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How short will the memory of Capital be?

Published at: 26-07-2020

Posted on: July 26th, 2020 by RaduC No Comments

Much is being written about the impact that the pandemic is set to have on globalization and about international capital relocation. It refers to a return to regionalization, to the detriment of globalization, a process whereby people who put their money in China first, and in other corners of the developing  world, will bring production closer to home.

The problem is that we, as humans, suffer from a major flaw. Most often than not, we imagine the future replicates the recent past. This is why there are extremely few analysts who manage to accurately foresee a recession after years of solid economic growth. This is also why companies will predict endless rises in revenue after a profitable spell.

I am afraid that when pondering the implications of the pandemic we are facing the same pitfall. We talk about changes set to occur in the medium and long term as if we are in for an endless succession of pandemics which inextricably originate in China. This seems to me very unlikely. Other pandemics may come, but there is absolutely no reason right now to assume that we will be jumping from one pandemic to the next. This is again, a mental extrapolation of the changes that are now occurring that are simply projected into the future.

And if people pine for the old normalcy, will the big companies, still run by humans, not go back to their old strategies focused first and foremost on getting the highest return on investment after the pandemic will one way or another die out?

Let us remember that exiting a market, such as China’s, where huge investments in fixed assets have been made, but which is also an enormous market, will come at a considerable price for the companies in question. Is it realistic to expect them to leave the capital invested and profits behind just because they deal with a regime which is autocratic and opaque even when confronted with an epidemic? Is it realistic to expect them to be willing to pay for the more expensive European resources, in the broader sense, instead of the Chinese? To access markets considerably farther away? Let us not forget that Europe is a huge export machine and closeness to markets remains vital. When did democratic and transparency standards become a make or break investment criterion the internationa capital? Havent’t they have placed massive amounts of money in the Arab states, Russia or China?

Business and not democratic criteria have always prevailed and this is why I believe that the question of whether a slowdown or disappearance of the pandemic means a return to profitability first is justified. More so that, on the face of it, autocratic regimes can impose harsh measures to contain the spread of future pandemics with much more ease. Therefore, they are more efficient.

I think that supply chain diversification is much likelier to happen, meaning that dependency on a single supplier will no longer exist, prompting reliance on at least two possible vendors. That does not require leaving China altogether, but finding an alternative to China, a difference that is not to be neglected.

The only development that may support the exit from the large emerging economies is lower reliance on the human factor in production through near-complete digitization and automation in which case, however, the opportunity cost principle still applies. To give an example closer to home, self-checkout machines were introduced by the large retailers in Romania only after wages had exceeded a certain level. And even accounting for automation, shipping the final product from Europe to the destination market will entail additional costs.

Might the advent of a cold war between the U.S. and China dramatically change companies’ interest in doing business with/in China?  Not necessarily. Let us remember the pressure by German business associations to quickly resume relations with Russia after the Crimea invasion.  More recently, a significant bank, such as HSBC, based in London but with more than half its profits in Hong Kong thought it wise to indulge the Chinese authorities. The bank CEO signed a petition in support of the new Hong Kong security law that was prompted by the wish to crack down on pro-democracy rallies.

The above remarks are backed by a Boston Consulting Group survey, quoted by Financial Times, which found that “92 per cent of professional investors would prioritize key business capabilities over its commitment to environmental, social and governance objectives (ESG)”.  At the same time, “90 per cent of investors who were more ambivalent about it hardened their positions during the month of April, concluding that the issue should be deprioritized”.

Finally, the announcement that 57 Japanese companies are due to receive USD536 million to leave China and return home shows that financial and not political criteria will prevail when it comes to large businesses deciding whether or not to relocate. Ranting and raving by politicians will not be enough.

Under these circumstances, once the pandemic is behind us, globalization might be back with a vengeance fuelled by a rush for profits. Those predicting foreign companies exiting China in a rush to queue at Romania’s border should take note!

Have a nice weekend!

 

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