Big Tech in a Fragmented World

European Straits #146

Hi, it’s Nicolas from The Family. Today, I’m reflecting on our fragmented world, why it’s a problem for US tech companies, and (maybe) an opportunity for European ones.

Last week my colleague Pietro Invernizzi and I had dinner with Tina Asgari and Erik Torenberg in London. Tina is a seasoned product manager, while Erik hosts a superb podcast, Venture Stories, for his VC firm Village Global. You should definitely check it out if you’re interested in radical thinking (disclaimer: I was once a guest on the show).

Like anyone active in the podcast space, Erik reads a lot. You need to read books if you want to identify inspiring guests! So we discussed several notable works, and Erik mentioned Peter Zeihan’s The Accidental Superpower, a book about geopolitics, the coming global disorder, and how the US is bound to renounce free trade altogether and then retreat into itself—both resulting in and a result of a more fragmented world. Needless to say, I immediately rushed to buy the book from Amazon 🔥.

And I must say, Zeihan’s thinking leaves me with more questions than answers. That leads to a problem, in that Zeihan is already a best-selling author and thus quite out of reach: it’s not necessarily easy to just send him an email and initiate a conversation. On the other hand, he’s not that big of a star, either (yet?), which means that other prominent thinkers have yet to react to his ideas and potentially push back against some of them.

Since there are not yet any public controversies about Zeihan’s work, let me simply lay out a few objections that came to my mind:

• I would pay a lot to hear a discussion between Zeihan and Joe Studwell, author of How Asia Works. Clearly Studwell is not a fan of the idea that a nation’s destiny is determined by its geography, with his many East Asian case studies ready to strengthen his point.

• Likewise, I would love to confront Zeihan’s ideas with those of Lynda Gratton regarding the future of work. As written by my wife Laetitia Vitaud, demographics have a very different impact on projected economic growth once you realize our lifespan will soon reach 100 years in a world of ever accelerating technological change.

• Finally, Zeihan’s book doesn’t mention the US’s pursuit of free trade before WWII. Not one single line about FDR or the New Deal 😮! Yet that was when the US embraced free trade. And they didn’t do it for the sake of global security, but rather to serve powerful domestic interests—those of capital-intensive industries (think: General Electric, IBM, Pan Am) and the financial sector (Wall Street). 

So here’s my question for today: Why would the US renounce free trade now, when their economy is once again dominated by capital-intensive industries—that is, big tech companies? And if they do renounce it, does that create an opportunity for tech startups in Europe? Bear with me 👇

The End of Global Trade: It’s US Big Tech vs the US Government

1/ There was a time, not long ago, when large US tech companies appeared as though they were ready to dominate at a global scale. The Fordist Age had given birth to continental giants. The Entrepreneurial Age would give birth to global ones. Uber was burning billions of dollars trying to establish a base in China and Southeast Asia. Google was exploring ways to reenter the Chinese market. Facebook had already passed the impressive threshold of 2 billion active worldwide users and it, too, was trying hard to make inroads in China. Apple was selling iPhones all over the world, relying on a global supply chain spanning several continents. Even Amazon was fighting hard to get a foothold in large Asian markets—notably India and China.

2/ Because they were pursuing worldwide expansion, US tech companies had a vested interest in the US government supporting free trade at a global scale. The Transatlantic Trade and Investment Partnership (TTIP) was the focus of the Obama administration’s negotiations with the European Union at the time. Likewise, the Trans-Pacific Partnership (TPP) would have facilitated the expansion of US tech companies in Asia and in time would have strengthened their position when it came to entering China and Southeast Asia. Free trade was a key term in the alliance sealed between Silicon Valley and the Democratic Party at the time. Trade agreements would allow large US tech companies to thrive at a global scale. In exchange, Silicon Valley was willing to provide support to Obama’s efforts at building progressive institutions at home, including Obamacare.

3/ Many are surprised by the alignment between free trade and progressive politics. But it makes sense:

• You can make the case that free trade benefits the common man. As Cordell Hull, FDR’s Secretary of State, declared in 1934, high trade barriers “shifted the burden of financing government from the rich to the poor; concentrated wealth in the hands of industrialists influential enough to win favorable treatment for their products; and worked not as an effective source of revenue,” but, “by reducing trade, actually lowered revenue” (as quoted in Ira Katznelson’s Fear Itself).

• Free trade is also a way to divide and weaken the business world and thus facilitate pro-worker reforms. Capital-intensive industries want free trade because they need to reach the largest scale possible to maximize returns on invested capital. At the same time, they don’t care about pro-labor reforms because they don’t employ that many workers. So any progressive administration can easily win them over so as to thwart opposition from labor-intensive industries.

4/ Indeed this is exactly what happened with the New Deal in the 1930s. Business support for FDR’s pro-labor reforms at the time was cemented by the emergence of a “new power bloc of capital-intensive industries, investment banks, and internationally oriented commercial banks” (as written by Thomas Ferguson and Joel Rogers in Right Turn, a 1986 book about Democratic politics). And so you had a business world that was effectively divided in two. On one side were pro-free trade FDR allies like “General Electric, IBM, Pan Am, and R. J. Reynolds; many major oil concerns, including Standard Oil of New Jersey, Standard Oil of California, Cities Service, and Shell; and major commercial and investment banks, including Bank of America, Chase National Bank, Brown Brothers Harriman, Goldman Sachs, Lehman Brothers, and Dillon Read.” On the other side were all those large businesses that had a lot to lose from more empowered workers and not much to gain from free trade, starting with the booming car industry (General Motors, Ford, Chrysler) and retail (the most labor-intensive industry of all).

5/ But Obama failed to emulate FDR’s tactical prowess. His alliance with Silicon Valley and a commitment to free trade on its behalf were not enough to crush opposition to his domestic reforms. As I discuss in my book Hedge, as early as 2010 we could see that Democrats were losing ground in the US political system. Their systemic weakness at the state level and in both houses of Congress paved the way for Trump and the GOP’s victory in 2016, by way of gerrymandering and voter disenfranchisement in key states. Trump then quickly reversed course on free trade by withdrawing the US’s signature on the TPP and halting negotiations on the TIPP. Both were a major blow to capital-intensive industries in general and Silicon Valley in particular. And Trump’s ascent contributed to triggering and intensifying the tech backlash, giving ammunition to those, starting with the EU’s Margrethe Vestager and the Chinese Communist Party, that want to curb US tech giants’ ability to dominate beyond their domestic market.

6/ As a result, scaling up beyond the US domestic market has become harder. In the absence of trade negotiations, the US government is not here to help anymore. Then there’s the cultural and political backlash against big US tech companies, which makes it even harder for them to compete abroad, especially in Europe. (As Balaji S. Srinivasan recently tweeted, “the real boundaries of the world are becoming linguistic and ideological, not topographic and national”.) And then there’s the fact that as software eats more tangible industries on more regulated markets, scaling up presents even larger challenges than it did in the past. August 2016 (only a few months ahead of Trump’s victory over Hillary Clinton) saw Didi kick Uber out of China. Then about two years later, Grab did the same in Southeast Asia. And it’s not only the mobility wars. It’s also Facebook against TikTok; Google (Android) against Huawei; Amazon against Alibaba and JD.com in China, and then against Flipkart, and now Reliance in India; Apple against Samsung, Huawei, and Xiaomi; also, Stripe?

7/ A friend forwarded me an issue of Ian Bremmer’s newsletter, about the respective fate of Apple and Amazon in today’s world. For years, I’ve been convinced that Amazon was the company to bet on. Bremmer’s thoughts can update this thesis given the current geopolitical context. He sees Apple having a hard time thriving in a more fragmented world. Selling iPhones will become harder if Apple has to pick sides between the US and China, and manufacturing them will get more expensive if the company has to redeploy its supply chain outside of China. Meanwhile, Amazon will seize the opportunity to diversify at home and become a domestic force acting as a kind of complement to the US government, making the US more liveable for the vast majority who don’t belong to the 1%. It will do so by bringing the price of most products lower for most consumers, providing cheaper healthcare thanks to technology, and even making inroads in consumer finance, proximity services, and law enforcement. 

8/ How are the results of fragmentation already visible? Take Uber's falling valuation, which isn't receiving a great deal of discussion (apart from the usual derision of unprofitable tech companies). Part of that may be because Uber doesn’t really have network effects at a global scale. Another part is likely that Uber has waited a long time before embracing the Amazon playbook of growing a platform out of their core business, and now it might be too late. But a third, and most convincing, explanation is that Uber has had to scale back its ambitions of competing at a large scale, in no small part because of the fragmenting of the world. It’s simply too hard to compete on foreign markets when your own government is shrugging off the importance of having capital-intensive companies grow beyond the domestic market. And yet in a networked economy, expanding at the largest scale possible is a matter of survival. (And just wait until Africa becomes the next big thing, and is dominated by Chinese tech companies.)

9/ There’s another critical factor on the way, namely that we should expect further turbulence in the US. If the US retreats within its borders, it will cripple domestic industries with increasing returns (notably tech companies, but also manufacturing) while rewarding those with diminishing returns. Over the short term, it will pay off politically. Industries with diminishing returns create the most jobs, hence protectionism brings votes. But over time, those industries don’t generate as much productivity and thus not as much surplus, which means that only strong demographics (which the US enjoys, as Peter Zeihan points out) can save the day. But even then, you can’t have your cake and eat it too. If you don’t generate productivity gains, it widens inequality gaps, which turns the majority against immigration and creates problems for labor-intensive industries. This is exactly where we are with Trump in the US. He wants to revive manufacturing but turns his back on global trade, which forces the US economy to specialize instead in labor-intensive, less productive industries (such as healthcare). And this makes it more difficult to redistribute wealth and promote social cohesion at the scale of a giant, diverse nation.

10/ And so finally, as always, we come back to Europe. The EU has long seemed to be off the map for US tech titans, who were always tempted to ask the hard questions like “How many divisions does Europe have?” But here’s the thing: the less that US companies compete in Asia and Africa, the more critical Europe becomes in their P&L statements—and the more Peter Zeihan’s fragmented world becomes a problem for Silicon Valley.

Now the US tech industry’s retreat from Europe is already visible on many fronts. And for European entrepreneurs, that is good news indeed. It means that we have less foreign competition when it comes to discovering business models that fit European markets. The future of European tech likely won’t be in giving birth to global consumer giants. But we will have to serve our large domestic consumer market, with many opportunities for local entrepreneurs to spot emerging trends. Zeihan’s vision is depressing in many ways—but nonetheless, I haven’t been this optimistic in years 🤔.

Please scroll down for more interesting readings about globalization and fragmentation.

📦 A few weeks ago I hosted an event featuring logistics startups in our Paris office. As faithful readers of this newsletter can guess, Amazon featured strongly in my opening remarks. Check out the full event video here, including entrepreneurs from Spacefill, Trusk and Totem. There’s also this article by my colleague Vlad Oustinov: Startups reinventing logistics.

📖 My wife Laetitia was also recently on stage at The Family, discussing her new book and how we can move from a concept of “labor” to something much more closely resembling “craftsmanship”. Like the book, the event was in French 🇫🇷, but keep an eye open for future events on the same topic in English! Here’s the video. (And more background here.)

🇩🇪 My cofounder Alice took some time in the latest edition of The Family's monthly newsletter to explain the mentality behind our The Family Begins program in Berlin. If you know ambitious entrepreneurs, especially those from Central, Southern or Eastern Europe, who are looking for a big boost of energy and a solid pay-it-forward network, be sure to send them the newsletter! It's right here.

Here are more readings about globalization at the crossroads:

• Peter Zeihan: The Geopolitics of a Fragmented World (Mark Harrison, CFA, Enterprising Investor, November 2016)

• The Retreat from Hyper-Globalization (William H. Janeway, The WTF Economy, November 2016)

• The multinational company is in trouble (The Economist, January 2017)

• When Globalization Is Public Enemy Number One (J. Bradford Delong, The Milken Institute Review, October 2017)

• How Cashews Explain Globalization (Bill Spindle and Vibhuti Agarwal, The Wall Street Journal, December 2017)

• The Trumps and Kushners may spell the end of the Wilsonian world (Anne Applebaum, The Washington Post, January 2018)

• The Truth About Facebook's Fake Quest to Connect the World (Noam Cohen, Wired, March 2018)

• Modern Europe – liberal, democratic Europe – is the United States’ creation. (Claire Berlinski, Twitter, July 2018)

• China’s tech giants want to go global. Just one thing might stand in their way. (Mara Hvistendahl, MIT Technology Review, December 2018)

• The semiconductor industry and the power of globalisation (The Economist, December 2018)

• Globalization Helped Make Stripe a $23 Billion Company. Here’s What Comes Next (Ellen Huet, Bloomberg, February 2019)

• Why America cannot fly alone (Edward Luce, The Financial Times, March 2019)

• The Global Trading System: What Went Wrong and How to Fix It (Edward Alden, Council on Foreign Relations, May 2019)

• The Key to the Long Expansion? Logistics (Andy Kessler, The Wall Street Journal, July 2019)

• ‘Global Britain’ is an illusion because distance has not died (Martin Wolf, The Financial Times, July 2019)

• Is it time to declare the end of globalisation? (James Crabtree, The Financial Times, July 2019)

• Post-American Networks (Anne-Marie Slaughter and Elina Ribakova, Project Syndicate, July 2019)

• Investing in the age of deglobalisation (Rana Foroohar, The Financial Times, July 2019)

• The Return of Geoeconomics (Michael Lind, The National Interest, October 2019)

• Henry Farrell on Weaponized Interdependence, Big Tech, and Playing with Ideas (Tyler Cowen, Conversations with Tyler, October 2019)

• What’s driving Europe’s new aggressive stance on tech (Mark Scott, Politico, October 2019)

From Paris, France 🇫🇷

Nicolas