The Global Economy Enters an Era of Upheaval

One word has been popping up increasingly on earnings calls and in corporate filings of some of the world’s biggest companies. From Wall Street giants like BlackRock Inc. to consumer titans like Coca-Cola Co. and Tesla Inc. and industrial mainstays like 3M Co., S&P 500 chief executives and their lieutenants have used the word “geopolitics” almost 12,000 times in 2023, or almost three times as much as they did just two years ago.

It’s not just talk. Hard evidence is now emerging that all the discussions of strained international relations and more than a decade of warnings over the end of an era of globalization are finally spurring corporations to pick sides with their capital. Western multinationals that for years have avoided geopolitics in favor of pursuing profits in less mature markets are increasingly building the factories of the future in like-minded nations.

As the world’s leaders gather in New York this week for the annual United Nations General Assembly, a Bloomberg Economics analysis of UN foreign-direct investment data points to a world reorganizing into rival — though still linked — blocs that reflect UN votes on Russia’s invasion of Ukraine. Of the $1.2 trillion in greenfield FDI invested in 2022, close to $180 billion shifted across geopolitical blocs from countries that declined to condemn Russia’s invasion to those that did, the analysis found.

“This is a historic change,” said Yeo Han-koo, a former South Korean trade minister, who sees a world entering an era of upheaval. “A new economic order is being formulated and that will cause uncertainty and unpredictability.”

Countries that have voted to condemn Russia’s invasion account for more than two-thirds of global GDP. Photographer: Angela Weiss/AFP/Getty Images

The accelerants for the shift are obvious. Pandemic-scarred governments are pressing companies to keep national interests in mind and providing subsidies and other incentives as a carrot to bring production home. Russia’s invasion of Ukraine and a building US-China rivalry have hastened the end of a fragile post-Cold War model that saw trade and globalization boom.

So too are the potential costs and consequences that are worrying policymakers. In unusually direct language, European Central Bank President Christine Lagarde declared earlier this year that “we are witnessing a fragmentation of the global economy into competing blocs, with each bloc trying to pull as much of the rest of the world closer to its respective strategic interests and shared values.”

World Remains Split Over Russia’s War in Ukraine

2023 United Nations vote calling for Russia to withdraw from Ukraine

Note: Map shows votes for distinct UN members that were present for the proceeding.Source: United Nations

There’s a good reason for the angst. Economists at the International Monetary Fund earlier this year calculated that in the most extreme scenarios in which the global economy divides into hard blocs it would destroy as much as 7% of output in the long term, a shift akin to wiping out both the French and German economies, they determined.

To be clear, the break is neither balanced nor clean. Led by the US and European Union powers like Germany, countries that have voted to condemn Russia’s invasion account for more than two-thirds of global gross domestic product. China sits at the core of the other bloc and its race to overtake the US economy as the world’s dominant one is being hit by a slowdown in growth that many see reflecting longer-term problems.


Even if there is a new economic Iron Curtain descending on the world, it is a remarkably porous one. The globe’s economies are more integrated today than they have ever been and their relationships are complicated. The war in Ukraine and resulting sanctions have snarled trade in particular commodities and other events like the US-China trade wars have caused their own disruptions, but the reality is that global commerce has been resilient.

The Future of a Divided World Economy

Share of global GDP by bloc

Sources: IMF, World Bank, Bloomberg Economics

The instinct of corporations to chase profits and lucrative markets remains as strong as consumers’ desire for bargains, making this new era enduringly transactional. Members of either bloc remain eager to sell to each other, as US Commerce Secretary Gina Raimondo demonstrated last month when she traveled to China with a possible resumption of sales of Boeing Co. aircraft and other US exports high on her agenda. Chinese electric vehicle companies are racing into Europe, though their doing so has triggered an EU investigation into Chinese subsidies.

US Commerce Secretary Gina Raimondo speaking
Members of both blocs remain eager to sell to each other, as US Commerce Secretary Gina Raimondo demonstrated last month when she traveled to China with sales of Boeing Co. aircraft and other US exports high on her agenda. Photographer: Qilai Shen/Bloomberg

Countries like India that have chosen not to condemn Russia’s invasion, by abstaining in UN votes, are seeking new strategic relationships with the US and other Western powers, which see those links as vital. Both Chinese and Western investors are pouring into an increasingly important family of connecting economies like Vietnam and Mexico, which are trying to straddle the blocs on either side of UN votes.

But what was until now largely anecdotal evidence of a grand shift is hardening and no data point illustrates the way the world is changing more than what is happening in greenfield FDI — the long-term investments in new factories that often take years to realize and point to the big bets being made by companies on the future.

Using UN votes to condemn Russia’s invasion of Ukraine as a filter, Bloomberg Economics found that the global share of greenfield foreign direct investment going to countries that didn’t condemn the invasion averaged only 15% in the last two years, down from 30% in the decade to 2019. China’s share, including Hong Kong, fell to less than 2% in 2022 from nearly 11% on average over 2010-19. Investment in Russia completely dried up.

The data point to US and other Western companies investing more in like-minded countries. The US was the biggest winner in 2021-22, seeing the largest increase in its share of global greenfield FDI versus the decade leading up to the pandemic. But also gaining share in foreign investment have been other Group of Seven countries like Germany, Italy and even the UK, the Bloomberg Economics analysis found.

Countries That Didn’t Condemn Russia Trail FDI Flows

Value of greenfield foreign direct investment by destination, indexed to 2010–2019 average

Sources: United Nations Conference on Trade and Development, Bloomberg Economics

That may reflect, among other drivers, a shift in US industrial policy to encourage more investment in strategic sectors like semiconductors and electric vehicles, and the response from European and Asian allies like Japan, South Korea and Taiwan.

But it also marks a remarkable pivot of another kind.

While the World Trade Organization this month said it’s premature to call an end to the era of globalization, it warned that geopolitical tensions are beginning to shape trade flows and that early signs of fragmentation are appearing. Goods trade between two hypothetical geopolitical blocs — based on voting patterns at the UN — have grown 4% to 6% slower than trade within these blocs since the invasion of Ukraine, the WTO estimates.

IMF economists earlier this year declared that flows of investment and goods were no longer following the usual paths. Where once the promise of lucrative new markets held sway, an IMF look at two decades of data found that the role of geopolitics had played an accelerating role in driving the flow of capital in recent years.

“Even if you control for features like country risk and geographic distance which generally is a key driver of bilateral trade and financial flows, you still find the geopolitics matters,” says Andrea Presbitero, deputy head of the IMF’s research division. And “geopolitical factors seem to matter more in recent years.”

Given its status as the world’s biggest trading nation, much of the shift revolves around China. Between the second quarter of 2020 and the first quarter of this year, US companies’ greenfield investments in China plunged 57.9% and those by European firms dropped 36.7% versus the five years leading up to the pandemic, an updated IMF analysis shared with Bloomberg found. Investments from the rest of Asia into China were down by more than two-thirds.

World Looks Beyond China for Factories of the Future

Foreign direct investment in China since the pandemic started, compared to the five years prior

*Emerging Europe includes Albania, Belarus, Bosnia and Herzegovina, Bulgaria, Hungary, Kosovo, Moldova, Montenegro, North Macedonia, Poland, Romania, Russia, Serbia, Turkey and Ukraine.Source: International Monetary Fund

Behind the change is the growing importance in investment decisions of what the IMF economists and others have dubbed “geopolitical distance.” Using an index built on seven decades of UN votes, the IMF economists found that recent FDI flows had become more likely to go to geopolitically aligned countries rather than even geographically close ones.

The IMF exercise reflected a broader evolution underway among economists. For generations economists have peered out at the global economy through models reliant on the corporate drive to maximize returns, adjusted for the influence of geography or the gravitational pull of large countries. Now they are trying to deal with what in the data-driven world of economics feels like an amorphous force in geopolitics and the ever-expanding way governments define national security.

Geopolitics Edges Out Geography in Foreign Direct Investment

Annual share of global FDI between countries that are geographically or geopolitically close

Source: International Monetary Fund

To Maurice Obstfeld, a former IMF chief economist who is now a senior fellow at the Peterson Institute for International Economics, what that really means is that economists are digesting a return to what for centuries was a historical norm in which the power competition drove trade. “It’s not necessarily true that the arc of history bends toward the free market,” Obstfeld says.

Penny Goldberg, a former World Bank chief economist who is also a leading expert on trade and globalization, calls geopolitics “manmade uncertainty.”

Much of what is guiding the change by governments in the US and other Western economies is a feeling that for too long their leaders had a misplaced belief in the power of markets to make the right decision. What worries Goldberg is that the world may be going too far in the other direction.

Making investments with national security rather than economics as a guiding force often entails acting more on trust than data, she says. Plenty of governments in history have a track record of making miscalculations in the name of security, like the 2003 war in Iraq, Goldberg says. If geopolitics is driving investment “you have to take the government at its word. And sometimes even well-meaning people may get it wrong.”

Goldberg is among those who see broader negative consequences for the global economy from a growing split. Those include higher inflation as the cost of manufacturing rises, less innovation as international research cooperation becomes rarer and more poverty and global inequality as investment in poor countries stalls. Like-minded rich countries investing in each other means less investment for poor countries that arguably need it more.

While the geopolitical competition so far has often been focused on strategic technology sectors like semiconductors or quantum computing, as well as new-energy projects like solar panel and battery plants and electric vehicle factories, the developing split is broader too.

Geopolitical competition so far has often been focused on strategic technology sectors like semiconductors. Photographer: Edwin Koo/Bloomberg

The world’s commodities trade is fracturing. It all starts with energy and oil and gas, but the US and its Asian and European allies are scrambling to secure new friendly supply chains for the minerals and other raw ingredients like copper, nickel and lithium vital to produce semiconductors, phones and EVs.

Global Investment Soars in Semiconductors, Renewables

Value of announced greenfield FDI projects

Source: United Nations Conference on Trade and Development

In some places the division is driven by a desire to move away from the dollar. BRICS nations are exploring a new shared currency that might shield members from the impact of sanctions like those imposed on Russia. Bangladesh has agreed to pay Russia about $300 million in Chinese yuan for a nuclear power plant. Pakistan is keen for a long-term deal to buy Russian crude in the Chinese currency.

Governments are also much more comfortable showing their hand publicly than they once were.

In a new strategy released earlier this year, Germany’s government declared that its biggest “companies must take geopolitical risks sufficiently into account in their decision making.” It also warned companies that they shouldn’t count on the government to bail them out if they one day faced costs associated with a geopolitical crisis.

A competing message from Chinese Premier Li Qiang was equally blunt: he used a trip to Germany to urge CEOs to make their own investment decisions rather than bend to their government.

It’s tempting to believe this slide all began with Donald Trump’s election in 2016. But the push toward new economic blocs was underway even before his rise or that of other populists. The Obama administration launched geopolitics-motivated trade negotiations with the EU and Asia-Pacific countries that Trump eventually killed. China’s own pursuit of its $900 billion Belt and Road Initiative that reached across Asia and into Africa was nakedly geopolitical from the beginning.

What’s likely to emerge is also more complicated than the usually-deployed Cold War analogy implies.

China still has a dominant role in many supply chains and even the new factories being built are likely to use at least some Chinese inputs for years to come. Analysis by the Rhodium Group found that as companies actively diversify investment and sourcing away from China, even substantial shifts to alternative locations may only result in small declines in China’s role because of its dominance in global manufacturing.

Equally, many emerging economies that have relationships with China still hanker for Western investment, Obstfeld points out. And many don’t want to be forced to choose between rival alliances.

The BRICS may be expanding by adding new members like Saudi Arabia but it’s a bloc still riven with its own geopolitical rivalries as demonstrated by Chinese President Xi Jinping’s decision to skip this months’ G-20 meetings in India.

Beijing’s own alliance-building is showing other cracks. Italy has signaled its plans to exit the Belt and Road Initiative. Just days after what was billed as a triumphant BRICS summit in South Africa, India and Saudi Arabia joined with the US and EU to unveil a plan to build trade and transport links between South Asia, the Middle East and Europe.

Economist Jim O’Neill, who was at Goldman Sachs Group Inc. in 2001 when he first coined the term BRIC to highlight a new club of emerging economies, calls a divide into blocs unrealistic and “hype from political figures and some idealists.”

“Even if you look at the countries who are the most experienced or successful in terms of exporting, for example Germany, South Korea, they are very careful about becoming too beholden to one group or another,” he said.

And yet it’s hard to ignore the emerging data. Companies are betting on geopolitics and it’s having consequences. China’s share of Asian exports is losing ground at the fastest pace in at least two decades in part because trade is diversifying, economists at Nomura said in a report this month. Mexico recently overtook China as the US’s top trading partner.

The “fragmented geopolitical landscape” that BlackRock Chairman Larry Fink declared as a new “structural” force shaping returns on the firm’s July earnings call is here to stay. And even the most iconoclastic CEOs are preparing for a new world. In his own July call with Tesla investors, Elon Musk offered his solution to the rise of geopolitics: “The best we can do is have factories in many parts of the world,” Musk said. “If things get difficult in one part of the world, we can still keep things going in the rest.”

Source from: Bloomberg