## sdnea2023001-s001

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### Annex I — The Interwar Period
- Key characterization: the interwar gold-exchange standard was modelled after the classical gold standard and ill-suited to the transformed post-World War I world economy.
- Structural shifts by 1931:
  - The United States had become the major creditor while most European countries were debtors.
  - Excess productive capacity led surplus countries (the United States, France) to promote exports and discourage imports, sterilizing reserves inflows and vitiating the international adjustment process.
  - Wages had become inflexible; post-war investors preferred deposits and fixed income assets, producing unemployment and bankruptcies when deficit-country central banks raised interest rates.
  - Capital flows shifted away from mostly long-term, stabilizing flows toward more disruptive movements.
- Financial flows and policy interactions:
  - Following the mid-1920s Dawes Plan and loan stabilization of Germany, the gold standard was restored as a less-credible gold-exchange standard.
  - American banks engaged in massive international lending, “averaging a billion dollars a year over 1924-29,” much of it destined for Europe and intermediated by British banks.
  - Capital retrenchment with a New York stock market boom produced a “sudden stop” for Europe.
  - France demanded gold in exchange for accumulated foreign currencies and the U.S. Federal Reserve raised interest rates, producing a huge deflationary shock.
- Crisis dynamics and outcomes:
  - The 1931 failure of Creditanstalt triggered runs on the German Reichsbank’s gold reserves, a standstill on German debt payments, and a speculative attack on sterling that forced Britain off the gold exchange standard.
  - Competitive devaluations, exchange and trade restrictions, and other beggar-thy-neighbor policies contributed to the collapse of world trade and incomes and greatly exacerbated the Great Depression.

### Annex I — The Bretton Woods System
- System design and constraint:
  - Bretton Woods was designed for a period when the United States was expected to remain the major BOP surplus country; the system lacked mechanisms to force surplus countries to revalue.
  - Reserve expansion constraints: growth in international reserves would have to rely on gold production or US balance of payment deficits.
- Structural change by the early 1960s:
  - The United States was running balance of payments deficits and, by the end of the decade, trade deficits as well—creating a “dollar glut” rather than a “dollar shortage.”
  - Private capital flows began to dominate official flows with the growth of the Eurodollar market and industrialized countries’ dismantling of capital controls.
  - The Triffin Dilemma: the need for dollar deficits to supply international reserves undermined confidence in dollar convertibility to gold and therefore in the Bretton Woods system.
- Collapse sequence:
  - Attempts to resolve the Triffin Dilemma included the introduction of the Special Drawing Right and other measures, but by the early 1970s the system was close to collapse.
  - U.S. deficits widened, surplus countries (Germany, Japan) refused to revalue, and rising private capital flows created potential for speculative self-fulfilling devaluation runs.
  - On August 15, 1971, President Nixon suspended official dollar convertibility.
  - After the short-lived Smithsonian Agreement, by early 1974 the major industrialized countries were floating and the collapse of Bretton Woods was complete.

### Annex I — The Global Financial Crisis
- Structural shifts since Bretton Woods:
  - Major industrialized economies accounted for 65-70 percent of world GDP from the 1960s through the end of the 1990s.
  - In the first decade of the twenty-first century, as emerging markets gained importance, the Group of 7’s share fell to 50 percent.
- Post-1997-98 dynamics:
  - Many EMs chose not to rely on foreign capital and pursued export-led growth with competitive exchange rates.
  - Global manufacturing shifted to these countries (notably, but not exclusively, China), where rising incomes and high propensities to save produced higher global savings and lower world real interest rates.
  - Lower labor costs and increased productivity reduced prices for global manufactures, contributing to lower inflation in the AEs and lower nominal interest rates across the yield curve.
- Financial innovations and bubbles:
  - Lower yields and EM central bank accumulation of safe assets facilitated the “originate-and-distribute” model in the United States: commercial banks extended mortgages, packaged them into mortgage-backed securities, and sold them to investment banks.
  - Commercial banks shed originated mortgages, freeing balance sheets to extend more mortgages, fueling a lending boom and house price increases that justified larger mortgages and equity withdrawals.
  - In Europe, the rise of universal banks—spurred by the Single European Market Act, the EC Directive on the Free Movement of Capital, and passporting rights—produced a lending boom partly to the euro area periphery and partly to the United States via regulatory arbitrage.
  - The world evolved into a “triple-bubble” configuration:
    - The United States as the “consumer of last resort” absorbing EM exports and savings.
    - Within the United States, growing reliance on housing-related consumer credit to sustain middle class consumption amid a declining labor share and stagnating real wages.
    - Within the euro area, credit to and deficits of the periphery absorbed savings and exports of euro area surplus countries.
- Collapse: the bursting of these bubbles plunged the world economy into the global financial crisis.

### Annex I — Conclusion: Lessons for the IMS
- Common pattern: interwar 1930s, 1970s Bretton Woods collapse, and 2008 global financial crisis each resulted from the IMS’s difficulty adapting to dramatic structural transformations in the world economy.
- The IMS must meet three core challenges:
  - (i) preventing crises;
  - (ii) promoting an equitable burden of adjustment between surplus and deficit countries;
  - (iii) ensuring sufficient global liquidity.
- Historical perspective provides a sobering assessment of potential fragilities of the current IMS in the face of GEF.
- Prepared by Atish Rex Ghosh

### Annex II — Literature Review for Transmission: The Trade Channel (selected findings)
- Eugster et al. (2022): Upstream and downstream tariffs generally hurt economic activity (e.g., value added, labor productivity and TFP). Higher domestic protection is generally found to be insignificant, bar a borderline-significant negative effect on employment. Higher tariffs on competitors are associated with higher value added and employment.
- Furceri et al. (WBER 2022): Tariff increases are associated with persistent, economically, and statistically significant declines in domestic output and productivity, as well as higher unemployment and inequality, real exchange rate appreciation, and insignificant changes to the trade balance. These effects are asymmetric, being larger when tariffs go up than when they fall.
- Ahn et al. (RIO 2019): A 1 percentage point decline in input tariffs is estimated to increase total factor productivity by about 2 percent in the sector considered.
- Barattieri et al. (JIE 2021): Protectionism acts as a supply shock, causing output to fall and inflation to rise in the short run; calibrations show protectionism is not an effective tool for macroeconomic stimulus.
- Freund et al. (2022): After the 2011 earthquake in Japan, the shock did not lead to reshoring, nearshoring, or diversification across non-Japanese suppliers; trade in intermediate products was disrupted less than trade in final goods.

### Annex II — Technology Diffusion Channel (selected findings)
- Evenett & Fritz (2021): Goods exposed to subsidies from the EU/US (excl. China) comprise 28% of global goods. 84% of goods imports into China were in products where local rivals receive subsidies.
- Evenett & Fritz (2022): Document (1) sharp increase in regulatory interventions in the digital sector since 2020, (2) increase in regulatory heterogeneity posing risks to digital fragmentation, (3) larger barriers between national digital sectors, (4) subsidy races, in particular in semiconductor sector, (5) uncoordinated state action in the digital domain.
- OECD (2021): (1) below-market borrowings occur more frequently in heavy industries, (2) below-market equity occurs more frequently in high-tech industries, (3) firms with more than 25% government investment tend to benefit more from below-market borrowings, (4) below-market finance may have been a contributor to excess capacity in a number of sectors, (5) government support tends to be negatively correlated with firm productivity, (6) concerns about lack of transparency w.r.t. below-market finance.

### Annex II — Labor Flows Channel (selected findings)
- Clemens et al. (2018): Immigration restrictions in the Mexican bracero exclusion did not substantially raise wages or employment for domestic workers in the sector; employers adjusted by changing production techniques toward more capital-intensity and changing production levels.
- Mayda et al. (2018): Restrictions on H-1B visas significantly lowered new employment of workers in the same visa category, especially at the top and bottom of the wage distribution.
- Bahar et al. (2020): The 2020 imposition of US H-1B and L1 visa restrictions caused negative cumulative average abnormal returns of up to 0.45% relative to pre-event firm valuation, equivalent to 100 billion of US dollars of losses.
- Bloom et al. (2018): Between 2010-2030, about 734mn jobs need to be created to meet population growth, compositional changes in age and sex and related labour force participation rates, and achievement of target unemployment levels of ≤ 4% for adults and ≤ 8% for youth.

### Annex II — Capital Flows Channel (selected findings)
- Caldara & Iacoviello (2022): Higher geopolitical risk tends to lower future investment and employment, increases disaster probability and tail risks, and divert capital flows away from EMEs towards AEs.
- Desai et al. (2009): 10% greater foreign investment is associated with 2.6% greater domestic investment, and 10% greater foreign wage bill is associated with 3.7% greater domestic wage bill.
- Bau & Matray (2022): Access to foreign capital reduced capital misallocation and raised aggregate productivity of the Indian manufacturing sector by at least 6.5%.

### Annex II — Global Public Goods Channel (selected findings)
- Aiyar et al. (2022): International spillovers accounted for up to 60 percent of the observed decline in trade in the early phase of the pandemic; effect was short-lived and concentrated among goods produced in key global value chains.
- Mora et al. (2022, modeling): Large and interconnected economies vulnerable to climate change could require $1.8 trillion in international reserves (2 percent of 2019’s global GDP). Domestic and multilateral macroeconomic policies can help contain these global losses to about $0.8 trillion.
- Linsenmeier et al. (2022): Adoption of carbon pricing in Canada increases the probability of subsequent adoption in the USA by about 11%. Simulations indicate that by 2050, about 11 % more countries will adopt carbon pricing in a scenario with diffusion than in a scenario without diffusion.

### Annex II — The Uncertainty Channel (selected findings)
- Bloom et al. (2018): Uncertainty shocks (similar in size to US productivity shocks) can reduce gross domestic product by around 2.5%.
- Baker, Bloom & David (2016): Policy uncertainty comoves with equity price volatility, reduces investment and employment in policy-sensitive sectors; findings confirmed for 12 major economies.
- Bloom et al. (2022): Brexit referendum led to (1) large long-lasting increase in uncertainty, (2) fall in investment by 11% over the first three years post-referendum, (3) reduction in UK productivity by 2-5% over first three years.
- Constantinescu et al. (2019): A 1% increase in policy uncertainty is associated with a ... [content truncated in source]

### Measured trade impact and firm-level political risk
- Overview: measured trade impact
  - 0.02 percentage point drop in growth of goods and services trade.
  - This amounts to a 1% reduction in world trade growth between mid-2018 and mid-2019.
  - The impact of policy uncertainty on trade linked to global value chains is similar to overall trade.
- Firm-level political risk (Hassan et al. (2019)):
  - Exposure to political risk reduces hiring and investment by firms.
  - Firms respond by actively lobbying and donating to politicians.
  - Dispersion of firm-level political risk rises during episodes of high aggregate political risk.

### Selected literature — Uncertainty Channel (empirical and modelling exercises)
- Fernandez-Villaverde et al. (2015): Unexpected changes in uncertainty about fiscal policy sizably adversely affect economic activity; likely occurs when markups increase endogenously due to uncertainty.
- Cieslak et al. (2022): Uncertainty about inflation strongly predicts a more hawkish FOMC policy stance; policymakers' uncertainty about growth does not affect policy decisions.
- Berestycki et al. (2022): Climate Policy Uncertainty significantly lowers investment, particularly in pollution-intensive sectors and among capital-intensive companies.
- Basu & Bundick (2017): A one standard deviation rise in uncertainty generates an output drop by 0.2%; adverse effect worsens when monetary policy is constrained.
- Acemoglu et al. (2015): Model rationalizes political transitions in environments with stochastic changes in payoffs and political powers; captures temporary coalitions and strategic interactions.

*Geoeconomics Fragmentation and the Future of Multilateralism — Staff Discussion Note No. SDN/2023/001*

### Annex I. Future-Proofing the International

### Annex I. Future-Proofing the International Monetary System: Historical Perspective

### The Interwar Period
- The interwar gold-exchange standard was modelled after the classical gold standard and ill-suited to the transformed post-World War I world economy.
- Key structural shifts by 1931:
  - The United States had become the major creditor while most European countries were debtors.
  - Excess productive capacity led surplus countries (the United States, France) to promote exports and discourage imports, sterilizing reserves inflows and vitiating the international adjustment process.
  - Wages had become inflexible; post-war investors preferred deposits and fixed income assets, producing unemployment and bankruptcies when deficit-country central banks raised interest rates.
  - Capital flows shifted away from mostly long-term, stabilizing flows toward more disruptive movements.
- Financial flows and policy interactions:
  - Following the mid-1920s Dawes Plan and loan stabilization of Germany, the gold standard was restored as a less-credible gold-exchange standard.
  - American banks engaged in massive international lending, “averaging a billion dollars a year over 1924-29,” much of it destined for Europe and intermediated by British banks.
  - Capital retrenchment with a New York stock market boom produced a “sudden stop” for Europe.
  - France demanded gold in exchange for accumulated foreign currencies and the U.S. Federal Reserve raised interest rates, producing a huge deflationary shock.
- Crisis dynamics and outcomes:
  - The 1931 failure of Creditanstalt triggered runs on the German Reichsbank’s gold reserves, a standstill on German debt payments, and a speculative attack on sterling that forced Britain off the gold exchange standard.
  - Competitive devaluations, exchange and trade restrictions, and other beggar-thy-neighbor policies contributed to the collapse of world trade and incomes and greatly exacerbated the Great Depression.

### The Bretton Woods System
- Bretton Woods was designed for a period when the United States was expected to remain the major BOP surplus country; the system lacked mechanisms to force surplus countries to revalue.
- Reserve expansion constraints: growth in international reserves would have to rely on gold production or US balance of payment deficits.
- By the early 1960s the world had changed:
  - The United States was running balance of payments deficits and, by the end of the decade, trade deficits as well—creating a “dollar glut” rather than a “dollar shortage.”
  - Private capital flows began to dominate official flows with the growth of the Eurodollar market and industrialized countries’ dismantling of capital controls.
  - The Triffin Dilemma: the need for dollar deficits to supply international reserves undermined confidence in dollar convertibility to gold and therefore in the Bretton Woods system.
- Collapse sequence:
  - Attempts to resolve the Triffin Dilemma included the introduction of the Special Drawing Right and other measures, but by the early 1970s the system was close to collapse.
  - U.S. deficits widened, surplus countries (Germany, Japan) refused to revalue, and rising private capital flows created potential for speculative self-fulfilling devaluation runs.
  - On August 15, 1971, President Nixon suspended official dollar convertibility.
  - After the short-lived Smithsonian Agreement, by early 1974 the major industrialized countries were floating and the collapse of Bretton Woods was complete.

### The Global Financial Crisis
- Structural shifts following Bretton Woods:
  - Major industrialized economies accounted for 65-70 percent of world GDP from the 1960s through the end of the 1990s.
  - In the first decade of the twenty-first century, as emerging markets gained importance, the Group of 7’s share fell to 50 percent.
- Post-1997-98 dynamics:
  - Many EMs chose not to rely on foreign capital and pursued export-led growth with competitive exchange rates.
  - Global manufacturing shifted to these countries (notably, but not exclusively, China), where rising incomes and high propensities to save produced higher global savings and lower world real interest rates.
  - Lower labor costs and increased productivity reduced prices for global manufactures, contributing to lower inflation in the AEs and lower nominal interest rates across the yield curve.
- Financial innovations and bubbles:
  - Lower yields and EM central bank accumulation of safe assets facilitated the “originate-and-distribute” model in the United States: commercial banks extended mortgages, packaged them into mortgage-backed securities, and sold them to investment banks.
  - Commercial banks shed originated mortgages, freeing balance sheets to extend more mortgages, fueling a lending boom and house price increases that justified larger mortgages and equity withdrawals.
  - In Europe, the rise of universal banks—spurred by the Single European Market Act, the EC Directive on the Free Movement of Capital, and passporting rights—produced a lending boom partly to the euro area periphery and partly to the United States via regulatory arbitrage.
  - The world evolved into a “triple-bubble” configuration:
    - The United States as the “consumer of last resort” absorbing EM exports and savings.
    - Within the United States, growing reliance on housing-related consumer credit to sustain middle class consumption amid a declining labor share and stagnating real wages.
    - Within the euro area, credit to and deficits of the periphery absorbed savings and exports of euro area surplus countries.
- Collapse: the bursting of these bubbles plunged the world economy into the global financial crisis.

### Conclusion: Lessons for the IMS
- Common pattern across episodes (interwar 1930s, 1970s Bretton Woods collapse, 2008 global financial crisis): each episode resulted from the IMS’s difficulty adapting to dramatic structural transformations in the world economy.
- The IMS must meet three core challenges:
  - (i) preventing crises;
  - (ii) promoting an equitable burden of adjustment between surplus and deficit countries;
  - (iii) ensuring sufficient global liquidity.
- Historical perspective provides a sobering assessment of potential fragilities of the current IMS in the face of GEF.

*Prepared by Atish Rex Ghosh*

### Annex II.  Literature Review for Transmission

### Annex II.  Literature Review for Transmission

### The Trade Channel — Selected literature (main findings)
- Eugster et al. (2022): Upstream and downstream tariffs generally hurt economic activity (e.g., value added, labor productivity and TFP). Higher domestic protection is generally found to be insignificant, bar a borderline-significant negative effect on employment. Higher tariffs on competitors are associated with higher value added and employment.  
- Furceri et al. (WBER 2022): Tariff increases are associated with persistent, economically, and statistically significant declines in domestic output and productivity, as well as higher unemployment and inequality, real exchange rate appreciation, and insignificant changes to the trade balance. These effects are asymmetric, being larger when tariffs go up than when they fall.  
- Ahn et al. (RIO 2019): Results point to a dominant role of the indirect input market channel in fostering productivity gains. A 1 percentage point decline in input tariffs is estimated to increase total factor productivity by about 2 percent in the sector considered.  
- Barattieri et al. (JIE 2021): Country-level and panel VARs show that protectionism acts as a supply shock, causing output to fall and inflation to rise in the short run. Calibrations show protectionism is not an effective tool for macroeconomic stimulus.  
- Freund et al. (2022): After the 2011 earthquake in Japan, the shock did not lead to reshoring, nearshoring, or diversification across non-Japanese suppliers; trade in intermediate products was disrupted less than trade in final goods. Imports shifted to new suppliers where dependence on Japan was greater; production relocated to developing countries rather than to other top exporters, and to larger countries.  
- Cerutti et al. (2019): Under the assumption that the U.S.-China trade gap is closed by China stepping up purchases of U.S. goods and in the absence of a meaningful boost in China’s domestic demand and imports, bilateral purchase commitments are likely to generate substantial trade diversion effects and could impose significant losses on affected countries if accompanied by market segmentation.  
- Caceres et al. (2019, modeling): Across alternative scenarios on the US-China trade war, the overall effects on GDP across countries tend to be relatively small albeit negative in most cases; sectoral disruptions and positive and negative spillovers to highly exposed ‘bystander’ economies can be large; heterogeneity at the subnational level in the U.S. with richer states benefiting in some scenarios.  
- Ossa (JIE 2015, modeling): Using 50 countries and 252 industries to estimate trade elasticities, gains from trade (a move from autarky to 2007 levels of trade) range from 49.3% until 62.5%.  
- Reyes-Heroles et al. (IMFER 2020, modeling): A uniform 5 percentage point increase in trade costs has a sizable negative impact on global output and welfare; average effects across AEs and EMs broadly similar, but large within-group differences and much larger variance across EMs due to heterogeneity in production structure and factor supplies.

### The Technology Diffusion Channel — Selected literature (main findings)
- Evenett & Fritz (2021): Document pervasive nature of subsidies: goods exposed to subsidies from the EU/US (excl. China) comprise 28% of global goods. 84% of goods imports into China were in products where local rivals receive subsidies. Adverse cumulative effect of many (hidden) corporate subsidies on the competitive environment of foreign manufacturers exporting to China/EU/US.  
- Evenett & Fritz (2022): Document (1) sharp increase in regulatory interventions in the digital sector since 2020, (2) increase in regulatory heterogeneity posing risks to digital fragmentation, (3) larger barriers between national digital sectors, (4) subsidy races, in particular in semiconductor sector, (5) uncoordinated state action in the digital domain.  
- OECD (2021): Document evidence that (1) below-market borrowings occur more frequently in heavy industries (with excess capacity), (2) below-market equity occurs more frequently in high-tech industries (aerospace and semiconductors), (3) firms with more than 25% government investment tend to benefit more from below-market borrowings, (4) below-market finance may have been a contributor to excess capacity in a number of sectors, (5) government support tends to be negatively correlated with firm productivity, (6) concerns about lack of transparency w.r.t. below-market finance.  
- Drake et al. (2016): Document a vast array of examples of technical, governmental, and commercial fragmentation of the internet observed in previous years.  
- Garcia-Macia & Goyal (2020, modeling): Erecting export bans in addition to import bans on cyber technologies can be optimal for countries seeking to limit technological diffusion to competing countries, but such practices involve substantial costs to global welfare due to loss of access to digital inputs or inefficiencies in production.  
- Buera & Oberfield (2020, modeling): Technology diffusion can account for a doubling of both gains from trade and the fraction of variation of TFP growth accounted for by changes in trade. The ability of trade barriers to explain changes in TFP from 1962–2000 is up to three times as large when gains from trade are dynamic.

### The Labor Flows Channel — Selected literature (main findings)
- Clemens et al. (2018): Immigration restrictions in the Mexican bracero exclusion did not substantially raise wages or employment for domestic workers in the sector; employers adjusted by changing production techniques toward more capital-intensity and changing production levels.  
- Mayda et al. (2018): Restrictions on H-1B visas significantly lowered new employment of workers in the same visa category, especially at the top and bottom of the wage distribution.  
- Abramitzky et al. (forthcoming): Loss of immigrant workers greater in local labor markets more exposed to national immigration quotas, but no benefits to US-born workers because of (i) internal migration, and (ii) shift to more capital-intensive production in some local markets.  
- Kato & Sparber (2013): Immigration restrictions led to a reduction in entry test scores of international applicants by 1.5%, disproportionately discouraging high-ability applicants from pursuing higher education in the US.  
- Glennon (2020): Visa restrictions caused a rise in employment in foreign affiliates at the intensive and extensive margin, suggesting immigration barriers increase multinationals' offshoring of jobs.  
- Bahar et al. (2020): The 2020 imposition of US H-1B and L1 visa restrictions caused negative cumulative average abnormal returns of up to 0.45% relative to pre-event firm valuation, equivalent to 100 billion of US dollars of losses.  
- Bloom et al. (2018): Between 2010-2030, about 734mn jobs need to be created to meet population growth, compositional changes in age and sex and related labour force participation rates, and achievement of target unemployment levels of ≤ 4% for adults and ≤ 8% for youth; given current trends, serious challenges to the social security system could emerge if not enough decent jobs were created.  
- Acemoglu (2010, modeling): Scarcer labor fosters technological advances if technology is strongly labor saving, but limits them if technology is strongly labor complementary.  
- Mandelman & Zlate (2012, modeling): Immigration and remittance flows are procyclical relative to economic activity in the US/Mexico, generating a procyclical skill premium in the host country. Immigration barriers make unskilled wages and remittances more volatile in the host country.  
- Acemoglu & Restrepo (2018, modeling): (i) When capital is fixed: automation lowers employment and the labor share and may reduce wages. (ii) When capital accumulates endogenously and new tasks are created: all tasks can become automated under some conditions. Inequality increases in transition periods but can stabilize in the long run under some conditions.

### The Capital Flows Channel — Selected literature (main findings)
- Caldara & Iacoviello (2022): Higher geopolitical risk tends to lower future investment and employment, increases disaster probability and tail risks, and divert capital flows away from EMEs towards AEs; industries more exposed to geopolitical risk see a larger drop in investment.  
- Eichengreen et al. (2021): Within-country distributional impact of capital account liberalization is context specific; distributional effects depend on the type of capital flows, their composition, interaction, and on broader economic and institutional conditions.  
- Alfaro et al. (2009): FDI helps countries with well-developed financial markets mainly through improvements in total factor productivity (TFP). Differences in TFP can thus explain cross-country income differences.  
- Desai et al. (2009): Foreign activity in fact boosts domestic activity: 10% greater foreign investment is associated with 2.6% greater domestic investment, and 10% greater foreign wage bill is associated with 3.7% greater domestic wage bill.  
- Bau & Matray (2022): Access to foreign capital reduced capital misallocation and raised aggregate productivity of the Indian manufacturing sector by at least 6.5%. For domestic firms with initially high sales to capital ratios, liberalization increased revenues by 18%, physical capital by 60%, and wage bills by 26% relative to low MRPK firms.  
- Kose et al. (2009): Evidence of modest levels of international risk-sharing departs from levels suggested by theory; industrial countries benefited from risk-sharing during globalization boom while developing countries and EMEs have missed out despite high cross-border flows to the latter. EMEs' lack of risk sharing may stem from the nature of portfolio debt.  
- Claessens & van Horen (2021): Foreign banks facilitate trade by reducing financial frictions for firms; exports tend to be larger when a foreign bank from the importing country is present; entry of a foreign bank boosts export growth to the home country of the foreign bank, especially when foreign bank presence in the country is large and bilateral cross-border lending low.  
- Amiti & Weinstein (2011): Establish a causal link between the health of banks providing trade finance and growth in a firm's exports relative to its domestic sales.  
- Morais et al. (2018): Results support an international risk-taking channel and spillovers of core countries’ monetary policies to emerging markets, both in foreign monetary softening (higher credit and liquidity risk-taking by foreign banks) and tightening (negative local firm-level real effects).  
- Caballero et al. (2018, modelling): New connections between banks in a given country-pair lead to an increase in trade flows between these countries in the following year and to trade diversions from countries competing for similar imports; mechanism stronger in industries subject to more export risk.

### The Global Public Goods Channel — Selected literature (main findings)
- Aiyar et al. (2022): Pandemic-response policies have negative international spillovers due to supply disruptions following domestic lockdowns. International spillovers accounted for up to 60 percent of the observed decline in trade in the early phase of the pandemic; effect was short-lived, concentrated among goods produced in key global value chains, and mitigated by several factors.  
- Linsenmeier et al. (2022): Countries are more likely to adopt carbon pricing if geographically close or having strong bilateral trade links to countries that adopted previously. Adoption of carbon pricing in Canada increases the probability of subsequent adoption in the USA by about 11%. Simulations indicate that by 2050, about 11 % more countries will adopt carbon pricing in a scenario with diffusion than in a scenario without diffusion.  
- Mora et al. (2022, modeling): Large and interconnected economies vulnerable to climate change could require $1.8 trillion in international reserves (2 percent of 2019’s global GDP). Domestic and multilateral macroeconomic policies can help contain these global losses to about $0.8 trillion.  
- Conte et al. (2021, modeling): Rising temperatures lead to northward migration to Siberia, Canada and Scandinavia; by the year 2200, predicted losses in real GDP and utility are 6% and 15%, respectively. Adaptation through changes in sectoral specialization becomes more costly due to higher trade costs.  
- Hassler & Krusell (2012, modeling): Taxes have distributionary effects; coordination among oil-consuming regions is Pareto improving; lack of cooperation causes carbon leakage from high-tax to low-tax countries causing redistribution effects and affecting total damages.

### The Uncertainty Channel — Selected literature (main findings)
- Bloom et al. (2018): Uncertainty shocks (similar in size to US productivity shocks) can reduce gross domestic product by around 2.5%. Increased uncertainty can make policies such as wage subsidies temporarily less effective because firms become more cautious.  
- Baker, Bloom & David (2016): Economic Policy Uncertainty (EPU) index captures important wars and political events; policy uncertainty comoves with equity price volatility, reduces investment and employment in policy-sensitive sectors; findings confirmed for 12 major economies.  
- Baker et al. (2020): Find a robust negative short-term impact of higher uncertainty (second moment shocks) on growth across cross-country panel data; generated by a conventional micro-macro business cycle model with time-varying uncertainty.  
- Bloom et al. (2022): Brexit referendum led to (1) large long-lasting increase in uncertainty, (2) fall in investment by 11% over the first three years post-referendum, (3) reduction in UK productivity by 2-5% over first three years.  
- Handley & Limao (2017): WTO accession accounts for over a third of export growth during 2000-2005, reduced US prices, and increased US consumers' income by the equivalent of a 13% permanent tariff decrease by reducing threat of trade war.  
- Handley & Limao (2022): Uncertainty in terms-of-trade and endowments can alter the optimal unilateral trade policy; WTO-negotiated maximum tariffs can limit externalities on other countries and act as a domestic commitment device.  
- Constantinescu et al. (2019): A 1% increase in policy uncertainty is associated with a ... [content truncated in source]

*Annex II.  Literature Review for Transmission.*

### 0.02 percentage point drop in growth of goods and

### sdnea2023001-s001 - 0.02 percentage point drop in growth of goods and

### Overview: measured trade impact
- 0.02 percentage point drop in growth of goods and services trade.
- This amounts to a 1% reduction in world trade growth between mid-2018 and mid-2019.
- The impact of policy uncertainty on trade linked to global value chains is similar to overall trade.

### Firm-level political risk (Hassan et al. (2019) — Firm-Level Political Risk: Measurement and Effects)
- Question / task: Construct new measure of political risk faced by individual U.S. firms and study its effect on investment and hiring as well as aggregate co-movement.
- Main findings:
  - Evidence that exposure to political risk reduces hiring and investment by firms.
  - Firms respond by actively lobbying and donating to politicians.
  - Dispersion of firm-level political risk rises during episodes of high aggregate political risk.

### Selected literature: The Uncertainty Channel — Empirical exercises
- Fernandez-Villaverde et al. (2015) — Fiscal Volatility Shocks and Economic Activity
  - Question / task: Examine how unexpected changes in uncertainty about fiscal policy affect economic activity by (i) estimating volatility in US taxes and spending and its impact in a VAR, and (ii) feeding a dynamic model with volatility shocks.
  - Main findings:
    - Economic activity is sizably adversely affected when uncertainty about fiscal policy changes unexpectedly.
    - This likely happens when markups increase endogenously due to uncertainty.
- Cieslak et al. (2022) — Policymakers' uncertainty
  - Question / task: Examine how types of uncertainty affect monetary policy decisions by the Federal Open Market Committee (FOMC), specifically the uncertainty that the Fed perceives.
  - Main findings:
    - Uncertainty about inflation strongly predicts a more hawkish policy stance, controlling for the internal Fed's forecasts and publicly perceived uncertainty.
    - In contrast, policy decisions are not affected by policymakers' uncertainty about growth.
    - Policymakers' inflation uncertainty captures concerns about maintaining nominal anchor.
- Berestycki et al. (2022) — Measuring and assessing the effects of climate policy uncertainty
  - Question / task: Construct new indicator of Climate Policy Uncertainty based on newspaper coverage frequency for 12 OECD countries covering the period 1990-2018, and study its macroeconomic effect using global firm-level data.
  - Main findings:
    - Index captures sentiment around major political events and discussions around potentially significant climate policy changes.
    - Find that Climate Policy Uncertainty significantly lowers investment, particularly in pollution-intensive sectors that are most exposed to climate policies, and among capital-intensive companies.

### Selected literature: The Uncertainty Channel — Modelling exercises
- Basu & Bundick (2017) — Uncertainty Shocks in a Model of Effective Demand
  - Question / task: Study the impact of aggregate uncertainty on the macroeconomy by (1) identifying an uncertainty shock in stock market data that comoves with the business cycle, and (2) rationalizing the evidence in a dynamic general equilibrium model.
  - Main findings:
    - A one standard deviation rise in uncertainty generates an output drop by 0.2%, pushing down consumption, investment, and hours worked.
    - Traditional models cannot generate this co-movement due to precautionary labor supply by households.
    - A model with sticky prices can produce the stylized fact.
    - Adverse effect of uncertainty worsens when monetary policy is constrained.
- Acemoglu et al. (2015) — Political Economy in a Changing World
  - Question / task: Develop a framework to analyze institutional dynamics in an environment in which payoffs and political powers change stochastically. Study the dynamics of political rights and repression in the presence of threats from extremist groups and the dynamics of collective experimentation.
  - Main findings:
    - The model rationalizes some observed political transitions to radicalism of political groups such as the Bolshevik Revolution.
    - Captures groups forming temporary coalitions in a changing environment of stochastic shocks and can shed light on a variety of strategic interactions.

*Geoeconomics Fragmentation and the Future of Multilateralism — Staff Discussion Note No. SDN/2023/001*

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_Source: https://www.imf.org/-/media/files/publications/sdn/2023/english/sdnea2023001-s001.pdf_