Subjecting One Bank’s ‘Peak Globalization’ Thesis To Olson’s Theory

There are dozens upon dozens of 2020 outlook pieces piled up on my digital desktop.

It’s the same story every November/December. I create what I suppose is an ingenious system of inbox folders, designed to sort the deluge, but my Gmail skills prove lacking. Overlap is endemic and the clutter of folders ends up being more confusing than if I’d just let everything come to “Primary”.

I try opening things in separate tabs, but that bogs down my browser’s performance. In the end, I download the .pdfs and pile them up on the desktop. Some will be read. Many won’t.

On Sunday, I finally got around to perusing a thematic investing piece from BofA called “Transforming World: The 2020s”. It’s fun. And it’s entertaining. And it’s chock-full of “loud” visuals (the misnomer is purposeful) like this one:

(BofA)

One of the themes discussed is, not surprisingly, deglobalization. This is taken up and considered rather briefly in a section penned by the bank’s Michael Hartnett (along with Jared Woodard and Tommy Ricketts).

Hartnett, regular readers will note, conducts the bank’s popular Global Fund Manager survey and writes a weekly note called “Flow Show” that includes updates on the “Bull & Bear Indicator” which has correctly predicted big market inflections over the past several years, including this year’s Q4 melt-up and, perhaps most notably, the February 2018 correction.

“The 1981-2016 era of unchecked flow of goods, people and capital is coming to an end, catalyzed by the widespread recognition that while globalization has meant lower consumer prices, it has also meant slower growth, precarious employment and social disruption”, Hartnett writes, adding that “the transition to stronger local and regional economic ties is likely to accelerate as recent elections (Trump, Brexit, Bolsonaro, Salvini, Orban) proved it is possible to succeed politically while rejecting one or more aspects of globalization’.

(BofA)

In all likelihood, I’m thinking far too hard about what is, in total, just 3 pages of analysis under the heading “The world is not flat”.

It’s also likely that my own inherent biases and tendency to read those biases into whatever works I happen to be interested in at a given time, leads me to misinterpret those works.

With those caveats out of the way, consider this bit from Hartnett, Woodard and Ricketts:

The disruption of the flow of goods, people and capital will have profound implications for global supply chains, labor markets, interest rates, and corporate earnings over the next decade. Initially, it will mean rising costs of business as big regional powers attempt to dominate local geography and natural resources, and exercise tighter controls over currency and financial markets. Subsequently, we expect this rebalancing will raise productivity and set the global economy on a path to higher, sustainable growth.

I could, without realizing it, be preaching to the proverbial choir – that is, maybe one or two or all three of the authors are scholars steeped in the literature and have thereby given due consideration to the matter. But assuming that’s not the case, that underlined passage appears to predict the exact opposite of what Mancur Olson might suggest would invariably accompany a shift towards reestablishing borders and barriers to the flow of trade and capital.

“If the area over which trade can occur without tolls or restrictions is made much larger, a guild or any similar cartel will find that it controls only a small part of the total market”, Olson wrote, in his 1982 classic “The Rise and Decline of Nations“. “A monopoly of a small part of an integrated market is, of course, not a monopoly at all”.

If you reverse that process – i.e., if you make smaller the area over which trade can occur without tolls or restrictions – the opposite will occur. Cartelization will be commensurately easier, political decisions will be devolved to more local levels and thus subject to influence by special interest groups (Olson’s “distributional coalitions”) and, assuming we’re talking about relatively stable societies, this will eventually lead to institutional sclerosis and lower growth.

Of course, that will also lead to higher prices, and because consumers are not able to effectively organize, they will suffer as a result.

Hartnett, Woodard and Ricketts also say that in the 2020s, “countries will develop explicit national industrial policies and boost spending on R&D to foster local innovation, protect nascent industries, and shield national champions from hostile foreign takeovers”.

Again, it’s almost impossible to square that with “higher, sustainable growth” in the context of Olson’s work.

What Hartnett, Woodard and Ricketts are predicting is effectively the dismantling of globalization into, at best, Olson’s “jurisdictional integration”. But jurisdictional integration in “The Rise and Decline of Nations” is a good thing precisely because it involves the dismantling of local restrictions in favor of consolidation at the national level (i.e., the opposite of devolution). To wit, from Olson:

As Adam Smith pointed out, the influence of the “merchants” gave the great governments of Europe the policy of mercantilism, which favored influential merchants and their allies at the expense of the rest of the nation. Often this involved severely protectionist policies that protected the influential merchants from foreign competitors – mercantilism is, to this day, nearly synonymous with protectionism. 

It might seem, then, that the gains from jurisdictional integration in early modern Europe were brief and unimportant, since the mercantilist policies followed close on the heels of the decaying guilds in the towns. Not so. The reason is that tariffs and restrictions around a sizable nation are incomparably less serious than tariffs and restrictions around each town or fiefdom. Much of the trade will be intranational, whether the nation has tariffs at its borders or not, because of transport costs and the natural diversity of any large country. Restrictions at the national borders do not have any direct effect on this trade, whereas trade restrictions around each town and fiefdom reduce or eliminate most of it.

The question we should ask now, is whether, after the unprecedented wave of globalization that occurred from the 80s through the 2010s, nations themselves can be considered akin to towns and fiefdoms.

If that’s the case, then reestablishing tariffs at the national level in the 2020s will have the same inevitable results as rolling back  jurisdictional integration centuries ago. That is, tariffs and barriers will be reestablished down the line and political authority will devolve from multilateral/multinational institutions (e.g., the WTO) to individual countries, thus opening the door for distributional coalitions to reassert their dominance, at the expense of sustainable growth.

I personally guarantee that this is the only place you will find the “peak globalization” section of BofA’s “Transforming World 2020s” thematic investing piece analyzed through the lens of Olson’s 9 implications (as expounded nearly 40 years ago).

Hopefully, readers found it worth their time.