The invasion of Ukraine by Russia and the sanctions imposed on it for doing so coupled with new pandemic-related shutdowns in China are the latest events to rock global supply chains. This is all leading to an acceleration in the movement by western policymakers and companies to reduce their dependency on China for components and finished goods and on Russia with regards energy and raw materials – leading to more localised or regional, sourcing strategies.
If China decides to back Russia in the Ukraine conflict, it would only push that movement even faster. Does this mean that we are embarking on the path of deglobalisation?
Let us rewind the tape a bit.
In the 1990s, many companies pursued strategies such as outsourcing, offshoring and lean manufacturing to cut costs, retain market position or gain competitive advantage. This led to having China emerge as a major manufacturing hub to serve global markets.
Following various events which took place in the 2000s, which included the financial crisis of 2008, the SARS epidemic of 2003 to the 2011 tsunami in Japan there was an initial realisation by companies that the strategies adopted in 1990s could increase their exposure to operational problems and compromise their ability to respond effectively at all times. Yet, given the benefits of relying on China and other Asian countries for manufacturing and the growing Asian markets, there was no real change implemented. Between 2014 and 2018, China’s manufacturing output grew up by 21% while that of the United States rose by 13%. The reality was that in 2019, just before the pandemic, China accounted for 28.7% of global manufacturing output while the United States accounted for 16.8%.
However, this time round, things seem to be changing fast. Research is showing that as the world has gone from a quick sucession of first the China-US trade war and then the pandemic, various companies that are industry leaders in the areas of semiconductors, autos and medical equipment — have shifted, or planned to shift, at least part off their supply chains from Asia to the western world.
There are various notorious cases supporting this shift. One of such cases in the Intel’s announcement to pour Billions of € in having chips manufactured in Europe. This would be possible as it would be backed by heavy EU funding, on the back of the so called EU Chips Act.
The Ukraine war will modify profoundly the exchange of energy, raw materials, industrial parts, and goods between the Western world, China, and Russia and promise to accelerate the trend to move manufacturing of various elements into the western world. Besides shifting of manufacturing, there are also efforts at sourcing differently. Like for example, Ukraine supplied about 50% of the world’s neon gas, which is used to produce semiconductor chips. Governments and large corporations are now scrambling to obtain alternative supplies, but the supply is tightening and prices have dramatically increased. Russia and Ukraine are also big exporters of grains such as corn, barley and wheat as well as fertilizer. While the war’s full impact on global food supplies is not yet clear, prices are already skyrocketing – alternative sources will need to be found here also. Ukraine war’s also had a large impact on European car manufacturing – this highlighted, yet again, the risk associated with the current global supply chain. For example, Volkswagen and BMW have been closing assembly lines in Germany due to the shortage of wiring harnesses manufactured in Ukraine by the German company Leoni, while tire manufacturer Michelin has recently announced it could close some plants in Europe due to logistics issue created by Russia’s invasion of Ukraine.
The net effect is that these factors are boosting interest in local supply chain strategies. There is no doubt that European companies will take a hard look at the risks associated with international suppliers and consider buying more locally, even if this requires additional price increases. This could provide an opportunity for Europe to strengthen its internal manufacturing sector. The recent agreement by Électricité de France (EDF) to purchase part of GE’s nuclear power business, which GE had bought from Alstom in 2015, exemplifies this swing from globalisation to localisation (deglobalisation). France is increasing its dependence on nuclear power plants, which already generate 70% of its electricity. It decided that to do so it needed to better control the whole supply chain for such plants. Another example is semiconductor manufacturing equipment. The U.S. and Dutch governments have blocked ASML, the world’s largest producer of lithography equipment used to make computer chips, from selling its most advanced machines to China.
Let me however be clear. This deglobalisation/localisation approach is no panacea. Since China is now a dominant global supplier, reducing dependence on it, will in many instances take considerable investment and time. One major obstacle is the issue related to the labour shortages prevalent in Europe to handle this shift. Moreover, private industry alone will not be able to address many of today’s supply-chain challenges. Governments will have to be involved and put money where their mouth is. As mentioned, the U.S. CHIPS Act and the European Chips Act are examples of government efforts to reduce their Asian dependence for semiconductors. The Ukraine conflict is also likely to give a boost to the European Battery Alliance, which the European Union formed in 2017 to make Europe a leader in advanced battery industry.
Which begs the question – how is Malta positioning itself in all this? By 2021, 85.2% of Malta’s economic output was reliant on the service industry. Could the above outlined shift be an opportunity to balance out this a bit and be less reliant on services only? What EU funding and local funding strategies can be used so that Malta attracts its fair share of manufacturing activity being shifted back to Europe? Do we risk losing out on the opportunities that such a shift is bringing with it?
In the meantime, companies should stress test their supply chains and pursue strategies to make them more resilient to risks. The only thing certain right now is the challenges to global supply chains are going to increase for the foreseeable future.