Supported by
Executive Summary
Growth at
a crossroads:
measuring the cost of financial fragmentation
Supported by
Executive Summary
Growth at
a crossroads:
measuring the cost of financial fragmentation
The steady march of globalisation over the last several decades has transformed economies across the globe. While its impacts may be debated, globalisation has seeded the belief that international markets and enterprise have the potential to impact lives and livelihoods. Underpinning the spread of goods, services, knowledge and know-how, the global financial system provides the foundation upon which trade in everything from consumer goods to real estate to complex derivatives spans continents and oceans. In low- and middle-income economies across the world, it has opened doors and unlocked opportunities, though its benefits have not always been evenly distributed. Nevertheless, it has fostered global interdependence, creating a more connected world.
Yet the rich tapestry of global economic integration is now under threat. Financial fragmentation, defined as a reduction in international financial integration and the disruption of cross-border payments, credit and investment that ultimately reduces cross-border capital flows, threatens to untie the complex linkages that drive employment, business growth and countries' development.
Growth at a crossroads: measuring the cost of financial fragmentation
Financial fragmentation is gaining momentum, threatening global economic growth and millions of jobs. This report unpacks the driving forces, explores possible scenarios, and reveals the staggering economic costs at stake.
What could be lost due to fragmentation?
Fragmentation harms cross-border capital flows, such as foreign direct investment (FDI), which support consumption, investment financing, risk diversification and resource allocation. Foreign capital enhances productivity by bringing in new knowledge and technology while strengthening domestic financial sectors. Additionally, fragmentation raises the risk of financial instability by increasing funding costs and depressing lending. Without the ability to seamlessly transfer assets and capital, all these risks could compound and flare up. Fragmentation can also set back financial inclusion advancing a world of have and have nots. With investment flows impeded, the gains from decades of globalisation will be put at risk, and further progress on sustainable development and poverty reduction will be increasingly difficult.
This study attempts to predict how financial fragmentation could play out to 2030 and quantifies the effect it could have on global and national GDP and employment. The analysis is grounded in a robust scenario-building exercise that examines probable drivers of fragmentation in the short- to medium-term and maps out three potential futures. These qualitative scenarios are integrated into a comprehensive modelling and quantitative analysis, further enriched by in-depth interviews with experts in global and regional finance.
SCENARIO 1:
New normal
Pace of cross-border capital flow decline is roughly in-line with recent norms.
SCENARIO 2:
Escalation
Pace of cross-border capital flow decline is 2x recent norms.
SCENARIO 3:
Mitigation
Pace of cross-border capital flow decline is 0.5x recent norms.
The table lays out how much lower GDP and jobs would be in each of the three future scenarios of differing levels of fragmentation, compared with the current 2030 forecast set out by The Economist Intelligence Unit (EIU).1
The worst-case scenario is a faster drop in cross-border capital flows, which could reduce GDP by 6% and cost the global economy nearly 280 million jobs.
Looking at individual countries, no country included in our modelling benefits from fragmentation, although the hit to GDP and jobs would be greatest in countries that are heavily reliant on foreign investment inflows.2 In employment, fragmentation would take a bigger bite out of the 2030 pool of high-skilled workers, compared with their lower-skilled counterparts.
SCENARIO 1:
New normal
Pace of cross-border
capital flow decline is
roughly in line with recent norms.
SCENARIO 2:
Escalation
Pace of cross-border
capital flow decline is
2x recent norms.
SCENARIO 3: Mitigation
Pace of cross-border capital flow decline is 0.5x recent norms
New normal
Pace of cross-border capital flow decline is roughly in-line with recent norms
-2.6%
-2.8trn
-4.3%
Escalation
Pace of cross-border capital flow decline is 2x recent norms
-5.9%
-6.5trn
-9.1%
Mitigation
Pace of cross-border capital flow decline is 0.5x recent norms
-1.2%
-1.3trn
-2.1%
GDP(%)
GDP(US$)
Employment
GDP(%)
GDP(US$)
Employment
GDP(%)
GDP(US$)
Employment
Scenarios
Manifest financial destiny
Ensuring that these scenarios do not come to pass means not just taking steps to reverse fragmentation, but putting in place safeguards that mitigate fragmentation’s worst effects. Reducing fragmentation requires harmonised regulation, international cooperation to reduce risks for investors and strengthen the financial system's integrity, and continued market and regulatory innovation to leverage the digital tech revolution. A focus on establishing common standards and enhancing interoperability across financial systems will be essential to ensure these solutions work seamlessly and securely across borders.
Footnotes
1 Although some fragmentation is factored into each baseline EIU country forecast, our model takes a more global view, also capturing the secondary and tertiary impacts of fragmentation and aggregating the likely impact at the global level.
2 https://data.worldbank.org/indicator/BX.KLT.DINV.WD.GD.ZS?most_recent_value_desc=true
Explore the data story
Take a look at some of the key findings from the report in this interactive data story.