WEF warns: The economic costs of global fragmentation could be greater than the Covid-19 pandemic!
The economic costs of global fragmentation could potentially be greater than the Covid-19 pandemic or the 2008 global financial crisis (GFC), according to a recently published report by the World Economic Forum (WEF), titled Navigating the Fragmentation of the Global Financial System. The report was developed in partnership with US management consulting firm Oliver Wyman.
This is largely due to a growing number of countries using worldwide trade and financial systems to strengthen their geopolitical positions, largely through a mix of industrial policies, sanctions, and other economic measures.
There has already been a 370% increase in sanctions since 2017, according to the London Stock Exchange Group (LSEG), along with a notable increase in the number of subsidies observed across the globe during this time.
This has resulted in increased fragmentation worldwide . Global gross domestic product could potentially be reduced by anywhere between $0.6 trillion and, in cases of very high fragmentation, up to $5.7 trillion (€5.47 trillion), or 5%, as a result.
The decline in cross-border capital flows and the decline in trade are expected to be the main drivers of this potential loss in GDP. A decrease in economic efficiency is likely to exacerbate this situation. Similarly, inflation worldwide is estimated to increase by more than 5%, in cases of very high segregation.
However, the WEF report highlights the importance of implementing an economic state that focuses on sustainable development, cooperation and resilience at the global level. As a result, citizens are expected to be able to defend their sovereignty and national security in a more sustainable way, while also reducing the economic impact of fragmentation.
Matthew Blake, head of the World Economic Forum's Center for Financial and Monetary Systems, said in a press release: " The potential costs of fragmentation in the global economy are staggering. Leaders face a critical opportunity to protect the global financial system through principled approaches."
The effect of a split on global GDP growth and inflation is greatly influenced by the policies implemented by individual country leaders. In the worst-case scenario of fragmentation, there could be a complete economic separation of the Eastern bloc, which could include Russia, China, and more countries, and the Western bloc, which could include the United States and its allies.
However, in a lower fragmentation situation, trade and capital flows are likely to be closely monitored only in areas important to competitiveness and national security. Models of trade relations have described four possible fragmentation situations: low, moderate, high, and very high.
In the low scenario, the Western bloc could see a GDP decline of 0.6%, while in a medium fragmentation scenario, this could worsen to a 1.8% decline. In a high scenario, the Western bloc could potentially see its GDP decline by 2.8%, while in the worst-case scenario, it could fall by 3.9%.
Coming to the Eastern bloc, in the low fragmentation scenario, GDP could decrease by 1.4%, while in the medium scenario, it could fall by 3.2%. If there is a high fragmentation scenario, Eastern bloc GDP could potentially fall by 4.6%. However, in an extreme fragmentation scenario, Eastern bloc GDP is expected to fare somewhat better, with a decline of 3.5%.
In a worst-case scenario, countries that are not part of either the Eastern or Western blocs could be forced to trade only with whichever bloc is most important to them economically. This includes countries like Brazil, Turkey, and India, along with other countries in Southeast Asia, Latin America, and Africa. These countries could potentially experience a GDP decline of more than 10% in a very high fragmentation situation.
Matt Strahan, head of private markets at the World Economic Forum, said: " Fragmentation not only fuels inflation, but also negatively impacts economic growth prospects, particularly in emerging markets and developing economies that depend on an integrated financial system for their continued development. By protecting the integrity and functionality of the global financial system, including ensuring that actors retain their right to engage with counterparts across the geopolitical spectrum, leaders can deliver a more effective financial system for all stakeholders."
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