MGI Research

Exploding digital flows in a deeply connected world

| Podcast

Digital globalization has ushered in a new era of cross-border flows around the world. In this episode of the McKinsey Podcast, McKinsey director Jacques Bughin and McKinsey Global Institute principal Susan Lund talk with McKinsey’s Simon London about their findings from the new MGI report Digital globalization: The new era of global flows and how globalization and interconnectedness are good for companies, particularly small- and medium-size enterprises. An edited transcript of their conversation follows.

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Podcast transcript

Simon London: Hello, and welcome to this edition of the McKinsey Podcast. I’m Simon London, an editor with McKinsey Publishing. Today we’re going to be talking about one of the defining features of our age: globalization. In other words, the international movement of goods, services, money, and, increasingly, data across borders.

To discuss the issues, I’m joined from Washington, DC, by Susan Lund, a partner with the McKinsey Global Institute. Thanks for being with us, Susan.

Susan Lund: Thanks. Happy to be here.

Simon London: We’re also joined, from Brussels, by Jacques Bughin. Jacques is a McKinsey partner and also a member of MGI’s global council. Thanks for joining us, Jacques.

Jacques Bughin: Thank you.

Simon London: Let’s dive in. Clearly we’ve been living through an era of unprecedented globalization. We’re going to talk in a minute about the changing trends in pattern. But before we do that, Susan, why don’t you give us a 20-year or 30-year view. What’s been going on?

Susan Lund: The world economy today is more interconnected than it’s ever been. If you look back 25 years to 1990, we see that the value of global trade in goods, services, and flows of finance together added up to about 25 percent of global GDP. If you fast forward to today, that’s worth nearly 40 percent of global GDP. So more countries are connected around the world, and the connections between countries are deeper.

To give a very concrete example, consider the movement of people. Back in 1990, there were 400 million foreign trips abroad taken every year. That would include business travelers, tourists, as well as students studying abroad. Today that number’s over 1.1 billion. We find, for instance, that emerging markets are involved in more than half of global trade transactions for the first time in history. All of this has added to global prosperity and value added. We calculate that over the last ten years the openness to global flows has raised world GDP by at least 10 percent. That’s worth $7.8 trillion in 2014 alone.

Simon London: Let me jump in here. Because that’s a really interesting point. There’s always a lot of debate about whether globalization is a good thing. How does the global trade in goods and services and then the movement of people add to global growth and prosperity?

Susan Lund: The benefit of globalization and interconnectedness is that it increases the ability of companies to get the best talent, the best ideas, the best inputs from anywhere in the world. It enables countries to specialize in what they do best, and it overall increases competition for companies. This causes them to become more efficient, to raise their productivity, to innovate new products and services. All of this together then drives economic growth. What’s really interesting about the phenomenon today is that all of this has been happening now for many years. But now we add digital technologies to the mix, and this is amplifying the impact of other types of global flows and enables all of this to happen at a much more rapid pace and a much more global scale.

Simon London: So thank you, Susan. That’s a really good segue to Jacques. Jacques, why don’t you just give us a sense of what we find in the latest MGI research on global flows. I know the mix has been changing, and data is playing a much bigger role. How is globalization changing now?

Jacques Bughin: The mix has dramatically changed. No surprise, global financial flows collapsed since the crisis. But much more interestingly, global trade in goods is essentially flat, while global data flows have exploded. It has exploded in any type of measure we can imagine. If we measure it by terabits of data per second, it’s up by at least 45 times in less than ten years.

That explosion of data contributes a significant amount to the GDP growth, as Susan has said. We estimate this to be up to $3 trillion of GDP elements added to the global economy in 2014. That’s more than what is accounted by the trading routes, which is an amazing impact if you think that data flows have been emerging in less than 20 years where trade flows have been there for at least 200 years.

Simon London: Before we delve deeper into the digital aspects of globalization, I just want go back to something that you said there, Jacques, which is potentially epoch making. Have we actually reached peak trade in international trade of physical goods? Because if we have, that’s quite something, isn’t it?

Susan Lund: It’s actually a bit of a puzzle for economists. And it’s had many people scratching their heads. What we saw for about 20 years or even 30 years, from 1985 to 2007, is that the global trade in goods grew twice as fast as world GDP year on year. As a result, it rose from 13 percent of global GDP up to a peak of 26 percent of global GDP in 2007.

Since the Great Recession, of course there’s been a big slowdown in trade. It never really recovered. We had a bit of a bounce back. But since then it’s been flat. So the volume of trade is actually still growing slowly, but measured in comparison to the size of the world economy it’s actually been down.

We think there are a couple factors at play. One is clearly cyclical. There’s weak demand in the US and Europe and Japan, slowing growth in China. And all this results in lower trade. There’s also been a collapse in commodity prices, which lowers the value of traded commodities in oil and gas around the world. However, we don’t think that this is a purely cyclical effect, and we don’t expect trade to bounce back to its previous growth rates. This is because when we work with companies around the world we see a structural change in decisions on where production should be located. Quite simply, labor costs are no longer the most important factor cost for most types of manufacturing. There are still some goods, like textiles and shoes and toys, that depend very heavily on wage cost. But for most kinds of manufactured goods, other things are more important.

For instance, speed to market, energy cost, the quality of talent, the quality of infrastructure. And all this means that global value chains are being reconfigured. And there’s more production closer to the end consumer. We see this in the US; we also see it in China and other emerging economies. Then, when we look ahead at the impact that 3-D printing and other new technologies may have, we think that ten years out there could be some global-trading goods that will be replaced by these technologies. Already there are some companies and organizations using 3-D printing, for example, to print replacement parts for operations around the world rather than manufacturing goods in one place and shipping the replacement parts.

Simon London: Let’s go back to the digital piece of this. Clearly a huge explosion of international data flows. But what’s driving it? Jacques, could you unpack that for us?

Jacques Bughin: Yes. In fairness, when we say that the data flows were exploding, we were measuring that in bits, and obviously, like you and me, seeing that the number of bits that we are using was when Internet connection was increasing by the day.

But this being said, there’s just a lot of bits going on internationally. The first observation is not only about individuals being more connected. Yes, of course, a lot of people, up to 900 million people, have international connection on social media. But what is more interesting from an added-value perspective of an economy is that a lot of the activities linked to data are actually linked to trade, services, and, obviously, exchange of ideas and innovation across companies.

If I take the very first one, we noticed that 10 to 15 percent of the global goods trade is actually made of e-commerce. If you look at B2B commerce, the ratio is supposedly 20 percent to 25 percent of the total side of it; so, adding the flattening of the trade of goods with the digitization of the trade of goods. The nondigital trade of goods is actually not only peaking, but even, I conjecture, declining. A lot of services are themselves extremely digitized.

In fact, 50 percent of the world trade in services is digital. Think simply of the number of payment services that you do across countries. It’s obviously digital. Now, individuals are connecting, but we have an interesting observation coming from our report. The very first one is that we’ve got major Internet companies. And if you look at the globalization of these Internet companies, roughly 50 percent of what they do, whether you count them in businesses, whether you count that in terms of individuals connected and so on, 50 percent of what they do is actually globalized outside of the country of origin.

Simon London: So it’s a pretty complex phenomenon is part of what we’re saying here. Increasingly, trade of physical goods will have a digital component. There’s trade in services, there’s flows of finance. There’s individuals on social media. There’s just a whole set of components that are adding on to this big explosion of data across borders. An interesting question arising from that is: What are the effects? How is this changing the global economy? And how is it changing the nature of globalization? Susan, do you want to take a stab at that?

Susan Lund: What we see is a massive democratization of the global economy. It used to be the case that globalization was really driven by large, multinational corporations, mainly from Western countries. Today, however, because of digital platforms you see small businesses around the world, and even start-ups, can participate directly in globalization.

So, for instance, there are 50 million small businesses now on Facebook. That’s twice the number of two years ago. And this gives them a platform for finding customers around the world. We find that 30 percent of the fans of these small businesses on Facebook are from other countries. We see, for instance, that Alibaba in China has 10 million small and medium-sized enterprises that sell products to the rest of the world through its platform.

Amazon has two million small businesses. So around the world we’re finding that smaller companies can gain scale and reach customers anywhere through these digital platforms. We did a survey of start-ups and found that 86 percent of technology start-ups around the world today are creating their business for a global market.

This means that they either have customers in other countries, or they’re getting funding from other countries, or they have mentors and advisors or are hiring talent from other countries. So from day one they’re not thinking, “I’m a Dutch company. I’m a Swedish company. I’m a Chinese company.” They’re thinking they’re a global company from day one.

Simon London: Let’s move on to the implications of all of this. Maybe let’s start with governments. The nature of globalization is changing; digital globalization is becoming a much more important force in the economy. If I’m a national government, what should I be thinking about?

Susan Lund: There’s a whole new arena of digital policy that now needs to be addressed. One of the things we find in our research is that although more countries around the world are connected to the global economy, only a few countries are really highly connected.

There’s a huge opportunity for most countries to do more to participate in these global flows. For emerging economies it’s particularly important. We find that countries on the periphery of the global data network actually benefit more from cross-border data flows than countries at the center. This means you don’t need to build the next Silicon Valley to benefit in the new digital era of globalization. But you do need the digital infrastructure in place. So in addition to building the physical infrastructure, like roads and ports and airports, it’s really important for all countries to have in place a good digital infrastructure.

So Internet access, broadband access, and reasonable prices for people to access this. We also need digital literacy skills. We need people around the world to be able to have the skill to participate in this digital economy. And again, it’s a real challenge for emerging economies that already have so many development needs on their plate. This is another one.

But if they don’t meet it they risk falling further behind. For all countries it will be important to figure out how they want to play in the set of global flows. You can look at a country like Singapore, which is really quite a small country, has very few natural resources, small population, and yet it is at the top of our MGI Global Connectedness Index. That’s because it’s had a very explicit strategy, first to become, decades ago, a regional hub in the trade of goods, then it’s built a financial hub for Southeast Asia, and a business-service hub. It’s attracted foreign talent. By leveraging global flows it actually has great economic power for a country that is very small and wouldn’t be thought of as a world power without that.

Simon London: Do you just want to say a few words about the Connectedness Index? This is something that MGI has put together a couple of times now. We do this ranking of different countries and how connected they are across a number of these different measures. Talk us through a few highlights around the ranking and the methodology.

Susan Lund: We rank countries on the inflows and outflows of goods, services, finance, people, and data, and we weigh each of them equally. There are a couple different metrics and indices of globalization out there. But we think ours captures both the last era of globalization, so trading goods and services and finance, but importantly we give weight to the new cross-border data flows, as well as flows of people.

When we do this ranking we find that this year Singapore is at the top of the list as the most globally connected economy. It’s followed by the Netherlands, the United States, and Germany. In general, emerging economies are less connected, but we find that across all countries it’s actually the case that less than ten countries around the world are really highly connected on our index. The scores for other countries trail off really rapidly, so there’s a big opportunity for both other advanced economies, as well as developing countries, to do a lot more to participate in global flows.

Jacques Bughin: Susan, on the Connectedness Index, and the fact that it trails very quickly down for some countries: we, in fact, measure all these global flows linked to GDP. The total gap to the best frontier is as much as a 10 percent contribution to the flows to the global economy. In fact, we estimate the potential to reach the frontier to be up to $10 trillion of GDP. A staggering number.

Simon London: So in other words, the global economy is $10 trillion smaller than it could be if there were greater connectedness and more countries opened up to globalization, both physical services, digital, people, and so on. Is that right?

Jacques Bughin: Yes, indeed.

Simon London: If I’m a business person listening to this podcast, I get that globalization is changing. Digital globalization is becoming much more important. But what does that mean to me in practical terms? How should I be thinking about my digital strategy and organization and so on?

Jacques Bughin: Well, the first point is about your competitor set. Given globalization coming from pretty much everywhere, the key question is to say, “Who are my competitors?” This used to be pretty much multinational against multinationals and global supply chain. Now it’s changing to be small, medium enterprises starting to leverage global platforms to compete. I don’t want to only think of competitors as a threat. There is opportunity for every company to start jumping on those digital flows.

As small and medium enterprises, they can start to export to many more countries than they could do before. In fact, again, that we gather from studying these flows the geography of trade tends to be extremely concentrated. Usually trades start to go down by a factor of two every 100 kilometers away from where you stand. With digital flows we find that this elasticity of trade has been cut by half, which means that people can go twice as far in terms of geography of trade. Globalization is not only a threat; it’s actually a major opportunity.

Susan Lund: In addition, in the new digital era, companies are completely rethinking their global footprint and organization. Globalization used to be about: a country would take its operations and it would replicate it in each region and maybe even country around the world. You would have human resources and accounting and legal services and product development taking place in different replicas around the world.

Now, because of digital platforms and communication, companies can centralize all of their back-office operations into single global hubs. One or several. They can put R&D in one or two places, all of HR in one place. This is a huge shift in the global footprint of different companies. But because of digital communication strategies, they can operate this way much more efficiently.

Jacques Bughin: Digital should not be fought through as international or global. It starts with being digital in the first place. Whether it’s for exports or for the domestic market. You need to have the right assets and the right capabilities. My experience with clients is that while they start to invest, while they start to consider investing in capabilities, still today they face a major challenge. They face the challenge of having human capital and big data capabilities. They start to realize how difficult it is to scale IT big data investments to work with these digital capabilities. On the right asset, they still have to consider how they will develop their own technology platform, their own data center to go and start to connect both with the suppliers and the customer. It’s a big challenge, but, again, the payoffs, as we have seen just on the global scale, are just tremendous.

Simon London: Thank you, Jacques. And thank you, Susan. To find the McKinsey Global Institute’s latest research on global flows, please visit

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