Four trends will shape the world in the coming decades: energy cost differentials, rising wages in China, nearshoring supply chains and remote work. For emerging markets with the right natural resources and institutions, this represents an opportunity to accelerate the income ladder. Potential beneficiaries are Argentina, Colombia and Mexico, as well as Malaysia and the Philippines.
Why these countries? They combine most of the success factors: access to cheap energy, a plentiful labor force, free trade with large parts of the global economy, and the ability to attract talent.
Conversely, among the 22 countries we scan, Nigeria, Russia and Sri Lanka are the worst positioned. They would have to become more integrated into the global economy and improve their institutional frameworks in order to benefit from the shift in globalization.
Political missteps can squander a country’s potential. Argentina’s strong ranking may not offset the disincentive to foreign workers and businesses from tight capital controls. Colombia’s advantage is in jeopardy if recent political changes upset its trade deals.
ENERGY SHOCK MAY PROMOTE OFFSHORING
Access to inexpensive raw materials plays a large role in determining the geographic distribution of the industry. Typically, these relative prices remain stable, allowing companies to specialize in specific countries. But from time to time, the global economy experiences drastic changes with the potential to drive significant relocations.
A historical example is Japan’s fertilizer business. The country exported 60% to 80% of its nitrogen fertilizers in the 1960s. But after the oil shock of the 1970s made export-oriented fertilizer manufacturing impossible, Japanese companies adapted by shifting production to emerging markets to take advantage of their commodity cost advantage.
The current energy shock could lead to a similar offshoring strategy in the coming years. In Europe in particular – where energy will remain expensive – there is a strong incentive for companies to look elsewhere. On the futures market for natural gas, prices in three years are five times what they were before Russia invaded Ukraine.
One way to gauge how countries will be affected by the energy shock is the impact of the shift in relative commodity prices on their export and import prices. We use estimates of changes in trading conditions compiled by the International Monetary Fund. The data confirms that energy exporting countries – Nigeria, Russia and Saudi Arabia – have a natural advantage. But some countries that are not net energy exporters could still benefit from the offshoring trend. For example, energy-intensive industries in Germany could relocate part of their production to a country where the rising energy costs are lower than at home.
Employees are also important. Demographic differences over time and between emerging markets have a significant impact on labor costs. China is a striking example. After years of boasting about cheap labor as a key competitive advantage, the country is now facing unfavorable demographics that are already leading to significant increases in wages.
We assess the outlook for labor costs by focusing on the proportion of the population in prime working age, 25 to 64 years old. Countries where this is projected to decrease over the next 10 years are likely to face wage pressures as their labor force shrinks. This is the case in China, Poland, Russia and Thailand. Others that still benefit from demographic dividends — India, Mexico and Pakistan — will see a boost rather than a drag as labor cost differentials shift.
Governments and businesses can sacrifice economic efficiency if it helps reduce their vulnerability to wars, sanctions and supply chain disruptions. This has resulted in administrations in advanced nations increasingly supporting efforts towards outsourcing, or at least nearshore production. Countries that are part of large trading blocs, border large markets and avoid trade conflicts are better nearshoring candidates.
Mexico, Peru, Poland, Turkey and Vietnam stand out as emerging markets with the best potential access to external markets through trade deals. The relative isolation of Nigeria, Russia and South Africa makes it difficult for them to integrate into global production networks.
A final force at play is the potential for highly skilled migrants to drive emerging market growth. Slowing growth in advanced economies and the reality of remote working could encourage workers to move to emerging markets if conditions allow. A ‘brain gain’ would give a welcome boost to productivity and enable the target country to take advantage of the input cost advantage and the potential for nearshoring.
The Global Talent Competitiveness Index provides insights into countries’ ability to develop, attract and retain a workforce. Chile, China, Poland and Saudi Arabia are the most attractive to foreigners – although COVID Zero has likely changed the picture for China. Nigeria, Pakistan and Sri Lanka fare worse than their main emerging markets. – Bloomberg