The world is going backwards- discuss…

Recent reports that the Central Committee of the Chinese Communist Party has ordered the removal of all western-sourced computer hardware and software from government and public institutions by the end of 2022 (to be replaced by locally-sourced equivalents and potentially affecting up to 30 million pieces of hardware) not only is the latest evidence that the era of “globalization” is probably ending and a long-term trend of rising global trade reversing, but also of why economics really should still be called “political economy”: one cannot properly separate the components.

This act is a response to the uncertainties caused by the continuing US/PRC “trade war” (which may now have reached the “phoney war” stage) , but it raises questions in terms of its likely consequences. While the PRC may have capacity in terms of hardware (through, for example, Lenovo, which is said to derive a third of its sales in the US and only 20% from the PRC), it does not yet have equivalent capacity in high-quality operating software. Ironically, the PRC is already showing increasing interest in developing systems using so-called “open” software.

The key risk in all this lies in the fact that after decades of growth in cross-border trade, and thus in the scale and complexity of supply chains, any government needs to be able to understand and parse each link within such chains, otherwise it may find itself embarrassed by the imposition of “counter-measures” by those impacted by its own high-level policy decision. In the case of the PRC, while Huawei, for example, has seemingly weathered the sanctions placed or threatened upon it by the US better than many had expected (or hoped), it is unlikely that the PRC’s domestic manufacturers can yet replicate every aspect of the technology component list and be able to provide hardware and systems with equivalent functionality to existing ones. Of course, no-one should under-estimate the PRC government’s determination and ability to achieve its goals, but one may wonder whether the announced intention to replace western technology is symbolic for now.

Dealing with such actions, ambiguities and uncertainties is all part of the job description for any seasoned trade credit or political risk underwriter; but it does introduce a question about the need to adjust the weightings applied to the probability that a particular entity will act, or be forced to act, in a way that is not rationally in its economic interests. We are sure that those who write, say, Contract Frustration will be paying close attention.

It is also important to put such announced actions into the wider context, and examine their knock-on effects. It is one thing to wonder where the current weaknesses or vulnerabilities may be in a particular supply chain, but very much another to try to predict where the next “adverse” action will occur and its nature. The growth in international trade is a key reason why the PRC, for example, has been able to grow its economy at the rate at which it has for the past 40 years. Returning to autarky in no longer a viable option for any society which wishes to continue to prosper, particularly one that clearly wishes to become (the PRC) or remain (the US) the regional and global hegemon.

The spectre of the 1930s should give any rational government pause for thought because of the damage which supposedly “protective” actions wrought not only globally, but domestically.

At Awbury, as avid students of history, we try always to understand motivations and reasons for government-level actions, in order to minimize the risk of being “surprised” by how events may impact our business and portfolio; though, as we frequently state, dislocations bring opportunities as well as threats.

The Awbury Team

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