As geopolitical rivalry sharpens, many governments are looking for safety in numbers—that is, by forming alliances and strengthening certain commercial ties and, in some cases, weakening others. This search for friends and distancing from foes overlooks a strategic option to all governments—namely, to improve their business environments so as to enhance the capacity of local firms to respond to geopolitically-inspired disruption. Australia and Lithuania’s response to economic coercion in recent years highlights the importance of supply side resilience.
As geopolitical rivalry has intensified, the siren song of insular, zero-sum thinking gains in prominence (Strain 2024). This flies in the face of decades of experience where our standards of living have been enhanced by doing business with foreign buyers and sellers (Irwin 2024). Exports augment national sales and make jobs more secure. Import competition keeps local firms on their toes—complacent local oligopolists tend to rip off citizens (Levinsohn 1993). No country in the past half a millennium has become an economic superpower by its firms hiding behind borders (Zakaria 2024).
Yet, even for economies as large as Japan, there is still the question: how best to react as China and the United States vie for primacy? For better or for worse, at least since the Global Financial Crisis, the world is in an era of trade policy unilateralism. The painstaking monitoring of commercial policy by the Global Trade Alert has shown this (Global Trade Alert 2024). Sadly, there remains no appetite for pathbreaking multilateral opening of markets. Sushi-sized reform is what the WTO has on the menu, and likewise, regional trading agreements. Recently, World Bank analysts reported that the number of newly signed regional accords has been falling as this century unfolds (Kose and Mulabdic 2024). Reciprocal approaches to trade reform are out, alas. Unilateralism is in.
But, like cholesterol, there are two types of unilateralism. Stupid unilateralism involves erecting trade barriers to imports and other ruses that seek to tilt the commercial playing field in favour of local firms. The fact that the idea for these ruses often comes from local firms says a lot about their competitiveness. Successful managers think of new ways to create more value for customers, they don’t go running off for help from officials who are largely clueless in the ways of commerce (Evenett 2024).
What every government can influence constructively is their national business environment. Unlike trade accords, which take years to negotiate, governments can assess and benchmark their national business environment right away. Fortunately, there are well-regarded measures and rankings of national competitiveness, such as the one produced by IMD Business School in Lausanne, Switzerland (IMD 2023). Economists may fight like cats and dogs about the best short-term macroeconomic policy, but when it comes to the drivers of long-term economic growth, there is a remarkable degree of agreement (Jones 2023). Smart governments should capitalise on this consensus.
Improving national business environments involves more than raising productivity, although it is vital (McKinsey Global Institute 2024). Many factors affect the capacity of firms to adjust to disruption, including geopolitical disruption. Information about new and underserved markets abroad is needed as well as expertise to exploit opportunities when they arise. National education and labour market institutions might be able to adapt to new circumstances. Reputations for reliability and quality should be nurtured over time.
Consider Switzerland, a country with one of the highest standards of living. Switzerland’s population is too small to support its many successful firms. Switzerland has to export. Therefore, everyone there understands that Switzerland must be competitive no matter what. So, if Germany offers huge subsidies to its energy-intensive firms (as it did after the invasion of Ukraine), since the Swiss don’t have as deep pockets, it’s state must operate differently. That involves making sure the transport and digital infrastructure is top notch, that the corporate tax and regulatory burden is fit for purpose, and that Switzerland has the strongest possible ties to the markets of the future as well as to the behemoths of today. IMD (2023) reveals how well Switzerland fares relative to over 60 other economies.
To be sure, Switzerland’s current favourable business climate didn’t arise overnight—but bear in mind that these days trade talks take forever (a comment made in the spirit of making a fair comparison.) The intensification of geopolitical rivalry of recent years has reinforced that longstanding case for improving the supply side of national economies. Doing so involves taking on vested interests that cling to privileges that deliver either a quiet life or a very lucrative one. For this reason, supply side reform is like getting children to eat enough fresh vegetables—evidently the right thing to do but an uphill battle all the same.
Governments should focus on those aspects of the business climate that enable firms to adapt to new circumstances. Suppose “economic coercion” by a trading power---or worse, conflict that cuts off supply chains—results in some existing sales markets or sourcing locations being blocked. Then national firms need to have the capabilities and the resources to spot alternative options and to act on them. These firms need to know where foreign markets are being liberalised and the regulations they must comply with to take advantage of any opportunities.
Critically, executives and officials need to be comfortable with geopolitical chaos and have gamed out in advance how they might respond. When faced with what many deem “economic coercion,” Australia and Lithuania have shown that small and mid-sized economies can effectively pivot, finding new markets for the valuable goods their firms produce (Beattie 2024, Cutler and Wester 2024). Of course, at the beginning of these episodes, there were worries. But firms and governments there knew they had alternatives and pursued them with vigour.
With greater geopolitical rivalry the political calculus associated with supply side reform changed. Holdouts against reform must now explain why their interests matter more at a time when adaptability is at a premium. Economic security arguments should push the scales against reform holdouts. The media and public will be at a loss to understand why there are unnecessary jobs losses as a result of economic coercion abroad because some vested interest at home wouldn’t cooperate.
Of course, cushioning those interests that lose from reforms is typically smart politics—but letting them frustrate reform provides geopolitical foes with a greater incentive to strike. In open societies where debates over reform can be followed from autocracies, the opposition of vested interests to reform will be noted—and factored in by foreign governments (UK Parliament 2023, European Parliament 2024). As local firms and sectors become more adaptable, the downside from economic coercion shrinks. Supply side reform is one way that governments protect their societies against economic coercion.
Intensified geopolitical rivalry is back—it won’t recede anytime soon. This puts a premium on having nimble firms that can adapt to whatever disruption transpires. In turn, this should shift the political calculus—putting the defenders of status quo bottlenecks on the back foot. Firms and governments have agency—the times call for the courage to use of it.
