consumers, including those in Russia, China, Brazil, and Turkey, away from Western brands and toward local labels.

Growing nationalism is partially responsible for this trend, which reduces the appeal of globalized goods and services, as consumers increasingly prefer domestic substitutes in order to support local businesses and brands. Domestic brands often also offer a better value proposition for emerging market consumers. For example, the Chinese electronics company Xiaomi has grown rapidly since its founding in 2010, becoming the largest smartphone vendor in China in 2014. While the company has faced criticism for copying its marketing approach from Apple and has been sued by rival Ericsson for patent infringement, the company is thriving in China as a low-cost, high-value alternative to foreign technology.

With the rise in nationalism, governments are responding with protectionist measures - including stricter trade regulations, tighter foreign investment policies, and competitive currency devaluations - to achieve various macroeconomic and geopolitical goals. For instance, by the OECD’s count G20 economies have implemented 1,244 new restrictive trade measures since the global financial crisis, only 282 of which have since been lifted.

Nationalist and protectionist attitudes and policies are clogging the engines of globalization. They reduce international trade and investment flows, as a result of both specific policies that prevent such transactions and shifting consumer preferences that make expansion into foreign markets a less appealing business case. At the same time, more nationalist attitudes are likely to reduce the lure of international migration, as migrants would feel unwelcome and may face discrimination and violence in some countries. Given these trends, it is no wonder that an increasing number of multinational corporations are hiring political scientists, starting their board meetings with geopolitical briefings, and seeking the advice of former diplomats, spymasters, and military leaders.

Given this trend, we offer the following forecasts for your consideration.

First, the current stagnation with respect to globalization will end by 2020, at the latest.

The “status quo” is inherently unstable and will naturally evolve into a more stable future.

Second, as the Deployment Phase of the Fifth Techno-Economic Revolution ramps up, we’ll enter a new era which A.T. Kearney refers to as Globalization 3.0.

In its recent report titled, “From Globalization to Islandization,” the A.T. Kearney Global Business Policy Council identified four alternative futures largely determined by the interaction of economic growth and the geopolitics of nationalism.3

- The first potential future is a renewed chapter of cross-border integration called “Globalization 3.0,”which corrects for the various systemic deficiencies that we have pointed to in previous sections.

- The second,“Polarization,” marks a return to historical normalcy in which rising geopolitical tensions and economic rivalries divide the global economy into competing blocs of countries.

- “Islandization” is the third potential future, in which nationalism gains ground in key economies around the world, leading to dramatic protectionist measures and drastically reduced global economic flows.

- The fourth possible future, called “Commonization”represents a greater break from the past than ever before. It entails the rise of a new global commons through additive manufacturing and the sharing economy - and a corresponding decline of consumer capitalism which has defined the recent past.
 
Third, because of the convergence of trends, the Globalization 3.0 future will emerge unless the Digital Techno-Economic Revolution deviates from the pattern of techno-economic revolutions that we’ve witnessed over the past 250 years.

That’s because this revolution will unleash the following four globalization drivers:

- Globalization 3.0 will first be sparked by strong growth in consumer demand in the United States, China, and the EU. A robust economic recovery beginning in the United States will be sustained by tax and regulatory changes - creating higher global demand for both commodities and consumer goods in what remains the world’s largest consumer market (particularly as the Millennial generation enters their prime years for new household formation and consumer spending). At the same time, China’s Communist Party will be able to successfully overcome market turbulence and questions about its plans to sustain growth of around 6 percent for several years in a “new normal” of lower but stable growth. Beijing will also successfully begin to implement its planned transition from an economy dependent on investment and exports to a consumption-led economy, creating greater demand for imported consumer goods for China’s growing urban middle class. Also, the EU will finally be able to emerge from its protracted sovereign debt crisis and once again fuel global growth via high-end manufacturing and services exports, as well as demand for imported consumer goods.

- With the three largest global economies firing on all cylinders and China’s labor becoming too expensive for that country to continue serving as “manufacturer to the world,” multinational corporations will see Sub-Saharan Africa as the next frontier of globalization. Governments in large economies throughout the region - including Nigeria, Kenya, Ethiopia, and Ghana - will begin investing heavily in transportation, power, and communications infrastructure to fully integrate into global supply chains. This infrastructure will finally enable Africa to connect with itself and unlock its huge latent economic potential. As Sub-Saharan Africa markets enjoy strong economic growth and greater job opportunities for the large and young populations, the emerging African middle class will provide a further boost to global consumer demand growth and globalization.

- Renewed global growth and reduced geopolitical tensions will reinvigorate the push toward a new multilateral trade agreement negotiated under the World Trade Organization. The key provisions of various regional trade agreements that have been implemented in recent years will be incorporated into a new global agreement. The WTO have a “21st-century agreement” that addresses critical issues such as protecting international intellectual property rights and liberalizing services trade, in addition to lowering barriers on traditional trade in goods.

- A final engine for Globalization 3.0 will be the broad and rapid proliferation of information and communication technologies. Past improvements to infotech, especially the Internet, and the resulting growing global interconnectedness helped facilitate previous periods of globalization, in particular Globalization 2.0, when internet users exploded from 400 million in 2000 to almost 1.6 billion in 2008. The seamless outsourcing of many internal business functions (accounting, IT support, and customer services) that began in Globalization 2.0 will accelerate in Globalization 3.0, as more dramatic changes in infotech arise. The vast majority of the 57 percent of the world’s population that remained offline in 2015 will have Internet access thanks to novel approaches to wireless networks pioneered by companies like Facebook, Google, and SpaceX. These include high-altitude balloons, drones, and space-based assets.
 
Fourth, multinational corporations will thrive in Globalization 3.0, although the competitive environment will be more challenging and diverse than it was in Globalization 1.0 and 2.0.

Large, innovative corporations based in emerging markets have succeeded in their international expansion goals, shaking up the global business landscape. Overall, though, global business strategies are largely the same as they were in Globalization 2.0 - albeit focused on different geographies for sourcing and production (Sub-Saharan Africa rather than China). As the prosperity and buying power of emerging market consumers continue to rise, opportunities in new and growing consumer markets abound. And since country governments have tried to harmonize regulations and standards in order to compete in an increasingly globalized economy, regulatory compliance costs for multinational corporations are relatively low.

Fifth, problems could still emerge that derail Globalization 3.0 and other aspects of the Fifth Techno-Economic Revolution.

Globalization 3.0 involves the public and policymakers making a lot of the right decisions involving the evolution of economic institutions. While the overall future of the global economy remains uncertain, two implications are clear.

- The first is that the decisions that consumers, voters, and policy makers make today will affect the future course of the global economy. Thus, it is important for business leaders to monitor the leading indicators in key markets around the world for signals as to which global economic order is arising.

- The second is that the uncertainty surrounding what comes next creates the need for multiple, divergent business strategies to prepare for and succeed in the future. Carefully monitoring how the various forces at play unfold over the coming months and years will enable businesses to stay ahead of the curve.

As the current global hiatus gives way to a new global economic order, organizational foresight and agility will be critical in determining winners and losers in the new global operating environment.

References
1. To access the report “Globalization to Islandization,” visit the A.T. Kearney website at:

https://www.atkearney.com/documents/10192/7077649/From+Globalization+to+Islandization.pdf

2. For more information about the A.T. Kearney Foreign Direct Investment Confidence Index®, visit their website at:

https://www.atkearney.com/research-studies/foreign-direct-investment-confidence-index/2015/publication