Megatrends: implications of a changing world order

In 1944, in the midst of the Second World War, 730 delegates from the 44 Allied nations gathered at the Mount Washington Hotel in Bretton Woods to thrash out a new monetary order, designed to govern financial relationships between independent states. This paved the way for the start of a new world order.

In 1948, the General Agreement on Tariffs and Trade (GATT) established the rules governing the global trading system. The foundations of the North Atlantic Treaty Organization (NATO) were laid down in 1949, reaffirming the inherent right of independent member states to individual or collective defence. Then in 1951, the European Coal and Steel Community was founded, marking the beginnings of the European Union ─ a crucial step in securing peace on the European continent.

This international order has remained in existence, with only gradual modifications, ever since.

Figure 1: The foundations of the current world order were established after WW2

It is easy to forget that much of the world did not sign up for these rules and may now want the world’s economy to work differently. While the US remained the undisputed global economic power, its vision prevailed, but as China’s presence on the world stage expands, the challenge to the existing world order has become more insistent.

Increasingly, countries with new-found economic might are demanding a say in how the world is run and the rules that govern international relations. They want to reduce the power of the US dollar and reshape the world to their own vision, rather than the one laid out for them. They want recognition for their population size and economic growth. The ultimate shape of this new world order is subject to debate. Michael O’Sullivan, a leading academic, argues that the emerging multipolar world will be dominated by at least three large regions: America, the European Union and a China-centric Asia.

Another school of thought posits that the world will coalesce into two blocs: China and the US, each with a competing vision of the world and how its economy should operate.

However as the new world order emerges, tensions between its key players will shape the next decade in financial markets and there will be multiple pressure points. Technology, supply chains and commodities may be the most important.

The biggest risk is that the tensions between the two (or more) blocs become more than trading spats and supply chain nationalism. In its lukewarm support for Russia’s invasion of Ukraine, China has shown itself reluctant to become embroiled in military conflict even where its allies are under threat. However, it might change its mind if the US were to interfere with its activities in Taiwan. The real risk is if realignment escalates to something more dangerous.

China+1 strategy

Growing geopolitical risks and increasingly fraught economic policies have concerned multinational firms operating in China. We expect to see a larger number of firms pursue a China + 1 strategy, where firms diversify a part of their supply chains away from China to reduce exposure to these risks. This is likely to benefit economies in the East, such as Vietnam, and India, which is seeking to build its manufacturing base. In fact, we have already seen Apple’s suppliers invest in these countries as the US-China relationship becomes more challenging.

Strategic sectors

A wholesale return of manufacturing to Western economies is not going to be feasible from an efficiency perspective. This will benefit the companies operating in industries such as technology and healthcare, but also their suppliers. Having been out of favour with investors over the last decade, industrial firms could benefit as more production returns home.

Greater inflationary pressures

As firms rejig their supply chains in response to geopolitical risk and security concerns, this will push up costs as production moves from cheaper locations to more expensive ones. This will add more inflationary pressures to the global economy.

Defence spending

The world is unquestionably less secure.  In response, many countries — including the UK —have committed to doubling defence spending over the next decade. This will provide a tailwind to the established companies in the sector, but also younger firms in the cyber security space.

Sources:

[1] Globalisation is dead and we need to invent a new world order, The Economist, 28 June 2019

[2] Techno-Nationalism: What Is It And How Will It Change Global Commerce?, Forbes, 20 December 2029

[3] Tech war: major escalation, heavy casulties, TS Lombard, https://blogs.tslombard.com [accessed December 2022]

[4] Apple freezes plans to use China's YMTC chips: Report, telecom.com from the Economic Times, 17 October 2022

[5] The CHIPS and Science Act: Here’s what’s in it, McKinsey & Company, 4 October 2022

[6] De-globalisation: The long goodbye, https://www.portfolio-institutional.co.uk [accessed December 2022]

[7] Taking the pulse of shifting supply chains, McKinsey & Company, 26 August 2022

[8] China is now the world’s largest solar power producer, Digital Trends, 4 April 2017