Cold War II? Preserving Economic Cooperation Amid Geoeconomic Fragmentation
IMF News, December 11, 2023
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- Published: December 11, 2023
Introduction and context
- Speaker: Gita Gopinath, IMF First Managing Deputy Director; plenary speech at the 20th World Congress of the International Economic Association, Colombia, December 11, 2023.
- Central question: Are we on the brink of Cold War II and what would that mean for the global economy and economic cooperation?
- Framing: Pandemic, war, and growing US–China tensions have led to policy playbooks such as “friend-shoring,” “de-risking,” and “self-reliance,” with national security concerns shaping economic policy worldwide.
- Noted trend: The global rules-based system was not built to resolve national security–based trade conflicts; countries are strategically competing without an effective referee.
Historical perspective and structural differences with the original Cold War
- Long 19th century globalization: a 125-year period beginning with the French Revolution in 1789; WWI ended that era.
- Cold War era (late 1940s to late 1980s):
- Not a period of de-globalization—global trade to GDP rose due to post-war recovery and trade liberalization.
- Fragmentation: trade between opposing blocs collapsed from around 10-15 percent to less than 5 percent of global trade.
- Post–Cold War and hyper-globalization: trade between rival blocs expanded to almost a quarter of world trade in the decade after the Cold War; technological, institutional, and policy changes drove rapid integration.
- Since 2008: “slowbalization” — trade to GDP stabilized as forces behind hyper-globalization waned.
- Key structural differences today versus Cold War:
- Global trade to GDP is now 60 percent compared to 24 percent during the Cold War.
- Greater within-country political volatility increases uncertainty about bloc allegiances.
- Non-aligned countries now account for larger shares of GDP, trade, and population and can act as “connectors.”
Evidence of geoeconomic fragmentation — facts and key statistics
- Policy measures and corporate responses:
- Around 3,000 trade restricting measures were imposed last year—nearly 3 times the number imposed in 2019.
- Multinational firms increasingly discuss re-shoring, near-shoring, friend-shoring, and deglobalization in earnings calls.
- Trade patterns:
- Trade growth within blocs decreased to 1.7 percent from 2.2 percent pre-war.
- Trade between blocs declined from 3 percent pre-war to around -1.9 percent.
- Net effect: 3.8 percentage point faster growth in trade within blocs as opposed to between blocs.
- Signs appear in both strategic and non-strategic product trade.
- Foreign direct investment (FDI) and announced projects:
- Announced FDI projects between blocs declined more than those within blocs after the onset of the war in Ukraine.
- FDI to non-aligned countries sharply increased; almost 40 percent of announced FDI projects were in those economies in 2023q3.
- US–China specific shifts:
- China’s share of US imports fell by almost 10 percentage points: from 22 percent in 2018 to 13 percent in the first half of 2023.
- China is no longer a prominent destination for outward US FDI; ranks lost to emerging markets such as India, Mexico, and UAE in number of announced FDI projects.
- Evidence of indirect linking: countries gaining US import shares (e.g., Mexico, Vietnam) also gained in China’s export shares and are larger recipients of Chinese FDI.
- Supply chain dynamics:
- BIS study of more than 25,000 companies found supply chains have lengthened in the last two years, especially those involving Chinese suppliers and US customers.
- Anecdotes: Vietnam relocated electronics production from China but sources most inputs from China; Mexico became biggest exporter of goods to the US in 2023, with many new factories in Mexico being Chinese firms (Mexican Association of private industrial parks: one in five new businesses in the next two years will be Chinese).
- Non-aligned role:
- In 2022 more than half of global trade involved a non-aligned country; non-aligned economies can serve as connectors and may benefit from diversion of trade and investment.
Economic costs, scenarios, and distributional impacts
- Channels of cost:
- Trade restrictions reduce gains from specialization, limit economies of scale, reduce competitive pressures, and stifle within-industry reallocation and productivity gains.
- Fragmentation of capital flows reduces capital accumulation, affects capital allocation and asset prices, disrupts the international payment system, and raises macro-financial stability risks.
- Fragmentation of cross-border investment and trade reduces knowledge diffusion.
- Quantified simulations and estimates:
- If the global economy fragmented into two blocs (based on UN voting on the 2022 Ukraine Resolution) and trade between the two blocs were eliminated, global losses are estimated to be about 2.5 percent of GDP; depending on economies’ ability to adjust, the losses could reach as high as 7 percent of GDP.
- FDI fragmentation in a two-bloc world centered around the US and China—with some countries remaining non-aligned—could result in long term global losses of around 2 percent of GDP.
- Aggregate global output changes would still be negative even if trade disruptions were applied only to a subset of world economies due to inefficiencies associated with trade restrictions.
- Distributional effects: losses are especially large for lower income and emerging market economies and larger for less advanced regions that depend more on inflows from the opposing bloc.
- If some economies remain non-aligned and continue engaging with all partners, they could gain from trade and investment diversion; simulations suggest remaining economies may see some gains on average if only trade between a US–Europe bloc and a China–Russia bloc is disrupted.
- Sector- and challenge-specific impacts:
- Fragmentation of trade in minerals critical for the green transition—copper, nickel, cobalt, lithium—would make the energy transition more costly by causing sharp price swings and suppressing investment in renewables and EV production.
- Historical gains at risk:
- Since the end of the Cold War the global economy roughly tripled, and nearly 1.5 billion people were lifted out of extreme poverty; fragmentation risks reversing gains in integration and growth.
Policy recommendations — three guiding principles
- Overarching aim: Minimize the costs of fragmentation while addressing security and resilience concerns; preserve benefits of free trade and safeguard global cooperative responses to common challenges.
- Principle 1 — Seek multilateral approaches for areas of common interest:
- Examples: green corridor agreement for minerals critical to the clean energy transition; agreements for essential food commodities and medical supplies to ensure minimum cross-border flows.
- Rationale: Multilateral arrangements can safeguard global public goods (climate, food security, pandemic response).
- Example precedent: exemption of humanitarian food purchases from export restrictions at the twelfth WTO Ministerial Conference in 2022.
- Principle 2 — Adopt non-discriminatory plurilateral approaches where reconfiguration is necessary:
- Use plurilateral agreements consistent with the WTO (regional trade agreements, joint statement initiatives) to deepen integration, diversify suppliers, and mitigate resilience risks.
- Keep open-door policies so new partners can join when able and willing to commit to rules and norms.
- Target interventions narrowly to products and technologies that warrant economic security measures; carefully assess supplier availability from less risky regions and social/economic costs of supply disruptions (e.g., semi-conductors).
- Recent examples: CPTPP, AfCFTA; in December 2021, 70 WTO members agreed on a WTO-based plurilateral agreement on domestic regulation of services.
- Principle 3 — Restrict unilateral policy actions to correcting market failures and be time-bound:
- Limit industrial policies to addressing externalities and market distortions; evaluate effectiveness and cross-border spillovers.
- Risks: domestic political economy may make industrial policies hard to roll back; internationally they may prompt retaliation and deepen fragmentation.
- Empirical note: IMF estimates that if China introduces a subsidy, the likelihood that the EU imposes a trade restricting measure within 12 months in response to the subsidy is 90 percent.
- Proposal: an inter-governmental dialogue or consultation framework on industrial policies to improve data sharing, assess cross-border impacts, and develop international rules and norms over time.
Conclusion and strategic implications
- Current assessment: No broad-based retreat from globalization, but fault lines are emerging and geoeconomic fragmentation is increasingly a reality; a full-blown Cold War II would impose large economic costs.
- Strategic priorities for policymakers:
- Pursue pragmatic approaches that preserve free-trade benefits where possible, safeguard collective action on global challenges, and meet domestic security and resilience goals.
- Keep communication channels open among major powers and engage non-aligned emerging and developing countries to maintain integration.
- Support research and collaboration to design policies that limit fragmentation’s costs and enable international cooperation on shared threats.
- Final warning: While some countries may benefit in early stages of fragmentation, severe fragmentation would leave everyone worse off and undermine gains from decades of economic integration.
Plenary Speech by IMF First Managing Deputy Director Gita Gopinath, 20th World Congress of the International Economic Association, Colombia, December 11, 2023.
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