How far we have come

The pandemic has made it painfully obvious how dependent we are on global supply chains. When these supply chains break down because some people decide to park their boat sideways in the Suez Canal or dock workers can’t work because of an infectious disease, we feel the impact everywhere and in the most surprising places. But I hadn’t really appreciated how much our supply chains have changed until I read a new paper from Georgetown University and the University of Oregon.

Sharat Ganapati and Woan Foong Wong use global trade date to estimate how far goods travel over time. The chart below shows the result for global trade by tons of goods and distance shipped across the globe. Note how as a share of global GDP, transportation of goods has doubled since the mid-1960s. And with the introduction of China to the World Trade Organisation, China has rapidly taken a large share of these global supply chains.

Transport use by weight and distance

Source: Ganapati and Wong (2023)

The reason why this was possible is not just that China opened its economy to the world and gave Western manufacturers access to hundreds of millions of cheap workers. If that were the main reason, why did we see a similar increase in global supply chains being established in Southeast Asia? One key driver is that transport costs have declined rapidly making it cost effective to establish manufacturing hubs in distant countries.

Global transport costs

Source: Ganapati and Wong (2023)

These two charts have, in my view, important implications for the future:

• Because our supply chains have become longer, they have become more vulnerable. As goods have to cross longer distances, they will inevitably cross more chokepoints like the Suez and Panama Canals or the Hormus Strait. Disruptions in these chokepoints have an outsized impact on all kinds of goods and services, not just the ones on the blocked ships. For example, a washing machine assembled in Turkey and sold in Europe may not get stuck in the Suez Canal, but the computer chips used to run the machine may. And missing computer chips can wreak havoc on all kinds of good.

• Backshoring and homeshoring (i.e. bringing production of goods closer to home or even repatriating it to high cost countries in Europe or North America) provides a way to reduce our reliance on global supply chains. But even if a product is built at home, parts of it may come from offshore manufacturing hubs. The key to backshoring activities is not so much to shorten supply chains but to diversify them and make them more resilient against disruptions.

• The economies in Europe and North America have become less dependent on energy and fossil fuels over the last five decades. The amount of oil consumed per dollar of GDP output has dropped since the 1970s by about one third in the US and about two thirds in Europe. But that is only the direct consumption of oil. If low transportation costs are key to global supply chains, then spikes in oil prices have an outsized relative influence on transportation costs and with it on the costs of all kinds of imported goods. Hence, while oil price spikes have a reduced influence on consumer price inflation through energy inflation, their influence on core inflation through imported goods has increased.

• Keeping transport costs low is key to the prosperity of outsourcing hubs in East and Southeast Asia. If transport costs see a permanent increase (e.g. through the replacement of fossil fuels by hydrogen or electric propulsion or through increased trade barriers due to increased protectionist policies by importers) this could hurt economic growth in these countries significantly even if unit labour costs remain low.

• To keep transport costs low bigger and bigger ships and cargo planes are needed. To operate them successfully, well-planned transport networks like hub-and-spoke networks are needed. Both put together mean that global logistics is a market with substantial economies of scale. The largest logistics companies in the world will likely have an even bigger competitive advantage going forward than in the past.