Geoeconomic Fragmentation and International Diversification Benefits

IMF Working Papers, March 8, 2024

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Applies the two-country open-economy model with trade in stocks and bonds of Coeurdacier et al. (2010).
Objective: quantify the loss of international diversification benefits for major advanced economies under geoeconomic fragmentation.
Fragmentation defined operationally by inability to trade with geopolitically distant countries, measured by voting disagreement on foreign policy issues at the United Nations General Assembly meetings during 2012-2021.

Model: two-country open-economy model with trade in stocks and bonds (Coeurdacier et al., 2010).
Counterfactual simulations under different hypothetical fragmentation scenarios.
Fragmentation metric: voting disagreement at UN General Assembly meetings, 2012-2021.
Focus: major advanced economies with a significant presence in international financial markets.

Simulation results imply a potentially significant loss of international diversification benefits of financial openness for the considered advanced economies.
Losses arise when trading is limited to partner countries that are geopolitical allies with highly synchronized business cycles.