The soaring price of oil has dramatically increased the cost of moving goods around the globe, posing a major threat to price stability and overseas manufacturing, according to a report released today from CIBC World Markets.

“Exploding transport costs may soon remove the single most important brake on inflation over the last decade – wage arbitrage with China,” says Jeff Rubin, chief economist and chief strategist at CIBC World Markets. “Not that Chinese manufacturing wages won’t still warrant arbitrage. But in today’s world of triple-digit oil prices, distance costs money.”

The report finds that the cost of shipping a standard 40-foot container from East Asia to the North American east coast has already tripled since 2000 and will double again as oil prices head towards US$200 per barrel. These soaring energy costs are threatening to offset decades of trade liberalization and force some overseas manufacturing to return closer to home, CIBC economists say.

“Unless that container is chock full of diamonds, its shipping costs have suddenly inflated the cost of whatever is inside,” says Rubin. “And those inflated costs get passed onto the Consumer Price Index when you buy that good at your local retailer. As oil prices keep rising, pretty soon those transport costs start cancelling out the East Asian wage advantage.”

Rubin says that these forces may reverse the impact of globalization. “Higher energy prices are impacting transport costs at an unprecedented rate. So much so, that the cost of moving goods, not the cost of tariffs, is the largest barrier to global trade today.”

The report notes that it currently costs US$8,000 to ship a standard 40-foot container from Shanghai to the North American east coast, including in-land transportation. That’s up from just US$3,000 in 2000 when oil was US$20 per barrel. At US$200 per barrel of oil, the cost to ship the same container is likely to reach US $15,000.

According to the report, the impacts of these rising costs are already being seen in capital intensive manufacturing that carry a high ratio of freight costs to the final sale price, such as steel production. Soaring transport costs, first on importing coal and iron to China and then exporting finished steel overseas, have more than eroded the wage advantage and suddenly rendered Chinese-made steel uncompetitive in the U.S. market. Underscoring this is the fact that China’s steel exports to the U.S. are falling by more than 20% year over year, while U.S. domestic steel production has risen by almost 10%.

“That’s great news if you are the United Steelworkers of America,” says Rubin. “Long lost jobs will soon be coming home. And the more that oil and transport costs rise for Chinese steel exporters, the more that North American steel wage rates can grow. But if you’re a steel buyer, your costs are going up regardless of whether you’re sourcing from China or Pittsburgh.”

Converting transport costs into tariff equivalents shows how disruptive soaring energy prices can be. “Even at US$100 per barrel of oil, transport costs outweigh the impact of tariffs for all of America’s trading partners, including Canada and Mexico.”

Rubin says that goods with a low value-to-freight ratio will be the most sensitive to rising transport costs. A “surprisingly high percentage” of Chinese exports to North America fall in this category, and include furniture, apparel, footwear, metal manufacturing and industrial machinery, he notes.

Rubin says there is “certainly no reason why we should not expect to see at least comparable if not greater trade diversification” than was seen during the oil shocks of the 1970s. “Instead of finding cheap labour half way around the world, the key will be to find the cheapest labour force within reasonable shipping distance to your market.”

In that type of world, Mexico’s proximity to the rest of North America combined with its labour costs will give it a second chance to compete with Pacific Rim production, says Rubin who further predicts that when oil prices reach US$200 a barrel, it will cost three times as much to ship the same container from China than from Mexico.

“In a world of triple-digit oil prices, distance costs money. And while trade liberalization and technology may have flattened the world, rising transport prices will once again make it rounder,” says Rubin.