Don't believe the hype

Concerns about the outlook for global openness are often accompanied by predictions of a cloudy outlook for small economies, both in a specific sense (such as the impact of trade wars) and in a more existential sense. Right on cue, Janan Ganesh wrote in the FT last weekend that ‘the belle époque of the small nation is over’ because ‘globalisation has been the era of small countries but that time may now be passing’.

It is certainly a more complex world. Big power politics, protectionism, and mercantilism, are creating new challenges for small advanced economies, from Singapore to the Nordics and Ireland, which have performed well over the past few decades, supported by strong global growth, intense globalisation, and a liberal, rules-based system. It is increasingly common to see arguments that national scale matters in a world of economic and geopolitical turbulence and uncertainty. Agility and flexibility is argued to be more of an asset in calm weather; in a storm, it is perhaps better to be in a cruise ship than a speedboat.

But the rumours of the end of the small economy model are much exaggerated. My assessment is that small advanced economies will continue to out-perform.

Concerns were also raised about the small economy outlook a decade ago during the global financial crisis. But small advanced economies have continued to perform strongly on a range of measures. Despite sluggish global growth, modest world trade growth, and the headwinds posed by QE in large economies, small economy GDP growth has out-paced that of larger economies in the post-crisis period, fiscal discipline has been maintained, unemployment rates are lower, and pressures on the income distribution have been managed. And although several small economies were hard-hit by the global financial crisis – think Ireland, Iceland, and the Baltic states – these economies have recovered, and are treated as good examples of managing through an economic crisis.

Small advanced economies have been resilient to growing concerns about trade wars and a less open global system over the past year or so. The small advanced economy group has generated GDP growth rates of just under 3% for the past several quarters (2.9% in the year to Q2), well above larger advanced economies, and small economy equity markets have out-paced many large economy benchmarks.

Deliberate positioning by small economies means that there is not a linear relationship between the high export shares of small economies and exposure to external threats, such as trade wars. My assessment is that small advanced economies are relatively resilient to the current trade tensions because of the characteristics of their external footprint: deep regional integration and comprehensive portfolios of FTAs; high shares of exports of services and of outward FDI; and so on.

More broadly, it is important to recognise that strong small economy performance is not simply a function of the supportive post-1990 environment. My analysis of the economic performance of small economies over the past 200 years shows resilience to economic and political regime change. Despite their deep exposure to the external economic and political environment, many small economies have sustained positions near the global income frontier, and have navigated periods of regime change – and shocks, from wars to protectionism – relatively well.

And although small economies are not immune to populism (note the recent Swedish elections), the small economy model – of openness, flexibility, social insurance, deliberate policy-making – is well-suited to responding to economic and political pressures from globalisation, disruptive technology, and so on. If anything, it is large countries, from the UK to the US, that have more fundamental political problems.

Small economies rank well on measures of political institutions, effective government, social capital and trust – all supportive of ongoing performance. Small economies continue to be at the forefront of policy innovation, and many have been actively positioning for emerging challenges. To give just a few examples: leading on TPP and new trade deals, building new relations & coalitions (Hanseatic League 2.0), as well as reducing public debt and investing in building competitive strengths. Small economies have focused on supply-side measures during the post-crisis period, whereas larger economies have placed more emphasis on demand-side measures.

Of course, there are real risks. A slowing pace of globalisation and a more fragmented global system will require meaningful changes in the economic models of several small economies. For example, Ireland and Singapore are heavily reliant on the location decisions of MNCs – that may be different in a new world. But my money is on these – and other – small advanced economies to respond effectively.

The acute external exposures that face small economies impose a competitive discipline that forces better decision-making than in larger economies that have the luxury of scale. Small economies make better choices partly because they have fewer options and more constraints, whereas larger economies have greater scope for poor decision-making. As in other domains, the paranoid tend to survive.

In sum, don’t write off small economies. Although a global regime change is underway, with the norms and institutions that have underpinned growth and globalisation changing markedly, this does not mean that small economies are at existential risk. Small economies are resilient and flexible, with a range of political and economic characteristics that position them well for a more complex environment.

Not all will prosper – hard choices will need to be made, and the margin for error is low – but I expect the small advanced economy group will continue to out-perform. It may not be smooth sailing, but small economies are better-placed to avoid looming icebergs than their larger peers.

Further reading on the outlook for small advanced economies

Small economies in an age of giants, Straits Times, November 2017

The future of small economies in a changed world, Straits Times, September 2017

Centrifugal world: why the future is small, May 2013

Uncertain seas: Positioning small countries to succeed in a changing world, March 2012

Refer also the series of Observer notes available at www.landfallstrategy.com/commentary

Related client notes

From good to great: income convergence by small advanced economies, August 2018

The exposure of small advanced economies to trade wars, May 2018

The impact of disruptive technologies on small advanced economies, February 2018

On the performance and resilience of small economies: a long-term perspective, November 2017

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