Geopolitics Are Changing. Venture Capital Must, Too.
The era of American hegemony is ending. It is being replaced by a new geopolitical world order defined by great power competition and increased nationalism, a transition that will have enormous consequences for the global economy. This new environment will mean the end of, or at least a shift away from, the unique conditions that fueled global growth and development for the past 30 years, and will introduce increasingly complex, systemic challenges that will require new types of technology, innovation, and collaboration to solve.
Simply put, the technologies and companies that will thrive in this new era will require more capital, more patience, and greater levels of governance than before. In order to build and support the next generation of enduring businesses, we need to develop a new approach to company building, one that transcends, and ultimately redefines, venture capital.
The Return of Politics and Rise of Re-Globalization
The fall of the Berlin Wall in 1989 seemed to mark what Francis Fukuyama termed the “end of history,” meaning the end of centuries of contestation over the best political and economic model for nations. Soon after, the collapse of the Soviet Union reconfirmed the U.S.’s role as the world’s sole, uncontested superpower, and for nearly three decades thereafter, the world experienced something very rare: the absence of great power competition. This led to the adoption of American policy preferences in many parts of the world — free market economics and trade, democratic politics, and open technology platforms. These developments fueled enormous global growth, leading countries to de-prioritize their national political interests in the pursuit of economic prosperity, a phenomenon that Thomas Friedman called the “golden straitjacket.” Even China prioritized economic reform over centralized government control during this period by opening its economy to foreign investment and global trade — a tectonic shift in the Chinese Communist Party’s governing ideology.
This period of free market reform, globalization, and technological transformation also had the effect of lowering prices and dampening inflation. These forces, as well as generally accommodative monetary policy around the world, produced a very unusual macroeconomic environment — one that was conducive to new financial products that spurred innovation and growth. For industries like private equity, and even venture capital, the ability to buy, refinance, and sell assets became a powerful profit multiplier that allowed even marginal investments to generate strong, positive returns. In an otherwise low-yield environment, these returns attracted new levels of investment and an abundance of capital, fueling a new generation of companies and technologies.
Like all holidays, however, the world’s “holiday from history” has ended. American dominance has begun to wane and great power competition is on the rise — evidenced most clearly by the rise of China, but also with regional blocs like the EU and countries such as India and Brazil. At the same time, the impact and increased frequency of global crises have laid bare the critical vulnerabilities of a tightly connected system that prioritized openness and speed over safety and stability. In their own ways, the East Asian financial crisis, the bursting of the tech bubble, September 11th, the global financial crisis, the Covid-19 pandemic, and most recently, the war in Ukraine, all demonstrated the risks of a dynamic, globalized world, where local events quickly become global crises with enormous economic, social, and geopolitical ramifications. As countries around the world sought to recover from each of these challenges and protect themselves against the next, and as great power competition rose, countries began to look beyond economics and global efficiency and re-prioritize domestic politics and global resilience. Examples of such behaviors abound, from Brexit and immigration controls to economic sanctions and supply chain reshoring.
While many have posited that such shifts will result in a period of de-globalization — with countries attempting to undo all of the interdependencies of the past 30 years in order to fortify their own national systems — such predictions miss a basic truth: most national economies depend on globalization to sustain their domestic industries. The trade-to-GDP ratios of both Mexico and Germany, for example, hover over 80%, compared to just 25% for the U.S.
It is both too late and too undesirable to entirely unwind globalization, but a renewed focus on national politics will cause it to take a different form: one of re-globalization. In a re-globalized world order, countries will seek to balance the benefits of globalization with the desire to build greater independence and resiliency in their most complex and systemically important industries: healthcare, defense, energy, manufacturing, and financial services. This will require enormous amounts of capital and patience as countries and companies look to strengthen and re-architect their own domestic R&D, manufacturing, and distribution networks. The profound nature of these challenges will require an entirely new approach to company building and innovation, altering the model and nature of venture capital itself.
Transcending Venture Capital
In the era of economics over politics, it seemed like we were moving to a borderless world where the digital reigned over the physical, and where technologies easily proliferated across the globe through unencumbered markets. These conditions, along with the associated benefits of low prices, low inflation, and low interest rates, led to new forms of financial engineering that made capital a point of leverage and allowed the promises of Moore’s and Metcalfe’s laws to flourish.
It was in this period that modern venture capital, as we know the industry today, was born. Companies were able to access relatively inexpensive capital to fund unproven and unprofitable business models as technology sought to digitize a globally connected world. The capital and technology requirements for this digitization were relatively light, and opportunities seemed boundless given limited political interference in the face of economic progress. To take advantage of these dynamics, technology and innovation had the tendency (if not the intention) to “move fast and break things,” and success in venture capital was defined by rapid scaling, quick exits, high returns, and limited governance.
In this new era of re-globalization, by contrast, technology will be called upon to solve much more complex and high-stakes structural challenges without the benefits of unrestricted markets, low interest rates, and “easy money.” This will require a new model of venture capital, one that espouses larger capital commitments, longer investment horizons, greater levels of collaboration, and more significant degrees and depth of governance.
Nowhere are the complexities of re-globalization and their impact on the future of company building more apparent than in the global semiconductor industry. After Covid laid bare the vulnerabilities of the global supply chain, and as tensions between China and Taiwan flared, the U.S. announced plans to invest $280 billion to fortify its domestic semiconductor R&D and production capabilities as well as a series of export restrictions on advanced semiconductor inputs in order to bolster and sustain its competitive advantage against China.
Achieving such an ambitious re-architecting of this complex industry will not simply entail the creation of new, technically sophisticated U.S. companies that can quickly produce advanced chips at scale. It will require huge amounts of capital and cooperation with government agencies and existing industrial players to completely restructure this supply chain — from R&D to component materials and manufacturing, all the way through distribution and trade.
New companies tackling such challenges will be born with completely different levels of ambition, business models, and distribution networks than what we have seen before and progress to achieve these goals will not be measured in years, or perhaps even decades. And the scale and complexity of such challenges are not unique to semiconductors, in this new world order. After experiencing the impact and vulnerabilities of vaccine shortages during Covid, many countries are now working to fortify their domestic biotech research and production capabilities so that they do not need to rely on the success and generosity of other countries to protect their own citizens. Creating such global resiliency by constructing, or even strengthening, a national biotech industry in any country will entail an enormous amount of development and will take decades — far longer than the ten-year fund lives that define today’s venture capital model.
Additionally, as the financing requirements for such challenges mount in a tightening global economic environment, technology will need to provide the leverage that financial engineering and government funding can no longer underwrite. The pace and scale of the investment will require technology to partner with businesses and existing systems in unprecedented ways. Consider energy: Last year, the UK and EU governments announced a series of emergency energy subsidies to combat escalating energy costs on account of Russia’s invasion of Ukraine, bringing the total cost of such measures to over $500 billion. However, with debt-to-GDP ratios of over 100% in the UK and across much of Europe, countries will simply be unable to afford this magnitude of financial support indefinitely. Where once financing might have helped to buoy plans for national energy resilience, technology will now have to assume much greater efficiency and impact.
The same is true of U.S. healthcare. As the population ages and gets more sick, the risk of another global pandemic looms, and the cost of capital increases, neither private companies nor the government will be able to spend hundreds of billions of dollars on new drug development or to continually fund unprofitable models of care. Technological innovation in AI for drug discovery, infrastructure and payments systems, and digital care, among many others, will be the only way to materially bend the cost curve in these complex, systemically important sectors, and change can only happen at the scale required by leveraging the resources and partnership of existing systems.
While the challenges of re-globalization will require new models of financing and collaboration, their most significant impact will be on the level of responsibility and depth of governance that venture capitalists will have to assume given the profundity of these challenges and their potential implications on people and societies. And this responsibility becomes ever more acute as we look to build next-generation defense systems, decentralized financial networks, and utilize artificial intelligence in areas previously left to human reasoning and judgment.
In the past, more limited capital requirements and shorter investment horizons have unfortunately enabled investors to abdicate governance and plans for responsible innovation to management teams or to punt such concerns to other investors down the line. This has had damaging effects in social media and on environmental sustainability, and in many cases, inhibited inclusive prosperity. Going forward, the challenges of this new environment will require much longer investment horizons and greater levels of financial and intellectual engagement, more closely aligning us to outcomes and forcing us to more actively govern the technologies, systems, and companies that we will look to innovate.
A New Era of Investment
Over the last 30 years, venture capital has been both a contributor to, and beneficiary of, the rapid pace of innovation that defined the era of ‘economics over politics’. Participants across the industry have come to expect a broadly favorable risk/reward trade-off defined by high returns on relatively short-duration investments that require limited governance. In the era of re-globalization and global resilience, however, these models will no longer suffice. The complexity of today’s challenges and the gravity of the implications of innovation will necessitate a new paradigm for investment — one that prioritizes greater collaboration and a longer-term mindset to build enduring companies. This should not be a cause for pessimism or nostalgia about a vanished “golden age.” Building companies in this new environment will ensure enduring success. Venture capital can continue to thrive if it embraces the new challenges and opportunities of this era and uses them as once-in-a-generation opportunities to re-architect the world.
[Editor’s Note (2/10): This piece has been updated to correct the costs of energy subsidies related to Russia’s invasion of Ukraine.]