GLOBALIZATION

Globalization in the Age of Trump

Pankaj Ghemawat
From the July–August 2017 Issue

Business leaders are scrambling to adjust to a world few imagined possible just a year ago.
The myth of a borderless world has come crashing down. Traditional pillars of open
markets—the United States and the UK—are wobbling, and China is positioning itself as
globalization’s staunchest defender. In June 2016, the Brexit vote stunned the European
Union, and the news coverage about globalization turned increasingly negative in the U.S.
as the presidential election campaign progressed.

One week after Donald Trump’s inauguration, with fears of a trade war spiking,
the Economist published a cover story, “The Retreat of the Global Company,” in which it
proclaimed that “the biggest business idea of the past three decades is in deep trouble” and
that “the advantages of scale and…arbitrage have worn away.” And Jeffrey Immelt, GE’s
chairman and CEO, has talked about the company’s “bold pivot” from globalization to
localization.

But is a mass retreat from globalization really the right approach for companies in these
uncertain times? Or, short of packing up and returning home, should they focus on
localization—that is, producing and even innovating where they sell—as the strategy of
choice? Not according to my research. Recall that as recently as a decade ago, business
leaders believed that the world was becoming “flat” and that global companies,
unconstrained by country borders, would soon dominate the world economy. Those
exaggerated claims were proven wrong. Today’s cries for a massive pullback from
globalization in the face of new protectionist pressures are also an overreaction, in the
other direction. While some of the euphoria about globalization has shifted to gloom,
especially in the United States, globalization has yet to experience a serious reversal. And
even if it did, it would be a mistake to talk about the end of globalization: The “rewind”
button on a tape recorder shouldn’t be confused with the “off” button.

A full-scale retreat or an overreliance on localization would hamper companies’ ability to

create value across borders and distance using the rich array of globalization strategies that
are still effective—and will continue to work well into the future. Today’s turmoil calls for
a more subtle reworking of multinationals’ strategies, organizational structures, and
approaches to societal engagement. In this article, I address common misperceptions about
what is—and isn’t—changing about globalization, offer guidelines to help leaders decide
where and how to compete, and examine multinationals’ role in a complex world.

The Trajectory of Globalization

Doubts about the future of globalization began to surface during the 2008–2009 financial
crisis. But as macroeconomic conditions improved, the gloom gave way to a murky mix of
perspectives. For example, within the span of just three weeks in 2015, the Washington
Post published an article by Robert J. Samuelson titled “Globalization at Warp Speed” and a
piece from the editorial board called “The End of Globalization?”

In the face of such ambiguity, it is essential to look at the data. To see how globalization is
actually evolving, Steven Altman and I compile the biennial DHL Global Connectedness
Index, which tracks international flows of trade, capital, information, and people. The two
index components of greatest business interest—merchandise trade and foreign direct
investment—were hit hard during the financial crisis, but neither has suffered a similar
decline since then. Trade experienced a large drop-off in 2015, but that was almost entirely
a price effect, driven by plunging commodity prices and the rising value of the U.S. dollar.
Updated data suggests that in 2016 foreign direct investment dipped, in part because of the
U.S. crackdown on tax inversions. Complete data for 2016 is not yet available but factoring
in people and information flows will probably reinforce the conclusion that globalization
has stayed flat or even increased.

What has nose-dived, however, is the tone of public discourse in the United States and other
advanced economies. An analysis of media mentions for the term “globalization” across
several major newspapers—the Wall Street Journal, the New York Times, and
the Washington Post in the U.S. and the Times of London, the Guardian, and the Financial
Times in the UK—reveals a marked souring of sentiment, with scores plummeting in 2016.

The contrast between the mixed-to-positive data on actual international flows and the
sharply negative swing in the discourse about globalization may be rooted, ironically, in
the tendency of even experienced executives to greatly overestimate the intensity of
international business flows relative to domestic activity. In other words, they believe the
world is a lot more globalized than it actually is.
Exaggerated perceptions about the depth of globalization—that is, how much activity is
international versus domestic—come at a cost. In surveys I’ve conducted, respondents who
overestimated the intensity of globalization were more likely to believe erroneous
statements about international business strategy and public policy. When businesspeople
think the world is more globalized than it really is, they tend to underestimate the need to
understand and respond to differences across countries when operating abroad. In the
public policy sphere, leaders tend to underestimate the potential gains from additional
globalization and to overestimate its harmful consequences for society.

Surveys suggest that people also underestimate the breadth of globalization—that is, the
extent to which international activity is distributed globally rather than narrowly focused.
In a 2007 survey of Harvard Business Review readers, 62% of respondents agreed with the
quote from Thomas Friedman’s best-selling book The World Is Flat that companies now
operate on “a global, Web-enabled playing field that allows for…collaboration on research
and work in real time, without regard to geography, distance or, in the near future, even
language.” However, data shows that actual international activity continues to be
dampened strongly by all those factors.

To counteract such “globaloney,” I offer two laws that govern, respectively, the depth and
breadth of globalization:

• The law of semi-globalization: International business activity, while significant, is

much less intense than domestic activity.
• The law of distance: International interactions are dampened by distance along
cultural, administrative, geographic, and, often, economic dimensions.

These principles, set out in my book The Laws of Globalization, can be very helpful for
strategy making—if they can be counted on to apply in the future. Given surging
protectionist sentiments and possibly even a trade war, will they continue to hold? The best
way of stress-testing them—at a time when the precise policies of the Trump
administration and other governments are still unclear—is to look at the last time a major
trade war broke out, in the 1930s, which led to the largest reversal of globalization in
history. Two major lessons, corresponding to the two laws of globalization, stand out.

The first lesson is that although trade dropped precipitously in the 1930s, it did not dry up
entirely. The collapse that began in 1929 was staggering, and by early 1933, trade flows
had plummeted by two-thirds. That said, the drop-off in value reflected a fall more in prices
than in quantities, which declined by less than 30%. Even in the wake of the collapse, trade
volumes continued to be far too large for business strategists to ignore.

The second lesson is that distance of various sorts continued to dampen international
business activity. For example, from 1928 to 1935, the relationship between trade flows
and geographic distance barely budged. The beneficial effects of a common language and
colonial ties remained powerful: Country pairs with such ties continued to trade about five
times as much with each other as pairs without such ties, all else being equal. The net result
was that the trading partners with whom countries (or groups of countries) did most of
their business before the crash remained largely unchanged afterward.
Getting back to the future: If global trade didn’t screech to a halt in the 1930s, it’s
reasonably safe to say that it won’t in the 2020s, either. In fact, analyses of what a trade war
under Trump might look like suggest much smaller declines in trade than occurred in the
1930s. Moody’s Analytics estimates that if the United States were to impose proposed
tariffs on China and Mexico and those two countries retaliated in kind, that and other
factors would shrink U.S. exports by $85 billion in 2019. That’s only about 4% of total U.S.
exports in 2015. Of course, a wider trade war would have a more significant effect, but it is
very unlikely that the consequences would be as dire as in the 1930s.

Similarly, if the breadth of trade didn’t change much despite the drastic declines in depth
during the Great Depression, it probably wouldn’t change much in the event of a trade war
today. It is worth adding that with many more independent countries now, as well as more
vertically fragmented supply chains, the estimated effects of geographic distance on
merchandise trade are actually larger than they were in the 1930s.

Where to Compete

If cross-border interactions in the aggregate are unlikely to fade away, what is the rationale
for individual multinationals’ pulling back? The recent Economist article on the retreat of
global companies, which has stirred significant discussion, pointed to the performance
problems they have experienced. But the declines over the past three to four years
occurred in an environment of plunging commodity prices, dropping demand for
globalization-related services, and, for U.S. companies, shifts in exchange rates—factors
that clearly played outsize roles in the performance numbers. And longer-term declines
over the past decade coincide with a period in which globalization actually slowed down.

To argue that poor performance problems over this period should force reconsideration of
multinationalization would be like arguing that Singapore, the most deeply connected
country in the world according to the DHL Global Connectedness Index, should pull back
from globalization because of the growth problems it has experienced since the financial
crisis. The latest report of Singapore’s official Committee on the Future Economy dismisses
that notion, saying that globalization through trade, capital, and knowledge flows is still the
future, as far as Singapore is concerned. And even in countries much less dependent on
exports than Singapore is, a wholesale pullback from globalization would be
counterproductive.

Even when economic conditions are favorable and globalization is advancing rapidly, as
was the case several decades ago, multinationals can face performance issues. My 2003
HBR article, “The Forgotten Strategy,” notes that between 1990 and 2001, Fortune Global
500 companies consistently posted lower average returns on sales for their foreign
operations than for their domestic ones. Given the difficulties implied by the law of
distance, multinationalization has always been an option, not an imperative. Some firms—
and industries—clearly overdid it, especially in the years leading up to the financial crisis.

What’s lacking in much of the debate today is the notion of contingency: a case-by-case
approach in which a globalization-related move is evaluated on its own merits rather than
subjected to some sweeping injunction about whether to go forth and globalize or to come
back home. That said, many multinational companies do need to pay renewed attention to
where they compete—in other words, to market selection.
They must also resist the idea that a truly global company must compete in all major
markets. Some 64% of the respondents to the 2007 HBR survey agreed with this
(non)dictum, yet an analysis of internal financial data from 16 multinationals around that
time indicated that eight of them had large geographic units that destroyed value after their
financing costs were taken into account. Such problems still persist. Toyota, for example,
seems to be the only major competitor in the highly globalized auto industry that has
managed to build up significant market share in Japan, North America, and Europe and in
key emerging economies—while remaining highly profitable. By contrast, most major
automakers would be better served by following the example of GM, which shed its loss-
making European operation, Opel, in March 2017.

Recent data on companies ranked among the top 100 with the most assets located outside
of their home countries tells a similar story. While these companies tend to operate in
dozens of countries, their top four markets—including their home market—account for
about 60% of their revenues and probably a larger slice of total profits. And only a single-
digit percentage of the Fortune Global 500—the world’s largest firms by revenue—earn at
least 20% of their revenue in each of the “triad” regions of North America, Europe, and Asia-
Pacific.

In sorting out which markets to focus on, it’s important to note that the law of distance
applies to foreign direct investment as well as trade. Although FDI is less sensitive to
geographic distance than trade is, I estimate the effect of a common language and a colony-
colonizer link to be similar and FDI to be more sensitive to differences in per capita income.

So as companies today weigh their options, they should look for opportunities where they
can find cultural, administrative/political, geographic, and economic affinities. This
resonates even more strongly as we recall that country relationships became even more
important during the 1930s. As the political environment shifts, business leaders need to
keep a careful eye on how their home countries are
realigning their international ties, and engage in
their own corporate diplomacy.

Remember too that staying at home is an option. What Are Your

Only about 0.1% of the world’s firms are
multinationals, although since multinationalization
Globalization
is highly skewed toward larger firms, this greatly Options?
understates their overall impact. (Their foreign
affiliates generate 10% of global GDP, and the ADAPTATION boosts revenues
multinationals themselves account for more than and market share by tailoring
50% of world trade.) For companies based in large products and services to suit
emerging economies, focusing on the domestic
local tastes and needs.
market, where they enjoy home court advantage as
well as rapid growth, can be a particularly attractive AGGREGATION delivers
proposition. economies of scale by
expanding operations into
Leaders must resist the idea that a global regional or global markets.
company has to compete in every market.
ARBITRAGE exploits
Of course, trade can occur without differences in labor costs, tax
multinationalization, and this is what some tout as
regimes, and other factors
the wave of the future: The Economist points to “a
between national
rising cohort of small firms using e-commerce to buy
and sell on a global scale.” But e-commerce is still
significantly less internationalized than off-line
commerce. And in light of changes brewing in the
policy environment, this seems like a particularly
inauspicious time to think that one can go global just
by setting up a website or joining an online platform.

How to Compete

If you conclude that your company should continue to do business in a variety of markets,
you still need to figure out whether to change the type or mix of strategies that you use in
response to protectionist pressures. At a high level, globalization strategies have three
components, as described in my 2007 book, Redefining Global Strategy.

Companies use adaptation when they want to adjust to cross-country differences in order
to be locally responsive. They use aggregation to achieve economies of scale and scope that
extend across national borders. And arbitrage strategies are used to exploit differences,
such as low labor costs in one country or better tax incentives in another.

How companies should use these three strategies will change somewhat in a protectionist
world—but perhaps less than you’d think. Take adaptation. Jeffrey Immelt isn’t alone when
he talks of his company’s “bold pivot” away from aggregation and the importance of
“localizing” in today’s environment. Firms should look for opportunities to amp up their
adaptation efforts, because becoming more responsive to differences can help reduce the
impact of protectionism.
The most obvious way for a company to adapt is to vary products, policies, market
positioning, and so on to suit local markets. However, each variation increases costs and
complexity. Therefore, smart adaptation typically involves limiting the amount of variation
as well as finding ways to improve the effectiveness and efficiency of any changes that are
introduced. For example, companies can design common platforms upon which local
variants are offered. Or they can externalize some of the costs of adaptation via franchising,
joint ventures, or other types of partnerships.

But while more adaptation may make sense, multinationals should not automatically put it
above all else—doing so would only undercut their sources of competitive advantage
relative to local competitors. Global companies—especially those from advanced
economies—typically justify their cross-border strategies primarily on the basis of
aggregation. In the most classic cases, they invest in intangible technological or marketing
assets that they can scale across national borders. Those advantages normally have to be
pretty large in order to overcome the home court advantage of local competitors. The
economic rationale for aggregation won’t evaporate for multinationals that have built a
healthy, profitable business in foreign markets—even if some countries make it more
expensive to operate within their borders. Companies that have operations in markets
where they’re only marginally successful, on the other hand, may need to retrench.

Turning to arbitrage, the opportunities for vertical multinationals to globalize on the

supply side rather than on the demand side have narrowed somewhat in recent years, but
they still remain large. Even with rising prosperity in large emerging markets, U.S. GDP per
capita is still seven times that of China, and 33 times that of India. Differences in tax regimes
across countries are not going away either, and will continue to provide arbitrage
opportunities. According to the OECD, the dispersion of corporate tax rates across
countries has barely changed since 2007, and progress at curbing tax havens has been slow.
Furthermore, cross-country differences in safety, health, and environmental standards
continue to persist as well—although exploitation of these differences raises ethical
concerns.

Multinationals coming out of emerging markets tend to get their start from advantages
rooted in arbitrage—competing abroad on the basis of low costs at home. This strategy
continues to be the engine that drives the growth and profitability of India’s offshore IT
services industry—which inspired Friedman’s The World Is Flat, kicking off a wave of
interest in arbitrage strategies. More than a decade later, programmers’ salaries in India
are still just a fraction of those in the United States, and cost reduction remains the top
reason companies choose to outsource. The largest India-centric vendors have far
outstripped their Western competitors in terms of both growth and profitability, and as of
June 2016 the top four India-centric vendors enjoyed market valuations more than 50%
larger than those of their top four Western competitors.

As companies from advanced and emerging countries joust for global leadership, each has
to shore up its traditional weakness—for incumbents, that’s arbitrage; for insurgents, it’s
aggregation. For example, developed-world incumbents in IT services, such as Accenture
and IBM, have expanded their workforces in India, while Indian companies are trying to
strengthen their brands and technological capabilities.
Returning to GE, Immelt’s pivot toward localization does imply a boost to its adaptation
strategy. But GE—like most other multinationals—cannot give up on aggregation or
arbitrage. GE’s aggregation-based advantages are what underpin its ability to compete
across 170 countries. Its $5.5 billion R&D machine yields world-beating technological
innovations, its $34 billion brand value opens doors everywhere, its famous management-
training programs both attract and cultivate talent, and its scope across products, services,
and geographies all contribute to GE’s immense cross-border aggregation potential. And
while Immelt’s remarks shrewdly downplay wage arbitrage as “what GE did in the 1980s,”
in contrast to its current focus on selling more abroad, arbitrage has become sufficiently
ingrained at the company over the past few decades that it will probably not disappear and
will continue to be part of its globalization strategy. In my view, GE’s “localization” strategy
is best understood as one that retains a core strength in aggregation while toning down the
company’s prior emphasis on arbitrage and becoming more adaptive.

Engaging with Society

Along with where and how to compete, questions about how to engage with society are
becoming increasingly prominent on business leaders’ agendas. Except in highly regulated
industries, companies have historically treated interactions with governments, media, and
the public as an afterthought in setting strategy. But now, as Martin Reeves of BCG points
out, “In many cases companies are seeing bigger impacts from political and macroeconomic
factors than from competitive considerations.” Those factors, he says, include Brexit-driven
exchange rate movements, share price fluctuations in response to policy pronouncements,
and the cost of changing investment plans in light of anticipated shifts in trade policy. I
would add to the list the rise of NGOs, the proliferation of social media, and increases in
anti-globalization sentiment.

Companies are constrained in their responses to these developments by a range of factors.

First of all, the backlash against globalization is also—in part—a backlash against big
business. The general reputation of business is at an all-time low. In a recent survey, the
Pew Research Center asked respondents in the U.S. how much people in 10 occupations
contributed to the well-being of society. Business executives ranked next to last, ahead only
of lawyers. Just 24% of respondents said they thought business leaders contributed “a lot.”
The 2017 Edelman Trust Barometer also reports an all-time low for CEO credibility. And
companies’ decisions about how to deploy the reputational capital that they do possess are
complicated by tensions between a country’s citizens and its government—Uber CEO
Travis Kalanick ran into problems with public perception when he joined Trump’s business
advisory council, for example—as well as by uncertainties about how the broader
environment will evolve.

In such a context, just speaking up more about social issues—as business leaders today are
often instructed to do—is no panacea. While it is hard to offer simple instructions about
how to cope with these complexities, the law of semi-globalization does suggest one
injunction and one insight. First the injunction: Falling in line with what governments want
wherever a company operates is unlikely to be a sustainable strategy. Multinational
companies need to craft governmental and societal agendas that are both localized and
linked across countries. Anti-globalization pressures require that multinationals deliver
more local benefits—and communicate about them—in the countries where they operate.
Such efforts must go well beyond compliance to include contributions in the form of jobs,
technology, and so forth.

The backlash against globalization is also—in part—a backlash against big business.

Of course, there are dangers to shifting too far toward localization. Consider how IBM
responded to the rise of the Nazi regime in Germany. Rather than pulling back—even as it
became clear that the census IBM was supporting was being used to identify Jews for
persecution—IBM sought to grow its business with the Nazi government. In 1937, then-
CEO Thomas Watson was awarded—and accepted—a medal from Hitler for “service to the
Reich.” One would hope that such a strategy would not even merit consideration today.

The law of semi-globalization affords an important insight as well: Addressing much of our
current malaise—including but not confined to anti-globalization sentiment—requires
domestic policy changes rather than the closing of borders. For example, one of the
principal complaints about globalization today is the sense that it has contributed to rising
income inequality and that a large swath of the population in advanced economies has been
left behind. In the U.S., income inequality has recently risen to levels last seen in the 1920s,
and other countries, especially developed ones, have registered similar, if less dramatic,
increases. Meanwhile, corporate profits are running close to their highest historical levels.

The widespread perception that globalization is primarily to blame for this problem,
however, is empirically implausible. Most research suggests that technological progress
and (in the United States) the decline of unions have been bigger contributors to inequality
than globalization. Corroboration is supplied by real-world examples: If the Netherlands
can preserve a more reasonable income distribution despite having a trade-to-GDP ratio
six times that of the United States, it seems odd to blame globalization for the much higher
level of inequality in the U.S. economy. And even if one is inclined to point fingers at
globalization, it is clear that protectionism is a much more expensive solution than
government safety nets, increases in the minimum wage, changes in tax policy, job-training
programs, and the like. Such policies are not typically favored by big business, so corporate
voices advocating them make a powerful statement. Furthermore, closing borders does
nothing to prepare a country to deal with the automation-related threats to jobs that
dominate the debate about the future of work.

My research into the 2011 book, World 3.0: Global Prosperity and How to Achieve It, offers
an in-depth evaluation of the various harms attributed to globalization. (I expected the
present backlash to arrive several years before it did.) Some, such as the risks associated
with international imbalances in trade and investment, are indeed real and significant.
Most others, however, turn out to be overblown in relation to actual levels of international
integration. For example, the contribution of international air transportation to energy-
related greenhouse gas emissions is only one-tenth as large as British air travelers
estimated in a survey. To deal with global warming, it would be far more effective to tackle
bigger sources such as housing or driving. My research suggests that international
openness should be coupled with targeted domestic policies in addressing such side effects
as globalization does have.

That perspective is, of course, the opposite of President Trump’s apparent preference for
domestic deregulation and international intervention, which brings me to my last point—
which may seem politically partisan but is rooted in the common notion that a company’s
market and nonmarket strategy should be in alignment. If your company is or may
eventually be global, it’s not a good idea to actively support policies that build up barriers
to trade and capital flows, make people less mobile, and delegitimize the idea that
companies can contribute to the well-being of people in more than one country—even if all
you care about is shareholder value. Over the long run, companies that rely heavily on
sourcing from abroad (such as Walmart) and those that export far more than they import
(such as GE) would benefit from joining forces to oppose protectionism.

CONCLUSION

In his classic 2006 Foreign Affairs article Samuel Palmisano, then chairman and CEO of IBM,
pointed out that 150 years ago, companies that crossed borders engaged mostly in trade,
but by the early 1900s, they had started to invest in localizing production. He also
proclaimed the recent emergence of a new corporate form, the globally integrated
enterprise, for which “state borders define less and less the boundaries of corporate
thinking or practice.”

From today’s perspective, that seems too rosy by half. But there is some good news for
those tasked with leading multinational companies. First, the global corporation never
became nearly as integrated as Palmisano prophesied, so the amount of change required if
globalization does go into reverse is less than people might think. Second, it’s still unclear
whether a retreat from globalization will occur: International activity has stagnated in
recent years but has not fallen off significantly. And third, even if globalization suffered a
violent reversal similar to that experienced at the beginning of the 1930s, the world would
still remain more globalized in terms of trade and foreign direct investment than it was in
the 1920s, let alone in the 19th century. So reverting to the multinational structure of 100
years ago or the trade-based structures of 150 years ago strains plausibility. Globalization
strategy and practice have advanced well beyond the prescriptions those historical models
would imply, and leaders would be ill-served by going backward.

A version of this article appeared in the July–August 2017 issue (pp.112–123) of Harvard Business
Review.

Pankaj Ghemawat is Global Professor of Management and Strategy at the NYU Stern School
of Business, Director of NYU Stern’s Center for the Globalization of Education & Management,
and Professor of Strategic Management at IESE Business School. He is the author of The New
Global Road Map (Harvard Business Review Press, 2018).