Trouble Brewing

Geopolitics is back this year with a bang.


Italy’s prime minister Mario Draghi has quietly pulled Italy out of China’s Belt and Road Initiative, reversing the 2019 decision to become the first G7 state to sign up to China’s sphere of influence. Draghi says that Italy’s foreign policy will be more pro-Europe, more Atlanticist and more “in line with Italy’s historical anchors.” In recent weeks the EU has also put its proposed trade deal with China on ice.


In the US, President Biden has banned investors from investing in Chinese tech and defence firms with alleged ties to the People’s Liberation Army, itself a major land owner and commercial enterprise in the PRC. His order expands a Trump era ban on US federal pension funds investing in China. The White House expects the list of sanctioned Chinese companies to expand in the future.


Moreover, the erstwhile conspiracy theory about Covid-19 originating not in nature but in the Wuhan Institute of Virology is fast becoming more accepted as a serious possibility. If it turns out to be true (if that’s possible) the political and economic repercussions will be globally significant.


Meanwhile, Chinese President Xi has been telling China’s diplomats, media and commercial executives to project a nicer, cuddlier image to the world. Wolf Warrior diplomats are being told to hide their teeth and claws. The reason is that the west is pushing back against China’s assertiveness. If Brexit and Trump were about questioning the value of globalisation to the oldest industrial economies, a new wave of anti-globalists is now populating politics. They look at Grandpa Xi and, like Little Red Riding Hood, see the Wolf in disguise.


JD Vance, co-founder of tech investment firm Narya and author of the NYT #1 best seller Hillbilly Elegy, said in a speech in May: “if you are more invested in regimes that hate this country, if you’re more invested in workers in slave camps in China than the people in my hometown, no more tax breaks, no more tax cuts. We should be raising their taxes if they’re shipping American jobs overseas, not cutting them. That’s how you fight them, that’s how you fight them with the pocketbook, and that’s how you make them pay. It’s that simple. Globalization was a choice. It was a choice that we made to make it cheaper to hire Chinese slaves than American workers. It’s not cheaper for our country. It’s not cheaper for the people suffering from heroin overdose deaths at record numbers in our country, or for the millions of children growing up without fathers in the home. We made the choice to destroy our communities.”


Vance has his counterparts throughout the West. Whether or not you agree with them, our governments are listening to them. The West’s relationship with China and the associated benefits of globalisation that accrued to international shipping are both likely to deteriorate even as the world claws its way out of the pandemic. Trade lanes are going to change again, and shipping will as always have to adapt to survive.


The popular backlash against China may be paralleled by a backlash against inflation. The UN has reported that world food prices are up 40% year on year and are rising at the fastest rate for ten years. Russia is said to be mulling a foodstuffs export ban.


It's not only foodstuffs. As western governments have handed out furlough cheques, consumer spending has been boosted, driving up supply chain costs. The rebound in manufacturing and consumer demand for manufactured goods continues to support global container shipping markets. China’s exports of machinery and electronic equipment grew by 79% in Jan-May 2021 to USD 73.67 Bn, from USD 41.23 Bn a year earlier, itself a pandemic-related fall of 18% from USD 50.03 Bn in Jan-May 2019.


The frenzy for shipping space, and demand for Chines manufactured goods, is pressurising global supply chains and driving up freight costs to unsustainable levels. For instance, a UK furniture retailer reported recently that the cost of shipping one armchair with a retail price of GBP 150 (around USD 212 at prevailing exchange rates) from China to the UK had risen from USD 9 compared to a retail price of USD 189 a year ago, to USD 90 in May this year, increasing the freight portion of the retailer’s costs from around 5% to 42% and reducing profit margins to zero. The retailer’s only options are to increase prices or source armchairs closer to home.


In the longer term, if global shipping costs stay high, retailers in the West will begin to look for alternative sources of supply, leading to changes in global trade routes. If export prices from China stay high, retailers will pressure wholesalers and manufacturers, who will look at near-shoring options for manufacturing or inventory storage. Politicians and individuals like Mr Vance will understandably question whether global supply chains offer any financial benefits to offset their societal disadvantages.


For now, central bankers claim to be relaxed about inflation, suggesting that it will subside as the stimuli wind down. But wages are anecdotally rising and in some countries like the UK, whence 1.3 million EU workers have departed in the last year, there is a serious labour shortage in low-pay sectors like farming, retail and hospitality. Arch Brexiteer Tim Martin, owner of the low-rent Wetherspoons chain of sticky-carpeted pubs, said last week that the UK government should fast-track visas for EU nationals to help him keep staff costs down. The US is also facing wage pressure even though jobs growth is lagging expectations. Once wages go up, it's very had to push them back down again.


Some other elements of inflation are also sticky, like housing costs. In the US, house prices are up around 16% on average across the nation. Prices in the UK are going up in both towns and the countryside, though city rents are falling due to a lack of low-salary workers. What a UK building materials wholesaler calls "a shortage of everything" is driving up costs as it lengthens global supply chains. Great news for ship operators, but rising prices can bring political trouble, especially as governments will be keen to claw back some of their pandemic relief spending with tax rises. The expedient G7 agreement for a global corporation tax floor picks some low-hanging fruit. If income taxes rise at the same time as interest rates, the political cost will be an increase in nationalism and anti-corporatism. Politicians will be bound to respond, not with reason, but with dog-whistles.


Globalisation peaked in the years after China's accession to the WTO at the end of 2001. It has struggled on, hamstrung by austerity, in the 13 years since the Global Financial Crisis struck. The WTO is now dead duck; bilateralism and club deals have replaced it. Trade nationalism is on the rise, as are tensions between China and the US, with their allies lining up behind them. Trouble is brewing, and the early signs are that it will be disruptive for shipping.