Is the world on the brink of a second cold war?

There’s been a lot of discussion over the past year about the emergence of a multipolar global economy in the aftermath of the pandemic amid the trade and geopolitical tensions between China and the US and the war in Ukraine.

According to a senior International Monetary Fund executive, we could actually be on the brink of a second cold war.

Getting closer: Chinese President Xi Jinping, right, and Russian President Vladimir Putin.Credit: AP

The IMF’s first managing deputy director, Gita Gopinath, said in a speech to the International Economic Association in Colombia on Tuesday that while there were no signs of a broad-based retreat from globalisation, fault lines were emerging as geoeconomic fragmentation is increasingly becoming a reality.

“If fragmentation deepens, we could find ourselves in a new cold war,” she said, referring to the post-World War II near half-century of hostility and economic and military rivalry between the US and the Soviet Union.

Even before the pandemic, changes were occurring to the cross-border flows of goods, services and capital – shifts in global trade that seem to have started with the financial crisis in 2008.

Donald Trump’s trade wars and the increased tensions between the US and China that they ignited, then the pandemic and Russia’s invasion of Ukraine – and the financial and economic sanctions on Russia that the war inspired – have accelerated and magnified those changes.

‘We can little afford another cold war.’

IMF’s Gita Gopinath

National economic and security concerns, particularly after the pandemic, are reshaping global supply chains and lengthening them under the banners of “on-shoring,” “re-shoring,” “friend-shoring” and “de-risking.”

As a consequence of the war in Ukraine and the increased tensions between the US and China, new geopolitical and economic blocs are forming – one centred on the US and European Union, and another built on the closer relationship between China and Russia.

Gopinath believes there may be benefits to countries from de-risking their supply chains and strengthening their national security, but also warns that if the changes aren’t properly managed, the costs could easily overwhelm the benefits and reverse nearly three decades of peace, integration and growth that had lifted billions of people out of poverty.

“With the weakest global growth outlook in decades and with disproportionate scarring from the pandemic and war slowing income convergence between rich and poor nations, we can little afford another cold war,” she said.

While ideological and economic rivalry between two superpowers provides a similar backdrop to that of the Cold War, Gopinath made the point that economies are now far more integrated into the global economy than they were then.

Global trade to GDP of 60 per cent today compares with 24 per cent during the Cold War. There are more unaligned countries – last year more than half of global trade involved a non-aligned country – than there was then, and those countries are connectors between the two rival blocs and can benefit from the shifts in trade and investment flows.

The trade wars between the US and China have seen China displaced as America’s largest trading partner. Its share of US imports has fallen from 22 per cent in 2018, when Trump started imposing his tariffs, to 13 per cent this year. US direct investment in China has also evaporated.

Chinese companies, however, have re-routed their exports to the US through other Asian countries and have invested heavily in factories in Mexico, for instance, which is now the largest exporter of goods to the US. The supply chains are longer, more complex and less efficient, but they’ve been rearranged rather than sundered.

The IMF used the voting patterns provided by the United Nations’ resolution on Ukraine last year to define the blocs Gopinath referred to. If the global economy did fragment into those blocs and trade within them were eliminated, she said, between 2.5 per cent and 7 per cent of global GDP could be lost, with the losses potentially largest for lower-income and emerging market economies.

There’s nothing particularly shocking about those conclusions. Globalisation was for decades a force for global growth and improved living standards in both developing countries and developed economies, where consumers benefited from the lower costs of goods.

The IMF’s Gita Gopinath has a stark warning for the world economy.

De-globalisation, or the fragmentation of global trade, will reduce some of those benefits, but the larger role that non-aligned economies now play in the global economy relative to the Cold War era means that the globalisation of trade and finance ought to remain largely intact.

It’s also significant that neither the US nor China want to completely decouple from their rival’s economy, with Europe even less inclined to significantly sever its links with China.

China, struggling with structural challenges within its economy which are throttling its growth rate, is still overly dependent on exports and needs a stable global trade environment.

The US wants to be less reliant on China for strategic goods and to reduce China’s access to technologies that are critical to US economic and military supremacy while otherwise maintaining the trade relationship. Both the US and Europe want to counter what they regard as China’s unfair trade practices, such as its significant state subsidies of exports.

If that were the extent of the fragmentation, the impact on global trade and the global economy would be quite modest and globalisation would, while dented, remain at the centre of the world economy.

Conversely, in the Cold War II scenario, the economic consequences would be substantial and the geopolitical polarisation more profound and risky. Multilateral institutions and the semblance of global governance that they provide would be even less relevant and influential than they are today.

No-one wants a second cold war, and all the costs and heightened risks that it would generate. Globalised trade has been a global good.

The pandemic and the increasingly fierce competition between the US and its allies and China, which is strengthening China’s position via its now-close relationships with Russia and its growing influence in Africa, the Middle East and South America have exposed some economic and national security vulnerabilities in global supply chains.

Those vulnerabilities had to be addressed, and are being addressed. But it would be in all our interests – including those of the US and China – if that is where the extent of the fragmentation described by Gopinath ends.

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