Most of the global growth over the next two years will come from the Rapidly Developing Economies and if this gets disrupted due to protectionism, the OECD will be the worst hit.
Globality. That’s the title of the book two of my colleagues from The Boston Consulting Group (BCG) and I wrote last June to describe the next phase of globalisation. The world of globality is driven by a unique confluence of large, low-cost, high-growth markets coming together with the rapid opening up of world trade, and coinciding with the ambitions of these challengers from Rapidly Developing Economies (RDEs). The RDE challengers rode this wave to wrest global leadership in many product-categories and industries. The largest suppliers in the world for natural gas, iron ore, readymade noodles, business jets, marine containers, nickel-cadmium batteries, micro-motors, third party engineering services, microwaves, and ready-mix concrete are all RDE-based firms who became leaders and changed the competitive landscape of their industry in the last few years.
In late 2007 and the first half of 2008, many pundits had started writing about the eroding competitiveness of RDEs due to high transportation costs, appreciating currencies, rising wages and supply chain bottlenecks. The global crisis gave greater ammunition to this theme due to problems faced by several debt-ridden RDE challengers, the large number factory closures in China following the collapse of exports, the ‘buy America’ spirit of the bailout package in the US, and the cries against off-shoring. Pictures in the media of huge stockyards at US ports filled with unsold imported cars fuelled impressions of a rapidly-falling global trade. Does this mean that the brave new world of globality is dead, derailed by the current global economic crisis, bringing to an end the remarkable ride of the RDE challengers? Does this mean the emergence of what some columnists describe as the era of ‘economic nationalism’?
Let us go beyond the impressions and look at some facts. Before the crisis, the IMF had projected the OECD would, on average, grow by nearly 2 per cent between 2008 and 2010, compared to 6.3 per cent for the fourteen-biggest RDEs. Recent IMF projections show that the differential growth between the OECD and these RDEs continues to be substantial — down only slightly from 4.3 per cent to 3.8 per cent. Nearly 90 per cent of global GDP growth in next two years will come from these RDEs compared to less than 20 per cent just two decades ago. The RDE challengers have never had such a strong home-country advantage as now.
What about the cost competitiveness of RDEs? It is true at the height of the boom in mid-2008, when the price of crude was touching $150 a barrel, the increase in transportation costs, the appreciation of RDE currencies, the growth in RDE wage rates, the lack of availability of shipping and port capacity did indeed make exports from RDEs less cost-competitive. This led to some observers saying the wage rate differential between the RDEs and the OECD would converge rapidly, eroding RDE competitiveness.
Since the crisis started, as global trade fell, shipping costs came down by 60-80 per cent (between January 2008 and 2009) and there is no shortage of shipping or port capacity today. At an average wage rate of $3.59 per hour in RDEs compared to over $25 per hour for the OECD countries, it is quite evident that RDEs remain as competitive as ever.
But more important than the labour cost-advantage, the RDE challengers are drawing upon the capability advantage of fast-emerging industrial clusters. Silicon Valley may be the most well-known industrial cluster in the world, but dozens of little-known industrial clusters are emerging in the RDEs as more and more industries migrate full-scale from the west. It is not just labour-intensive shoes, garments or toy industry clusters which have developed in the RDEs, we have high-tech clusters making hard drives and semi-conductor in east and south-east Asia, automotive clusters in India and China, furniture clusters in Romania and Bulgaria. RDE challengers can improve their competitiveness by 3-5 per cent by exploiting the scale, skilled labour, improved logistics and capable suppliers of these clusters.
There is an impression, probably driven by few high-profile cases, that, in their quest for global growth, RDE challengers have taken on too much debt and many will blow up. BCG analysis of the debt situation of over 100 of the most successful challengers — who have been amongst the most aggressive in their globalisation efforts— shows that their average leverage ratio and debt-to-equity levels were no different from those of the average of firms listed on the New York Stock Exchange (NYSE). They are as likely to blow up with excess debt as the average firm in the west!
Global trade grew from $7 trillion in 1990 to over 28 trillion in 2007, at a rate double that of global GDP. The US today imports most of its consumption of toys, garments, shoes, TVs and washing machines from the RDEs. Nearly 20 per cent of the value of automobiles produced in its plants use parts made in the RDEs — if plants from India and Brazil stop supplying crankshafts, not one truck will be produced in the US. Breaking any part of these global supply chains is not only undesirable and difficult, it is not feasible. If that were to happen, US consumers, who have seen the price of their T-shirts decline in real terms over the past two decades, will have to gear up to pay higher prices.
So, is globality dead? We live in a world which is inter-connected and interdependent as never before. The fundamental factors driving globality remain as strong as ever. The current crisis offers unprecedented opportunities to RDE challengers to change their fortunes. The Aluminium Corporation of China, to cite just one example, became a part-owner in Rio Tinto, the global mining company, by investing $19.5 billion, a fraction of what it would have cost it before the crisis, to ensure a stable supply of raw material for its future. The crisis will ensure that the cast of characters in globality will change, as the weakest amongst the challengers fall by the wayside. The strong will seize the opportunity, re-define their competitiveness and emerge as global leaders. And globality will march on.
The author is Partner and Director, The Boston Consulting Group