Making Sense of Globalization
The DHL Global Connectedness Index, now in its third edition, shows that not all flows of trade, capital, information, and people are alike.
Not
so many years ago, the forward march of globalization seemed to many
people to be almost a law of nature. Trade would always grow twice
as fast as GDP, financial markets would continually become more
integrated, foreign direct investment (FDI) would proliferate
freely, and information and people would move around the world more
easily. Borders and distance might cease to matter at all. But then
came 2008 and the global financial crisis. It hit trade and capital
flows hard, and now many question whether globalization has stalled
or even gone into reverse.
Globalization
did increase slightly in 2013—and, with or without that increase,
will continue to have a significant impact on every company that
pursues a multinational strategy. But the changes are not as simple
as people might think. Globalization is not a uniform phenomenon
around the world. The world’s most globally connected countries
(such as the Netherlands, Singapore, Switzerland, and the United
Kingdom) are many times more connected than the least (which include
Burundi, Myanmar, Botswana, and Paraguay). Because the extent of
global connectedness is correlated with economic growth, this
discrepancy matters for both the countries and the companies that do
business there.
But
it would be unwise to base your decisions about where to do business
on overall connectedness alone. Smart strategies in today’s
complex environment require a multidimensional view of those
interconnections. Companies must consider three important
dimensions:
- Depth: how much of a country’s economic activity is taking place across national borders (as opposed to within the countries)
- Breadth: how globally a country’s international flows are distributed (whether, for example, they involve just neighboring countries)
- Directionality: the proportion of inward to outward flows for any country
Understanding
the patterns of economic linkage, and how they are changing, is the
purpose of the index we produce at New York University’s Center
for the Globalization of Education and Management and at IESE
Business School. The Global Connectedness Index has been sponsored
by the international shipping company DHL since 2011, and enables
comparisons of the relevant data for all the years since 2005. We
released the third edition on November 3, 2014. For 140 countries,
the index measures and analyzes the flows of trade, capital, people,
and information. It then aggregates them by country and by region,
to get a sense of the changes in these patterns year by year.
Between
2013 and 2014, global connectedness increased—but just barely. It
had been recovering since the crisis, but that recovery slowed down
in 2012, and it remains shy of its precrisis peak. Fortunately,
depth, which correlates with economic growth and which had stalled,
rose again. But breadth continued to decline (see
Exhibit 1).
Directionality, which measures the orientation of flow, does not
show rise or fall; it will be discussed at the end of this article.
The
data on depth helps explain many of the challenges that companies
face when doing business abroad. The index tracks international
flows of trade (merchandise and services), capital (FDI and
portfolio equity, such as shares bought on foreign stock markets),
information (international Internet bandwidth as a proxy for
Internet traffic, phone calls, and printed publications), and people
(immigrants, university students, tourists, and business travelers).
For only two of these variables—trade and portfolio equity
stocks—do internationalization levels exceed 30 percent. And when
the trade data is adjusted to compensate for products crossing
borders multiple times during the manufacturing process, the overall
figure drops from 32 percent to about 23 percent. In other words,
less than 25 percent of the world’s economic output travels across
national borders.
Depth
varies from one type of flow to the next. It is often relatively
easy to make financial investments in foreign firms (portfolio
equity) and ship products from one market to another (trade). It is
harder to build and manage operations abroad (FDI), and harder still
to build an organization in which your people are as global as your
market ambitions (immigration, international education, and business
travel).
The
trends also vary by activity. The depth of international information
flows has risen every year since 2005, powered by expanding
telecommunications bandwidth. International capital and people flows
grew between 2012 and 2013. But trade depth has been declining since
2011; a smaller proportion of the goods that are produced each year
are exported. The latest forecasts imply a continuation of these
patterns. More information and more capital are expected to cross
national boundaries, while the robust trade recovery that many
expect is repeatedly deferred.
Forecasts
aside, the results to date are unequivocal: The challenges of doing
business abroad are daunting and will remain so. However, business
leaders should not be too gloomy. Large untapped opportunities to
create value across national borders still exist. In a world of
semi-globalization, where markets are only partially integrated,
smart strategies can still create big profits by scaling business
across borders and arbitraging across international differences,
especially when those efforts are coupled with appropriate
adaptation to local and national contexts.
The
declining breadth of globalization helps explain why international
companies have had a more difficult time in recent years. In 2005,
the majority of the international interactions we tracked on the
Global Connectedness Index were from one advanced economy to
another, but starting in 2010, the majority of them have involved an
emerging economy on one or both sides of the transaction. It is no
longer necessary for these emerging economies to interact as much as
they used to with the advanced economies on the other side of the
world; they can now get much of what they need from one another. In
short, the world’s economic center of gravity is shifting eastward
to emerging markets, and as a result, its geographic flow patterns
are becoming more diverse.
Consider,
for example, Germany’s merchandise exports. Germany is without
question one of the world’s most successful exporting nations, but
its exports to many emerging economies have not grown as fast as
those economies’ imports from other countries. Had Germany
maintained its share of every country’s imports from 2005 to 2013,
its total merchandise exports in 2013 would have been 17 percent
higher! Capturing those opportunities, however, would have required
German companies to bridge far greater distances—not just
geographically but also in their cultural, political, and economic
practices. In fact, Germany did stretch out its exports over greater
distances in 2013 than in 2005, but it still sent 70 percent of its
exports to markets within Europe. In short, there is a great deal of
room to further broaden Germany’s export activity—along with
that of most other mature economies.
Global
companies often experience this world of changing breadth as
increased competition with their rivals from emerging economies.
Fortunately, they can do a great deal to reduce their sensitivity to
cross-country differences and distances. It often makes sense to
start with a firm’s people—and at the top. Only 15 percent of
the top management team members at most Fortune Global 500 companies
hail from outside the firm’s home country. Location decisions,
product designs, work processes, and so on can all be adjusted to
help a firm more effectively broaden its international footprint.
Companies
can also use the country-by-country analysis provided in our index
to determine likely prospects for expansion. For example, countries
with high scores on depth but low scores on breadth (such as
Estonia, Barbados, and Brunei) are connected only to a narrow set of
partner countries, and may thus be easier to enter via their main
trade partners. Countries with relatively high scores on both depth
and breadth (such as the Netherlands, Singapore, and the United Arab
Emirates) tend to be good candidates for regional hubs.
Directionality—the
third dimension studied in the DHL Global Connectedness Index—is
also essential to country-level analysis. A firm considering
investment in South Korea, for example, may already know that South
Korea is a fairly large participant in international capital flows.
But it’s important to know that this capital flows
disproportionately outward: South Korean firms are big abroad, but
foreign firms are still relatively small participants in South
Korea’s domestic economy. Thus, South Korea may not be so easy a
place to invest as its aggregate capital flow data might imply.
In
general, companies forming a global strategy should first consider
the specific aspects of connectedness that matter most to their own
success. Those looking to manufacture offshore should consider the
country’s depth and breadth of merchandise trade, whereas those
looking to establish a presence in a country’s media sector should
take into account the degree and direction of its capital and
information flows. Distance, both geographic and cultural, also
matters. The relative ease with which a company can operate in
foreign countries depends not only on their economic connectedness,
but also on how familiar or unfamiliar the company is with their
culture and political and economic institutions, and whether it has
the ability to bridge any gaps.
Finally,
comparing the connectedness profiles of rival companies’ home
countries can suggest the relative strengths and weaknesses each
company inherits from its national context. For example, if your
company is based in a country with a high depth score, it’s likely
to be relatively skilled at adapting to cross-country differences.
That sophistication could stand you in good stead in years to come,
for as the DHL Global Connectedness Index shows, globalization may
not be soaring to new heights, but it also has not gone into
reverse. Instead, some types of activities are becoming more
connected across countries while others fragment, and the winning
leaders—of companies and countries—will be those who can tell
the difference.
By
Pankaj
Ghemawat
and
Steven
A. Altmanhttp://www.strategy-business.com/article/00298?pg=all
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