The Dark Side of Globalization: The Next Big Shoe to Drop?

While investors rightly fret over the unfolding risks of the credit squeeze, perhaps it’s time to consider the real economy side of the equation – the dark side of globalization.



Just as liquidity and financial innovation has worked their mutually reinforcing wonders for oh so many years, so too has globalization enjoyed the free ride of risk-less thinking. The benefits produced by globalization are as abundant as the free flow of capital. Platform companies deliver low cost goods to developed country consumers. Developing countries experience growth rates in the double-digit range and, in the process both raised the standard of living for their citizens as well as helped fill their governmental coffers as never before. In fact, assets have accrued so significantly to many developing countries that current account surpluses abound giving rise in some cases to sovereign wealth funds.

These examples are just a few of many that could be cited. And the good that they produced in reducing global poverty while enriching both corporate and governmental entities cannot be overstated.

There is another benefit to globalization that is particularly relevant to the current credit squeeze – the ability of emerging countries to (a) withstand any global growth slowdown emanating out of the US and (b) to act as a source of demand helping to limit the damage of a US consumer-led global slowdown. It is this second point, also known as decoupling, which when combined with inherent quality of globalization - interconnectivity - that is the potential dark side of globalization.

Decoupling, which heretofore has not been put to the test, assumes that markets and economies outside the US have grown sufficiently robust that even a recession in the US will not push the global economy into a recession. Given the interconnected nature of the world economy and markets, however, it cannot be assumed that there will not be a ripple effect (a contagion) from a slowing demand from the engine of global growth, the US consumer. Nor can it be assumed that the still immature developing countries’ economies and markets are sufficiently developed that they are capable of picking up the slack.

Investment Strategy Implications

The big risk in the current credit crisis is the vast unknown. What investors don’t know is wreaking havoc with confidence, a key element of asset management, credit decisions, and general investing. Until there is clarity as to what exactly we are dealing with, discretion should be taken when making investment decisions.

The big risk with globalization centers on the interconnected nature of world markets and economies. Decoupling has been bandied about as the savior of a US consumer-led slowdown/recession. But, as with the knowledge black hole of credit derivatives, no one knows if decoupling will work. Nor does anyone know just how a highly interconnected world will function in an economic and/or financial crisis.

These are the primary risks that were dismissed for far too long by far too many Goldilocks-entranced Pollyannas. These are the risks that must not be allowed to get out of control.