Stormy times ahead

A return to protectionism and the growing anti-globalisation movement means directors must now plan for the unknown in a world of geopolitical turmoil, writes Alexandra Cain.

Despite recent global events, the world hasn’t gone mad; it just looks that way. US President Donald Trump was elected last year partly on the back of a promise to better protect domestic interests in an increasingly global world. A few months earlier, the UK voted to leave the European Union. At home, populist politicians like Pauline Hanson are having a renaissance. These events would have been unimaginable only a short time ago.

This is not what’s supposed to happen. What’s supposed to happen is the continuing push for globalisation. It’s supposed to be increasingly easy – not hard – to do business overseas. Borders should be opening, not closing. It could be argued that technology and the internet have already provided the momentum for a genuinely integrated global economy.

But that’s not the way everyone sees it. For many economies, globalisation’s “race to the bottom” nature has produced communities without industries to support them. Right around the world there are ghost towns filled with multi-generational groups of the listless and despondent. Research bears this out. A PwC study, Local economy, Local Investment Solutions, found one third of the 2,214 local economies it studied had contracted in the previous year.

One reason for this is that traditional manufacturing in these towns has moved to low-cost countries. As a result, populations have exercised their democratic right and voted in politicians they think can do something to reverse this trend. But you can never really go back, and there are no guarantees governments can meet this expectation.

But there may be a role for businesses to play. One of the most important tasks for Australian directors is to determine how their businesses will respond to the threats and opportunities that the opposing forces of globalisation and protectionism produce. Globalisation can be defined as the ongoing push for an increasingly interconnected international economy. Protectionism results from actions taken by countries to provide favourable trading terms to domestic businesses at the expense of overseas competitors.

Many opportunities remain for Australian businesses to profit and grow here and overseas. The trick for directors is to understand how their companies can benefit from current market and geopolitical conditions.

Tim Harcourt, JW Nevile fellow in economics at the UNSW Business School says we must urgently re-think globalisation.

“For a long time, the pro-free trade camp forgot about the labour market and about low-paid workers. They didn’t think about how you combine an open economy with decent social protection.”

Harcourt points to Scandinavian countries as economic models to which other countries could aspire as a way to do globalisation without disadvantaging already vulnerable groups. Under the “Nordic model”, capitalism is combined with extensive social welfare. Other economies could lift some of the lessons from this approach to better engage in the global economy and at the same time protect their national interests.

Globalisation: The business impact

It’s hard to imagine how disappointed everyone who worked on the Trans-Pacific Partnership Agreement must have been after Donald Trump signed an executive order in January withdrawing from it. The hard-fought, now-dead agreement was designed to facilitate trade among 12 countries around the Pacific rim. It was a controversial deal, with winners and losers, but the deal makes no sense without US backing given the country’s central place in the global trade system.

While it’s no surprise Trump kiboshed the deal – he campaigned on it as well as plans to change the North American Free Trade Agreement (NAFTA) – it was one of the first signs that he was serious about taking a more protectionist stance. While this move may seem to make sense for the US on the face of it, it’s an about face for the globalisation steam train that had previously shunted on unchallenged.

Cassandra Kelly, chair at Pottinger, says the risk now is that we’re turning back time. “We could say no to progress. But for me globalisation is all about making the most of the world’s resources and opportunities. As a result of globalisation, we have seen stunning advances in areas like healthcare and free education platforms,” says Kelly.

“People have blamed globalisation and offshoring for the loss of jobs. Yet in many places, it’s automation that has taken most of the old manufacturing jobs in old industries,” she says, adding that this dynamic will only continue.

It’s vital to remember that the pace of change has already irrevocably transformed the global economy. As Kelly notes, production cycles have changed and there is more global integration among businesses internationally, so it’s not so simple to “go back”.

However, Dr Hussain Rammal, senior lecturer at UTS Business School has a different view. He argues that we have actually been living in a semi-globalised world. “Bilateral and multilateral trade and investment agreements have moved global trade to the regional or bilateral level,” he says.

His argument is that free trade and investment isn’t truly global. “What we have now is free trade among member states in a geographic region or between a few countries. While not ideal, this facilitation of free trade in regional blocs or between countries at least helps progress, albeit slowly, towards a freer and more global economy.”

Protectionist policies challenge this and risk a world that harks back to an era before the General Agreement on Tariffs and Trade (GATT) was ratified. This agreement, signed in the 1940s to facilitate trade, ended in the 1990s when the World Trade Organisation was formed to largely replace it.

However, as Rammal notes, advancements in technology and more sophisticated global supply chains mean it is now more difficult to close borders. “But what we can expect is more restrictions on professionals’ ability to move across borders and provide services. We may also see more government pressure on multinational enterprises to invest and manufacture at home rather than globally.”

Consequences of protectionism

Protectionist policies are especially harmful for countries like Australia with small domestic consumer markets. “The return to protectionism will affect international market access for Australian export goods,” explains Rammal. Australia relies on exports to drive the economy and any reduction in demand for our goods will slow growth.

As a risk-mitigation exercise, Australia must pursue free-trade agreements with other economies that have a similar reliance on exports, especially smaller economies. This is a substantial policy shift given Australia’s recent focus on signing free-trade agreements with countries like China and Japan.

Rammal also suggests Australia take a leaf from China’s book. The Asian giant has prepared for a global landscape in which the US has a more protectionist stance by integrating its economy with a huge number of nations and regions around the world. This will help its market withstand tighter US trade policies.

It’s essential for Australia to take a similar approach and resist responding to protectionism by raising trade barriers, because trade policies tend to have a domino effect: as soon as one country puts up barriers, others follow.

“If people stop selling to each other then things become expensive. So it’s in everyone’s interests to keep these relationships alive and well,” says Kelly.

She notes that Australia is also a relatively large importer from the US – one of few developed countries for which this is the case. “So protectionism by the US might just be a good thing for some domestic competitors.”

Nevertheless, any benefits from protectionism are likely to be short-lived and unsustainable. “Small firms can use the period of protectionism to build up their brand equity in the domestic market, without worrying about large foreign firms entering the market. But failure to innovate and build up a strong local following would result in any benefit being lost at the end of the protection period,” says Rammal.

Says Harcourt: “Putting tariffs in place is like putting rocks in your harbour. Ultimately they just hurt local business.”

Trade levies and tax

Paul Cooper GAICD is the director of finance for weighing instrument business Rinstrum. Export markets are an essential part of his business. As a result, Cooper and his colleagues are constantly thinking about how the changing global landscape affects the business.

“As a director dealing with the US on a daily basis, we’re not overreacting. We’re taking this step-by-step; we need to be aware of the mood,” says Cooper.

“We still have an Australia/US free trade agreement. We still have cooperation at the very highest levels of government and also administratively between governments. That’s our safety net. It doesn’t mean that we’re being naïve and not talking responses. We’re looking at this in my business, and pushing inventory into the US before any tariff changes. But that comes with cost, because we’ve got a higher direct investment in the US in doing that,” he explains.

Kelly notes that directors should consider possible changes to existing trade agreements, including bilateral agreements, and how the domestic political position may subsequently shift.

“America’s protectionist stance highlights opportunities for increased trade with China and Japan, which are much larger and more important markets for many Australian companies [than the US].”

When it comes to potential new tariffs in the US, it is possible some local export markets may be worse off – although the US isn’t actively trying to target Australia given our status as a net importer from the US.

“But any border tax adjustments will increase the price of Australian goods relative to US goods. That will reduce demand, which has flow-on effects to revenue. A more protectionist US is also a natural catalyst for Australia to develop stronger relationship with countries such as the UK,” Kelly says.

Given the upheaval in the global geopolitical system, it’s likely that countries such as the UK will increasingly want to attract foreign companies to set up in the local market. Actions like these will help to counter US policies.

“Countries like Australia also need to provide incentives for local firms to produce at home,” says Rammal.

While businesses such as Rinstrum may view protectionism as “one to watch” rather than as an active brief at the moment, smart directors must look at how to re-shape their business in the event the US market falls away.

For many businesses this will mean a more regional focus. “Australia is considered to be a stable, secure trading partner. Indonesia, for instance, is negotiating a free trade agreement with us now. So there could be a dividend for Australia,” says Harcourt.

Small versus big business impacts

Overall, large businesses are likely to have greater capacity to plan for, respond to and withstand short-term losses and changes in the business environment that are a result of more protectionist strategies.

“Small businesses do not have this luxury. On the other hand, because of their size and profile, large businesses are more likely to be the target of host country government action against international firms,” Rammal says.

Directors of such firms need to constantly scan the business environment for new or better opportunities. “A long-established presence in a foreign market does not guarantee a future in the market. For example, many Australian firms that established a presence in the UK to service the European Union market must now re-think their future. Some of these firms’ directors are seeking new host markets,” he adds.

Additionally, many large organisations will be able to find export avenues no matter how trade policies change. “There will always be demand for our coal and oil. Being so dependent on low tariffs, small businesses are likely to bear the brunt of protectionism,” says Harcourt.

Melda Donnelly is the former chair of financial conference group Centre for Investor Education and is a director of fund management business Pacific Current (formerly called Treasury Group). She expects dramatic effects from a return to protectionism.

“From a macroeconomic perspective, capital movements are a concern; similarly the supply of people will change. Ultimately economies will be adversely impacted,” she says.

According to Donnelly, smaller businesses may have certain advantages in a world of higher trade protections. Unfortunately size isn’t one of them. “If you own your own company, you have the benefit of controlling the other shareholders. But it might be more difficult to fund these businesses. Capital flows are more limited because banks are a bit tougher lending to small business.

“Large businesses or public businesses can raise equity capital a little more easily in times when debt financing is difficult. Small companies have to be more resilient and often have less information to base decisions on. They’re very much focused on survival. They’re often not in a position where the cash flow allows them to be as flexible as a large organisation,” she says.

This means directors of smaller businesses must be especially vigilant to ensure their markets and margins are not affected by US protectionism.

Challenges facing local directors

While directors of smaller businesses may bear the brunt of new US trade policies, every board has to monitor the situation and its potential to impact their businesses on an ongoing basis.

Kelly’s advice to Australian directors is to look up and out and embrace the risk and change. “Find ways to move more quickly and cheaply. Build boards and a culture that are outward looking. Hire directors from different markets, not just those with some foreign experience,” she suggests.

Rammal says directors are already planning for contingencies. He says it’s critical for them to keep abreast of any potential changes to market access for Australian firms. For instance, it’s a good idea to stay on top of upcoming agreements negotiated with regions such as the Gulf Cooperation Council (GCC) to help plan for the future.

“Directors must not reduce their international involvement. Diversifying earnings and risks across markets helps provide a buffer against local or regional economic downturns,” he says.

Harcourt also stresses that it is essential for directors to look outside the US to help maintain profits and revenues. “Shore up markets in Asia, Latin America and other emerging markets. Don’t be ashamed to ask for help; you need a good partnership with the government bodies.”

According to Donnelly, directors need to be vigilant, brave and lucid. “Ensure strategy is aligned with investors’ wishes and really understand business risks. Look at whether you have the right CEO and incentives at the moment.”

Ultimately, she says the board must understand the difference between being a true global player, or just operating in global markets. “Appreciate the implications if markets are closed or people in those markets are no longer able to operate there because of specific views of culture or race.”

Then, work out short-term plans and mitigation strategies. Donnelly says it’s important to have a board that can think well together, make good decisions and develop strategies to manage the unforeseeable.

Overall, Australia must play to its strengths, despite what’s happening in global markets. The onus is on directors to fully understand how protectionist US trade policies, re-negotiation of trade agreements and the resulting change to the global economy will affect their businesses.

This work must happen now because by the time any formal tightening of trade policies is announced it may be too late to do anything material to turn the ship around.

Rethinking business in a changing world

• Directors must determine how their businesses will respond to the threats and opportunities the opposing forces of globalisation and protectionism will produce.
• It is likely that more restrictions will be placed on professionals’ ability to move across borders. This may result in more government pressure on multinational enterprises to invest and manufacture at home.
• As a risk-mitigation exercise, Australia should pursue free-trade agreements with other economies that have a similar reliance on exports, especially smaller economies.
• Any benefits from protectionism are likely to be short-lived and unsustainable.
• Small firms should use any period of protectionism to build up their brand equity in domestic markets.
• Directors should consider how to re-shape their business in the event the US market falls away. For many this will involve a regional focus.
• Large businesses are likely to have greater capacity to plan for, respond to and withstand short-term losses and changes that are a result of protectionist strategies.
• Directors need to constantly scan for new or better opportunities and stay abreast of any potential changes to market access for Australian firms.