Paul Donovan: We’ve hit peak trade as the game changes under Trump

Globalisation is now a battleground. The UK is gearing up for a Brexit war over how we trade with the EU; Donald Trump could start a fight about trade in an empty room — and US consumers are taxed for daring to want to buy things made in other countries.

The problem with this fire and fury is that it is all hopelessly out of date: politicians are leading cavalry charges across a battlefield of nuclear missiles. Tariffs belong in the 19th century. Today people are trading with one another more than ever before, but global trade growth stalled in the past few years. How we trade, and what we trade, is changing. We have hit peak trade.

Making things has become more complex, which helped increase global trade. Back in the Seventies, products tended to be made locally; a country would import some things it could not make itself. If a country does not have oil, it has to import oil. That and other basic goods aside, countries made their own things. But over the past 25 years, countries stopped making everything themselves; countries now import more than the essentials.

Think about music. Someone wanting to buy a compact disc album by a foreign artist is really importing music from another country. However a second country may make the compact disc, and a third country the case, using plastics from a fourth. A fifth country may even print the cover, using the paper and inks made in a sixth and seventh country. And an eighth country assembles the whole package. Only then does the music fan get their album. That’s why a car “made in the USA” is not really “made in the USA” any more. Over one-third of a car exported by the US comes from abroad.

The reason supply chains became more complex was cost. It was cheaper to make some things in far-flung parts of the world. While it does cost money to ship parts from one place to another, lower production costs offset shipping costs. But that cost story is less clear now. Local robots can replace foreign labour.

The advantage of making things close to the customer is that firms can make goods “on demand”. So rather than waiting weeks and weeks for things to travel from the other side of the world, a firm can deliver things made locally within days. Making things close to the consumer reduces the waste of making too much, or producing too little and missing a chance to make more money.

Meanwhile digitisation stops any trade in goods. Millennials will barely understand the compact disc example used earlier, as today nearly all music is downloaded or streamed. The artist still trades their intellectual property - a service - but that’s it. The music supply chain has gone from many trades to just one.

Hence with shorter supply chains and simpler trading we may have to face the possibility that we’ve hit peak trade. And if so there are several things investors need to think about. How do countries like China that grew by becoming links in longer supply chains come up with new ways of getting growth? Will demand for transport fall as finished products travel over shorter distances? Raw materials may travel to new locations. Some things — like music — will not travel at all.

On the flip side, firms that make things closer to customers can reduce stocks of goods, or inventory. Inventory can make recessions worse as firms stop producing to run stocks down. Lower inventory means that the ups and downs of the economic cycle may be less violent. Overall services and ideas could become more important to future trade than trade in goods, so rules for trade in services will matter more than tariff-free trade.

Peak trade for goods does not create lots of new jobs in the UK; it might be more about UK robots and digitisation replacing foreign workers. But peak trade might mean that, over the next 15 years or so, the battles over Brexit or Trump’s trade taxes matter less and less. Trade wars are fighting the wrong battles: the future of trade is going to be different.

Paul Donovan is global chief economist of UBS Wealth Management.