Why do we have to resist geo-economic fragmentation?

Written by: Kristalina Georgieva, Gita Gopinath, Gela Pazarbashioglu

As policymakers and business leaders head to Davos, the world economy faces a test that may be the biggest since World War II.

Russia’s invasion of Ukraine has exacerbated the situation with the COVID-19 pandemic – that is, making crisis after crisis – killing lives, slowing growth and pushing inflation higher. Rising food and energy prices place a heavy burden on families around the world. The tighter financial conditions put further pressure on countries with heavy debt, companies and households. Countries and companies are reconsidering global supply chains with endless disruptions.

Add to all this the sharp rise in financial market volatility and the constant threat of climate change, and you may face a myriad of disasters.

However, our ability to respond is hampered by another consequence of the war in Ukraine – the sharp increase in the risks of geo-economic fragmentation.

How did we get to this point?

Over the past three decades, the flow of capital, goods, services and people has transformed our world, driven by the spread of new technologies and ideas. These forces of integration boosted productivity and raised living standards, tripled the size of the world economy and lifted 1.3 billion people out of extreme poverty.

However, the successes of the merger brought about a state of inertia. Inequality in the distribution of income, wealth and opportunities has long persisted within a large number of countries – and between countries over the past few years. People are being left behind as industries change in the midst of global competition. Governments have struggled to help them.

Tensions over trade, technology standards and security issues persisted for years, dampening growth – and undermining confidence in the current global economic order. Uncertainty about trade policy alone reduced global GDP by almost 1% in 2019, according to IMF research. Since the beginning of the war in Ukraine, our follow-up indicates that some 30 countries have placed restrictions on trade in food, energy and other important commodities.

The cost of further disintegration will be unaffordable for all countries. It will affect people at all income levels – from high-paid professionals and middle-income exporting factory workers to low-wage workers who depend on food imports for their livelihoods. More people will undertake dangerous journeys to pursue opportunities elsewhere.

Let us remember the effects of restructured supply chains and higher investment barriers. These consequences will make it more difficult for developing countries to sell their goods to the world’s rich countries, gain expertise and build wealth. It will also force advanced economies to pay more for the same products, which will drive up inflation. It will also dampen productivity when these countries lose their current innovation partners. Estimates in related IMF research suggest that technological fragmentation alone could lead to a loss of 5% of GDP in many countries.

Or remember the new transaction costs for individuals and businesses as countries set up separate parallel payment systems to mitigate the risks of potential economic sanctions.

We therefore have a choice: either succumb to the forces of geo-economic fragmentation that will make our world poorer and more dangerous, or reform the way we work together – to progress in addressing our common challenges.

Restoring confidence in the global system – four priorities

To restore confidence that the rules-based world order can work for all countries, we must weave our economic fabric in new and better ways. If we can start focusing on urgent issues where progress will clearly benefit everyone, we can build the trust needed to work together in other areas of conflict.

Here are the four priorities that can only be promoted by working together.

First, strengthening trade to improve solidity:

We can now start by lowering trade barriers to alleviate supply shortages and lower prices for food and other products.

The need for import diversification is not only for countries, but also for companies – to ensure supply chains and preserve the great business benefits of global integration. Although geo-strategic considerations will drive certain supply decisions, they do not necessarily lead to disintegration. Business leaders play an important role in this regard.

And new IMF research suggests that diversification could halve potential GDP losses due to supply disruptions. Car manufacturers and others have found that a product design that uses replaceable or more readily available parts can reduce losses by 80%.

Export diversification will also increase the resilience of the economy. Some of the policies that help in this regard are: strengthening the infrastructure to help businesses shorten supply chains, increase the availability of the internet with broadband network technology and improve the business environment. The WHO can also help by providing overall support for more transparent and predictable trade policies.

Second, strengthen joint efforts to deal with debt:

Since 60% of low-income countries have significant debt vulnerabilities, some of these countries will need debt restructuring. Without close cooperation to alleviate these burdens, the situation will worsen for both these countries and their creditors. However, bringing debt back to sustainable limits will attract new investment and stimulate inclusive growth.

Therefore, it is necessary to start without delay the improvement of the common framework established by the Group of Twenty to address debt. This means drawing up clear procedures and timetables for debtors and creditors — and making the framework available to other weak and indebted countries.

Third, modernization of cross-border payment systems:

Inefficient propulsion systems represent another obstacle to inclusive growth. In the case of workers’ remittances abroad, the average cost of one international transfer is 6.3%, meaning $ 45 billion a year goes into the hands of intermediaries — and away from millions of lower-income families.

Is there a solution? Countries can work together to create a global public digital platform – a new piece of payment infrastructure with clear rules – so that everyone can send money at low cost, speed and security. It can also link various types of money, including central bank digital currencies.

Fourth, addressing climate change – the existential challenge that hangs over everything:

At the COP26 climate conference, a group of 130 countries collectively responsible for 80% of world emissions promised to reduce carbon to net zero by the middle of this century.

However, we must bridge the gap between ambition and politics. To accelerate the green transition, the fund called for a comprehensive approach that combines carbon pricing with investment in renewable energy, and compensation for those affected.

Progress for the people

Clearly, we have all moved too slowly to address our weakening economic structure. However, if countries can find ways to come together in the face of these pressing issues that cross national borders and affect us, we can begin to reduce fragmentation and strengthen our cooperation. There are some signs of hope.

When the pandemic struck, governments took coordinated monetary and fiscal measures to prevent another Great Depression. International cooperation was needed to reach the vaccines in record time. In terms of global corporate taxes, 137 countries have agreed on reforms to ensure that multinational corporations pay their fair share wherever they do business.

Last year, IMF members supported a historic $ 650 billion SDR allocation to strengthen member states’ reserves. Even more recently, our members have agreed to create the Resilience and Sustainability Trust – which provides long-term funding at an affordable cost to help our most vulnerable member states tackle climate change and future pandemics.

To make further progress, we must all adhere to a simple guiding principle: Policies are for the people. Instead of globalizing profits, we need to localize the benefits of an interconnected world.

Let’s start in every country with the communities that have lost out on the old globalization, and suffered another setback in the pandemic: investing in their health and education. Help fired workers to learn the necessary skills and switch to different careers in growing industries. Companies that work in exports, for example, pay higher salaries on average – which is the case for greener jobs.

Multilateral institutions can also play an instrumental role in reforming global cooperation and resistance to fragmentation, including by further strengthening their governance to ensure that they reflect the changing dynamics of the global economy – and the Fund’s forthcoming review of countries ‘s capital and quotas will be such an opportunity. It can also invest its power to gather the parties, and maximize the use of its various tools. The Fund can help, for example, through its diverse financial instruments, bilateral and global supervision, and egalitarian approach to treating Member States.

There is no magic bullet to cure the most destructive forms of spread. However, by working with all stakeholders on pressing common concerns, we can begin to weave the threads of a stronger and more inclusive global economy.

https://www.imf.org

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