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Deglobalisation, technology and inflation

The world runs away from globalisation – as a two-bloc world becomes entrenched. There may be inflationary implications in the West.

| 7 min read

This week, an angry China has sent its military on exercises to threaten Taiwan. A Russian draft decree appeared saying it wanted a revision to the sea lane and maritime borders around the Baltic. Iran looks ready to choose another hard-line cleric with strong anti-US views to support its Supreme Leader.

Recently, President Biden imposed new, high tariffs on various Chinese exports, helped Israel shoot down Iranian rockets, engaged against Houthi forces in the Red Sea area and during a State visit confirmed Kenya as an ally against terrorist groups in East Africa.

The Chinese military exercises in the South China Sea are a warning to Lai Ching Te, the newly-elected President of Taiwan, that China does not want the island deviating far from the path the mainland wishes to set. Taiwan has made clear in its response that it would take defensive action against any military attack, and the president has reinforced the Taiwanese wish to be self-governing whilst living in peace with its large neighbour. China has done this before. We do not expect a Chinese invasion, given the hazards and the likely response.

Russia withdrew its document over border revision when Lithuania and others pushed back against it. The border between Lithuania and Kaliningrad is sensitive, where Russia has a coastal Oblast between Lithuania and Poland. This gives it a good ice-free harbour which is used by the Russian Baltic fleet.

There have been tensions before over European Union (EU) sanctions against movement of Russian goods through Lithuania to Kaliningrad. That dispute was eased by the EU lifting restrictions on the movement of Russian goods by rail as opposed to road. On this occasion Russia has provoked, but now looks unlikely to make unilateral moves against a Nato and EU supported border.

Most of this is bad news for world trade and for international relations. It is good news for armaments manufacturers and leads to larger government budgets and deficits. The state comes to take a more prominent role, deciding which traded goods to surcharge or ban, awarding more government contracts to home manufacturers and service providers and spending more on all types of national security.

We do not expect a war between the major powers but are having to live with regional and local conflicts which sometimes become wars. These in turn can generate more refugees, more destruction of productive capital and more diversion of effort into war away from the fruits of peace.

Democracies and their inflation problem

The US and Europe are still dealing with the aftermath of their large monetary expansions, and the price rises brought on by Covid-19 and by the Ukraine war. We are now seeing the delayed effects as service inflation proves stickier.

There was a big inflation in bonds and some other assets when the central banks bought them up. Then goods and energy rose in price, to be followed by wages as employees sought to limit their loss of purchasing power by securing a wage rise. Now these wage rises are being passed on in the price of services, after the goods and energy prices have subsided.

Retreating from global trade will make it more difficult to contain prices. The years of low prices after the banking crash of 2008-9 were enabled by the subdued money growth that followed, as banks were made to build their capital with more adequate reserves and less lending. The austerity was more tolerable because it also coincided with China’s full flourishing as a member of the World Trade Organisation after joining in 2001.

The monetary explosion of 2020-22 – amongst most of the advanced countries led by the US -coincided with the retreat from globalisation.

Allowing tariff-free access for Chinese products to Western markets created downwards pressure on many goods as China used its low wages to gain market share from higher-wage Western economies. The world arrived at high levels of globalisation for energy, goods and services as there was more interdependence. Many commentators welcomed this. They assumed that more trade dependence would moderate the political stances of the leading countries such as China, which would need to accept international rules and decent conduct to benefit from the trade.

The monetary explosion of 2020-22 – amongst most of the advanced countries led by the US -coincided with the retreat from globalisation. This was first manifest in the Trump tariffs and followed by Joe Biden’s subsidies and onshoring policies. From here, the higher tariffs will mean higher prices for the items affected.

Electric vehicles, for example, will now stay more expensive for longer in the US and maybe in Europe than if cheaper Chinese models were allowed to circulate more freely. This will only be generally inflationary if central bank policy is inflationary. Otherwise, it means people can afford fewer goods and fewer electric cars will be bought.

This week’s release of the Federal Reserve’s (Fed’s) latest minutes has shown its continuing concerns and led the market to, once again, think rates stay “higher for longer”. The European Central Bank is more likely to cut rates first, worried as it is by low levels of growth.

Central banks, which have a prime mandate to keep inflation to around 2%, are sometimes influenced by the mood about low growth and high unemployment. The Fed has an explicit requirement to maximise employment as well as to hit the 2% inflation target. The persistence of inflation for the time being means rates cannot go back to the very low levels we were used to after the banking crash. Then effective rationing of credit by the requirement for the banks to increase their reserves relative to loans allowed rates to be lower.

AI retains the power to impress

Nvidia demonstrated in its latest quarterly earnings its ability to grow its revenue quickly and to make large increases in its profits. Margins continued upwards reflecting its current dominance of its market and the need of technology companies to join the queue for its products. Artificial Intelligence (AI) and the wider digital revolution is able to bring much of the world together as it spreads from its largely US base.

Even this now is also cause of division between the two blocs, with the advanced countries worried about the way China, Russia and their satellites want to acquire Western technology – and may put it to nefarious uses. The outbreaks of more cybercrime, the advent of computer warfare and the use of this technology in ever smarter weapons systems means the Chinese bloc is having to develop its own rival systems. They may well place more accent on government uses and may well adapt consumer technology to inure more control over their population.

The development of more computer technology should help the world boost productivity and improve quality as companies learn how to use it. Competent employees will be needed to direct, control and develop the automated processes and to provide human contact with customers. Government will have to grapple with its own productivity problems as its size continues to expand. The forces of protectionism will act as some break on productivity progress.

Nothing on this website should be construed as personal advice based on your circumstances. No news or research item is a personal recommendation to deal.

Deglobalisation, technology and inflation

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