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Advice on strategic issues for governments

2016: A year to forget for small countries

David Skilling
Straits Times, 10 December 2016

2016 has been a year to forget for small countries. Sluggish economic growth continued in many small economies on the back of anaemic world trade growth that remains at historically low levels. Outside of fast growing Ireland, Sweden, and New Zealand, most small economies are recording less than 2% GDP growth. In Singapore, one of the most externally exposed economies in the world, 2016 GDP growth is forecast at 1.0-1.5%, the lowest rate since the global financial crisis.

But the most concerning dynamic of 2016 for small countries, including Singapore, is the change in the international economic and political environment. In particular, the Brexit vote, the US Presidential election result, the strengthening of anti-globalisation sentiment in Europe, as well as the tighter relationship between geopolitics and international commerce in Asia, create a much more challenging environment for small countries.

These developments pose serious risks to the international economic and political system in which small economies have prospered over several decades. The supporting public and political consensus that supported a relatively open global system is weakening rapidly.

In many parts of the developed world, there is growing political appetite to turn inward, reject integration, and protect national sovereignty. These forces have been building for some time. But 2016 was a year in which these forces seem to crystallise. Events like the Brexit and US Presidential election votes reflect a significant change in underlying public sentiment. Many large countries have not responded effectively to pressures from globalisation and technology, and there is now substantial public dissatisfaction with governments and with existing policy approaches.

Of course, there are good arguments for reforming the trade-off between international integration and domestic policy autonomy, and to better manage globalisation. But the choices in 2016 suggest a more fundamental change in direction in several large countries: the announced US withdrawal from the Trans Pacific Partnership and the UK’s vote against EU membership are two clear examples. And the high profile votes in the US and the UK create further momentum for change elsewhere. Elections in 2017 in France, Germany and Italy will provide a further test.

One lesson to be taken from 2016 is that economic management in response to globalisation and technology is too important to be left to large countries. Relying on large countries to steward the global system is not enough. If economic policy is to be reimagined, and made more sustainable, small countries are the place to look for insight.

Small countries are deeply exposed to the functioning of the global economic and political system. It is ironic that small countries are so deeply exposed to the emerging backlash against globalisation, given that small economies have managed globalisation relatively well. Indeed, small economies are now the adults in the room with their responsible, thoughtful policy approaches.

Small countries are not immune to anti-globalisation sentiment. In countries like the Netherlands, Austria, Sweden, Finland and Denmark, populist right-wing parties have increased their vote share – some of them with policies that are opposed to elements of European integration. Even so, general public attitudes towards European integration and globalisation are holding up relatively well.

Small countries can make a powerful contribution to large country policy debates on managing globalisation. In this context it is good news that Singapore and the Netherlands have been invited to participate in the G20 meetings in Germany next year.

For decades, small countries have been responding to challenges that are increasingly confronting larger countries. At the core of the policy challenge is that globalisation and technology are increasingly making large countries ‘smaller’ in that these forces reduce the extent of domestic policy autonomy in large countries. This is familiar territory for small countries.

Small economies are not perfect, and there is no single small economy model. But there are some general principles that have allowed small economies to engage successfully with globalisation, and to maintain public support for an open stance.

First, small economies get the basics right. They tend to have a competitive business environment, from world-class infrastructure to quality regulation. And small economies commonly have strong macroeconomic policy settings, notably a conservative approach to fiscal policy.

Second, successful small economies invest heavily in human capital, knowledge and R&D, to ensure that workers and firms can be highly productive. This is often the basis on which successful small economies compete in the global economy; from Finland to Israel. And robust social insurance and active labour market policies provide a safety net that encourages risk taking as well as the rapid reallocation of workers when a shock hits. Combined, this creates opportunities for the population and addresses some of the risks associated with exposure to globalisation and technology.

Lastly, small countries are responsive to change. Because of the acute exposure of small economies to the global economy, there is a competitive pressure to adapt policy settings quickly. For example, the rapid small country fiscal consolidation after the crisis, and widespread efforts to develop new areas of competitive strength. The absence of margin for error can make life uncomfortable for small countries, but it creates an ongoing discipline to follow high quality policy approaches that allow small countries to sustain a strong competitive position.

These small country policy characteristics have supported strong economic performance, combining successful engagement in the global economy with the relatively broad distribution of these benefits. At least some of the challenges that some large economies are confronting are due to a failure to follow these policy guidelines. The small country experience provides some guidance to large countries in terms of the nature of a calibrated policy response that addresses the real policy challenges in a way that preserves an open global system.

There is an imperative for small economies to engage on these large country policy debates. No matter how good the domestic policy stance in small countries, adverse developments in the international economic and political environment can have a significant negative impact on small economy performance. The historical record of small countries shows that their performance – and viability – is deeply contingent on an open international economic system and a secure geopolitical environment. Small countries should heed the warning of the Athenians in the Peloponnesian Wars that “the strong do what they can and the weak suffer what they must”.

Unfortunately, 2017 is unlikely to be much better than 2016. My assessment is that there is likely to be ongoing pressure to unwind the liberal economic and political order that has powerfully supported small country performance over the past several decades. Small countries should prepare accordingly, and contribute to global economic policy debates as actively as possible.