‘Friend-shoring’ – How Should Canadian Companies Respond?
Supply chain management has become a critical issue for Canadian companies to address. Unexpected global emergencies (e.g. the pandemic), environmental urgencies (e.g. flooding in British Columbia), and a now-frequent political turn toward protectionism versus globalization, have all contributed to the strategic push for Canadian enterprises to address and monitor supply chain tensions and weaknesses.
One concept that has risen to prominence that ties in with these issues is ‘friend-shoring’. In the last year, political leaders in Canada and United States have used the term to encourage companies to align their supply chains with the geopolitical interests of their nations. Specifically, these officials used the term to describe the practice of companies seeking to source inputs from countries that may be considered ‘friendly’ from a geopolitical perspective and that share similar values. This reflects a shift, perhaps engendered by the pandemic, to leverage “friendly” political relationships in buttressing supply chain systems.
To date, the Canadian government has not explicitly laid out how it will encourage Canadian companies to engage in friend-shoring. However, as noted herein, recent actions taken and statements released by the Canadian government do align with the concept of friend-shoring, and may indicate that this is not simply a construct of 2022, made popular by necessity and/or politics. Canadian companies should monitor these developments and act proactively to ensure they are not caught off-guard by a friend-shoring-motivated action(s) that could destabilize their supply chain network.
Background on Friend-shoring
From a geopolitical perspective, friend-shoring arose out of a number of concerns, including:
- increased reliance on ‘unfriendly’ nations for goods that are important for national security, including critical minerals that are key to the energy transition;
- the potential for unfriendly nations to leverage their trading relationship to drive foreign policy concessions, such as the recent issues raised with regards to the importation of Russian natural gas by the European Union;
- a growing push, particularly in the U.S., to build stronger domestic industries and ‘onshore’ production; and
- human rights and forced labour concerns in certain regions, such as the Xinjiang region of China.
In response to these concerns, governments in Canada and the U.S., among others, have encouraged companies to engage in friend-shoring. U.S. Treasury Secretary Janet Yellen has been particularly vocal about the strategy, first raising it in a speech at the Atlantic Council in April 2022 and then taking the message around the world to places like South Korea and India. In Canada, Finance Minister Chrystia Freeland has been predominantly responsible for touting the friend-shoring message, first raising it in a speech to the Brookings Institution in October 2022 which has been described as the “Freeland Doctrine”.
Government officials argue that the practice of friend-shoring can help insulate companies from the repercussions of actions taken by governments in response to geopolitical events globally, such as those taken by the Canadian and U.S. governments in response to the Russian invasion of Ukraine. The practice also responds to calls for greater onshoring, addressing the reality that it is practically impossible to onshore all production needed to support a modern developed economy. This has been explicitly noted by the Biden Administration, which stated in a report on America’s Supply Chains that “[t]he United States cannot make, mine, or manufacture everything ourselves. We must cooperate with our allies and partners to foster and promote collective supply chain resilience”. The friend-shoring alternative helps minimize the effects of the concerns raised above, while allowing for a reasonably diverse and robust source of supply for the economy.
The recent rise of friend-shoring has not been without criticism. Rajan Raghuram, the former chief economist of the International Monetary Fund and former governor of India’s central bank, has argued that friend-shoring is “resurgent protectionism, cloaked and augmented by new geopolitical rivalries”. He also criticized the initiative as “concentrating production within the gated community of advanced communities”, as developed countries seek to trade with other countries with similar values and institutions, which, in practice “will mean transacting only with countries at similar levels of development”. The Financial Post’s Marisa Coulton noted that friend-shoring may also run counter to the mandate of organizations like the World Trade Organization, whose Director General has already criticized the initiative. It may also reduce the resiliency of supply chains by narrowing the potential sources of supply of goods, particularly for resources that are only found in certain jurisdictions.
What is the Canadian Government doing to Increase Friend-shoring
Though there has been no explicit framework or action plan laid out by the Canadian government with regards to friend-shoring, there have been indications that Canada generally aligns with the core goals of friend-shoring, which could impact (even implicitly) rationale behind some government decision-making.
For example, though Canada’s recently released Indo-Pacific Strategy does not explicitly state that friend-shoring is a goal of Canada’s strategy in the region, the policy direction of Canada’s strategy in the region clearly reflect some aspects of friend-shoring. For example, in referring to India as a “critical partner” in the region and one with whom Canada will seek to grow its economic ties, the policy document notes that “Canada and India have a shared tradition of democracy and pluralism [and] a common commitment to a rules-based international system and multilateralism” – a rationale that seems to draw on the concept of friend-shoring. With regards to China, it notes that Canada is “improving Trade Commissioner Service for Canadian exporters to provide services that ensure commercial opportunities are consistent with national security” and that “Canada will continue to protect Canadian market access in China while working with clients to diversify within, and beyond, that market”. The strategy reflects a view that trade with China, which it refers to as a “disruptive global power”, will continue, but the government will not be unreservedly encouraging growth in trade with China.
Canada’s activities with regards to bilateral investment treaties also indicates that Canada is seeking to continue to strengthen its trade ties with allies. Long forgotten is Canada’s proposed trade agreement with China, which Prime Minister Trudeau indicated the Government was pursuing as recently as fall 2018. Instead, Canada is currently engaged in active negotiations with India, the United Kingdom and the ASEAN group of nations to develop free trade agreements. This would add to the extensive agreements that are already in place, Canada being the only G7 nation with agreements in place with all other G7 members.
Canada has also imposed greater restrictions on trade with ‘unfriendly’ nations in recent times. The sanctions imposed on Russia after its invasion of Ukraine are among the most impactful, prohibiting dealing with a vast segment of the Russian economy, and escalating regularly. There have been other measures as well, including the prohibition on the importation of goods made wholly or in part by forced labour, and forcing the divestment of investments by three Chinese firms in Canadian companies that operate in the critical minerals sector. None of these mechanisms are new, and these actions are not out of step with the position the government has been taking on these issues in recent times. However, these actions align with the goals of friend-shoring, and therefore may provide insight into possible government action to come.
How Canadian Companies should respond to Friend-shoring
With little guidance on what comprehensive actions, if any, the Canadian government may seek to implement to encourage friend-shoring, it can be difficult for Canadian companies to determine how to respond to this call to action from the government. However, there are a few concrete steps that Canadian companies can take now. These include evaluating their suppliers (including suppliers of their suppliers) to determine their exposure to sourcing from countries that may be deemed ‘unfriendly’ such that they could be subject to government action, and considering the impact on their business should any of these sources be threatened or eliminated due to government action. Canadian companies may also consider how they can take advantage of the trade agreements Canada has in place that allow for preferential dealing with a large number of nations. Though it is unclear what countries may be considered ‘unfriendly’, the fact that Canada has entered into a trade agreement with a nation, particularly if it was entered into recently, makes it less likely that this nation would be considered ‘unfriendly’ and less likely to be subject to friend-shoring policy and law-making that could upset supply chain structures.