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Global macro & geopolitics from a small economy perspective

Small countries in an age of giants

David Skilling
Straits Times, 11 November 2017

Singapore is benefiting from a strengthening global economic recovery with increasing external demand supporting export-oriented sectors. Advance estimates are for GDP growth of 4.6% for the year to Q3 2017. And the 13-strong group of small advanced economies that I monitor are growing as strongly as they have since 2011.

This economic good news contrasts with the concerns about populism and protectionism raised over the past couple of years, to which small countries were thought to be particularly exposed.

So given the strong global economic performance, and the lack of protectionist activity and populist success, were the concerns about regime change in the global economic and political system overblown? I think it is premature to declare victory. To quote Bill Gates, “We always overestimate the change that will occur in the next two years and underestimate the change that will occur in the next ten”.

The international rules of the game that have been in place for the past several decades are not permanent, but rely on the ongoing commitment of major powers. And recent international developments suggest that tectonic plates are moving.

A more assertive China was on display at the 19th Party Congress. President Xi argued that China has entered a ‘new era’ and that ‘it is time for us to take centre stage in the world’. This is to be expected, but as inevitably, China will bump up against Western interests and preferences – as well as those of its regional neighbours. The historical record shows that periods of great power rebalancing often lead to tension or conflict.

This, then, is an interesting time for Mr Trump’s first official visit to Asia. The contrast between an increasingly confident China and an inward-looking US – distracted last week by the indictments from Mr Mueller – is striking. And the credibility of the US commitment to its alliances in the region is being questioned after the Trump Administration’s unilateral withdrawal from TPP, attempts to renegotiate the FTA with South Korea, and the ‘America First’ rhetoric.

At a time when there are numerous flashpoints in the region – from North Korea to the South China Sea – this introduces a degree of fluidity into the economic and security system in Asia. Mr Abe has just been re-elected, partly on a platform to revise the Constitution; until last week, South Korea was being squeezed by China after stationing US THAAD missiles on its territory in response to the North Korea threat; and the ASEAN countries know well the increasing economic and political complexities.

More broadly, the global system of rules and institutions is under pressure. Although international institutions – from the UN to the IMF and WTO – are imperfect, they have supported several decades of peace and prosperity. But to the extent that the Trump Administration has a strategic approach to the world, it is best called the ‘withdrawal doctrine’ as Richard Haass tweeted recently.

From the Paris Accord to UNESCO to the TPP, President Trump has a record of withdrawing from international agreements and institutions. And NAFTA and the Iran deal are both at risk. The Trump Administration has a preference for using the scale of the US for bilateral deal-making rather than working through multilateral institutions.

Others, from Japan to the EU, are stepping up their efforts to support multilateral institutions. But this is challenging in a multi-polar world when big power interests vary significantly. Chinese cheerleading for globalisation, for example, should be interpreted cautiously. Although the statements of support are welcome, China’s support for an open international system is asymmetric, reflecting its mercantilist preferences – and its willingness to ‘weaponise’ trade policy to advance its strategic interests.

Indeed, the World Trade Organisation (WTO) has become a locus of big power competition. China has benefited from WTO membership since 2001, and there seems to be a view in the Trump Administration that the WTO does not serve US interests. The US is stopping the appointment of WTO appellate judges to hear trade disputes: one of the core functions at the WTO may grind to a halt. And there is resistance, particularly from the US, to designating China as a ‘market economy’ for WTO purposes.

Separately, the EU is discussing tightening restrictions on Chinese acquisitions of European firms. And the US is looking to reduce its trade deficit with China (and everyone else). This is not a trade war, but the open, rules-based system is under real pressure. In many large economies, there is growing political demand to more explicitly defend national interests. Big powers seem increasingly inclined to use their muscle, integrating international economics with their strategic agenda.

Taken together, these suggest a marked shift in the functioning of the global economic and political system. Some of the immediate effects are masked by a recovering global economy, and markets do not seem concerned about structural institutional risks. But this is no reason for complacency. The extent of the weakening of international institutions may only become apparent in times of stress.

Small countries, from Singapore to Switzerland, have prospered in a rules-based system that has provided relatively equal access to markets as well as reducing their exposure to predatory behaviour by larger economies. But a more discretionary system is emerging, in which governments of large powers play a more deliberate role: from the preference for bilateral deal-making to the development of big power national champions. Small countries are exposed to these developments, and will need to adapt to this changing context.

There are a few ways in which small countries can respond, some of which are extensions of current behaviour. First, being embedded in regional economic and security groupings – like the EU and NATO, or TPP – to provide market access and to allow small economies to ‘bulk up’ in international engagements, from negotiating free trade deals to developing a credible security posture. As an aside, this is one reason why Brexit is such a strategic mistake for the UK.

Second, diversifying economic and political relationships to avoid concentrated exposures, and to allow for creative balancing. And third, developing a strong national value proposition – such as strong competitive advantage, key infrastructure, new technologies, soft power, and so on – which makes you valued by other countries. Many small countries – including Singapore – are already investing heavily in these areas.

Indeed, despite these real challenges, I remain positive on the small country outlook. Even in a more complex external environment, small countries can build advantage by combining the ‘artificial scale’ of regional groupings with creative strategic positioning at a national level. This does not eliminate the risks of small countries being hurt by big powers, but we shouldn’t be fatalist.

The institutional environment of the past several decades has been unusually supportive for small countries, but the success of small countries is not simply due to this specific environment. Many small countries have demonstrated resilience over multiple regimes. Indeed, small countries can be more agile and considered in response to these disruptive changes. It is increasingly an era of competing great powers, but small countries may well continue to come out on top.

twitter: @dskilling
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