We live in a globalized world in which large volumes of trade flow between partners who may be distant on a geopolitical spectrum. Indeed, around one-fifth of global trade in goods is between “geopolitically distant” partners. That share rises to close to 40% in the case of products, such as laptops and iron ore, that are “globally concentrated”—for which three or fewer economies provide the majority of all exports.
Global trade is constantly evolving, but recent times have seen notable moves—and geopolitical considerations have been a factor. In 2023, Mexico became the United States’ largest partner in goods trade. Vietnam’s trade with both China and the United States is surging. European economies have dramatically shifted energy imports away from Russia. For example, the average geopolitical distance of Germany’s trade declined by 6% between 2017 and 2023, driven by lower trade with Russia—notably gas imports.
Changes in trade patterns tend to happen gradually, but some shifts can be quick. Germany shifted from sourcing 35% of its gas imports from Russia in early 2022 to around 0% in early 2023. Since 2017, China, Germany, the United Kingdom and the United States have reduced the geopolitical distance of their trade by 4 to 10% each—in short, they have started to trade a little more with those that are geopolitically closer to them. Our measure of “geopolitical distance” uses a crude measure of voting in the UN General Assembly.
China, for instance, has been increasing its share of trade with developing economies around the world whilst it has seen a reduced share of trade with Japan, South Korea and the United States. Whereas some imports to Europe from China are rising—electric vehicles being an example.
The United States has reduced both the geopolitical distance of its trade and the geographic distance of its trade. But while the geographic distance of its trade fell 3%—indicative of some “nearshoring”—the average geopolitical distance of its trade fell by much more: 10% between 2017 and 2022. Moreover, it has diversified imports in a range of manufacturing sectors and has increased its share from other Asian economies (notably Vietnam in electronics) and Mexico. Its share of trade with Europe has risen, too, driven in part by rising US exports of energy resources to the region and by imports of pharmaceutical goods. Before 2017, the concentration of US trade had been rising. But between 2017 and 2023, US imports became 18% less concentrated in their origins. Indeed, the Unites States has experienced the most “nearshoring”—on average, global trade appears to have traveled ever-further in 2023.
Looking in more detail at the economies broadening their ties with a diverse set of partners, economies in the Association of Southeast Asian Nations (ASEAN), Brazil and India are engaging in more extensive trade over longer distances and across the geopolitical spectrum. India increased its geopolitical distance by 1%, partly reflecting rising resources imports from Russia. Brazil’s trade with China has surged, reflecting growing agricultural exports, such as soybeans and beef, and higher imports of manufactured goods, such as photovoltaic panels.
More changes to the geometry of international trade are likely on the horizon. Announced greenfield investment has surged in both Africa and India by 109% and 56%, respectively, in the past two years compared with prepandemic averages. Africa, in particular some North African economies, is seeing increased investment announcements from across the globe. China’s investment in Morocco’s battery industry is just one example. Meanwhile, India has seen a shift in inbound investment flows—reorienting from China toward Europe and the United States. ASEAN economies have also seen a moderate increase of investment from China, Europe and the United States. At the same time, investment into China and Russia has declined by about 70% and 98%, respectively.
The geometry of global trade is complex, and business leaders clearly need to take note of shifts, track them and then react. Scenario planning is moving center stage, given the many uncertainties. The McKinsey Global Institute looked at two potential scenario types for trade reconfiguration to understand their potential implications:
- In the first scenario, trade will fragment amid significant frictions between what we classify as the Western group of economies and the Eastern group. In our illustration, trade between the two groups will fall by 70% in the period to 2035. This may meaningfully lower the geopolitical distance of trade but at the same time, increase the concentration of trade by an average of about 13%—therefore creating the risk of disruption to supply chains. According to our modeling, some economies could face a GDP decline of 6% in this scenario.
- In the second scenario, trade will become more diversified. Diversification may improve resilience to some shocks and offer opportunity for a range of partners, while retaining ties among geopolitically diverse trading partners. Indeed, in our illustration, the geopolitical distance of trade will increase by 3%. The impact on GDP could, however, be much less than in the fragmentation scenario. In neither illustration is there guaranteed increased trade participation nor economic upside for what we term mid-aligned developing economies, which include economies in ASEAN and India. If either scenario were to unfold, mid-aligned developing economies may need to look at additional measures to achieve improved outcomes, such as sustained foreign and domestic investment into productive industries, supportive trade policies, infrastructure development and upskilling of human capital and capabilities, as well as institutional enablers.
Of course, trade-offs and implications will vary enormously depending on the economy, and trade reconfiguration may occur in other ways. Overall, businesses will likely benefit from positioning themselves for heightened uncertainty in a world in which trade is increasingly influenced not only by comparative advantage, cost and efficiency, but also by geopolitics. In this new context for global trade, business leaders will need to develop what might be called “geopolitical muscle and bone”—the muscle of executive and board capabilities, and the bone of processes and systems that support geopolitically informed decision making.
This article originally appeared in Bloomberg Asia.