July 01, 2020 (MLN): UN’s trade and development body (UNCTAD) expects the pandemic to reduce global FDI flows by about 40% in 2020-21, a slightly deeper contraction than the 35% recorded during the global financial crisis in 2008-09.
However, the actual impact could be more dramatic given the greater breadth, depth and complexity of the current situation.
The Economist Intelligence Unit (EIU) has recently published a report examining and explaining the impact of COVID-19 on globalization.
The coronavirus (Covid-19) pandemic has created a challenging operating climate for multinational companies. Lockdown measures and a collapse in global economic activity have ruptured the traditional arteries for foreign direct investment (FDI).
The research report emphasized that a wave of new restrictive FDI policies worldwide has dampened the outlook further. It is tempting to conclude that globalization is nearing a quick and ugly end when viewed against a bleak international trade picture, with supply chains upended and trade volumes crashing. Yet such fears may be overly pessimistic, if not entirely premature.
Assessing the damage
The coronavirus has devastated the world’s largest and most interconnected economies. First reported in China in late 2019, it swiftly moved from east to west, spreading throughout Asia, Europe and, more recently, the Americas.
As of mid-June 2020, the US topped the list of ten countries reporting the most coronavirus cases. The others comprised its G7 peers France, Germany, Italy and the UK, as well as Spain, Brazil, Russia, India and Peru. This group of ten countries accounted for well over a third of global FDI inward stock and inflows in 2019. The share rises to about 60% when China, Hong Kong and Singapore are added. Taken together, these 13 economies accounted for similarly large shares of FDI outward stock and outflows in 2019, reaffirming their roles as crucial conduits of investment, the research revealed.
The virus also has disrupted a number of industries that serve as essential vehicles for FDI. Hospitality, tourism, retail, entertainment and transport (particularly airlines) have all suffered from sharp falls in demand, owing to social distancing measures, lockdowns and travel restrictions. Electricity consumption – a broad measure of economic activity – has plummeted, and the same is true of oil demand.
Recent changes to FDI policies have dimmed the outlook further. During the first half of 2020, many major economies tightened their foreign investment regulations amid growing concerns over the threat of predatory takeovers, particularly from China.
In March the European Commission recommended that EU member states establish and use FDI screening regimes to protect critical assets, such as in healthcare.
India now requires screening of investments from any neighbouring country. In the US, where FDI policy is already strict, members of the Democratic Party proposed a moratorium on large M&A deals during the pandemic.
All of this seems to spell trouble for globalization, particularly as international trade sputters to a halt. Trade had already been slowing since 2018, owing to a rise in protectionist policy and the US-China trade war. The coronavirus pandemic tipped the scales further, with widespread lockdown measures choking factory output, breaking transport links and sinking demand.
It also exposed the vulnerabilities of concentrating supply chains in a single location, with China’s share of global trade exceeding 50% in some industries. The Economist Intelligence Unit expects global trade volumes to drop by nearly 23% in 2020, eclipsing the lows reached during the global financial crisis.
EIU expects that still, it is too early to count globalization out. As multinational companies adapt to the current climate and build resilience into their operations, retreating from international commerce is unlikely to be desirable or profitable.
Take reshoring, which counts among the more extreme options for limiting supply-chain exposure. Apart from being expensive and time-consuming, it risks shutting off companies from essential markets.
Stockpiling is another option and is likely to be used to a certain extent following the pandemic, but it too can yield only finite returns.
A more likely outcome, at least in the near term, is for firms to pursue a mixed approach made up of careful and precise deviations from the status quo. Some investment may go towards reshoring, nearshoring and stockpiling, as well as into technologies to facilitate these processes. A greater focus will be directed towards making existing systems work better, the report added.
Firms with strong balance sheets will be best positioned to build redundancy across multiple points in their operations. They also may benefit from having the capacity to act more slowly and deliberately, ensuring that their investments are equipped to pay off in the long term and respond to future crises, such as climate change.
However, cost considerations, global policy uncertainty and a desire to prepare for future crises beyond the coronavirus will ultimately necessitate a highly diversified, flexible and international approach.
Policymakers and country investment promotion offices would be wise to appeal to firms as they look for sustainable and diversified solutions. The result could well lead to a new chapter for globalization, with international commerce stretching more fully across the globe.
Economic Intelligence Unit