Just ten years ago the international community came together to react to the global economic and financial crisis. In the aftermath of 2008, the concerted actions of the G20 members to stimulate their economies and refrain from protectionist measures were crucial to avoid another Great Depression (Summers and Schoenfeld 2012). The global economy returned to positive growth again by 2010. But that consensus did not last. Since 2010 governments started to differ in their readings of the origins of the crisis, the challenges ahead, and the policies to adopt, which in turn led to a suboptimal global policy mix. Global growth was slow in picking up afterwards, and while it accelerated in 2017, it is now under the threat of increased downside risks (IMF 2018).
Clouds are gathering on the outlook
2017 marked a positive turning point for the global economy, with global output expanding by 3.9%. Growth has been broad-based and synchronised across the world. The EU economy grew at its fastest rate in ten years at 2.4%, US and Japan also grew strongly. Emerging economies did well: China and India grew by 6.9% and 6.4%, respectively. In the latest European Commission Summer Forecast published on 11 July (European Commission 2018b), we project a further acceleration in global growth to 4.2% in 2018 and 4.1% in 2019. While the headline figures are still positive, much has changed recently. The US policy mix has become pro-cyclical due to a significant fiscal expansion. Trade tensions are escalating on the back of China's over-capacity, which prompted the US decision to impose import tariffs on steel and aluminium. These developments have added to the already existing uncertainties related to geopolitical risks and have greatly increased the possibility of a slowdown in global growth.
Such developments build on growing institutional, economic and social fragmentation across the world which set in during the financial crisis.
Institutional fragmentation has increased
In the wake of the crisis, the G20 emerged as the premier forum for international economic and financial cooperation around the world. In parallel, a host of new institutions have been created often with overlapping mandates and no clear roadmap for cooperation. For example, new multilateral development banks (MDBs) were created in Asia (the Asia Infrastructure Investment Bank) and by the BRICS countries (New Development Bank) and regional financing arrangements became more prominent in providing emergency liquidity alongside the IMF; this has increased the financial firepower but also the complexity of the system. The WTO effectiveness has been weakened by the adoption of unilateral trade measures in some countries and by the failure to agree on new nominations for the Appellate Body. Global efforts to tackle climate change have been compromised by the US decision to abandon the UN Paris Agreement on Climate Change. Tensions among world leaders were manifest also at the last G7 Summit in Canada in June 2018. There is now the risk that the G20 might fail to ‘win the peace’, i.e. to deliver the necessary public good of global economic policy cooperation in the post-crisis world. (Buti and Bohn-Jespersen 2016).
Economic and social fragmentations remain pervasive
Since the outbreak of the crisis, global imbalances have been reduced but they remain considerable. Two developments stand out. First of all, emerging countries now have, on aggregate, current account deficits (Figure 1). Large current account surpluses can now be found among advanced economies. The US records a persistent current account deficit which may now further increase due to pro-cyclical fiscal policies. Second, the single largest source of external surpluses is now the euro area. This is due in part to an asymmetric rebalancing within the monetary union, where countries that used to have current account deficits prior to the crisis have turned them into surpluses but pre-crisis surplus countries have remained in surplus and sometimes increased it. These developments imply potential fragilities for emerging economies and rising trade tensions among advanced countries.
Figure 1 Global imbalances: Current accounts as a percentage of world GDP
Source: Own calculations based on IMF WEO Database and World Bank Database
Social fragmentation has started to receive more attention recently (Figure 2). While inequality between emerging and advanced countries has been reduced, inequalities within countries have surged since the 1980s. The increase in income inequality at global level hides important differences across countries. In emerging economies inequalities are higher but they have slowly been reduced over the past 30 years. Conversely, advanced countries such as the old member states of the EU and the US have seen income inequality increasing. Globalisation and trade integration have contributed to the increase in income inequality through skill-based and geographical distributional impacts. Nation states and multilateral institutions failed to adequately counter these trends so far. Socioeconomic and regional inequalities fuel popular discontent and opposition to economic openness and international cooperation, leading governments to revert to inward-looking policies and protectionism.
Figure 2 Social fragmentation
Source: Own calculations based on World Inequality Database
What kind of multilateralism?
Multilateralism should be seen as a means to an end, a vehicle to achieve certain goals, not as a goal in itself. Economic integration is making spillovers across countries more and more relevant. In addition, there are a number of common policy challenges that require international cooperation and that cannot be dealt with by individual countries working in isolation, such as demographics, migration, climate change, and the widening inequalities that nourish citizens' disenchantment with international economic integration. A multilateral approach to tackle these challenges is more effective than a proliferation of bilateral deals since it creates synergies and solves coordination problems, achieving positive-sum results.
The starting point is to prioritise greater inclusiveness. Economic integration has helped the world to grow more quickly, but not enough attention was paid to the geographical and distributional impacts that occurred in parallel (Rodríguez-Pose 2018). While domestic policies play an important role in reducing inequalities, distributional impacts have not been sufficiently integrated into global policy strategies. For example, fair and clear rules in trade, taxation and foreign investments have not been consistently applied. This led to blatant cases of tax avoidance as well as distortions to international competition that have direct impacts on citizens in terms of employment and dislocation. This is also one of the triggers of protectionist tendencies; economic openness can only be sustained if it is underpinned by fairness (Dervis, 2016).
A growth-friendly correction of macroeconomic imbalances remains a necessary precondition for a sustainable global expansion. Excessive global imbalances are a recurrent threat to global economic stability and their resolution is consistently asymmetric due to different incentives to adjust in current account deficit and current account surplus countries. In the absence of a self-correcting mechanism, global economic policy coordination needs to be stepped up. This is not just a question of trade policies but also, and most importantly, of capital flows which today determine the direction of current accounts. Therefore, global imbalances should continue to be a concern of finance ministers as they relate closely to saving and investment decisions (Pettis 2018). The G20 is the right platform to develop an agreed diagnostic of the problems and devise globally consistent policy responses. Reducing global imbalances will take away another of the root causes of today's trade tensions. At the same time, the Global Financial Safety Net needs be further strengthened (IMF 2016), ensuring a central role for the IMF – with adequate resources – in close collaboration with the various regional financing arrangements that have been set up in recent years.
The implementation of a global policy agenda requires strong multilateral development banks in order to deliver global public goods and put into practice internationally agreed priorities. Their fragmentation since the crisis offers opportunities as more sources of finance become available but also challenges as different mandates may be competing or overlapping (Bhattacharya et al. 2018). For this reason, last year the G7 agreed on principles for effective coordination which call on MDBs to harmonise to the highest standards their environmental, social and fiduciary safeguards, as well as their standards on tax compliance, money laundering and the financing of terrorism. The G20 could now take the lead in rolling out these principles by becoming the ‘steering committee’ for MDBs, ensuring their full implementation.
What should be the role of Europe?
The EU can play a leading role on the global stage to uphold commitments towards an open and fair global international order with a rules-based trading system, the protection of environmental and social standards and efforts to reduce income and geographical inequalities (European Commission 2017).
In order to play such a role, the EU should however first of all strengthen its internal cohesiveness (Cœuré 2018). Europe can only be strong if all its member states share the same values and pursue common interests. In particular, EU countries need to overcome the ‘reverse creditor paradox’: external surpluses should be seen as a source of fragility rather than a source of strength since they amplify the exposure of the region to external shocks and exacerbate global imbalances. Given its size and importance, the internal policies of the EU in fact have a global dimension. In this vein, policies in areas such as research and development, digitalisation, the Capital Markets Union, defence and security are clearly indispensable to address challenges and counter threats that are too important to be tackled at the country level. Similarly, the completion of the European Economic and Monetary Union (EMU) is also fundamental to enhance the unity, resilience, efficiency, and democratic accountability of the euro area. By strengthening the EMU, Europe would become more resilient and a stronger global player
Second, the EU should leverage its existing strengths. The EU has the capacity to lead by example on many fronts such as climate change, social and environmental standards, data privacy rules, and so on.For example, the new EU General Data Protection Regulation has recently entered into force with the aim of protecting all EU citizens from privacy and data breaches. Another example would be a more strategic use of the Multiannual Financial Framework (MFF) of the EU budget in particular to tackle pressing challenges such as migration. The Commission proposal for the next MFF 2021-27 is a step in the right direction. The proposed allocation for 'migration and border management' more than doubles compared to the previous MFF, reaching nearly €35 billion. (European Commission 2018a).
Third, the EU should proactively seek global solutions to global challenges. Tax avoidance, for example, has become much easier in a globalised world and the international community needs to tackle this by fully implementing its commitments on base erosion and profit shifting. A global solution should be found to the issue of taxation of the digital economy. As a first step, in March 2018, the European Commission presented two proposals for the fair and effective taxation of the digital economy. The first proposal is a comprehensive solution to adapt corporate tax rules to digital economy, notably by allowing member states to tax businesses with a significant digital presence in their jurisdictions. The second proposal is an interim tax on revenue generated by particular digital activities. These proposals should be seen as steps towards finding a global solution as the OECD work on the topic is expected to be finalised by 2020.
Finally, the EU should contribute to avoiding a protectionist race to the bottom (Rodrik 2018) similar to the one that occurred in the 1930s which gave rise to the Great Depression (see Figure 3). This can be done, for example, by focusing on modern trade agreements – such as those that the EU has concluded with Canada, Mexico and Japan – that reflect an inclusive economic agenda making provision for workers' rights, environmental protection, responsible investments, food security, consumer protection, and management of natural resources. Going forward, a reform of the WTO could also be useful in order to update this institution and enable it to continue ensuring an internal level playing field. Following the conclusions of the European Council (EUCO 2018), the European Commission will now work on a comprehensive approach to improving, together with like-minded partners, the functioning of the WTO in crucial areas such as (i) more flexible negotiations; (ii) new rules that address current challenges, including in the field of industrial subsidies, intellectual property and forced technology transfers; (iii) reduction of trade costs; (iv) a new approach to development; (v) more effective and transparent dispute settlement, including the Appellate Body, with a view to ensuring a level playing field; and (vi) strengthening the WTO as an institution, including in its transparency and surveillance function.
Figure 3 World trade as a share of global GDP
Source: 1921-1938: own calculations based on dataset from Klasing and Milionis (2014); 2000-2017: own calculations based on WTO and IMF WEO.
The world is more interconnected than it has ever been – it is neither possible to address important global challenges in an isolated manner nor to rely on the status quo of international economic governance. Multilateralism should be seen as a tool to deliver global public goods and internalise spillovers. The growing discontent with globalisation should therefore be reflected in the policy content of our multilateral efforts, while greater attention will have to be paid to the issue of inclusiveness and a better sharing of the benefits of economic growth. Europe can and should play a leading role in revamping international economic cooperation, overcoming institutional, social and economic fragmentations and keeping the global economy open, in the knowledge that we all benefit from it.
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