The pandemic has caused a dramatic decline in international flows — including trade, foreign direct investment and travel. How quickly can we expect global flows to rebound and how might future trade patterns look different?
Supply chain policies have risen to the top of the agenda, thanks to the coronavirus pandemic and to nationalist policies such as Donald Trump’s ‘America First’ declaration. Will companies seek the greater efficiency of international diversification or aim for the resilience and political goodwill of domestic self-sufficiency? Economic logic almost always favours the former approach but protectionist politicians and concerns over weak links in extended supply chains may sometimes force the latter.
There have been some notable developments in regional integration. In November 2020, Australia, New Zealand and 13 Asian countries, including China, signed the Regional Comprehensive Economic Partnership, which is designed to eliminate a range of tariffs on imports over the next 20 years. The members account for nearly a third of the world’s population and GDP.
While the UK has been busy extracting itself from the European Union (EU), the process appears to have been positive for the rest of the region. For example, the remaining 27 countries would probably have been unable to agree the €750 billion pandemic recovery fund so easily if the UK had remained at the table. From now on, the EU is likely to be able to move faster towards its shared objectives.
In the US, president-elect Joe Biden’s economic team has indicated that it wants to address the failings of globalisation in a more internationally cooperative manner than departing president Donald Trump. Biden has suggested he wants to push international allies for help managing China and signalled scepticism about using tariffs as a weapon in trade confrontations.
Another important issue for globalisation is the potential of the internet to fragment into different parts with different regulations.
Many commentators believe the most likely scenario is a bifurcation into a Chinese-led internet and a non-Chinese internet led by the US. Such a divide is already in place to some extent, due to the ‘Great Firewall of China’, a government-sponsored programme that censors content. It means overseas businesses have to adapt or restrict their services if they want to access potential Chinese demand.
Over the next pages, two of the fund managers we hold in portfolios explain how recent trade deals could affect the balance of economic and geopolitical power between East and West, as well as the potential implications for investors.
Masaki Taketsume | Schroders Investment Manager | Omnis Japanese Equity Fund
VIEW FROM THE MANAGER
The Regional Comprehensive Economic Partnership (RCEP) is a welcome development for Japan given the importance of trade in driving economic growth.
The largest benefits from the overall deal are likely to stem from the changes to a common rules of origin framework, which allows inputs of products to be made across the region to qualify for preferential treatment. But the intra-regional boost to trade as a result should be relatively modest as it mostly streamlines and harmonises existing arrangements. Tariffs were already low in the region, which itself was well integrated. In fact, 83% of the trade between the RCEP signatories was already under a trade deal.
RCEP signatories cover just under half of Japan’s trade and most of the benefits stem from the reduction to tariffs in trade with China, which it did not have a deal with before.
The geopolitical significance of RCEP is perhaps larger than the economic significance. The deal helps reinforce economic ties within Asia and also enhances China’s influence in the region. In the longer-run context of decoupling between the US and China, this is a factor that tilts the balance of power towards China. Though the deal itself was negotiated for eight years, it was signed as the US took a step back from leading international institutions and Asia has been able to better manage the pandemic than its western counterparts. For Japan, it will continue to have to work hard to balance its security and economic needs. This means continuing to navigate a difficult geopolitical balancing act between the US and China.
Ezra Sun | Veritas Asset Management Investment Manager | Omnis Asia Pacific Equity (ex-Japan) Fund
Whilst the Regional Comprehensive Economic Partnership (RCEP) is not likely to have a huge impact on, it must be noted that China had no existing deal with Japan and nor did South Korea so this is positive.
On the other hand, The Comprehensive Agreement on Investment (CAI), a bilateral treaty between the EU and China, will significantly increase market access for EU companies in China and help create a more level playing field, whils including conmmitments on climate change, labour conditions and responsible business practices amongst other items.
The CAI has rattled the US, which has taken a negative view of the deal. While Donald Trump upset many nations with trade sanctions, Joe Biden intends to consult European partners in instigating a concerted effort against what the US perceives as unfair economic practices in China. In this sense, the CAI is a win for President Xi. The reality is EU companies want to tap the Chinese market. The Foreign Direct Investment (FDI) from the EU to China over the past 20 years is a modest €140 billion. The CAI ensures that EU investors achieve better access to a fast-growing market of 1.4 billion consumers. It has largely been well received in Europe.
Biden’s victory is not likely to have a dramatic effect on the attractiveness of China as an area of investment. The names in the portfolio remain domestic in nature and increasingly focused on areas where there is an acceleration in important trends, such as digitalisation, the environment and healthcare.
OUR INVESTMENT CASE
We believe emerging markets – and Asia in particular – are best positioned to prosper in this environment, and have an overweight allocation in discretionary portfolios. One of the main reasons is that many Asian economies are becoming increasingly self-reliant, moving away from a dependency on exporting goods to developed markets. These countries offer a rich source of successful businesses across a range of sectors, from luxury goods and car manufacturers to innovative technology and financial services companies.
