## Asia and the World Face Growing Risks From Economic Fragmentation

_IMF Blog, October 28, 2022_

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**Canonical URL:** [Asia and the World Face Growing Risks From Economic Fragmentation](https://www.imf.org/en/blogs/articles/2022/10/27/asia-and-the-world-face-growing-risks-from-economic-fragmentation)

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## Bibliographic details
- Authors: Diego Cerdeiro, Siddharth Kothari, Chris Redl
- Published: October 28, 2022

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### Geopolitical tensions and trade interdependencies
- Geopolitical tensions raise the prospect that strategic competition and national security concerns may trump the shared economic benefits of global trade.
- About half of the imports in the United States and a third in Europe come from Asia.
- Asian countries account for almost half of global demand for key commodities.
- Deep financial ties across countries mean that fragmentation risks extend beyond trade to financial channels.

### Early signs and measured impacts of fragmentation pressures
- Trade-policy uncertainty spiked in 2018 amid U.S.–China tensions and increased again around Russia’s invasion of Ukraine as sanctions created uncertainty about future trade relations.
- Even without actual restrictions, trade-policy uncertainty can worsen economic activity as firms pause hiring and investment, and new firms may postpone market entry.
- A typical shock to trade policy uncertainty, like the 2018 buildup of U.S.–China tensions:
  - reduces investment by about 3.5 percent after two years;
  - decreases gross domestic product by 0.4 percent;
  - raises the unemployment rate by 1 percentage point.
- Effects on investment are larger for emerging markets, more open economies, and firms with high debt.
- Corporate debt has increased significantly in Asia since the global financial crisis—spiking further in the wake of the pandemic—heightening vulnerability to trade-policy uncertainty.

### Modeled fragmentation scenario and output consequences
- The modeled fragmentation scenario:
  - divides blocs along the lines of the March 2022 United Nations General Assembly vote demanding Russia end its invasion of Ukraine (used for illustrative purposes);
  - cuts off trade between trading blocs in sectors that have recently seen an increase in restrictions, like energy and technology;
  - raises non-tariff barriers in other sectors to Cold War–era levels.
- If only Russia is isolated from countries which voted in favor, output losses for the world economy are small.
- Under a more adverse scenario where the world divides into two blocs (trade restricted between countries in favor and those against or abstaining):
  - Permanent global annual losses are estimated at 1.5 percent of GDP;
  - Losses in Asia and Pacific countries are over 3 percent of GDP, reflecting the key role trade plays in the region.
- Losses are larger in countries where trade with the other bloc is significant, due to loss of export markets and splintering of complex production networks.
- These output estimates focus on trade effects and represent a lower bound because they do not account for channels such as reduced capital stock from diminished investment or disruption to knowledge flows.

### Labor market and financial fragmentation implications
- As trade unravels and specialization is unwound, severe implications for labor markets are expected.
  - In sectors forced to contract due to higher trade restrictions in the illustrative scenario, average employment losses in Asian countries are estimated to be as high as 7 percent.
- Financial fragmentation could cause:
  - short-term costs from a rapid unwinding of financial positions;
  - long-term costs from lower diversification and slower productivity growth due to reduced foreign direct investment.

### Policy recommendations and priorities for policymakers
- Act decisively to avoid adverse effects from greater fragmentation and ensure trade remains an engine of growth.
- Priorities include:
  - Rolling back damaging trade restrictions;
  - Reducing uncertainty via clear communication of policy objectives.
- Complement regional agreements with reforms at the multilateral level.
- Restore a fully functional World Trade Organization dispute settlement system to mitigate negative impacts of discriminatory policies and help resolve underlying sources of tensions.
- Above all, engagement and dialogue between countries are vital to avoid the most harmful fragmentation scenarios.

*Diego Cerdeiro, Siddharth Kothari, Chris Redl — October 28, 2022*

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## References

- [Regional Economic Outlook](https://www.imf.org/en/Publications/REO/APAC/Issues/2022/10/13/regional-economic-outlook-for-asia-and-pacific-october-2022)

_Source: https://www.imf.org/en/blogs/articles/2022/10/27/asia-and-the-world-face-growing-risks-from-economic-fragmentation_