This article is taken from our FREE daily investment email Money Morning.
Every day, MoneyWeek's executive editor John Stepek and guest contributors explain how current economic and political developments are affecting the markets and your wealth, and give you pointers on how you can profit.
Editor’s note: John’s away this week so in place of your usual Saturday morning roundup, today we have a guest post on the mechanics of global trade, from financial writer Hector Reid.
International trade has boomed since the end of World War II, supported by a complex global network of sea trade that transports billions of tons of goods per year.
Most consumer goods from bananas to bicycles move across the seas in a 1950s invention, the metal box called a shipping container.
Containers standardised many aspects of global trade, allowing globalisation to flourish and radically changing the world we live in.
But how do they work?
Why should anyone care about shipping containers?
Shipping containers save importers and exporters a huge amount of time and money, creating the conditions for cheap global trade to flourish. Without containers, most consumer goods such as clothing, electronics and food would probably cost much more. Quite simply, containers transformed how consumer goods move around the world.
As recently as the 1950s, moving cargo on and off ships was a highly manual, time-consuming process. Goods arrived at port in wooden crates, kegs, and sacks. Stevedores would lift, carry, and drag the items, stack them on pallets, or shovel them by hand into the hold. At the cargo’s destination, more workers would unload the cargo manually with tools like hooks and winches.
What was wrong with loading ships by hand?
The process of loading and unloading could take days, during which a ship would sit idle alongside, racking up costs in the form of port fees and pay for dockworkers. These fees were estimated to account for around 50%-60% of the total cost of shipping, meaning that shipping companies had a major financial incentive to reduce time spent loading and unloading in port. By eliminating these costs, companies could pass savings on to consumers.
Whose idea was it to use boxes of the same size?
In the 1950s, a haulage entrepreneur called Malcolm McLean pioneered a new idea to improve the manual system. It was based on the simple concept of a metal transportation box of a standard size – the shipping container – and a system of specialist cranes and ports built to handle them.
McLean’s company, SeaLand, sent the first container ship between Newark, New Jersey, and Houston, Texas in 1956. The Ideal-X carried 58 identical aluminium boxes, which were loaded onto 58 lorries on delivery in Houston for their onward journey.
This concept of the “intermodal container”, which can move seamlessly from ship to lorry or train, underpins international trade today. The container shipping industry was born.
How did containers reach the wider world?
McLean’s brainwave went global around the time of the Vietnam war, ten or so years after the voyage of the first container ship. Having won a contract to supply US soldiers in southeast Asia via a new container port in Cam Ranh Bay, by the late 1960s, SeaLand was carrying hundreds of millions of dollars’ worth of military cargo across the Pacific. Before long these ships, rather than return empty, stopped off in Japan to buy goods such as electronics for the US consumer.
This established a container-based trade seaway across the Pacific, linking the economies of Japan, Korea, and China, to US consumers. Countries that saw the benefit of sea trade with the US built their own ports capable of handling containers, and the spread of containerisation grew into a global phenomenon from there.
Today the biggest container shipping companies aren’t American – they are Danish (Maersk), Taiwanese (Evergreen), Swiss (MSC), and Chinese (Cosco).
How important are containers for global trade today?
Very. By volume, 90% of world trade goods are transported by sea. There are around 53,000 ships in the world’s merchant fleet, 5,000 of which are container ships, and the largest of those carries more than 20,000 containers. Without these ships, many countries could not participate in global trade, and consumers would have to absorb the increased costs, making the world poorer.
The container has also changed how countries interact with each other, creating the conditions for global trade to grow. By promoting international standardisation, McLean also promoted the principles of mutual reliance and linked supply chains. Every component in a containerised system must work with all others all over the world: the boxes themselves, their locks, the cranes, the ships, the dockyards, all have to match for the system to work.
This means that one country cannot independently implement a 33 foot container – the size of McLean’s originals – instead of the modern standard of 20ft or 40ft containers (20ft containers are usually used for heavy goods such as machinery, while 40ft containers are designed to transport a greater volume of lighter cargo, such as furniture, tyres, and toys), because the cranes, ports, and handling systems around the world could not handle them.
By allowing the “intermodal” container to move efficiently not just from lorry to ship to train, but across borders, globalised trade could flourish.
How has the container enabled globalisation?
Containerisation is based on a simple premise. By minimising the costs of sea cargo, goods can be produced economically anywhere in the world – not necessarily in the same country or even continent as the eventual buyer. By some accounts it costs only $0.05 to ship a T-shirt across the world. Economists Edward Glaeser and Janet Kohlhase wrote in the 2000s that “it is better to assume that moving goods is essentially costless”.
Given such low transportation costs, it becomes economic to produce your goods in a country with a relatively low cost of labour, such as Bangladesh, China, or Vietnam, put them in containers, and ship them to countries where they can be sold for a good profit. This is the basis of the modern consumer economy.
What are the risks involved in the system?
By slashing the transportation costs involved in trade, and enabling companies to take advantage of cheap labour, containerisation is what has made globalisation on our current scale possible. But as with any system, there are fragilities.
For one, the level of interdependence in the global economy has increased greatly. For example, if demand for consumer goods drops off in a major power like the US, then the impact is felt throughout the world – developing economies suffer spillover effects because, as the United Nations notes, “the exports of the developing world go to advanced economies and so […] changes in their exports would be more closely linked to GDP changes in advanced economies than in their own economies.”
Then there’s the impact on demand for containers and ships. Since the ships themselves take years to build, companies must order tonnage with a significant ‘lag’ before they are operational, which can lead to oversupply problems when the ships are delivered.
We saw this in 2008, for example – in the lead up to the crash, demand was high, freight rates were at their peak, and as a result, a large number of vessels were on order. Yet many of these ships only came into operation during and after the global financial crisis, saturating the market with vessels, and sending shipping rates plunging as global growth and trade stalled.
What about financial risks?
One financial issue that affects global trade is the availability of trade finance. Trade finance is simply the amount of money financial institutions are willing to lend to importing and exporting companies, and at what rates, after assessing the likelihood of the borrower not repaying the loan (known as “counterparty risk”).
At its simplest, trade finance enables global trade to take place by ensuring that the seller knows they will get paid, and that the buyer knows they will get their goods – in other words, it solves the trust problem involved when one party is shipping goods to another on the other side of the world.
This, however, relies on the banks being willing to lend. During the global financial crisis of 2008-2009, the “Great Recession” was accompanied by a “Great Trade Collapse”, partly because trade finance temporarily dried up (along with all other forms of credit) as the crisis exposed the sheer volume of bad loans in the wider market and tore huge holes in banks’ balance sheets.
Since the crisis, banks in many countries have been required by law to hold extra capital against riskier lending, such as trade finance.
What about currency risk?
Currency volatility was not such a major consideration when goods were largely manufactured in the country where they were sold, as manufacturer, transporter and retailer operated in the same currency. Today, however, international trade involves supply chains that span numerous countries, often with each using different currencies.
One risk for all parties involved is therefore currency volatility, which can be a significant unknown for an importer trying to calculate future cash flows, or modelling how their investments will behave during a crisis. As a result, importers and exporters typically take measures – such as hedging their exposure by partly or fully locking in exchange rates using various financial instruments – to protect the cash flow of their business from unforeseen currency movements.
However, this means that companies with cross-border business have to take the time to understand and plan for the potential effect of currency fluctuations on different parts of their organisation in the first place.
For more on the history and future of global trade, download MoneyWeek’s report on the subject, written in association with currency specialists OFX: The Future of Global Trade.
And for more on the history of containerisation, pick up a copy of The Box: How the Shipping Container Made the World Smaller and the World Economy Bigger, by Marc Levinson.
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