Financialization, De-Risking, and "Over-Capacity": Reshaping the Global Supply Chain

October 17, 2024

About the author

The ascendance of the global supply chain is a hallmark of the hyper-globalization era, spanning from the 1990s to the early 2010s. The global supply chain is driven by a confluence of factors, including the neoliberal policies promoted by the West that forced and cajoled countries to deregulate and liberalize trade and investment flows, the financial interests of transnational corporations (TNCs) in pursuing cost-saving and overseas markets, and the enabling technological innovations in telecommunication and containerization. At its peak, the global supply chain accounted for about 60% of global trade.¹ The global supply chain has exerted wide-ranging influences on the global economic landscape, reshaping the division of labor, the distribution of socio-economic costs and benefits, and the balance of the economic powers among different countries. Yet since the 2008 global financial crisis, the expansion of the global supply chain has stalled, due mainly to the unsettled financial order and rising uncertainty. In 2011, global value chains stopped expanding. They have not grown again since. The COVID-19 pandemic, the Russia-Ukraine war, and the Middle East conflict have further disrupted and impaired the global supply chain. How the global supply chain will evolve is a highly debated and consequential question. To address the question, one must zoom in on two countries, China and the United States, two key nodes in the global supply chain. The relationship and interplay between these countries will doubtless continue to reshape the global supply chain and produce tremendous geopolitical and geoeconomic implications. In this essay, I will focus on the following four-fold questions: how financialization in the US propels the formation of the global supply chain; why the United States intends to reconfigure the global supply chain through de-risking, reshoring, and friendshoring; how China's integration of global supply chain has evolved over time; and finally, what are the impacts of the United States' actions on its own economy, China's economy, and the global economy.

 

Financialization Drives the Global Supply Chain

Financialization in the United States (and, to a lesser degree, in other advanced Western countries) has played a crucial but often understated role in driving the global supply chain. Financialization has taken shape in the United States since the 1980s. With rampant financial deregulations and financial "innovations," financial markets and institutions have elevated their presence in the economy and gained increasing power to shape the corporate world. The four "money machines" of modern finance - high-yield debt, securitization, arbitrage trading, and modern derivatives - have dominated the financial system and remunerated Wall Street handsomely. However, high finance has produced two perverse consequences. First, financial speculation has led to a highly fragile financial system susceptible to boom-bust cycles. From the Black Monday stock market crash in the late 1980s to the savings and loan crisis in the late 1980s and early 1990s, to the dot-com bubble burst in the late 1990s and early 2000s, and to the housing market meltdown and the global financial crisis in 2008, the US economy has experienced recurring financial crises. For each crisis, finance capital received bailouts and came out relatively unscathed, but Main Street suffered from prolonged recessions with job, cash flow, and accumulated wealth losses.

Second, institutional investors and managed money have exerted growing influences on the real, productive economy. With the threat of leveraged buyouts and hostile takeovers, and by tying management compensations with stock options, managed money creates tremendous pressure and provides incentives for corporate managers to laser focus on quarterly earning reports and stock values. Maximizing Shareholder Value (MSV) has become the mantra of the US corporate world, leading TNCs to undertake decades-long "downsize-and-distribute" practices. That is, corporations downsize real investment, research and development (R&D), and workforce, and increase outsourcing and offshoring production. Meanwhile, lucrative profits are not reinvested in the real, productive economy but are used for financial speculation and manipulation to grow even more fictitious financial wealth. It is no wonder, given the high return of financial wizardry, and the lack of regulations and policy guidance, that corporate USA has continuously under-invested in their productive capacity and relied on foreign supplies for products in a wide range of sectors.²

 

From De-Risking to "Over-Capacity" Smearing

The global financial crisis revealed the structural flaws of the over-financialized economy, while the COVID-19 pandemic exposed the "hollowing-out" of the US production system.³ Not only is the United States unable to sufficiently produce basic personal protective equipment, but even for advanced medical equipment such as ventilators, where the United States' comparative advantage supposedly rests, the United States finds itself lacking the manufacturing capacity. The interruption of the global supply chain also triggered one of the worst supply-shocked inflation episodes. Yet instead of reining in finance and re-investing in the real economy, the US administration chose to deflect the problem by playing the time-honored blame game. The Trump administration started a trade war to decouple from China, ignoring TNCs' volitional choice of shifting production abroad, but blaming China's "unfair" practices for taking away American jobs. Trump boasted that the tariff war made China pay billions of dollars to the United States government and helped bring manufacturing jobs back home, the so-called "reshoring" of the supply chain. The reality, however, is quite to the contrary. The economic consensus is that most of the tariffs were paid by US importers and, eventually, US consumers. As far as manufacturing jobs are concerned, Trump added a meager 414,000 jobs prior to the pandemic, but when he left the office in January 2021, the manufacturing sector recorded a net job loss of 178,000. This result was unsurprising. As companies had to pay more for imported input that undercut their bottom line, they were not interested in expanding production and workforce.

Rather than learning from the lesson of Trump's failed tariff war, the Biden administration inherited the punitive tariffs, because politically, a Democratic president must not appear "soft" on China. Noting that US-China two-way trade in fact grew to a new height in 2022 despite the tariffs, and decoupling was nearly impossible to materialize, the Biden administration heralded de-risking, or the so-called "small yard, high fence" strategy. De-risking was based less on an economic rationale - diversifying the supply chain to multiple locations to minimize risks of disruptions, but more on a geopolitical calculation - cutting China out of the supply chain of critical technologies to contain China's industrial and technological growth. The execution of the strategy started with blacklisting some of China's tech giants, notably ZTE and Huawei, mostly concerning cutting-edge semiconductor chips and chip machinery. The "yard" has since broadened, not only have the exports of legacy chips by US firms been curtailed, but increasing trade and investment restrictions have also been imposed in various sectors, including telecommunications, shipbuilding, and electric vehicles (EVs). It is worth noting that the Biden administration surpassed the Trump administration's tally of Chinese firms added to the "entity list" in April 2024 (319 under Biden compared to 306 under Trump).⁴

To justify the de-risking strategy, the Biden administration claimed that advanced chips are dual-use technologies, which can be used to beef up China's military capacity. It also rallied the Group of Seven (G7) countries to orchestrate the de-risking strategy by claiming, without any substantive evidence, that China supplied Russia with critical technologies in support of the latter's war efforts. Yet beyond this, the US and its allies still needed pretext to broaden the trade and investment restrictions. "Over-capacity" rhetoric has been the most recent gambit. As the argument goes, the Chinese government has unfairly provided numerous subsidies to its solar, EV, and battery manufacturers, which allows them to expand excessively. The excess capacity is exported to the US, undercutting US domestic firms. Therefore, a 100% tariff on Chinese-made EVs is justified. It is thus increasingly evident, be it security concerns or countering China's unfair industrial policies, that they are pretexts to cut China out of the global supply chain, especially in green and advanced technologies, where China is becoming increasingly competitive. As one of the largest developing countries, China has the right and aspiration to develop its technologies and economy, but the rise of China has unnerved the United States, and it is against this background that one can understand the de-risking strategy and practices.

 

China's Role in the Global Supply Chain

Starting from the reform and opening up era in the early 1980s, China has gradually integrated itself into the world economy. China was once at the bottom of the global supply chain, performing mainly processing trade, which involved importing machinery and intermediate goods, performing labor-intensive assembly and production activities, and re-exporting the finished products. Growing through the learning-by-doing process, aided by public investment in infrastructure, R&D, human capital, and industrious and innovative entrepreneurs, China quickly transformed its industrial landscape - it not only enhanced its production capacity exponentially but progressively climbed up the value chain. Measured by the share of global manufacturing gross production, China passed Germany in 1998, Japan in 2005, and the US in 2008. Since then, China has more than doubled its world share, while the United States' share has slipped by another three percentage points. By 2023, China's manufacturing gross production and value-added accounted for 35% and 29%, respectively, of the global total.⁵ 

 

More importantly, in recent years, China's manufacturing industry has focused on green technologies and products. From solar panels to wind turbines, from energy storage to electric vehicles, China has forged ahead in both technological development and production capacity. China now accounts for the majority of global renewable energy capacity, and production of green tech and green products. Take the solar industry as an example. Six of the top 10 solar manufacturers are Chinese, and two-thirds of all solar panels are now made in China. Thanks to China's formidable production capacity, global panel prices declined by 80% between 2008 and 2013. EVs are yet another relevant example. China's long-term interest in developing EVs has ushered in decades of R&D and investment, which helped establish its lead role in the industry. In 2023, about 60% of the world's EVs were sold in China, and EVs have become increasingly more affordable thanks to technological advancement and economies of scale. The significance of these green products can't be understated. For China, it helps the economy transition to a more innovation-driven, productivity-led, and sustainable growth path. For the global economy, it helps provide low-cost, abundant renewable energies to the Global South and facilitates their sustainable development. China's sharing of technologies with the developing South is essential to collective, sustainable prosperity.

 

Impacts of De-Risking and Supply Chain Reconfiguration

The de-risking strategy was motivated by the United States' anxiety of China's rise. The US intends to undercut China's competitiveness by denying China access to the global supply chain of critical technologies and markets. Yet important questions remain. Will this strategy help strengthen the United States' competitiveness? Will this strategy contain China? Will this strategy improve the global economy, especially the resilience and efficacy of the supply chain?

The answer to the first question is a resounding No. As American economist James Galbraith aptly states, "The US economy, with Europe as an adjunct, came to rest on banks, bombs, bases, and informatics. Netting out gains and losses, hardly a single new manufacturing job has been created in America for four decades."[ James K. Galbraith, "Industrial Policy Is a Nostalgic Pipe Dream," Project Syndicate, June 25, 2024, https://www.project-syndicate.org/commentary/berlin-declaration-industrial-policy-progressive-pipe-dream-more-nostalgic-than-effective-by-james-k-galbraith-2024-06.] Protecting US corporations from Chinese competitors does not mean that the shareholders will pivot toward reinvesting in the industrial capacity. Between 2003 and 2012, S&P 500 companies spent 54% of their net income on buybacks, in addition to 37% on dividend payouts. In 2022 alone, US corporations spent over one trillion USD on buybacks. Between investing and spending on R&D, and shoring up share values, US corporations have no doubt prioritized the latter.

 

Further, given that China has occupied such an important node in the global supply chain in a wide range of tech products, cutting China out of the supply chain would only undercut the United States' own production ecosystem. One salient example is Ford's derailed plan to partner with China's Contemporary Amperex Technology Co., Ltd. (CATL) to build an EV battery factory worth 3.5 billion USD in the state of Virginia. The Governor of Virginia rejected the host of the plan in order to "prohibit dangerous foreign entities tied to the Chinese Communist Party from purchasing Virginia's farmland."⁷ This complication further delayed Ford's plan to produce EV SUVs and pickups.

 

Again, given that China controls the majority of refinery capacity of critical minerals, cutting China out of the supply chain would only delay and obstruct the green tech development and green transition in the United States. Similarly, preventing chip exports to China means that the US tech firms lose one of the largest markets and sources of revenues - China once accounted for 36% of US semiconductor sales, which were indispensable financing sources for R&D and further expansion. So, the de-risking strategy is only leading to a heightened risk of failure for the US tech firms and undermining their capacity to stay ahead in the global technological race.

The answer to the second question is also an unequivocal No. The restricted access to technologies may present difficulties for China in the short run, but the Chinese government and businesses have stood up against the challenges. China has put in place the "new national system for mobilizing nationwide resources" to spur its semiconductor industry. Entrepreneurs and engineers are pouring all their efforts into the sector, lured by favorable policies and the sheer size of the market. Newly registered semiconductor companies have been mushrooming, and the progress has been nothing short of remarkable. China's production capacity for legacy chips (or mature node semiconductors) has grown rapidly, projected to increase from 24.2 million 12" equivalent in 2023 to 50 million by 2030, far exceeding the US, Japan, European Union (EU), and others.⁸ Furthermore, 55% of global semiconductor patent applications were Chinese in origin (and China's number of applications were double that of the America's) during 2021-2022, while Chinese entities surpassed US and Japanese counterparts for semiconductor patents granted in 2022.⁹ Technological leapfrogging is not limited to the semiconductor, EVs, or a few other sectors. According to the Australian Strategic Policy Institute (ASPI), China leads in 53 out of 64 critical technology fields. China will continue to develop its technological capacity and technological innovations will continue to drive high-quality growth, despite the West's de-risking practices.

The answer to the final question, unfortunately, is still an unmistakable No. While some countries, like Vietnam and Mexico, enjoy the reshuffling of the global supply chain and receive trade and investment flows diverted from China, the increasing geopolitical tensions and the growing opacity and distortion of the global supply chain produce significant efficiency losses for the global economy. In addition, the cessation of technological cooperation between the US and China slows down technological progress at the global level. The bifurcation of technological standards further complicates technological development and applications in different countries and regions. Indeed, the International Monetary Fund has voiced stern concerns that economic fragmentation could cost the global economy up to 7% of the GDP in the long term.¹⁰ As the world economy struggles to recover from the COVID-19 coma and faces the dire challenge of climate change, economic fragmentation would further compromise the prospect of achieving sustainable development goals.

Financialization has hollowed out the industrial capacity and contributed to the economic malaise in the United States. Rather than reining in high finance and reinvesting in the real economy, the US leadership has embarked on a de-risking strategy, namely, to contain China's growing technological and industrial might. However, such a strategy produces a lose-lose outcome for the United States and the global economy. For the United States, shielding corporate giants from Chinese competitors or denying China access to high tech will not automatically revitalize its own productive economy. In particular, erecting barriers to China's green technologies and products will only lead to a more costly and slower low-carbon transition for the US. As Xie Feng, the Chinese Ambassador to the US, once pointed out that when it comes to green capacity, "it is not excessive, but in dire scarcity. The problem now is not 'overcapacity,' but 'over-anxiety.'"¹¹ China's technological progress is not only instrumental in its own economic upgrading and transition, but also provides a tremendous boost to the sustainable growth of the global economy. China's rise cannot be contained. It is up to the United States to garner the resolve and wisdom to do the right thing. 

 

 

1. Marcel Timmer et al., "An Anatomy of the Global Trade Slowdown Based on the WIOD 2016 Release," GGDC Research Memorandum 162 (December 2016): 1-65, https://www.rug.nl/ggdc/html_publications/memorandum/gd162.pdf.

2. William Milberg and Deborah Winkler, "Financialization and the Dynamics of Offshoring in the USA," Cambridge Journal of Economics 34, no. 2 (March 2010): 275–293.

3. Yan Liang and Charles J. Whalen, "Money Manager Capitalism and the Coronavirus Pandemic," in A Modern Guide to Post-Keynesian Institutional Economics, ed. Charles J. Whalen (Cheltenham, England: Edward Elgar Publishing, 2022), 89-120.

4. "Biden Surpasses Trump's Record for Blacklisting Chinese Entities," Bloomberg, April 12, 2024, https://www.bloomberg.com/news/articles/2024-04-12/biden-surpasses-trump-s-record-for-blacklisting-chinese-entities.

5. Richard Baldwin, "China Is the World's Sole Manufacturing Superpower: A Line Sketch of the Rise," CEPR, January 17, 2024, https://cepr.org/voxeu/columns/china-worlds-sole-manufacturing-superpower-line-sketch-rise.

6. James K. Galbraith, "Industrial Policy Is a Nostalgic Pipe Dream," Project Syndicate, June 25, 2024, https://www.project-syndicate.org/commentary/berlin-declaration-industrial-policy-progressive-pipe-dream-more-nostalgic-than-effective-by-james-k-galbraith-2024-06.

7. John Fitzgerald Weaver, "Virginia Governor Kills Ford-CATL Battery Plant, Calling It a 'Front for the Chinese Communist Party,'" pv magazine, January 19, 2023, https://pv-magazine-usa.com/2023/01/19/virginia-governor-kills-ford-catl-battery-plant-calling-it-a-front-for-the-chinese-communist-party/.

8. Paul Triolo, "Legacy Chip Overcapacity in China: Myth and Reality," CSIS, April 30, 2024, https://www.csis.org/blogs/trustee-china-hand/legacy-chip-overcapacity-china-myth-and-reality.

9. Stephen Ezell, "How Innovative Is China in Semiconductors?," ITIF, August 19, 2024, https://itif.org/publications/2024/08/19/how-innovative-is-china-in-semiconductors/. 

10. "The High Cost of Global Economic Fragmentation," IMF, August 28, 2023, https://www.imf.org/en/Blogs/Articles/2023/08/28/the-high-cost-of-global-economic-fragmentation.

11. Feng Xie, "Chinese Modernization, a Community with a Shared Future for Mankind, and China-US Relations," transcript of speech delivered at the John F. Kennedy School of Government of Harvard University, April 21, 2024, https://www.fmprc.gov.cn/eng/xw/zwbd/202405/t20240530_11366135.html.

 

 

Please note: The above contents only represent the views of the author, and do not necessarily represent the views or positions of Taihe Institute.

 

This article is from the September issue of TI Observer (TIO), which explores the current turbulence in the global economy, analyzing the effects of geopolitical tensions, supply chain fragmentation, development of financialization, hollowing out of the real economy, in order to shed light on future economic transformations. If you are interested in knowing more about the August issue, please click here:

http://en.taiheinstitute.org/UpLoadFile/files/2024/9/30/1810401645ddb395e-0.pdf

 

——————————————

ON TIMES WE FOCUS.

Should you have any questions, please contact us at public@taiheglobal.org