The Covid-19 pandemic has made many governments take a critical look at their economies’ dependence on globalised supply chains. The UK government is undertaking a “Project Defend” to examine how to diversify its trading relationships and reduce reliance on China. In the EU, similar concerns are guiding the bloc’s package of post-pandemic recovery spending.
These moves are natural. The scramble for essential medical equipment ranging from face masks to ventilators early in the pandemic exposed many countries as insufficiently prepared for a public health crisis. That experience reinforced pre-existing concerns about dependence on Chinese suppliers in sensitive sectors, such as Huawei’s controversial role in building out 5G telecommunications networks.
The quest for resilience comes with risks of its own. When resilience is seen as opposed to globalisation it can lead to tariff and other trade barriers being erected in an attempt to repatriate production of essential goods. But a rush to protectionism would be counterproductive: only the very biggest economies can even aim for self-sufficiency in goods critical for public health or national security. Even domestic supply chains can be disrupted by natural or man-made disasters.
Since deglobalisation does not guarantee resilience, governments should pursue strategies that do. The good news is that the interest of the private sector is aligned with such strategies. Many companies, similarly burnt by pandemic disruptions, are shifting from “just-in-time” to “just-in-case” operations designed to keep running in an emergency.
Governments can work with the grain of such efforts. In addition to public sector stockpiles of essential supplies — which are cheaper to maintain in a globalised economy — they can increase the incentives for companies in critical sectors to build their own.
A first step is to set standards for transparent supply chain reporting, so that governments, investors, and companies themselves know where the possible choke points are. A second step is to require companies to ensure they can keep operating for a specified period if supply chains break down, analogous to liquidity requirements for banks. They could even be made to undergo regular “stress tests” to game out disruptive scenarios and put in place fallback solutions, which might include duplicate suppliers in addition to stockpiles.
The role for governments does not end there. The public interest in supply-chain resilience is likely to exceed that of any one company. At the company level, stockpiling and duplication are both costly. The temptation will always exist to cut corners in good times and hope the worst does not come to pass. The right response to this risk is not to put barriers in the way of companies’ supply chains but to reduce the cost of making them more resilient. Corporate taxation and regulatory allowances could be designed to favour investments in stockpiling and supply chain diversification.
The political divergence between the three global trading blocs — centred on the US, the EU, and China — means that some re-regionalisation of global supply chains seems inevitable, especially for the most security-sensitive goods. International co-ordination of resilience policies, moreover, can most easily be imagined at regional level. But deglobalisation should be avoided as much as possible.
While there is a strong case to let economies incur the additional cost of insuring against disruption, there is none to cut them off from the benefits of the international division of labour.
