How geopolitics, climate change and contracting labor forces will cause a “once in a lifetime” shift in supply chains

Read also: Geopolitics, not Economics, is Front and Center for Global Supply Chains

Once upon a time, the world embraced a bold vision of ever-greater integration and interdependence. Unfettered globalization was the ordained future – a planetary scale economy humming with multi-continental supply chains and seamless flows of goods, capital, and labor across seemingly porous borders. But that utopian dream is fading fast. The sun is setting on the era of hyper-globalization as we know it.

Geopolitics, climate change and an aging population has triggered a reimagining about who and how we do business and its subsequent impact on supply chains. We believe that this generational change rewiring supply chains is likely to be reformed through “friend-shoring” (such as India and Vietnam) as well as near-shoring (as in Mexico and Turkey’s case) and reshoring for goods that are deemed to be most critical for long term sovereignty.

With change comes opportunity and we believe that in the coming years, the next generation of technology startups will be key to enabling this seismic shift. Our deep subject matter expertise and networks will put us in pole position to take advantage of this change and place ourselves ahead of others who have yet to fully appreciate the magnitude and scale of the opportunities being presented. As a reminder, we started work on this topic in early 2021 and published a major piece in 2022 found here.

How Did We Get Here?

Geopolitics

Arguably globalization peaked during President Barack Obama’s tenure, when the US pursued a liberal trade policy aimed at expanding global trade and economic integration. This period was characterized by efforts to negotiate comprehensive trade agreements that sought to lower tariffs, liberalize regulations, and set global standards on various issues including labor and the environment.

President Donald Trump’s trade policy marked a stark departure from the approach of his predecessors. Trump adopted a protectionist stance, emphasizing “America First” and criticizing existing trade agreements as being unfair to the US. His administration imposed tariffs on a wide range of imports, notably from China, and renegotiated the North American Free Trade Agreement (NAFTA), resulting in the US-Mexico-Canada Agreement (USMCA).

Trump’s aggressive trade policies aimed to protect American industries from foreign competition and reduce the US trade deficit, but they also raised costs for American consumers and strained relations with trading partners.

 President Joe Biden’s trade policy represents a blend of continuity and change. While Biden has not fully reversed Trump’s protectionist measures, his administration has sought to recalibrate US trade policy to address contemporary challenges such as climate change (through the CHIPS Act and IRA), labor rights, and the strategic competition with China.

Biden has embraced protectionism from a different angle, focusing on “buy American” regulations and subsidies for domestic production in strategic sectors like semiconductors, electric vehicles, and green energy (read our Q3 and Q4 2022 commentaries on the IRA and hydrogen respectively). However, it is worth noting that the administration has not sought to re-negotiate or significantly lower tariffs imposed by the Trump administration. This approach reflects a broader consensus within the US that has become more skeptical of unfettered free trade and more concerned with ensuring that trade policies support domestic economic and strategic interests.

 The trajectory of US trade policy from the Obama administration through the Trump presidency and into the Biden era reflects a broader re-evaluation of globalization and its impacts. The shift from peak globalization to protectionism, and the current complex blend under Biden, underscores the evolving nature of global trade dynamics and the challenges of balancing open markets with protecting domestic interests.

Climate change

The earth has always undergone significant climatic changes – from glacial periods (ice ages) to interglacial periods (warm periods). However, with >100 years of human activity, this temperature cycle is accelerating. Global temperatures have been increasing 3x faster since the yearly 80s, compared to the 19th century.

Climate change is amplifying the frequency and severity of extreme weather events (as can be seen below) in the US and across the globe. From intensifying storms and hurricanes to exacerbating floods and droughts, the impacts of a warming climate are widespread and accelerating.

Billion-Dollar Disaster Events in the US (CPI Adjusted)

In the US, 3.2M Americans have moved due to mounting flood risk. This phenomenon is known as “climate abandonment,” where local populations decline due to risks linked to climate change. Similarly climate change is having a direct impact globally on population displacement and refugee flows that feeds into greater geopolitical tensions (as above). Since 2008, over 376M people have been displaced due to such natural disasters, with a record 32.6M in 2022 alone. 

Refugee migration caused by climate change will fuel nationalist sentiments as environmental conditions worsen. Nationalist politicians may exploit these tensions, framing climate refugees as threats to national security and economic stability, as seen in the surge of nationalist politics in Western nations.

Labor participation

America is experiencing a significant surge in retirement, with over 4.1M Americans retiring each year through 2027. This represents a substantial increase from the previous decade, where average daily retirements was around 10,000. Now, the daily retirement rate has risen to over 11,200, marking a historic shift in the country’s demographic landscape.

Alongside this, the US labor force is expected to see weak job growth and a decline in labor force participation over the next 10 years. The Bureau of Labor Statistics projects that the US will add only 4.7M jobs through to 2032 which is a significant slowdown compared to the 19.4M added in the previous 10-year period from 2012 to 2022.

Furthermore, the labor force participation rate is projected to fall from 62.8% currently to 60.4% by 2032, a drop of nearly 3 percentage points. This decline is attributed mainly to the aging of the population and a slower growth in the working-age population.

US Labor Force Participation Rate: 1948–2024

Approximately 900,000 baby boomers are expected to retire and stop working over the next 3 years, which is 50% higher than the previous 10-year average. This tightening of the labor market will cause significant institutional knowledge to be lost and many industries are expected to experience major labor shortages putting increased pressure on inflation – which can only be offset through greater automation.

Indicators of Change

When we originally flagged reshoring in our quarterly opinion piece just over two years ago, for parties not close to the industry, there was very limited evidence that the shift was underway. In the intervening period, there has been increasing amounts of public data to support this generational shift.

Outlined below is some of the growing evidence that we have noted in the intervening period:

• The CHIPS Act and IRA have significantly spurred reshoring and foreign direct investment in semiconductors and batteries (as below), dominating the reshoring landscape. Yet, signs are emerging that the momentum of these large-scale projects is waning, with labor shortages and other challenges contributing to the deceleration.

Recent Reshoring Projects

• Mexico has emerged as a leading destination for nearshoring due to its geographical proximity to the United States, shared border, and the benefits of the USMCA. Mexico’s industrial production has seen significant foreign direct investment to the tune of $36B, with a substantial portion of its output in the coming years destined for the US market. In 2023, Mexico also surpassed China as the US’s largest trading partner, indicating a growing preference for nearshoring to Mexico. However, there still remain doubts around the political stability of Mexico which is essential to solving key concerns around infrastructure and national security.

Total Monthly Exports to the United States ($B)

• In Q4 2023, UPS saw a significant increase in its average daily export volume in the Americas region with nearly a 12% rise. This was primarily driven by customers in Mexico and Canada utilizing its cross-border ground services. Compare this to the change in export volume from Asia, which dropped by nearly 9%.
• India has also emerged as an alternative to China in global supply chains, often referred to as the “China + 1” strategy. This shift is attributed to India’s cost advantages and favorable demographics. Apple’s decision to diversify its supply chain into India is expected to spur the development of a local tech-manufacturing supply chain in the country. Initially, Chinese and Taiwanese companies may lead this shift, but the expectation is that they will eventually give way to local Indian firms.

Apple’s iPhone Shipments in China

• Mexico and India are not the only winners of this shift. The following graph shows various beneficiaries of the move away from manufacturing in China, with ASEAN countries (Association of Southeast Asian Nations) leading the way in gains from “friendshoring.” Businesses have started to favor nations that are geographically close to their operations in China yet share similar values, exhibit positive demographic patterns, and have undergone beneficial policy changes. Given that US imports of goods amounted to $3.2Tr in 2022, a 5% reduction in China’s market share could translate to an extra $165B in trade for these other countries.

Impact of Supply Chain Reorganization

• Finally, a recent survey conducted by the Reshoring Institute found that nearly 70% of respondents prefer American-made products, and more than 83% are willing to pay up to 20% more for domestically made items, which might help to offset the additional labor costs associated with bringing production onshore.

What Does This Mean for Dynamo?

The opportunities that arise from this generational shift are segmented between technology, sector, and geography.

Technology Led

Robotics and related technologies will be increasingly important depending upon the location. This is particularly relevant when reshoring specific supply chains back in the US – which is most relevant for technologies deemed to be critical for national security/sovereignty – whether that is semiconductors, pharma, batteries, hydrogen, or other alternative energies or cleantech (as outlined further below).

Robotic technologies are most applicable when replacing labor because it is either too expensive or not readily available. It’s worth noting that China became the world’s manufacturing floor by “willing” industrial automation into its major factories. For now robots and automation technologies are less important for reshoring efforts in Mexico or India, as the labor costs remain below that of China (as below). Example Dynamo investments include PlusOne Robotics (Fund I), Gatik (Fund I), Tangram Vision (Fund II) and Paintjet (Fund II).

Average Salaries of Production Workers/Machine Operators

Supplier discovery and procurement are important as new supply chains emerge in new markets. As production comes online either as a greenfield or brownfield site (being moved from another location), it is critical to identify local suppliers with the appropriate facilities and capabilities to support them. We think there are unique data assets that can emerge from PO management, and visibility that could lend itself to providing a step change in procurement.

Quality assurance is the missing piece of the jigsaw when it comes to procurement. It is typically straightforward during a procurement process to determine pricing and availability but understanding quality is very difficult to ascertain. With new supply chains, a lack of QA could be a very expensive mistake. It is worth highlighting Factored Quality (in Fund II) which is addressing this opportunity within the consumer goods segment.

Traceability will also become increasingly important. With the geopolitical shadow overhanging where and how products are made, understanding the provenance of a product will determine whether it falls within the scope of trade agreements, as well as have implications on tariffs and regulations. For example, the composition and production location of an EV and/or battery have a massive impact on whether they can attract subsidies from the IRA.

Customs management and regulations should not be overlooked. Just because products might be produced in a “free trade zone” does not mean that they are not subject to customs control or regulation. Alongside this, a critical element of reforming supply chains is cross border tariff optimization. Where something is produced and the form it takes as it enters the country will attract different tariffs and duties and can therefore have a material impact on the final build cost of a product. 

Reskilling and training will be a key requirement with the establishment of new production facilities typically in the locations where comparable manufacturing has not historically existed. These roles are typically skilled and are unlikely to be replaced in the medium term with robots or robotic technologies. As Erik Nieves at Plus One Robotics mentions, “robots work but people rule” when it comes to activities requiring high context, awareness, and dexterity.

Recycling materials will become increasingly important for scarce and critical commodities that originate from locations with vulnerable supply chains – whether that is rare earths from China or cobalt from the Republic of Congo to name but two examples. Equally, this might lead to the creation of new composites and materials that are not reliant on such rare materials. Note that these often require special handling when managing the logistics.

Cyber security of key supply chain infrastructure, assets, and operations will be essential as geopolitical tensions increase. It is worth noting that increasing cyber attacks on supply chains will help to accelerate the replacement of decades old systems that are hard to maintain. For example, Maersk (2017) who was hit by a ransomware attack that disrupted its operations globally and resulted in an estimated $300M in damages. Other corporates facing these threats of late include FedEx and Expeditors.

Sector Led

Alongside technology led opportunities, industries that are deemed to be critical to the US (and EU) sovereignty will see significant investment (and subsidies/support) from governments. These opportunities will include some of those described above as well as advanced manufacturing and national defense.

Semiconductors are a cornerstone to public policy and are deemed of national importance. In light of the political uncertainty around Taiwan, Western governments have responded by investing heavily in bringing a lot of this production capability onshore in the US, Europe and Japan.

The CHIPS and Science Act, signed into law in August 2022, appropriated $52.7B in financial incentives to expand domestic semiconductor manufacturing capacities across the supply chain, including for fabrication, advanced packaging, and suppliers of semiconductor equipment and materials. The Semiconductor Industry Association reports that the CHIPS Act has already sparked over $350B in private investments for US semiconductor production, including the construction of 34 new chip fabs and expansion of 21 existing fabs.

Alternative energy has also attracted significant subsidies and support. As can be seen below, the shift to decarbonize the global economy is exceptionally reliant upon China who has a dominant influence across all the major energy supply chains.

China Extends Dominance of Clean Tech Supply Chains

The IRA is allocating nearly $400B to strengthen the US clean energy sector. Since the IRA was signed into law, more than $240B in alternative energy investments have been announced. These investments are expected to add 163 gigawatts of clean generation capacity, nearly doubling total nationwide clean power generation. To date, Dynamo has invested in Ionobell and Celadyne which are related to novel battery anode and hydrogen electrolyzer technologies respectively.

Geographic Led

While there are many geographic locations globally that are likely to benefit substantially from the various changes described above – we remain particularly focused on those located in North America, specifically Mexico which has benefited substantially from a massive influx of investment capital around manufacturing. While similar opportunities exist in Canada, these are more focused on industrial commodities that are requisite in batteries, electrolyzers, et al.

As supply chains are rewritten, both Mexico and Canada are likely to be the main beneficiaries that Dynamo are likely to invest into. To date, we have invested in both of these markets – and in Mexico this includes Skydrop (Fund I) and Solvento (Fund II).

This is not to overlook the domestic opportunities in the USA with the revival of reshoring manufacturing of critical supply chains, particularly those which are considered to have national importance.

The winds of change are giving way into multi-billion, if not, trillion-dollar type opportunities. We haven’t seen such a shift in supply chains since the Second Industrial Revolution (1870-1914) in the US that birthed generational businesses and wealth to boot. We’re excited by what the future affords and believe there’s been no better time to be venturing in supply chain.

Author Bio

Santosh Sankar, co-founder and managing partner of Dynamo Ventures, a venture capital firm investing in pre-seed and seed-stage supply chain startups. Dynamo’s notable portfolio companies include Stord in warehousing and fulfillment, Gatik who is the leader in middle-mile autonomous transportation, and Solvento who is the preeminent provider of financial operations software and credit to the Mexican trucking industry. Sankar is also host of the Future of Supply Chain podcast and has been listed on Forbes 30 Under 30 for Venture Capital in 2017 and Forbes 30 Under 30 “Big Money” list. He was also bestowed with the Alumni Achievement Award from Pennsylvania State University (2024), and a fellow of the prestigious Kauffman Fellows Program.