Why did world trade fall so rapidly during the present crisis?

Lots of explanations have been advanced as to why world trade fell so rapidly during 2008-9 — far more rapidly than at the start of the Great Depression. Problems associated with trade finance, and the vertical disintegration of modern manufacturing production, are the two that come up most frequently.

I’d like to offer another, more banal explanation: the composition of world trade is very different today than 80 years ago. In 1929, just 44 per cent of world merchandise trade involved manufactured goods. That proportion increased to 70 per cent in 2007. The reason this matters is that manufacturing is more volatile than the rest of the economy, and it was the output of and trade in manufactures, rather than primary products, which collapsed during the Great Depression.

Between 1929 and 1930, the volume of world trade in manufactures fell almost 15%, while trade in non-manufactures actually increased by 1% (I have to say I wonder about that, but this what what my source says). Weighting these two indices by the shares of manufactures and non-manufactures in total world trade, you get an implied fall in total world trade of 6 per cent in 1930 versus the 7.5 per cent actually experienced. Repeating the exercise, but this time using 2007 weights rather than 1929 weights, yields a counterfactual decline in world trade of 10 per cent in 1930 — equal to the decline the WTO is predicting for 2009. The changing composition of world trade can thus explain a lot, it seems.

An implication is that whenever the world economy recovers, world trade will recover with it, unless a surge of protectionism occurs in the meantime.

12 thoughts on “Why did world trade fall so rapidly during the present crisis?”

  1. Has any work been done on the effect that the application of information technology has had in accelerating the slow down in manufacturing and in service industries and how it might similarly accelerate the recovery?

    Whilst IT does provide tools that people need to forecast cashflow and therefore to react quickly in slowing production and cutting costs, it is not clear how widespread the application and correct implementation of these IT tools is.

  2. That was the first thing that occured to me, I would have thought the far better communications – not just one-to-one, but also massive amounts of data – would have a huge part to play.

    adam

  3. A slightly different angle on roughly the same point, which ties in with the disintegration argument, might be that:
    – purchases of consumer durables always fall much more steeply in a recession than consumer purchases of non-durable goods and services; and
    – consumer durables have a much greater impact on trade volumes than services and non-durables of equivalent value, an impact which has been increasing with the disintegration trend.

    I’m not a fan of the “disintegration” terminology. In many cases, what is actually happening is that supply chains are becoming more highly integrated, but are being spread across a greater number of physical locations so as to match each stage in the supply chain to different packages of locational advantages.

    On Zhou’s point, I would have thought that the impact of improvements in information and communications technology should show up in changes in the management of inventories. I think there is a literature on the role of inventories in recessions, and more generally across the economic cycle.

  4. First out of Google (on search terms – inventories, recession, 2009) is http://www.econbrowser.com/archives/2009/07/a_vshaped_reces.html.

    It shows inventory investment as a % of GDP to be falling steadily. One would expect that this should be a consequence of efforts to eliminate stocks from production systems through Just-in-Time, Efficient Consumer Response, Supply Chain Management and similar improvement disciplines – most of which rely heavily on the application of information and communications technologies.

    The note argues that the bounce delivered to recovery by rebuilding inventories on this occasion will be similar to bounces after past recessions. It argues that the reduction in inventories associated with the recession is bigger on this occasion than in the past, which will balance out the lower inventory level (relative to GDP) to which the recovery will rise.

    I have no opinion as to the validity of the paper, but it clearly addresses Zhou’s question, even if it makes no explicit mention of information technology.

  5. Advanced manufacturing has moved from mass to lean – and one of the purposes of lean is to eliminate or ruthlessly reduce inventory – through integrated global value chains – which do use IT – ………….. much MNC manufacturing here in Ireland is of this type [not all – as in the DELL assemply lines, if not in other parts of DELL, which M Dell is dropping or farming out – buys Perot for 4 billion and moves to high-end services; so we listen on to the usual “guff on the knowledge economy” Terry Prone in today’s Examiner]. This would suggest less of a bounce on the way out (and a speedier drop during present crisis) – and who in right mind would go stocking up inventory at the moment ……….. not only the banks but the meggas car-makers in the US also had to be ‘bailed-out’ ……………

    Lean principles may also be applied to gov, public sector, and service sectors. The Japanese invented ‘LEAN’ – maybe there is something else we can learn from them over the coming decade …….

  6. Kevin,

    Thanks for posting your question. It is indeed a most interesting one. Can I offer a small contribution, which you may find useful to think about. I attended a lecture at Trinity earlier in the year, by Prof William Powrie, School of Civil Engineering and the Environment, Southampton University.

    Sustainable Waste Management: Science and engineering of landfills

    He made an interesting point. You go back to when western urban society started to use landfills as a solution back at the start of the century. The waste material composition of those landfills was almost exclusively rubble, soil, stone, bricks etc. That is, only a small percentage of the landfill was made up of what we find in land fills today. Society, simply did not throw away as much industrial, processed type material. I guess grocceries were in paper bags, sugar was weighed out etc, etc.

    But the point that Prof. Powrie made was that we still operate and manage our lanfills as if they were composed of the same breakdown of materials, as in the old days. That is, the habit has stuck with us, even though the problem has changed utterly. His work as he defined it was to ask the question, what can science contribute to understanding and thereby solving the problems of landfills in today’s world. What kinds of challenges do we expect going forward. This is where the notion of a renewable energy resource of ‘landfill gas’ and so on, comes from. New ideas of how to re-invent old procedures.

    I was intrigued by Prof. Powrie’s discussion. Because of one reason. I had studied architecture and for instance, if you read Alvin Toffler’s book, The Third Wave, Toffler talks about the way we still build dwelling units of all the same type. But the make up and composition of ‘society’ no longer reflects this approach of repetition of the same kind of housing. Indeed, if one were to propose a solution in terms of housing design for today’s society, it would demand you to produce as much ‘alternatives’ in the kind of housing stock you build as possible.

    I do find it intriguing, from the perspective of my particular Ivy Tower, looking at World Trade, Land Fills and Design of Dwellings. Simultaneously, across each of those fronts a change happened at the same time. Yet, in all three areas, we have continued with old habits even though the composition and processes within society have changed radically.

  7. “An implication is that whenever the world economy recovers, world trade will recover with it, unless a surge of protectionism occurs in the meantime.”

    I haven’t thought about it, but how much of a prospect is that in Ireland’s case. Except in the case of agriculture perhaps I have not thought about it that much.

    I suppose the other factor is, if you take a look at the Press conference at Farmleigh, some interesting points were made on this by Liam Casey, CEO, PCH International. He noted that many of his projects, which involved manufacture in China and export to the North American market, were being ‘managed’ from Ireland. Casey’s views about the way in which world trade works today were interesting.

  8. Zhou said:

    Has any work been done on the effect that the application of information technology has had in accelerating the slow down in manufacturing and in service industries and how it might similarly accelerate the recovery?

    There sure has. If you google for a guy named Neil Gershenfeld from the MIT centre for ‘bits and atoms’ you might find some interesting lectures or videos by him. He talks a lot about manufacturing for a market of one. The one being an individual person. He wrote a book about ‘personal fabrication’ called ‘FAB’, which is available in a lot of stores I should think.

    Of course, if you are not into ‘physical’ manufactured objects, and are more into information sales, cultural or artistic sales, then check out Chris Anderson’s book, The Long Tail.

    Both authors are really dealing, or trying to deal with the idea of the short production run. One product for one individual being the absolute extreme limit of course, and is only hypothetical.

  9. Con said:

    purchases of consumer durables always fall much more steeply in a recession than consumer purchases of non-durable goods and services;

    Very good point Con.

    Could your point above, have anything to do with Dell’s decision to move into the computer services sector. Taking your point above, it might provide a welcome buffer to Dell’s revenue stream in times of recession, not being totally dependent on ‘durable’ sales. Dell did try to expand the idea of providing services from within their existing manufacturing company before now. Obviously, after this recession, Dell believes that a different tack is required, and that buying up a whole services-oriented business is required.

    I don’t know how many of you are familiar with the work done by Ross Perot’s company. But to put it in perspective, we all think that Microsoft are the ‘giants’ in computer software. Nonsense. At best, they hold about 10% of the world trade in software produces, services and engineering. No more than that. Which means, that 90% of the ‘software industry’ has nothing at all to do with Microsoft. Ross Perot’s various companies have always held a very large portion of that other 90%. A very good reference about this, is Martin Campbell Kelly’s book, on the history of computer software industry.

    From RTE news today:

    US computer maker Dell is to buy computer services firm Perot Systems in a deal worth $3.9 billion.,/i>

  10. (Sorry to bother you all with so much nonsense of mine etc)

    Con said:

    I’m not a fan of the “disintegration” terminology. In many cases, what is actually happening is that supply chains are becoming more highly integrated, but are being spread across a greater number of physical locations so as to match each stage in the supply chain to different packages of locational advantages.

    If you search for Vimeo dot com, you will find a lecture.

    David Korowicz – Complexity, Economy, Civilisation & Collapse.

    Physicist David Korowicz documents the disturbing growth in the complexity of trade and financial networks and in the various types of infrastructure. He sees the collapse process as a system of re-enforcing feedbacks that cut investment in energy and R&D and cause supply chains and IT networks to break down.

    I heard Korowicz speak briefly of late on this subject, in which he is doing some study. I imagine, he would have a thing or two, or three, to say about the concept of dis-integration.

  11. The increase in primary produce is probably due to the greater efficiency of sea transport. Moving primary produce which is mostly bulk, in times when all costs matter more, tends to cause a drop in patiotic purchases and re examination of costs? A drop in prices would also help. This increases the search for new markets which may be far more efficient, but need shipping.
    Measuring shipping is easy enough with the information capture at the docks. Road transport recording and even rail freight, would be more difficult to find, but probably was much reduced and if so, a means of verifying my thesis.

    The implications for a modern manufacturing country are not good. This depression is deepening all the time, but the media use words like “less steeply”, and fail to define “recovering” etc. Would the last person to realize this is a depression please turn out the lights?

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