Deglobalization showing fault lines. How should chemical and materials companies’ respond?

Geopolitical risk, persistent inflation, climate legislation and a variety of rising input costs are shaping the future of manufacturing. Chemicals, metals, and materials companies need to be aware of these trends and plan and protect their production assets. See supporting slides at end.

As the fault lines appear in “new-shoring” activities, where downstream industrial customer industries move new asset investment to more favorable locations (not just to home-shore or near-shore), materials companies are increasingly experiencing the impacts of new supply chains and customers.

The 2022 world business pivot

A combination of circumstances forced a change in world business in mid-2022. It seems to have been a pivotal period in altering the direction of foreign direct investment (FDI) and world trade. Reasons may include the substantial reduction in US Covid relief, the start of high inflation, the beginning of interest rate hikes and Russia’s invasion of Ukraine.

However, supply security, rising labor costs in China and a strong North America energy position have for been causing redistribution of manufacturing investment capital for several years, mostly towards North America. See one of my past articles on this topic here.

Investment stall

One fault line is FDI, which declined 38% between 1q 2022 and 3q 2023. FDI stalled in China due to geopolitical risk and rising labor costs. It has also dropped, and gone negative[1], in Europe due to energy costs and climate policy. North America, on the other hand, is attracting world investment due to lower corporate tax rates, stable government, a large wealthy consuming population, and an abundance of natural resources.

Final products trade slowing

Investment patterns will impact future trade patterns. Among the most pronounced deglobalization fault lines is in world total trade, which fell 18% between June 2022 and February 2024[2].

The bulk of global trade in manufactured goods (65%), is in semi-finished and finished goods. The remaining 35% of global trade is in input materials, that is, raw materials, energy/fuels, and agriculture/food products. A key characteristic of the 35% is that it is related to structural geographical advantages, namely oil/gas deposits, arable land, timber lands, minerals deposits, etc.

Finished and semi-finished goods trade have been growing much slower than input materials trade. Between 2022 and 2023, world trade in those input categories grew between 30 to 114%.

Splitting total trade into the three categories of raw materials & energy, semi-finished goods, and finished goods tells an interesting story. North America has improved its monthly net trade position in finished goods by USD 22 billion between August 2022 and December 2023, mostly in the areas of low value goods and recreational items, like bikes and video game consoles, but also personal computers. China’s net trade in the same period declined by USD 8 billion in same low value items.

Europe’s monthly net trade improved by USD 3.8 billion in the same period, propelled by advanced products, such as aerospace equipment.

Though volumes are still lower than that of China, the Asian Tigers & Tiger Cubs[3] continued to improve their finished goods net trade surpluses, as they become preferred alternate investment locations to China.

Raw materials, energy, and fuels trade will grow fastest

For raw materials and fuels, North America continued improving its trade position, with the monthly trade surplus rising USD 2.8 billion between August 2022 and December 2023. While much of this improvement was in hydrocarbon energy, a substantial portion was in pharmaceutical related compounds.

Natural resources (treated here in net trade in raw materials and fuels/energy) are the lifeblood of the world economy and may expand rapidly from 35% of world trade to much higher levels in the next few years.

Supply chain security impacts the downstream sector

Supply security pinched manufacturers hard during Covid lockdowns and they have become highly sensitized to supply security. For instance, from 2010 to 2019, US manufacturers monthly inventory to shipments ratios were 1.3.? The average between January 2021 to February 2024 is closer to 1.5, about a 10% increase (could be an equivalent increase of up to 2 weeks on average).

Likewise, manufacturers, sensitized to geopolitics, have redirected investments to boost supply security. Where countries cannot overcome supply deficiencies is in raw materials, agriculture/food, and energy/fuels. This includes products up to several processing stages away from original extraction, such as resins and aluminum, which may be located based on materials/energy availability and cost.

Adopting solar, wind or other energy transition technologies will not necessarily change the need for higher levels of raw materials trade, though it may change the mix.? Electric vehicle battery anodes, for instance, are based on petroleum coke, of which the US is the largest supplier. Also, countries that lead in wind and sun resources closely match mineral resource rich countries, such as the Middle East, Australia, and the US[4].

With China’s deteriorating advantage, should investors cease to target the region?

The human resource pool is undeniably significant in Asia and does not only include China, but other high population countries such as India, Indonesia, and others. The Asian Tiger and Tiger Cub economies are also experiencing high growth. Furthermore, China’s trade deficits indicate continuing future needs for basic materials, even if downstream investment falls. Areas of deficit include mineral ores, hydrocarbon energy, polymers, rubber, various organic chemicals, metals, and other natural products (natural fibers, leather, wood, pulp, etc.). On the other hand, some types of fertilizer, inorganics, and synthetics fibers, where China has trade surpluses, may be under pressure.

Conclusion

Economic growth could change the trajectory or slow the degree of movement in world investment and trade. However, going back to the “the old pattern” is unlikely. Long distance supply chains tend to produce more shipping emissions and regionally targeted investments will become more important. So how do you position your company in the new world trade landscape?

·?????? Assess the volume impacts of new shoring/de-shoring as fault lines begin to widen in global supply chains; which customers are impacted most?

·?????? Collaborate with all parts of your value chain to reduce supply chain lengths and risks – you need to do this at a higher level than in recent times past.

·?????? Determine whether your existing asset locations can competitively serve growing industrial geographies with the level of service expected (reliability, quality, etc.).

·?????? Continually reduce costs for plant construction and operations, especially with rising capital costs (see past article) and oversupply in certain commodities (like olefins).

·?????? Use the latest tools to keep operations sharp. Artificial intelligence can help in supply chain planning, innovation, and labor cost mitigation.

Certain industries are building capacity in alternative regions, and they will require reliability, quality, and service from their raw materials suppliers. The question is simple - Will you or your competitors be serving them?

To keep ahead of the latest industry trends, see the monthly Worley Consulting Market Perspectives Report.

[1] According to the OECD, negative numbers can result from surges in FDI from disinvestments, higher/lower equity flows, higher/lower reinvested earnings, and intracompany movements.

[2] Based on an analysis of the trade of 65% of reporting countries.

[3] Asia Tiger and Tiger Cubs for this analysis include, Taiwan, South Korea, Vietnam, Malaysia, the Philippines, Indonesia, Singapore, and Thailand.

[4] For solar, see: https://globalsolaratlas.info/map; For wind, see: https://globalwindatlas.info/en/