That tailspin has ended almost as quickly as it started, and new inflation data today is making the Fed’s upcoming interest rate decision much more straightforward. But it’s worth revisiting what exactly happened in the markets over the past ten days and the lessons we should take heading into a consequential fall.

On August 5, markets in the United States fell 13 percent, in part thanks to Japan’s decision but also based on signals of a cooling US labor market. Global markets have experienced jolts in recent years; In 2023 Silicon Valley Bank (SVB) collapsed, marking one of the largest bank failures since 2008.

Below is a market reaction comparison for SVB and the recent “Summer Selloff.”
Click the arrow to see more.

While the recent shock differed in many ways from the one in March of last year, two key factors set the Summer Selloff apart: the state of the US economy and the situation with Iran.

One of the main reasons the VIX (the stock market’s expectation of volatility, sometimes called the fear gauge) spiked to historic highs last week was the risk of Iran’s retaliation and a wider war in the Middle East. As more serious talks of a ceasefire deal emerged during the week, markets started to recover quickly. But the situation is shifting day-to-day.

In the United States, markets were worried that the Fed was reacting too slowly to what was happening in the jobs market. In February 2023, right before SVB, the United States was adding 300,000 jobs a month, beating all expectations. But last month’s report was under 115,000 jobs. 

The Fed typically convenes eight times a year, but the summer schedule means there will be a notably long seven-week break before interest rates are revisited (absent a highly unlikely, and based on current conditions unnecessary, emergency meeting). This time gap could heighten market anxiety that the Fed is falling behind the curve and further erode confidence among businesses and consumers. While the Fed has signaled that it is preparing to cut rates in September, it is also aware that the meeting takes place six weeks before the presidential election, putting even more scrutiny than usual on its decision making. Federal Reserve Chair Jerome Powell has been clear that the election will in no way impact the Fed’s decision making. 

This morning, the Fed’s decision was made easier. The consumer price index increase data came in lower than expected, at 2.9 percent, which strengthens the argument for a rate cut when the Fed meets next month. In fact, some market participants think the Fed will cut by 50 basis points (bps), or half a percentage point, not its more standard 25 bps move. 

Compare the situation in the US economy now to the one during SVB’s collapse.

When SVB was unfolding, countries around the world knew they could rely on US growth to  stabilize the global economy. Forecasts for the economy were high and labor data was strong. Today, US growth is slowing (forecasted to be under 2 percent in 2025), China’s economy is stalling, and Europe remains stagnant. 

That explains why the market reacted the way it did last week—but what about the rapid recovery? All of last week’s losses have since been recoupled. In short, markets came to their senses. 

True, the Fed does not meet for another month, but Powell will be giving one of his biggest speeches of the year at the Jackson Hole Economic Symposium in a little over a week. The annual central banker retreat brings together financial leaders from across the world’s largest economies to discuss the ongoing economic issues and policy challenges. Powell’s speech is the perfect opportunity to signal the Fed’s intentions to cut rates and cool markets.

Meanwhile markets realized that while the United States is indeed slowing, it is still growing and far from a recession. Today’s inflation data confirms that the Fed—and the broader US economy—still have a very real chance of sticking the “‘soft landing” by hiking rates enough to tame inflation without causing a recession, an outcome that would be far outside the historical norm.

The bottom line is that between an election, the threat of conflict, and a slowing economy, there is likely to be more volatility in the months ahead. But volatility doesn’t necessarily equate to a downturn—it just means there’s more uncertainty than usual. 

Josh Lipsky is the senior director of the Atlantic Council GeoEconomics Center and a former adviser to the International Monetary Fund.

Alisha Chhangani is an assistant director with the Atlantic Council GeoEconomics Center.

This post is adapted from the GeoEconomics Center’s weekly Guide to the Global Economy newsletter. If you are interested in getting the newsletter, email SBusch@atlanticcouncil.org

At the intersection of economics, finance, and foreign policy, the GeoEconomics Center is a translation hub with the goal of helping shape a better global economic future.

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The post Get ready for a volatile fall in the financial markets—but not necessarily a downturn appeared first on Atlantic Council.

The gulf between economic data and official pronouncements grew through the second quarter of 2024. Property markets, stock prices and consumer sentiment all indicated weakness while China showcased engagement with foreign investors and private Chinese firms to signal intent to boost activity. But new policy actions were not market friendly in the period before the July 2024 Third Plenum economic planning meetings. There were a few encouraging signs for foreign investors, including pledges to discipline local protectionism and arbitrary regulations, but these have been heard before, and “promise fatigue” is a serious problem. Most of the clusters we track showed limited progress or further divergence from OECD norms. On trade, China refused to acknowledge the legitimacy of the overcapacity concerns the world was alarmed about.

The second quarter generally reflected the takeaway from the July plenum meetings: China will leverage whatever it can to drive technological advancement, and national security will override efficiency at home and engagement abroad. New rules to address excess local regulation contain expansive national security carveouts, as do pilot measures to allow foreign investment in data centers and telecom. Beijing’s commitment to direct state support to vast swaths of the economy was reinforced this quarter, with the state planning plenum manifesto as a capstone.

Read the full issue brief below

At the intersection of economics, finance, and foreign policy, the GeoEconomics Center is a translation hub with the goal of helping shape a better global economic future.

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Sinographs Jul 23, 2024

Key takeaways from China’s Third Plenum 2024

By Hung Tran

The communiqué of the Third Plenum of the CCP Central Committee lacks major policy initiatives to address the country’s near-term growth challenges.

China Economy & Business

Issue Brief May 15, 2024

China Pathfinder: Q1 2024 update

By GeoEconomics Center and Rhodium Group

In the first quarter of 2024, Beijing pushed forward with a flurry of efforts to support a faltering stock market, ramp up exports to make up for domestic demand, and double-down on high-tech sectors with subsidies and other innovation funding.

China Fiscal and Structural Reform

Report Oct 4, 2023

Running out of road: China Pathfinder 2023 annual scorecard

By Atlantic Council GeoEconomics Center and Rhodium Group

The China Pathfinder project examines whether China’s economy is converging or diverging with the world’s leading open market economies.

China Digital Policy

The post China Pathfinder: Q2 2024 update appeared first on Atlantic Council.

An instigating ingredient added this past weekend was the disappointing jobs report released on Friday. Analysts expected 180,000 jobs—which would signal a slowdown but still relatively healthy job growth. This was, it seems, what the Federal Reserve expected last Wednesday when it decided not to cut interest rates and its chair, Jerome Powell, said, “the labor market has come into better balance.”

Instead, 114,000 jobs were created in July. This was disappointing, and some believed it signaled that the United States is headed for slower growth than forecast and even—dare one say the dreaded word—a recession. But within a day or two, most market participants had taken a deep breath, recognizing that bad weather probably had an impact, remembering that unemployment was still near historic lows, and aware that US gross domestic product growth was far outpacing that of the rest of the Group of Seven (G7).

Then Japan happened. As several financial commentators have noted, a unique mix of problems is plaguing Japanese markets. The Bank of Japan had stuck to zero interest rates during the global cycle of rate hikes but was forced to intervene last week to avoid further yen depreciation. This now means that Japanese borrowing conditions are becoming tighter as recession risks grow, making it an outlier during the coming easing cycle—just as it was during the global cycle of rate hikes. The record Nikkei index rout on Monday can also be attributed to the export-oriented nature of Japanese firms, which had benefited from the weak yen, until now.

So why then did US markets react so violently Monday? It’s not just the jobs report and it’s not just Japan. Instead, it’s the x-factor ingredient—geopolitics. Specifically, Iran’s likely imminent attack on Israel, as retribution for the assassination of Hamas political leader Ismail Haniyeh in Iranian territory.

Pricing in geopolitics is almost always an impossible task for Wall Street. Speculation about equity markets is one thing. Speculation about Ayatollah Ali Khamenei’s intentions is usually far outside traders’ field of expertise. With more uncertainty comes more fear—see the VIX index, which is essentially Wall Street’s fear gauge, below—surprisingly showing that the market is more concerned now than it was during Silicon Valley Bank’s collapse in March 2023. In fact, it’s the highest volatility reading since the COVID-19 pandemic, rivaling volatility during the global financial crisis.

What’s especially hard for markets is to navigate a geopolitical crisis intertwined with bad economic news. Individually, either one can be mitigated and hedged against. But together, the two developing at the same time create a haze that can make each situation appear more threatening than it actually is. How then do we find solid ground? Focus on the data.

The US economic data remains strong. The economy is slowing, but it is nowhere near a recession. And in fact, as the chart below shows, it could slow significantly before falling to the level of its G7 peers.

Moreover, data released Monday show that economic activity in the service sector grew more than expected. And remember that the United States is still creating new jobs, even if at a slower pace than before. Gas prices are significantly lower than two years ago at the outset of Russia’s full-scale invasion of Ukraine. So even if a crisis widens in the Middle East, a slower global economy should keep price increases in check.

Meanwhile, inflation is finally coming back down to the Federal Reserve’s target range of 2 percent. All this signals an economy that is, as long forecast, coming off its breakneck pace. The Federal Reserve should probably have acted sooner by cutting rates last week, but to jump into an emergency session as some have called for is not supported by the data right now and risks creating more panic. The economic fundamentals remain stable.

Geopolitical tensions actually present the greater risk to markets. No one knows how and when Iran will retaliate and what the fallout will be. And as I wrote in February, the relative weakness of the region’s economies means any worsening of the situation could send multiple countries into debt distress and trigger more market failures.

Still, the overwhelming likelihood is that whatever develops in the Middle East this week will be contained to the Middle East. While that may impact energy prices, it is unlikely to trigger wider global economic fallout. To be sure, nothing is guaranteed. The situation could deteriorate and the worst fears could be realized. But it is not the most likely outcome.

So in the days ahead, it’s geopolitical tensions that will likely move the markets more than the macroeconomics. Watch carefully in the coming days (or as Macbeth would say, “tomorrow, and tomorrow, and tomorrow”) as markets recognize this reality and, hopefully, cooler heads prevail.

Josh Lipsky is the senior director of the Atlantic Council’s GeoEconomics Center and a former adviser at the International Monetary Fund.

Data visualizations created by Alisha Chhangani, Mrugank Bhusari, and Sophia Busch.

The post Behind the market turmoil: Why a bad jobs report and the risk of war are shaking the financial world appeared first on Atlantic Council.

With EU countries now facing greater fiscal constraints, the bloc needs to either further amend them or find a way to have more common European debt. Only then will EU member states be able to make the increases in defense spending that are necessary to bolster security on the continent and deter further aggression from Moscow.

The EU’s fiscal rules

The EU is a partial monetary union (not every state uses the euro) and is not a fiscal union. Twenty of its twenty-seven member states use the euro, but they maintain their own public accounts. The EU’s budget amounts to just 1 percent of the bloc’s entire gross domestic product (GDP). Brussels levies few taxes and spends little for the bloc, and that relatively small budget is the sum of the EU’s fiscal union. The real power of the EU resides in the supervision of the member states’ fiscal policies.

This is why some countries with high levels of debt or deficit—France, Italy, Poland (which spends 4.1 percent of its GDP on the military), and several others—might be under special supervision by the European Commission under the Excessive Debt Procedure (EDP). The EDP requires the country in question to provide a plan of fiscal consolidation that it will follow, as well as deadlines for its achievement. Countries that do not follow up on the recommendations may be fined. Of course, many EU countries are in debt, and most of them run a deficit even in good times; in bad times, they just run even bigger deficits. The European Commission will take into account additional military expenditures in the assessment, but only on military equipment, not on increasing the number of soldiers.

In 2023, the average debt-to-GDP ratio in the EU reached 82 percent, and it was even higher in the eurozone, at 89 percent (with France exceeding 110 percent and Italy going beyond 137 percent). The highest deficits were recorded in Italy (7.4 percent of GDP), Hungary (6.7 percent), and Romania (6.6 percent). Eleven EU member states had deficits higher than 3 percent of GDP. In comparison, the United States has a debt of around 123 percent of GDP and ran a deficit of 6.3 percent in 2023.

The original EU fiscal rules implemented thresholds for each country’s deficit and debt at 3 percent and 60 percent of GDP, respectively, and they required cutting national excess debt-to-GDP ratios by one-twentieth each year. These restrictive rules contributed to the eurozone’s prolonged recession from 2011 to 2013, and some rules have since been relaxed. In response to the COVID-19 pandemic, for example, the bloc activated its general escape clause, which allows for deviations from the EU’s Stability and Growth Pact in times of crisis. Moving forward, however, the rules will likely turn restrictive again, though less so than the old ones. In April 2024, EU institutions agreed on a consensual change to the fiscal framework, making the path back to a debt of 60 percent GDP and a deficit below 3 percent of GDP a matter of negotiations between each member state’s government and the European Commission.

Treat military spending differently

Some EU countries, such as France and Poland, argue for military expenditures to be treated differently, as some member states have different needs in the current geopolitical climate. Not all EU member states are in NATO; for example, Austria is neutral. But under the current EU rules, the fiscal space for military expenditures is one-size-fits-all. After Russia’s full-scale invasion of Ukraine in 2022, defense expenditures incurred that year were within the escape clause, but this does not address the underfunding of the military within the EU.

In 2024, the average military expenditures of NATO and EU members is expected to reach 2.2 percent of GDP, with a group of countries far below the threshold of 2 percent. More importantly, these are big economies with relatively large armies, such as Italy (1.49 percent of GDP), Belgium (1.3 percent), and Spain (1.28 percent). All of these countries have high levels of debt and issues with deficits. Germany is set to reach 2.12 percent of GDP on defense spending this year, but it is held back by its constitutional debt brake, which does not allow for an annual deficit higher than 0.35 percent of GDP. This has created tensions within Germany’s coalition government, since spending more on weapons might mean having to spend less on climate change mitigation and social services.

Meanwhile, the United States spends 3.38 percent of its GDP on defense. To put that into perspective, the total expenditure of all European NATO members is $380 billion, almost three times lower than that of the United States (nearly $968 billion). At the same time, Russian military spending this year is estimated to reach $140 billion, or 7.1 percent of its GDP.

Common debt

European capitals need to treat the need for a stronger military in Europe as urgent and serious, but their accountants in the finance departments are not going to make it easy. Unless Brussels changes its fiscal rules to allow for greater defense spending, common EU debt might be the only solution.

The bloc can issue EU debt outside of national fiscal rules, which it did for the first time in response to the COVID-19 pandemic. Some analysts argue for common debt for a European air defense system, which is a good starting point. EU debt funding could include spending on the further development of European defense industrial capacities. EU leaders such as former Estonian Prime Minister and future EU High Representative Kaja Kallas, French President Emmanuel Macron, and European Commissioner for Internal Market Thierry Breton have supported some version of common debt for defense purposes.

Utilizing common debt should not aim solely to expand the power of the European Commission, as some critics in various capitals fear. Instead, it should transform this measure from a temporary crisis-management tool into a standard policy instrument, enabling Europe to develop a meaningful defense industrial strategy, which has been lacking since the EU’s inception. After the failed attempt to establish a European Defence Community in the 1950s, the European project has primarily focused on economic issues. Unfortunately, it’s time to revisit that discussion.

Europeans must now prepare for a challenging geopolitical environment by investing in European defense, whether through changes in fiscal rules or by taking on more European debt.

Whichever path forward the EU chooses, it must do so quickly. There’s no time to waste.

Piotr Arak is the chief economist at VeloBank Poland.

The post The EU needs to adapt its fiscal framework to the threat of war appeared first on Atlantic Council.

Mere moments after the announcement, Macron declared that he would not name a prime minister until after the conclusion of the Olympic Games in August. Until then, a caretaker government under Prime Minister Gabriel Attal will remain in place. Still, the potential of an NFP prime minister spooked the markets, as the party’s economic policies would trigger even more deficit spending. The spread of France’s ten-year bond yield against Germany’s increased by five basis points, reflecting a loss in confidence in the French government’s finances. 

But even after the Olympics, Castets is unlikely to be tapped to form a government. Instead, the parties of the center, center right, and center left will have to endure a tedious drill from which France’s constitution has spared them for decades: negotiations. 

The moderate “Republican Right” (DR) appears ready to play ball and recently put forward a set of policy proposals complete with two red lines that will inform the negotiations. But a deal including the Republicans would not be enough: The centrists would need the more moderate forces from the NFP (read: excluding the far left) to support—or at least not oppose—a government for the time being.

The negotiations behind an arrangement that would bring Communists, Gaullist Republicans, Greens, and centrists under the same banner is likely to be every bit as complicated as one would imagine. But in the likely case that the NFP fails to clear the bar for government formation, this would become the only option. The question then becomes: What could this political hodgepodge compromise on? 

Synchronized steering

Despite having lost the legislative election, the Macron-supporting center block will not concede much on any of its policy laurels. Reversing the controversial and hard-won increase of the retirement age from sixty-two to sixty-four, for example, will be off the table. 

The center right has also set explicit red lines: that there be no tax increases and that fiscal reform not hurt pensioners. 

Taking into account these constraints and the need to manage France’s strained fiscal situation, there is not much negotiating flexibility left. Nevertheless, the centrist coalition must consider some concessions and secure certain inducements if they hope to bring the Republicans, Socialists, and Greens onside. 

1. Green reindustrialization

The adoption of the Inflation Reduction Act (IRA) in the United States prompted pushback from many European states. French Finance Minister Bruno Le Maire and his German counterpart Robert Habeck claimed the legislation was not compatible with World Trade Organization principles and called for the “defense” and green reindustrialization of the European Union (EU). 

In July 2023 the French National Assembly unanimously agreed on the creation of a “national strategy” for green industry, which lays out a plan for the 2023-2030 period. One week later, a Green Industry Law was approved at first reading and later adopted in October 2023. Like the IRA, France’s Green Industry Law seeks to meet environmental objectives (reducing forty-one million tons of CO2 by 2030, or 1 percent of France’s total footprint) and economic ones (positioning France as a leader in green and strategic technologies, while reindustrializing the country). As part of the law, the Green Industry Investment Tax Credit (C31V) was established to encourage companies to carry out industrial projects involving batteries, wind power, solar panels, and heat pumps. The C31V is expected to generate €23 billion in investment and directly create forty thousand jobs by 2030. 

While in opposition, the Socialists and Greens voted against the law and other left parties abstained. All cited the lack of specificity and actual green commitments in the industrialization-centered bill. However, if the centrist bloc offered to revisit the bill or introduce new, more targeted standards and legislation, it could serve as a powerful inducement to win the Greens and Socialists’ support. Given that this French counter to the IRA involves private-sector mobilization and promises reindustrialization, it has the added benefit of being (just about) fiscally feasible and acceptable to the right. 

2. Rewarding effort

The thirty-five-hour work week was first introduced into French law by Lionel Jospin’s Socialist-led government in 2000, and it has since become a cornerstone of the left’s platform. However, the fact that most employees still work above the legal thirty-five-hour limit has led to a system where they can take half days or full days off to compensate for extra hours. 

In August of 2022, Macron’s government successfully passed an amendment that allowed firms to buy these hours back from their employees, essentially transforming them into paid overtime. 

As part of the center right’s current proposal, the group is seeking additional flexibility in the thirty-five-hour work week by reducing taxation on overtime, on top of cutting overall social charges paid by employees. The center right has been fairly nonspecific about how much these would be cut, most likely to avoid alienating the left. However, the main way the Republicans propose to fund this—a cap on unemployment benefits at 70 percent of the minimum wage—would be a red flag for the parties which could otherwise be lured out of the NFP.

3. Balancing budgets

France’s large budget deficit, which in 2023 soared to 5.5 percent of gross domestic product (GDP), raises the stakes. In May, S&P Global Ratings downgraded the country’s long-term credit rating from “AA” to “AA-” and the European Commission reprimanded France for exceeding the EU’s deficit cap of 3 percent of GDP. Today, the Commission formally opened proceedings against France and six other violating countries, directing them to immediately take corrective measures to rectify their fiscal deficits or else face financial sanctions from Brussels. 

Both S&P and the Commission forecast positive economic growth, but emphasize the urgent need for France to address its public finances. Growth alone will not be enough to overcome the fiscal hurdles ahead. 

Reconciling the center right’s rejection of any tax hikes and the need to provide parties of the left with guarantees on social spending for them to abandon the NFP will be very challenging indeed. But there is some room for compromise. 

Shortly after Macron’s arrival at the Élysée Palace for his first mandate in 2017, he moved to slash France’s contentious wealth tax, replacing it with a real estate tax. A flat tax of 30 percent on capital gains was also introduced. The decision came as part of Macron’s pro-business platform in a bid to curb the flight of French millionaires from the country, and it drew sharp criticism from political opponents who labeled him “president of the rich.”

The centrist bloc could offer to reintroduce a progressive taxation scheme on capital gains. In the spirit of France’s goal of green reindustrialization, the centrists could move to keep the favorable 30 percent flat tax for green technologies to encourage investment, while introducing a progressive scheme in other sectors. If they do decide to favor green industrial investment, the tax benefit would have to apply to capital gains accrued throughout the EU—not only France—so as to not violate single market rules. 

Sticking the landing

Negotiations will be more of a marathon than a sprint. Macron is unable to call for new elections for at least the next twelve months, so until then, this parliament will have to find a way to work together. 

After the formation of a government—which Macron has indicated will not begin until after the Olympics—the next major challenge facing French policymakers is to pass the yearly budget by December. This grueling event will be made all the more difficult by today’s unprecedentedly divided National Assembly.

Whichever government emerges from current negotiations will risk having its spending plan voted down immediately. Fortunately for France, the constitution contains a proviso that would allow the state to carry on. Essentially, if the Assembly cannot agree on a new budget, the plan approved for the previous fiscal year will roll over. 

However, recycling this year’s budget would still create a projected deficit of 4.4 percent. This would again violate the EU’s 3 percent cap and fall well short of the deficit reduction the markets—the ultimate referees of how France is faring—are hoping to see. 

Charles Lichfield is the deputy director and C. Boyden Gray senior fellow of the Atlantic Council’s GeoEconomics Center

Gustavo Romero is an intern with the Atlantic Council’s GeoEconomics Center.

At the intersection of economics, finance, and foreign policy, the GeoEconomics Center is a translation hub with the goal of helping shape a better global economic future.

Learn more

The post What French economic policy may look like after the Olympics appeared first on Atlantic Council.

Innovation, according to the communiqué, will be driven by further development in education, science and technology, as well as talent cultivation. China has done well in adopting, refining, and rolling out existing technologies; the open question is whether it can foster endogenous breakthrough innovations to stimulate growth and become self-sufficient in high tech in the face of US controls.

China’s green energy sector has seen much progress in the manufacturing of electric vehicles (EVs), batteries, and solar and wind energy products. China has achieved global dominance in the supply chains of these products, which have increasingly contributed to its economic growth and posed a threat to Western competitors in world markets by creating overcapacity which has increased trade tensions. The communiqué doesn’t seem to take this overcapacity problem seriously.

Promoting consumption will likely be implemented the “Chinese way”: strengthening social safety nets, such as insurance schemes and public provisions for unemployment, healthcare and retirement needs of an aging society. The intention of such measures is to induce households to save less and spend more, instead of raising Chinese citizens’ disposable income. After all, the share of China’s labor compensation to gross domestic product (GDP) is about 58.6 percent, just a touch less than 59.7 percent for the United States. Any increase in wages would risk worsening China’s competitive position against regional producers. Moreover, cutting personal taxes or subsidizing consumption would aggravate already stretched public finances: the International Monetary Fund expects China’s government debt-to-GDP ratio to rise from 83.6 percent in 2023 to 110.1 percent in 2029 under current policies.

The communiqué also highlights other important goals and approaches.

• Giving a bigger role to market mechanisms in the context of strengthening the CCP’s guidance and control of economic activities. This approach has been viewed as self-contradictory sloganeering by Western analysts, but China apparently regards it as the key to success in its decades-long reform efforts. One example of this strategy is the public support, including tax and regulatory preferment and favorable credit provisions, to the EV sector more than a decade ago as part of the “Made in China 2025” campaign. This support helped launch hundreds of startups in China. Since then, those companies have been subject to fierce competition to win customers in the marketplace. Steeply falling EV prices have caused profits to plummet and many companies to go out of business. The dozen or so remaining enterprises—BYD, Li Auto, Nio, and XPeng, among others—have become efficient, able to turn out good-quality products at reasonable prices and win international market shares. This has dismayed Western governments, which have resorted to tariffs to stem the flow of Chinese EV imports.
• Implementing fiscal and taxation reform to ensure sustainable funding for local governments. This is taking place against the backdrop of an ongoing recession in the real estate sector, which is reducing land sale revenues for local governments. Some local governments are reaching crisis levels of debt. The reform will try to better match the fiscal revenues and expenditures assigned to local governments, including widening their revenue bases and bigger fiscal transfers from the central government. The recent policy of issuing long-term central government bonds to gradually replace local government debt will continue.
• Persisting in gradually de-leveraging the (still) highly indebted real estate, local government financing vehicles, and small- and medium-sized financial institutions sectors in a way that minimizes the risk of a financial crisis. This will take time to accomplish. Keep in mind that Japan’s real estate bubble in the 1990’s took more than a decade to deflate.
• Unifying the national market by abolishing internal barriers to commerce. This can unlock potential for domestic production, distribution, and consumption. In the context of developing a domestic single market for labor, reforms of the strict hukou system (family registration system) can promote a rational allocation of labor nationally, improving labor productivity.
• Deepening land reform to give farmers more access to increased land values to promote urban-rural integration. This could help reduce the urban-rural income gap: As of 2023, the average annual per capita disposable income in rural areas is only 40 percent of that in urban areas, according to Statista.
• Continuing to open up to the outside world, but presumably more on Chinese terms and less on Western terms. For example, the share of the renminbi in overseas lending by Chinese banks has risen to more than 35 percent from around 10 percent ten years ago. More importantly, many Belt and Road Initiative loans have been concluded using Chinese laws and dispute settlement mechanisms instead of Western ones, such as British laws traditionally used in international bank lending.

A more in-depth document of the meeting is expected to be released soon. It remains to be seen if China’s leadership will follow up with concrete policy measures to implement those long-term goals. At the same time, Beijing still needs to address the present challenge of weakening growth due mainly to lackluster private consumption. Retail sales rose only 2 percent, pulling down China’s second quarter 2024 GDP growth to a lower-than-expected 4.7 percent.

The heady growth rates of well above 7 percent per year, common a decade ago, are over. China’s leaders face difficult and important decisions in the months and years ahead to execute concrete measures to turn the long-term goals re-affirmed at the Third Plenum into reality.

Hung Tran is a nonresident senior fellow at the Atlantic Council’s GeoEconomics Center, a former executive managing director at the Institute of International Finance, and a former deputy director at the International Monetary Fund.

At the intersection of economics, finance, and foreign policy, the GeoEconomics Center is a translation hub with the goal of helping shape a better global economic future.

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The post Key takeaways from China’s Third Plenum 2024 appeared first on Atlantic Council.

Three years ago, Brian Deese, then the director of the National Economic Council at the White House, came to the Atlantic Council to announce the Biden administration’s new “industrial policy.” Considering that the term had largely been taboo in economic orthodoxy in recent decades, the announcement took many of us at the Council—and throughout Washington—by surprise. But what Deese outlined that day will turn out to be one of the enduring legacies of the Biden administration: coordinated policy to steer public and private capital toward revitalizing domestic manufacturing and prioritizing the technologies needed to compete with China.

The legislation that made up the backbone of this industrial policy will have ripple effects for the rest of the decade: the Inflation Reduction Act, the CHIPS and Science Act, and the Bipartisan Infrastructure Law. In total, the legislation authorized more than two trillion dollars in spending and tax incentives over ten years. But it wasn’t just the money; it was also the fact that major subsidies were directed to US companies producing semiconductors, clean energy, and electric-vehicle batteries. The Biden administration will point to the eight hundred thousand manufacturing jobs and fifteen million total jobs created in the past four years as proof of the success of these policies. Critics will say that the spending was misallocated, fueled the deficit, and contributed to inflation.

The final verdict will come in the years ahead, when all the investments finally pay off—or don’t. But already, the legacy of the decision is clear: There is a bipartisan consensus now on investing in domestic manufacturing. Whether former President Donald Trump or Vice President Kamala Harris becomes the next president—and even if the sectors he or she chooses to focus on are different—that kind of economic policymaking is not going away.

Of course, the rest of the world took notice of the world’s largest economy making a major macroeconomic shift. The Inflation Reduction Act in particular alarmed European allies who saw their own companies racing to set up US subsidiaries and take advantage of the new law’s incentives to manufacture in the United States. 

The administration tried to explain that this new economic approach wasn’t about the United States going it alone. Two years ago, Treasury Secretary Janet Yellen announced the administration’s “friendshoring” strategy at the Atlantic Council. She spoke in detail about how one of the lessons of the COVID-19 pandemic was the need to rethink supply chains and work more closely with partners and allies to achieve economic security and resilience, not just maximize speed and reduce cost. Her choice of the term “friends” was intentional. It was meant to be an outstretched hand to countries such as Vietnam and Indonesia, not just traditional US allies.

Being a friend didn’t mean being a full partner—at least in the ways other countries had come to expect during the previous decades. The Biden administration has remained unwilling to open the US market to allies and other countries any further and has instead pursued trade-facilitation dialogues through plurilateral arrangements, in particular the Trade and Technology Council with the European Union and the Indo-Pacific Economic Framework for Prosperity with the Asia-Pacific. While these were welcome steps, officials from several countries who met with the Atlantic Council’s GeoEconomics Center team over the years said privately that it wasn’t enough. 

What motivated the Biden administration’s economic framework wasn’t only creating jobs at home, although that certainly was a goal. The equally important ambition was competing with China. Biden maintained Trump’s unprecedented tariffs on Chinese goods and added to them earlier this year. The lines between economic policymaking and national security continued to intertwine—and will be impossible to disconnect in the years to come.

Commerce Secretary Gina Raimondo best encapsulated this dynamic when she discussed Chinese electric vehicles at the Atlantic Council in January. Raimondo pointed to the unfair trade distortions created by Chinese subsidies, which could hurt US automakers. (That’s the domestic part of the Biden administration’s economic policy.) Then she pointed out that sensors in those cars could be used for surveillance; Chinese authorities, in fact, are worried enough about US surveillance that they do not allow Tesla cars near secure facilities. (That’s the national security argument.) 

It would be a mistake to say that Biden created a new paradigm in economic policymaking. Instead, he helped rediscover an old idea—one that was part of the founding of the Bretton Woods institutions in 1944, but that the United States largely had the luxury of forgetting in recent decades: Economic security and national security are deeply interconnected. Whatever policies come next, that lesson won’t be forgotten again anytime soon.

Josh Lipsky is the senior director of the Atlantic Council’s GeoEconomics Center and a former adviser at the International Monetary Fund.

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Instead of focusing on China’s current problems, the Third Plenum of the Chinese Communist Party’s (CCP) Central Committee—so-called because it is the third session of the committee’s five-year term—will prepare China for a confrontation with the United States by building industries powered by massive investments in cutting-edge technologies. This program is aimed at reinforcing the party’s hold on Chinese society and paying obeisance to paramount leader Xi Jinping, whose policy mistakes—ranging from zero-COVID-19 lockdowns to a crackdown on major online companies—have produced economic malaise. It will also underline China’s shift away from its longtime economic strategy of growth for growth’s sake.

Among the policies expected to be announced at the July 15-18 plenum (which was inexplicably delayed from late 2023) will be reforms restructuring tax and fiscal policies, as well as greater coordination of regional economic development. Both are policies that will reinforce the role of the central government in guiding development. There will probably also be declarations of support for China’s beleaguered private sector, which accounts for more than 60 percent of gross domestic product and over 80 percent of urban employment. But Xi and his subordinates have emphasized that the policy pendulum is swinging decidedly toward statist solutions.

This strategy will offer little respite to a population struggling to make ends meet and businesses that have lost the will, or means, to invest. Beijing’s drive for what it calls a “high-level socialist market economy” based on “new quality productive forces” will be powered by Xi’s willingness to see the Chinese people—especially its young people—“eat bitterness” in pursuit of national ideals. Government resources are being directed to research and development and industrial subsidies, not social programs.

It should come as no surprise that as the plenum approaches, the Chinese media has featured renewed calls for “common prosperity,” a Mao Zedong-era egalitarian slogan that Xi returned to prominence during the 2021-2022 crackdown on online conglomerates. While that campaign was subsequently de-emphasized, the party-run People’s Daily on June 24 published a full-page article “solidly promoting common prosperity in high-quality development” (originally reported by the Sinocism blog) and a contribution from the secretary general of the Chinese Academy of Social Sciences advocating for China to “resolutely abandon the erroneous tendency of putting capital first, material first, [and] money first.”

All of this is a far cry from the late leader Deng Xiaoping’s call nearly five decades ago to “let some people get rich first.” It is also a clear shift from the landmark directives of previous Third Plenums that heralded market-oriented economic policies. Deng’s turn away from Maoist “class struggle” and toward modernization came at the 1978 Third Plenum. His endorsement of China’s full-fledged opening to the global economy was the theme of the 1993 meeting. And even Xi’s first Third Plenum in 2013 called for more than three hundred market-related reforms (most of which were never implemented).

Since then, however, the ideological tide has turned. The 2018 plenum rubber-stamped the elimination of term limits for CCP general secretaries, allowing Xi to hold power indefinitely and heralding a marked change in policy direction. Recent CCP speeches and articles have featured a word salad of Marxist-Leninist jargon justifying new statist policies and endlessly praising Xi, but the propaganda boils down to greater government control over the economy.

Beijing justifies this policy shift as necessary because of national security concerns, or what the State Council, in announcing the plenum, called “the increasingly fierce international competition” with the United States and its allies as they tighten controls on the flow of technology and capital to China. As a result, Beijing is prioritizing “high-level technological self-reliance,” by investing tens of billions of dollars in research into advanced semiconductors, quantum computing, new types of renewable energy, and many other areas. This high-octane industrial policy has the government supporting state-owned enterprises and picking winners among private companies to achieve rapid growth in “a single-minded pursuit of technological progress,” as Arthur Kroeber wrote in a recent Brookings Institution paper.

Chinese officials certainly pay lip service to addressing the current economic difficulties, and the plenum likely will trumpet its intention to deal with the property crisis and depressed business confidence. But while Beijing has spoken for months about a “new model” of real estate and the need to expand domestic demand, there are few signs of major measures to pursue these goals. Instead, the plenum will push the reform of tax and fiscal policies. This will be aimed at channeling more money to heavily indebted provinces, cities, and counties, whose main source of cash—land sales—has dried up amid the property slump. With the economy struggling and tax revenue falling, Beijing will be hard-pressed to make up the difference, even with more central government resources slated to be shared with local governments. In the end, a newly empowered bureaucracy could end up squeezing the citizenry—especially if, as Xi has envisioned, local authorities are to assume some of the burden of supporting new technologies and industries.

The plenum is also expected to announce measures to reduce restrictions on Chinese citizens’ movement from the countryside to cities, and thus ostensibly offer new opportunities to millions who have not benefited from the country’s growth. But Beijing does not appear to have policies to generate jobs for them. Nor is it taking adequate steps—either social programs or fiscal stimulus to lift consumption—that would assist all those who are feeling the pinch of youth unemployment, lower income, sinking housing prices, corporate downsizing, and a struggling stock market. A highly touted effort to subsidize purchases of new cars and appliances has fallen flat.

China has clearly decided to direct all available resources to next-generation technologies while neglecting to support the vast majority of the population who scrape by outside the tech sector. That suggests Xi will end up with shiny new industries built on a weak economic foundation.

Jeremy Mark is a senior fellow with the Atlantic Council’s GeoEconomics Center. He previously worked for the International Monetary Fund and the Asian Wall Street Journal. Follow him on X: @JedMark888.

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The high rate of dropouts ahead of the second round make the number of three-way races favoring National Rally much lower and a hung parliament more likely. An absolute majority for National Rally cannot be fully ruled out yet, but an absolute majority for the New Popular Front already can. This shift in probabilities has led to diverging reactions in bond yields, which have remained slightly higher than before the first round, and stock prices, which have rallied.  

Following Macron’s announcement of the snap election on June 9, French ten-year bond yields increased more than in any other week since 2011. In other words, it was the worst week for the rate at which France borrows from markets since the heart of the eurozone crisis. 

While he was admittedly in campaign mode, French Finance Minister Bruno Le Maire’s warning of a possible “Liz Truss-style” event if National Rally wins—referring to the 2022 bond market meltdown in the United Kingdom that forced the then-prime minister to reverse course on her fiscal plans—was more than a mere talking point. Increased yields arise from falling demand for government loans, reflecting a diminished faith in a government’s finances. The market could see both the extreme right and the extreme left promising to reverse cost-saving measures taken by the incumbent government (such as pensions reform) without offsetting these with new sources of income. 

This graph shows that the “spread” with German bonds has yet to fall significantly despite the greater likelihood of a hung parliament. Why? 

France’s finances are already fragile. Two weeks ago, the European Commission named France as one of seven countries in violation of its new fiscal rules due to high debt levels and no expected reduction in spending. With no tradition of broad coalitions in France, the assumption at this point is that no government will be able to conduct more cost-cutting or efficiency measures. 

Still, France’s bond yield increases thus far remain far less severe than the UK gilt crisis in 2022. 

On the other hand, the results of the first round prompted stock market prices to rally from their initial steep drop following the announcement of the snap election. France’s private sector seems to have taken comfort from the central scenario of a hung parliament and the elimination of a New Popular Front majority scenario. The likelihood of punitive taxes and other major economic changes businesses would need to contend with is now much lower, but not gone.

While France’s CAC 40 index noticeably increased on Monday and Tuesday, it hasn’t fully recovered the losses made following Macron’s decision to dissolve parliament. Clearly, investors are still waiting to see how the second round and its aftermath play out. In a hung parliament scenario, Macron’s party would have to negotiate with all parties that reject the far right. The strongest bloc among these will be the left. This is enough for investors to remain in wait-and-see mode for now.

Charles Lichfield is the deputy director and C. Boyden Gray senior fellow of the Atlantic Council’s GeoEconomics Center

Sophia Busch is an assistant director with the Atlantic Council GeoEconomics Center.

Clara Falkenek contributed research to this piece.

This post is adapted from the GeoEconomics Center’s weekly Guide to the Global Economy newsletter. If you are interested in getting the newsletter, email
SBusch@atlanticcouncil.org.

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Economic diversification and foreign direct investment

The US-Morocco FTA removed tariffs and significantly reduced trade barriers between the two countries. This, alongside other FTA and advanced trade agreements with the European Union (EU), China, Egypt, Turkey, and the United Arab Emirates (UAE), contributed to Morocco’s efforts to diversify its economy and trade. Through providing access to the US market, the FTA encouraged Moroccan firms to expand into new high-tech manufacturing such as automotive and aeronautics parts, as well as electronics. The agreement has also contributed to a steady increase in bilateral trade. According to the Office of the United States Trade Representative, US-Morocco trade in goods and services has grown to nearly $7 billion annually. This trade growth reflects a deepening of economic ties between the two countries.

Another significant impact of the US-Morocco FTA and other trade agreements has been increased foreign direct investment (FDI). The agreement provided a framework that infused confidence in US and EU investors and caused an inflow of investment in various sectors, including manufacturing, tourism, and renewable energy. These investments have been central in creating jobs and developing the skills of the Moroccan workforce.

One example is the automotive industry, in which major companies like Japan-based Yazaki, Ireland-based Delphi Technologies, Germany-based Schlemmer, and US-based Lear Corporation have established operations in Morocco. These investments have created thousands of jobs and positioned Morocco as a regional hub for automotive parts manufacturing, generating more than $10 billion in revenue and making it a leading sector in the country’s export market. Additionally, the growth of the renewable energy sector has made Morocco a global leader in the green energy industry, with ambitious projects like the Noor Ouarzazate Solar Complex.

Challenges and structural reforms

While Morocco’s FTA and trade agreements with the United States and other major economies have brought numerous benefits, challenges exist. One of the main issues has been guaranteeing that the gains from free trade are distributed equitably across Moroccan society. There is a need for sustained efforts to address regional disparities and support small and medium-sized enterprises (SMEs) that may struggle to compete with state-owned enterprises (SOEs) in a liberalized trade environment.

Moreover, the agreement has highlighted the importance of structural reforms to enhance Morocco’s competitiveness. Hence, the Moroccan government has undertaken various measures to improve the business climate, such as simplifying regulatory procedures, developing and improving infrastructure, and investing in education and vocational training, with a particular focus on empowering girls and women. These reforms are crucial for sustaining long-term economic growth and ensuring that Morocco can fully capitalize on the opportunities presented by free trade.

Future prospects

Looking ahead, the US-Morocco FTA serves as a foundation for further economic cooperation and integration between the two economies. Both countries have expressed a commitment to deepening their trade relationship and exploring new areas of collaboration. For Morocco, this includes leveraging the FTA to attract more investment in high-tech industries and innovation-driven sectors. Morocco’s strategic location and proximity to European Union and African markets, coupled with its relatively modern infrastructure and stable political environment, position it as an attractive investment destination in emerging market economies.

Alongside the agreements signed between Morocco and other countries, the US-Morocco FTA remains one of the most important as it has played an integral role in transforming Morocco’s economy and labor force, contributing to the diversification of its trade portfolio and helping to attract foreign investment. However, regulatory, legal, and labor force challenges remain, and continued efforts are needed to ensure that the benefits of free trade are more equitably shared across various sectors of Moroccan society.

As Morocco looks to the future, the strategic vision should focus on further enhancing its competitive edge and strengthening its position as a key player in the global supply chain. Morocco’s Atlantic Sahel initiative is an important step in this direction. With sustained commitment and strategic planning, the next twenty years can bring even more prosperity and development for the Moroccan economy and greater profits for US and other foreign businesses operating in the kingdom.

Amin Mohseni-Cheraghlou leads the Bretton Woods 2.0 Project at the Atlantic Council’s GeoEconomics Center. He is also a senior lecturer of economics at the American University in Washington, DC.

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In December 2023, Chinese leader Xi Jinping visited Vietnam and agreed on building “shared future” between the two countries, three months after US President Joe Biden announced the US-Vietnam Comprehensive Strategic Partnership. In addition to private companies expanding their manufacturing bases to Vietnam as a de-risking strategy, the two major powers are also doubling down on courting Vietnam on an official level.

Registered investment from China and Hong Kong combined exceeded $8.2 billion in 2023, accounting for 6,688 projects, in contrast with $500 million from the United States. China’s integration in trade with Vietnam has steadily grown over the past decade—reaching $171 billion in 2023, bolstered by the free trade agreement between China and the Association of Southeast Asian Nations (ASEAN) and the Regional Comprehensive Economic Partnership (RCEP) that reduced tariffs and harmonized rules of origin and intellectual property protection. Meanwhile, Biden’s pledges of more investments and easier trade have significant ground to cover. In the first ten months of 2023, the United States invested just $500 million in foreign direct investment (FDI), while exports from the United States plunged by 15 percent to $79.25 billion.

China is positioning itself to prioritize innovation and research and development (R&D), aiming to ascend the value chain and achieve self-reliance in alignment with Xi’s strategy for “high-quality development.” Against the backdrop of the changing economic priorities, the State Council of China published a policy document in December 2023 that supported “core firms in the supply chains” to expand overseas production and leverage global resources. Responding to the “unreasonable trade restrictions” imposed by foreign governments, China is initiating a friendshoring strategy of its own.

The key is electronics. The persistent dominance of China in the critical supply chains of the United States is most evident in the Information and Communication Technology (ICT) sector, supplying 30 percent of US imports by April 2023. Thus, as global scrutiny over China’s manufacturing overcapacity intensifies, electronics companies are figuring out coping strategies. Vietnam’s rules of origin stipulate that if a product includes at least 30 percent of local value content or change to a different Harmonised System (HS) classification, it qualifies as “Made in Vietnam,” which provides a workaround for the trade barriers erected by the US government since the 2017 trade war. As multinational technology firms like Apple diversify their supply chains as part of their “China plus one” strategies, its Chinese suppliers are following this trend. For instance, Apple’s contractor, Luxshare Precision Industry Co., has announced plans to double its investment in Bac Giang, Vietnam to $504 million, responding to a trend of “internationalization of industrial chains.” Goertek, another Apple supplier, is also investing up to $280 million to establish a new subsidiary in Vietnam to serve Apple’s demands.

Since as early as 2013, nine out of the top ten Chinese electronic component and assembly companies have been making greenfield investments in Vietnam, with the capital influx accelerating since 2018. These expansions not only cater to Apple’s appetites, but also aim to broaden their market reach within ASEAN. For instance, BYD plans to open a plant in Vietnam to produce car parts, with the aim to export components to its factory in Thailand that serves mainly the expanding Southeast Asian electric vehicle market.

China accounted for 39 percent of Vietnam’s electronics imports in 2022, with a below-average annual growth rate of 1.3 percent among all sources. Considering that 33.21 percent of Vietnam’s total imports come from China, the electronics sector is not an outlier of particular concern. Vietnam’s electronics supply chain, intermediary and finished combined, remains diversified, with substantial contributions from South Korea (27 percent), Taiwan (9 percent), and Japan (7 percent). Despite recent increases in Chinese FDI, there has not been a corresponding surge in demand for Chinese intermediary goods, challenging the “re-routing” argument that these enterprises mislabel Chinese goods as Vietnam-made to evade tariffs.

Although Vietnam’s sourcing of electronic goods is not overly reliant on China, China can still influence on how Chinese-based companies operate there. When then US President Donald Trump placed an executive order to force TikTok to sell or close in 2020, the Chinese Ministry of Commerce expanded the “Catalogue for Prohibited and Restricted Export Technologies” and prohibited tech transfers relating to big data software. Currently, the ICT section of the catalogue only includes integrated circuits and robotics. Should China decide to include core electronics technologies in this catalogue, plants in Vietnam might face challenges in maintaining production.

As China’s intensifies its strategy of friendshoring in the electronics sector, Vietnam’s industries could be more entangled with China. In response, Washington should proactively bolster its anti-dumping and anti-subsidy enforcement. In a 2019 case, the United States imposed duties of 456.23 percent on steel imports from Vietnam, attributing the decision to the mislabeling of products from South Korea and Taiwan to evade the levies. The United States also has the option of lifting overall duties for products from key industries. Although the Biden administration waived trade duties on solar modules from Vietnam until June 2024, the exemption depends on renewals every two years and companies’ compliance of related trade rules.

The United States remains well-positioned to provide Vietnam with the right incentives to reduce its dependence on China and maintain it as a dependable supply chain partner. Under the CHIPS Act, the United States can allocate a portion of the $500 million of International Technology Security and Innovation Fund to enhance Vietnam’s semiconductor ecosystem. The United States has a strength in mobilizing private investments: it has initiated workforce development initiatives in Vietnam with two million dollars in “seed funding” to incentive the private sector to join. In contrast to Chinese firms, which primarily focus on manufacturing, US companies, including Qualcomm, NVIDIA, and fifteen other companies are planning to establish R&D centers and nurture local talent in technology, aligning with Vietnam’s goal to ascend the value chain and fostering a balanced approach amidst US-China tensions. By portraying itself as a good partner, the United States offers a prospect that Vietnam has every reason to embrace.

Stanley Zhengxi Wu is a former young global professional with the Atlantic Council GeoEconomics Center.

At the intersection of economics, finance, and foreign policy, the GeoEconomics Center is a translation hub with the goal of helping shape a better global economic future.

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The United States is outperforming all of its advanced economy peers in post-COVID growth, and it is not particularly close. As we’ll surely hear from Biden on Thursday, fiscal policy has played a role. The major infrastructure investments through the Inflation Reduction Act and CHIPS and Science Act, have started to create new jobs in the manufacturing sector. The Federal Reserve also played a key role by keeping interest rates near zero for twenty-two months and pumping trillions in liquidity and backstops into the US economy after the crisis. But there are other factors at play as well, including the rise of homegrown artificial intelligence companies and producers such as NVIDIA that make those machines hum, boosting the United States ahead of its fellow Group of Seven (G7) countries. Combined with increased productivity growth, you have the recipe for an unexpected surge in the US economy. 

—Josh Lipsky is the senior director of the Atlantic Council’s GeoEconomics Center and a former adviser at the International Monetary Fund.

How does inflation in the United States compare to the G7? It’s falling, but not as fast as in Europe. The tradeoff with higher growth has been somewhat sticky inflation in the United States and a struggle to get back to the Fed’s 2 percent target range for price growth. It’s the surge in inflation during the pandemic and the still-elevated price levels that have generated so much discontent domestically about the US economy. Voters can’t feel that they may be doing better than citizens in Japan or Germany—what they can feel is how much it costs them to go to the grocery store this year compared to last. 

—Josh Lipsky

One of the biggest points of contention during the debate will be about job creation. Biden will say Trump was the first president since Herbert Hoover to leave office with the United States having lost jobs during his presidency. If there’s one rule in US economic history, it’s to try not to be compared to Herbert Hoover. Of course, the reason for that fact was the COVID-19 pandemic. What’s most surprising, though, is what happened after. Unlike previous recoveries, the US labor market rebounded swiftly and within twenty-nine months had recovered all the jobs lost during the crisis. As of May 2024, over fifteen million jobs have been created during the Biden administration. The numbers are the numbers. The big debate that we will see play out Thursday is which factors drove which parts of the crash and recovery, and who gets the credit or blame. 

—Josh Lipsky

One issue on which both sides of the aisle seem to agree is taking a strong stance on economic competition with China. The question of how strong will be up for debate, with Trump suggesting a 60 percent tariff on Chinese goods and Biden following a more targeted approach in his recent tariff increases on electric vehicles, steel, and other goods. Biden likely won’t mention that most of the Trump-era tariffs remain in place, and Trump won’t want to admit that the share of US imports coming from China is lower now than at any point in the last decade. Two of the driving forces—China’s economic slowdown and zero-COVID policies—probably won’t be part of the discussion. But they should be. 

—Sophia Busch is an assistant director at the GeoEconomics Center.

The US economy continues to show declining emissions intensity of gross domestic product (GDP), meaning the amount of carbon emissions per unit of GDP. Crucially, the United States is cutting emissions while continuing to grow the economy. The Rhodium Group projects that emissions fell 1.9 percent even as the economy expanded by 2.4 percent in 2023. Accordingly, US emissions intensity of real GDP continues to decline even though the US economy is larger than it has ever been. 

—Joseph Webster is a senior fellow at the Atlantic Council’s Global Energy Center.

US energy production stands at an all-time high because of the country’s higher output of oil, gas, and renewable energy sources such as solar and wind. Energy from oil production in 2023 rose by 5 percent compared to pre-COVID times in 2019, while natural gas output increased by 32 percent. Solar energy production has soared by a whopping 104 percent, as wind energy output grew by 44 percent. These developments have put pressure on coal output, which has fallen by 17 percent and is poised to decline further. Crucially, solar generation outpaced coal consumption for the first time in March 2024 in Texas, the country’s largest coal-consuming state. The US energy production mix is changing. Energy production—including for clean energy sources such as solar, wind, and nuclear energy—seems poised to surge if onerous permitting roadblocks, such as for siting transmission lines, are lifted. 

—Joseph Webster

While the United States outperforms other G7 nations in economic growth, it falls behind in broader measures of well-being. Over the past decade, the United States has seen a decline on the Atlantic Council’s Prosperity Index, the only G7 country to experience a decline. More striking is the fact that even in the prosperity components in which the country has experienced improvements, such as education, these gains have been smaller than its peers’. As a result, the United States’ ranking has fallen in virtually all categories of the Prosperity Index since 1995. Yet this decline must be put in perspective, as the United States remains well established among the top countries on the Prosperity Index—ranking thirty-sixth out of 164 countries.

—Joseph Lemoine is the director of the Atlantic Council’s Freedom and Prosperity Center.

Life expectancy, an important health indicator, remains a challenge for the United States. Not only does it lag behind other G7 nations, but it also experienced the worst decline among G7 nations during the COVID-19 pandemic. Furthermore, the United States is one of only two G7 countries, alongside Germany, that hasn’t fully recovered from the pandemic’s impact on life expectancy.

—Joseph Lemoine

Income inequality has been a persistent problem in the United States for decades. While there might be temporary fluctuations, the overall trend shows minimal improvement. There has been some progress made in the last five years, but the United States remains worse off compared to 2010 when it comes to income inequality.

—Joseph Lemoine

Alisha Chhangani, Clara Falkenek, Gustavo Romero, and Konstantinos Mitsotakis of the GeoEconomics Center contributed to the data visualizations in this article.

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As countries from the BRICS group and regions including the Middle East and Asia increase the use of local currencies for cross-border payments, there is a growing perception that the dollar’s importance in international finance is ebbing, particularly in global oil markets and the use of the petrodollar.  

What exactly is the petrodollar? In short, it’s a commitment by Saudi Arabia to use dollar revenues from oil sales to the United States to buy US Treasuries. But the history is more complicated.  

America and Saudi Arabia in 1974

Let’s take a look back to the Nixon administration. The United States was beset by high inflation and large current-account deficits amid an ongoing war in Vietnam, putting downward pressure on the dollar and threatening a run on US gold reserves. In 1971, the United States ended the dollar’s convertibility to gold which had been the lynchpin of the Bretton Woods international monetary system of fixed exchange rates. Major currencies began to float against each other in 1973. Then came the oil shock that fall, when the Organization of Petroleum Exporting Countries (OPEC) cut oil production and embargoed shipments to the United States during the Yom Kippur war. 

Against a backdrop of great economic and political uncertainty, as the Watergate hearings pushed toward their close, the Nixon administration embarked on a diplomatic mission that would cement an economic partnership with Saudi Arabia that has been central to the global energy trade. To encourage Riyadh’s use of the dollar as the medium of exchange for its oil sales,(and thereby funnel those dollars back into Treasury bond markets to help finance US fiscal deficits), Washington promised to supply military equipment to Saudi Arabia and protect its national security. Despite the tumult and instability in the United States at that time, the deal showed that it retained the power to set the international agenda. In addition to keeping demand for the dollar stable, the agreement promoted its use in oil and commodities trading, while creating a steady source of demand for US Treasuries. This helped to strengthen the dollar’s position as the world’s key reserve, financing and transactional currency. 

A brave new world

Fast-forward fifty years, and the dominant global position once enjoyed by the United States has comparatively weakened. Its share of world gross domestic product has declined from 40 percent in 1960 to 25 percent. China’s economy has surpassed the United States in purchasing power parity terms. It now has to vie for influence with an increasingly assertive Beijing, while facing pushes even by allies such as Europe and elsewhere that want to become more autonomous from Washington in financial and foreign policy matters. Specifically, many countries have tried to develop alternative cross-border payment arrangements to the dollar to reduce their vulnerability to Washington’s increasing use of economic and financial sanctions. 

At the same time, the United States has become far less dependent on Saudi oil. Thanks to the shale revolution, in fact, the United States is now the largest oil producer in the world and a net exporter. It still imports oil from Saudi Arabia but at a significantly lower volume. By contrast, China has become Saudi Arabia’s largest oil customer, accounting for more than 20 percent of the kingdom’s oil exports. Beijing has established close, trade-driven relationships throughout the Middle East, where US influence has waned. 

Saudi Arabia’s willingness to diversify the currencies used in selling its oil aligns with a larger strategy that requires the county to increase its international relations beyond the United States and Europe. The Kingdom’s willingness to join the BRICS club of emerging nations and partner with China and other countries in the mBridge project to explore the use of their respective central bank digital currencies (CBDCs) for cross-border payments should not be surprising.  

The dollar’s global dilemma

Saudi Arabia’s interest in currency diversification marks a small but symbolic step down the road toward de-dollarization. Increasingly, countries are using their own currencies in cross-border trade and investment transactions. The arrangements necessary to do so exist entirely outside the influence of any major power. These include currency-swap lines agreed between participating central banks and the linking of national payment and settlement systems. Using local/national currencies for cross-border payments currently entails an efficiency cost, as it relies on less liquid local foreign exchange, money, and hedging markets to directly exchange pairs of local currencies without the dollar as a vehicle. Many countries mentioned above appear to have accepted this cost as necessary to reduce their reliance on the dollar. Advances in digital payment technology, such as tokenization, would greatly reduce such costs. 

Over the past few years, the digital payment ecosystem has progressed significantly toward what is known as “tokenization” units of exchange such as CBDCs or stablecoins pegged to the dollar or any major currencies, a cryptocurrency designed to be fixed to a reference asset, etc. These tokenized units can be exchanged instantaneously and directly without having to be processed through the accounts of intermediaries such as commercial banks. Tokenized currencies are still a long way off from widespread adoption, but such an ecosystem would significantly reduce the need for participants to hold reserves to ensure adequate liquidity, weakening the role of the deep and liquid US Treasury securities market as a key pillar of support for the dollar’s dominant position in international finance. In fact, the share of the dollar in global reserves has already fallen from 71 percent in 1999 to 58.4 percent at present—in favor of several secondary currencies. 

In the foreseeable future, the dollar’s dominance will remain. But a gradual democratization of the global financial landscape may be underway, giving way to a world in which more local currencies can be used for international transactions. In such a world, the dollar would remain prominent but without its outsized clout, complemented by currencies such as the Chinese renminbi, the euro, and the Japanese yen in a way that’s commensurate with the international footprint of their economies. In this context, how Saudi Arabia approaches the petrodollar remains an important harbinger of the financial future to come as its creation was fifty years prior. 

Hung Tran is a nonresident senior fellow at the Atlantic Council’s Geoeconomics Center, a former executive managing director at the Institute of International Finance, and a former deputy director at the International Monetary Fund.

At the intersection of economics, finance, and foreign policy, the GeoEconomics Center is a translation hub with the goal of helping shape a better global economic future.

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Dollar Dominance Monitor

The Dollar Dominance Monitor analyzes the strength of the dollar relative to other major currencies across the world. The project presents interactive indicators to track China’s progress in developing an alternative financial infrastructure.

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On June 18, IPSI nonresident senior fellow Robert Dohner published a column in the Herald Insight Collection, titled, “Why Won’t the Dollar Topple?” He discusses the growth and permanence of the dollar and argues that the huge scale of offshore US dollar credit markets has direct consequences for US monetary policy and financial stability. 

Fellow

Robert Dohner

Senior Fellow

Indo-Pacific Security Initiative Scowcroft Center for Strategy and Security

China Economy & Business

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What’s driving the decision? The RBI has been consistently increasing its gold reserves since December 2017 to diversify its foreign currency assets and mitigate inflation pressures. However, this recent, heightened pace of gold accumulation suggests a strategic shift in response to geopolitics. 

Indeed, that is exactly what RBI Governor Shaktikanta Das alluded to in his recent press conference in April; when he was asked about the volatility in reserves, he pointed directly to the war in Ukraine and the uncertainty that followed. That same day, the chief economist of one of India’s largest public banks, Madan Sabnavis, said, “While the US dollar has historically been a stable currency, its reliability has diminished following the Ukraine conflict.”

Countries such as India have looked at the West’s response to Russia’s invasion and have reconsidered the reliability of holding reserves in traditional currencies, since these assets could be blocked or immobilized by other governments and banks. 

What about the rest of the G20? Since 2021, most countries have kept their gold reserves stable. The fluctuation in the chart above is mostly driven by Turkey, which has bought and sold its own gold to manage local market dynamics and address economic challenges such as high inflation and trade deficits.

It’s not only in pace of purchases where India is leading. The RBI is also leading in gold as a percentage of its reserves among the G20 Asian countries. In 2024, India now holds twice as much gold as a percentage when compared to China.

However, it is important to note that, like China and most other economies, India still holds only a small percentage of its reserves in gold. According to our Dollar Dominance Monitor approximately 59 percent of all foreign exchange reserves are still held in dollars.

Nonetheless, when an important partner of the United States such as India begins seeking alternatives to the world’s reserve currency, it warrants careful attention.

Josh Lipsky is the senior director of the Atlantic Council GeoEconomics Center and a former adviser to the International Monetary Fund.

Alisha Chhangani is a program assistant with the Atlantic Council GeoEconomics Center.

This post is adapted from the GeoEconomics Center’s weekly Guide to the Global Economy newsletter. If you are interested in getting the newsletter, email SBusch@atlanticcouncil.org

At the intersection of economics, finance, and foreign policy, the GeoEconomics Center is a translation hub with the goal of helping shape a better global economic future.

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Women and civil society are indispensable as first responders in the ongoing war. They must also be central to the planning, distribution, and oversight of funds in reconstruction efforts. As the German and Ukrainian governments recognized, the physical reconstruction of Ukraine needs to be paired with a comprehensive social, human-centered recovery. Women, who represent the majority of the highly educated and skilled workforce in Ukraine, are well-positioned to strengthen anti-corruption measures, modernize the energy sector, and drive Ukraine’s reform agenda. All of these components are essential for an effective recovery. In addition, these efforts can help Ukraine meet the conditions for its accession to the European Union (EU).

The record to date for women’s inclusion in recovery efforts has not been what it needs to be. Policymakers must continue to ensure that Ukrainian women leaders will have the opportunity to meaningfully and fully participate in Ukraine’s recovery. Ukraine can only recover if women and civil society are fully involved in its reconstruction.

Where do women fit in the Ukraine recovery agenda?

Held in Lugano, Switzerland, in July 2022, the first recovery conference resulted in the adoption of the “Lugano Declaration,” which includes guiding principles for Ukraine’s recovery process. At the 2023 conference in London, the EU announced the creation of a new Ukrainian facility that would provide a total of fifty billion euros to Ukraine over four years. From this total amount, thirty-nine billion euros will be allocated to the state budget to support macroeconomic stability. Another eight billion euros will go toward a special investment instrument that will cover risks in priority sectors. This year’s conference in Berlin aimed to attract private-sector investment in Ukraine, including in human capital. The agenda included the explicit goal of investing in women and youth. This was a positive development and should encourage international financial institutions and private donors to continue to invest in women-owned and -led businesses in Ukraine, as well as to train Ukrainian women to take on jobs in Ukraine’s critical sectors.

How to unleash Ukrainian women’s economic potential

Invest, train, and enable Ukrainian women. Women in Ukraine and elsewhere have traditionally had limited access to credit, markets, and training opportunities. They have also struggled to balance responsibilities in the workplace and their primary caregiver responsibilities. These challenges must be overcome if women are to fulfill their economic potential.

The World Economic Forum notes that one solution for improving women’s access to credit is to not necessarily demand collateral, because women often do not own private property. Moreover, many women (as well as men) in Ukraine have lost their homes and properties to the war, so providing property as collateral is not likely to be an option for them. Therefore, adopting alternative ways to determine women’s creditworthiness could encourage more women to apply for business loans.

Ukrainian women, with the support of Western companies and institutions, have already stepped up to launch their own startups. These should be scaled up. Since the start of Russia’s invasion, an increasing number of Ukrainian women have founded tech startups, benefitting from improved access to investors outside Ukraine, as well as programs sponsored by the EU, international organizations, and private companies. For example, VISA launched its “She’s Next” program in Ukraine in 2020, and it has since hosted gatherings where Ukrainian women presented their business proposals and received funding and training at business schools. More Western companies should team up with women-led Ukrainian nonprofits to create opportunities for funding female-led startups and give them access to education and training.

Train Ukrainian women to fill workforce gaps in critical sectors. Now is an important time to train Ukrainian women in two critical sectors that will play a key role in rebuilding Ukraine’s economy: finance and cybersecurity. Ukraine has consistently ranked as one of the most corrupt countries in Europe in Transparency International’s global Corruption Perceptions Index. Although Ukraine has made significant progress in the fight against corruption since 2014, it remains a problem and a concern for the United States and other foreign partners. The cost of complete reconstruction is currently estimated to be around $750 billion, but international donors are concerned about the potential misappropriation of funds put toward reconstruction.

Reform of its financial sector is essential for Ukraine to secure financial aid for reconstruction, as well as to meet the requirements for joining the EU. The urgent need for financial system reform coincides with women playing a much larger role in the financial system, both within the government and private sector. By transferring the knowledge of, for example, the best anti-money laundering (AML) practices to Ukrainian women, the West would create a generation of AML experts in Ukraine who are capable of detecting suspicious money flows and preventing corruption and money laundering within the Ukrainian financial system.

At the same time, equipping Ukrainian women with cybersecurity skills would help them defend Ukrainian banks and the financial system from Russian intrusions. Ukrainian banks were one of the primary targets of the cyberattacks that Russia initiated right before launching its full-scale invasion of Ukraine in February 2022. More recently, at the end of 2023, Monobank, one of the largest Ukrainian banks, reported a massive hacker attack. While the bank has not publicly attributed this attack to any specific threat actor, Russia has been suspected due to its history of backing cybercrime groups attacking Ukraine. The persistent threat of Russian cyberattacks against Ukrainian banks should be countered by training Ukrainian women in cybersecurity and digital forensics.

Ukraine’s partners and allies can learn from and build on existing work to train Ukrainian women in cybersecurity. For example, the United Nations Institute for Training and Research organized a project that trained Ukrainian women evacuees in Poland in cybersecurity and data analytics. The project was held from October 2023 to March 2024 and was funded by the government and people of Japan. Private companies have also launched similar initiatives. For example, Microsoft is working with nonprofit organizations in Poland to train Ukrainian women refugees to enter the workforce in cybersecurity. Such projects need to expand to include more partners and reach more Ukrainian women.

Investing in Ukrainian women is smart economics

Leveraging Ukraine recovery conferences and other global convenings to encourage Western investment in Ukrainian women corresponds with the United States’ existing strategy of providing economic incentives to allies—also known as positive economic statecraft. The EU, United Kingdom, and other Group of Seven (G7) members are already heavily invested in Ukraine’s success. Directing investment toward the female workforce will strengthen an already existing strategy of ensuring Ukraine has the resources to minimize economic dependence on Russia. Investment in Ukrainian women will create a multiplier effect for the economy. It is well-known that women often spend their income on education, healthcare, and nutrition—all of which raise the standard of living. This is a force that moves economies forward but is often sidelined.

Finally, Ukrainian women can fill in global workforce gaps, too. Training Ukrainian women in cybersecurity would help address the global cybersecurity skills crisis. Private companies and policymakers often note that the world does not have enough cybersecurity professionals. Meanwhile, Ukraine has a highly educated population, especially in technical subjects. Cyber-trained Ukrainian women could defend not only Ukrainian banks but also businesses and governments around the world.

As policymakers and private sector actors adopt strategies for Ukraine’s reconstruction, it is crucial that they fully leverage the potential of Ukrainian women and help establish the groundwork for an inclusive and sustainable recovery.

Melanne Verveer is the executive director of the Georgetown Institute for Women, Peace and Security and a former United States ambassador-at-large for global women’s issues at the US Department of State.

Kimberly Donovan is the director of the Economic Statecraft Initiative at the Atlantic Council’s GeoEconomics Center and a former senior US Treasury official.

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John Herbst: Putin’s bad late spring continues

Charles Lichfield: The beauty of compromise

Daniel Fried: After some wobbling, this was a week of solid Western backing for Ukraine

Rachel Rizzo: Amid G7 political uncertainty, Meloni is emerging as a bulwark of support for Ukraine

Ian Brzezinski: The US-Ukraine security deal can’t just be a bridge to indefinite NATO delay

Kimberly Donovan: New US sanctions are already impacting Russia—will China feel them too?

Olga Khakova: Ukraine’s allies should keep up the momentum to rebuild its energy sector

Putin’s bad late spring continues

Good news arrived from Italy today because of the superb work of the Biden administration. The G7 finally agreed to Deputy National Security Advisor Daleep Singh’s ingenious initiative to offer Ukraine this year a fifty-billion-dollar-low interest loan collateralized by frozen Russian state assets. US Treasury Secretary Janet Yellen’s strong intervention with reluctant G7 partners­—France, Germany, Italy, and Japan­—helped turn this initiative into G7 policy, which is critical for Ukraine as it fights intensifying Russian attacks on its energy infrastructure. This loan follows the renewal of US aid, the prompt dispatch of US war materiel to Ukraine after the renewal, the decision by the United States and several of its allies to permit Ukraine to use their weapons in Russia, and the subsequent halting of Moscow’s offensive in the north. In other words, Russian President Vladimir Putin’s bad late spring continues. This latest blow to the Kremlin underscores how important strong US leadership can be.

This leaves Putin’s coterie fulminating that it will strike back by expropriating Western assets in Russia. Maybe, but prudent firms­—like France’s Total­—have already written off investments in Russia; and if Russia wants to further mortgage its future by taking this step, it will make even more unlikely the return of foreign capital after its aggression in Ukraine flops and it tries to rejoin the community of nations. Put another way, Russia needs Western investment far more than Western investors need Russia. The havoc created in Russia’s financial markets by this week’s new US sanctions is just the latest indicator of who has the whip hand in the economic relationship between Russia and the West.

This tactical victory against Russian aggression is sweeter because it is also a defeat for Putin’s partner, Chinese leader Xi Jinping, who tried to bully the reluctant G7 members to deter them from embracing this policy. It might also provide a lesson to India, Saudi Arabia, Indonesia, and others who needlessly embarrassed themselves by supporting this failed Chinese effort.

While we should celebrate this day’s accomplishment, we must not rest on our laurels. The Biden administration should follow up its big win by building support for the initiative launched by Philip Zelikow, Lawrence Summers, and Robert Zoellick to seek the transfer of nearly all the roughly $300 billion in frozen Russian state assets to Ukraine.

—John E. Herbst is the senior director of the Atlantic Council’s Eurasia Center and a former US ambassador to Ukraine.

The beauty of compromise

The G7 has struck a deal on bringing forward the value of interest income made off Russia’s immobilized assets. Given that the group was acrimoniously divided over what to do as recently as February, this is an extraordinary achievement.

While it remains unclear exactly how, the United States will be involved. As one of the strongest supporters of the approach, Washington saw itself providing the biggest contribution to a sovereign loan of fifty billion dollars or more. But the European Union (EU) sanctions legislation, which keeps the bulk of the assets blocked, has to be renewed every six months, and the United States could not convince the twenty-seven member states of the EU to switch to a different approach. Reportedly, the United States will still now participate—though the full details of the plan have not yet been made public. Washington may use the five to eight billion dollars allegedly still in the United States to make a smaller loan, while the United Kingdom, Canada, and the EU make a bigger loan. Or perhaps the parties have agreed to keep working on a risk-sharing formula in case EU sanctions are lifted before the United States and other lenders have been paid back.

Fifty billion dollars is over half of Ukraine’s total expenditures in 2023—a game-changing amount. Still, supporters of confiscation are already calling today’s achievement “step one.” But we should appreciate how elegantly today’s compromise navigated the red lines of France, Germany, and other EU member states, while still providing a substantial amount. Let’s take the win and accept that confiscation remains off the table until a multilateral solution can be found.

—Charles Lichfield is the deputy director and C. Boyden Gray senior fellow of the Atlantic Council’s GeoEconomics Center.

After some wobbling, this was a week of solid Western backing for Ukraine

Western backing for Ukraine has firmed up in the wake of the miserably delayed vote for additional assistance by the US Congress in late April. On June 12, the United States issued its most effective sanctions against Russia in two years, a well-thought-out set of measures by the departments of Treasury, State, and Commerce that struck at Russia’s military industry; energy production; evasion of technology controls by firms in China, Turkey, the United Arab Emirates, and elsewhere; and more. One interesting measure was the expansion of authority for sanctions against non-Russian banks and other firms that support Russia’s military industry (“secondary sanctions” that European governments have loudly opposed but now seem to tacitly accept). It’s about time the United States took that step, and it needs to follow through, but it’s a welcome step all the same.

In another welcome move, the G7 has finally agreed (at least in principle) on an arrangement to use immobilized Russian sovereign assets, estimated at around $280 billion, to back Ukraine. In a swift and bold move days after the all-out Russian invasion of Ukraine in February 2022, the G7 locked down Russian assets but has ever since debated whether to use those funds to help Ukraine and, if so, how. Some argued for simply taking Russia’s money and having Russia pay directly for its war against Ukraine. But many in Europe resisted taking that step as too aggressive, even given Russia’s own aggressive war.

Extended European discussions produced a soft consensus to use the interest on the Russian assets. But that would generate only about three billion dollars per year, a sum not commensurate with Ukraine’s need. The United States came up with a creative (and complex) solution: Use twenty years’ or so worth of that interest to back funds to Ukraine, a scheme that could generate a sum of about fifty billion dollars. After much effort, the G7 has reached consensus on that plan. While details have yet to be worked out, fifty billion dollars is nothing to sneer at. The United States was right to close the deal on this compromise and also right in what seems to be its intention to use the principal, the full $280 billion.

​​In a third action, the United States and Ukraine have signed a bilateral memorandum of understanding (MOU) providing for ten years of security cooperation. This is the most recent of a series of bilateral MOUs between Ukraine and the countries supporting it in its fight for national survival. It’s not NATO membership, but the US and other security MOUs are arguably part of Ukraine’s “bridge to NATO,” as the Biden administration has put it.

Much depends on the battlefield, and the news is mixed: Ukraine seems to have halted the Russian ground offensive against Kharkiv, but the Russians could attack elsewhere. Russia is battering Ukraine’s energy infrastructure, but Ukraine has hit Russian military infrastructure in occupied Crimea and elsewhere. Still, it’s been a week of solid Western backing for Ukraine.

—Daniel Fried is the Weiser Family distinguished fellow at the Atlantic Council. His last position in the US government was as sanctions coordinator at the Department of State.

Amid G7 political uncertainty, Meloni is emerging as a bulwark of support for Ukraine

As leaders from the world’s G7 countries gather in Puglia, it’s hard to ignore a few big elephants in the room. First, French President Emmanuel Macron’s trouncing in the recent European Parliament elections by Marine Le Pen’s party led to his potentially politically fatal decision to dissolve parliament. Second, German Chancellor Olaf Scholz’s Social Democratic Party faced a similar result from the center-right Christian Democrats, and a map of Germany’s European Parliament voting results shows that the country is still clearly divided between east and west, with the former solidly in the Alternative for Germany (AfD) camp. Finally, US President Joe Biden arrived in Puglia after a months-long battle on Capitol Hill to pass the latest tranche of Ukraine aid and as the November election looms. 

Who seems to be left out of all the political drama? Italian Prime Minister Giorgia Meloni, whose Brothers of Italy party took home a solid win in the European Parliament elections and who is taking the opportunity to bask in the limelight of transatlantic leadership. In fact, she said Italy is going into the summit with the “strongest government of them all.” She’s not wrong. It’s a surprising turn for Italy’s famously mercurial internal politics: Not only is she seen as a leader on the world stage, supporting Ukraine and NATO, but her leadership is also expected to hold through the entirety of her term. Meloni is using this moment to chart a new course for Italy, including by bringing leaders from outside the G7 to the summit, such as Narendra Modi of India, Cyril Ramaphosa of South Africa, and the pope for his first G7 appearance. She is also solidifying the country’s place at the center of a new relationship between the West and Africa, as well as supporting the EU’s plan to provide a fifty-billion-dollar lifeline to Ukraine using frozen Russian assets. 

Not only is this good for Meloni, but having a bulwark of support amid uncertain political futures in much of the West is good for Ukraine, too.

—Rachel Rizzo is a nonresident senior fellow with the Atlantic Council’s Europe Center.

The US-Ukraine security deal can’t just be a bridge to indefinite NATO delay

The just-announced US-Ukraine security agreement has much good in it, if the US government chooses to execute it in a manner that enables Ukraine to defeat Russia’s invasion quickly, decisively, and on Kyiv’s terms. 

However, the language presenting “a bridge to Ukraine’s eventual membership in the NATO alliance” is yet another repeat of the Alliance’s sixteen-year-old assertion that membership is not a matter of if but when—this time backed by extensive inferences that Ukraine is far from ready for NATO membership.

Nothing is further from the truth. Ukraine meets all the requirements spelled out in Article 10 of the Washington Treaty. It’s a European state. Its democratic credentials are codified in repeated elections found to be free and fair—even when subjected to Russian interference. No country has sacrificed more blood in the defense of transatlantic security in NATO’s history.

That Ukraine would sign up to such language reflects its own disillusionment in the face of US resistance to its aspirations for NATO membership—a disillusionment that was reinforced by Biden’s recent assertion to TIME that peace in Europe does not require Ukrainian membership in NATO.

To reverse this disillusionment and convince Ukraine that this bridge to NATO is not a route to indefinite delay, the Alliance must take tangible steps to integrate Ukraine into its operations and decision making. For too long, Ukraine has remained an outsider to the Alliance amid empty promises of eventual inclusion.

Ukraine should be invited to assign personnel to NATO headquarters and command structures and to sit as an observer at the North Atlantic Council, the Alliance’s top decision-making body. The latter privilege was afforded to countries such as Sweden and Finland, after they were invited to join NATO but before they became members. While that privilege gave those allies a voice in NATO deliberations, it came with no vote and no veto in Alliance decisions and no Article 5 security guarantee.

Ukraine has much to add to the Alliance in those capacities. No country has more experience and expertise to share when it comes to fighting Russia.

These proposals would resonate powerfully in Ukraine and would receive broad support across the Alliance. Even if there is resistance, just by pressing them forward, the United States, as the leader of NATO, would significantly bolster the credibility of its—and the Alliance’s—promise to fulfill Ukraine’s well-deserved transatlantic aspirations.

—​​Ian Brzezinski is a senior fellow at the Atlantic Council and a former US deputy assistant secretary of defense for Europe and NATO policy.

New US sanctions are already impacting Russia—will China feel them too?

The US Treasury’s latest round of sanctions targeted critical aspects of Russia’s financial infrastructure, including the Moscow Exchange (MOEX) and National Clearing Center, among others. These new sanctions are already having an effect. The Central Bank of Russia and MOEX halted trading in US dollars and euros in response to the announcement.

Treasury’s announcement also came with an expansion of secondary sanctions. The secondary sanctions authority that was announced in December was specific to Russia’s military industrial base. The expanded definition of secondary sanctions now includes any Russian individual and entity designated pursuant to Executive Order 14024, which accounts for most of the US Russia-related sanctions. This means that banks that are still transacting with Russia in places such as China and India are exposed to the risk of secondary sanctions. It will be interesting to see how China, and specifically Chinese financial institutions, respond to the latest US actions, considering how Russia has become economically and financially reliant on China over the past two years.

Further, Treasury clarified that the foreign branches of designated Russian banks, such as VTB in China and India, are sanctioned and added their entity names and addresses to the Specially Designated Nationals list. We called out this sanctions gap in the latest edition of the Russian Sanctions Database that we published in May. This action should restrict how Chinese companies do business with Russia, but we’ll have to see, as much of the transactions occur in renminbi, not US dollars. 

—Kimberly Donovan is the director of the Economic Statecraft Initiative within the Atlantic Council’s GeoEconomics Center and a former senior official with the US Treasury Department’s Financial Crimes Enforcement Network.

Ukraine’s allies should keep up the momentum to rebuild its energy sector

The G7 agreement to deliver fifty billion dollars for Ukraine, generated by the interest from seized Russian assets, embodies the West’s reinvigorated willingness to deploy bold, innovative solutions to hold Russia accountable for its immeasurable crimes against Ukraine, particularly when Moscow’s damages (direct and indirect) account for at least $56 billion in losses to Ukraine’s energy sector. 

Some of this interest could be used for air defense against the further destruction of power plants and for rebuilding the energy sector—half of its 18 gigawatt capacity has been blown up. Unsurprisingly, energy dominated the conversations this week at the Ukraine Recovery Conference in Berlin, as energy supply security and affordability underpin every facet of Ukraine’s society and will be the backbone to the success of Ukraine’s rebuilding and recovery. Reliable energy access is vital for citizens’ survival but is also a lifeline for large industries and small and medium-sized enterprises, which have shown inspiring resilience and tenacity in the face of an unrelenting assault. 

It’s crucial to appreciate the novelty, speed, and monumental diplomatic lift of building consensus over such agile solutions. Such a cadence should continue for all work on protecting and rebuilding Ukraine—especially its invaluable energy sector. Most urgently, allies should:

• Overcome speed bumps in the procurement of gas piston and gas turbine power plants, transformers, and other technical equipment 
• Support Ukraine’s further progress on decentralization reforms 
• Empower municipalities in their role in replacing lost power generation 
• Accelerate investments in efficiency solutions to reduce peak demand 
• Lift restrictions on how Ukraine can deploy Western weapons to defend its critical energy infrastructure

—Olga Khakova is the deputy director for European energy security at the Atlantic Council’s Global Energy Center.

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Since Modi became prime minister in 2014, the Indian economy has grown by an average annual real rate of 6 percent to the latest fiscal year ending in March 2024—quite impressive against the backdrop of a slowing down of many major economies, especially China’s, since the COVID-19 pandemic. With annual GDP at around four trillion dollars, the Indian economy has become the fifth largest in the world, poised to overtake Japan and Germany in the foreseeable future to rank third after the United States and China. That growth has been attributed to the Modi economic model—heavy promotion of the information and communications technology (ICT) sector, in particular IT services and other service exports, and the “Make in India” campaign to encourage more manufacturing activity by streamlining administrative tasks, building up infrastructure, and improving banking and payment services.

However, it is important to keep in mind that the 2014-2024 period experienced a slowdown from the previous decade under Prime Minister Manmohan Singh, which had enjoyed an average annual real growth rate of almost 7 percent. The slight slowdown under Modi has preserved the basic features but exacerbated the fundamental weaknesses of the Indian economy. For several decades, the ICT industry has been the most dynamic. But although this sector represents 13 percent of India’s GDP, it relies on a very small number of highly skilled workers—accounting for less than 1 percent of India’s labor force of 594 million (according to the World Bank). And even within this privileged group, slow salary increases have been a cause of frustration for more junior workers.

Under the “Make in India” plan and its recent $24 billion of subsidies to chosen sectors, manufacturing employs 35.6 million workers, or about 6 percent of the labor force—even less than the United States. More importantly, the ratio of foreign direct investment to GDP has fallen to the lowest level in sixteen years. Private sector investment has also declined from more than 25 percent of GDP in the mid-2000s to less than 20 percent. Those declines have contributed to the fact that the share of manufacturing value added in Indian GDP has decreased from 17 percent in 2010 to 13 percent in 2022.

Essentially, even including the impact of consumption spending by workers in the ICT and manufacturing sectors on consumer-related businesses, the contribution of these two sectors to overall employment is relatively small. This could become even smaller if the declining trend in the manufacturing-to-GDP ratio cannot be reversed soon.

The Modi economic model has clearly spurred GDP growth. But its fruits have tended to accrue to a small percentage of the population, raising the number of billionaires to 271 in the process. Income inequality is considered worse than under British colonial rule, according to a new report from the World Inequality Lab. The pace of non-farm job creation has fallen from an average of 7.5 million new jobs a year in the decade prior to Modi’s premiership to about half of that during his time in office. Perversely, employment in the agricultural sector has risen by 56 million workers in the past five years—driven by COVID-related distress. This poor employment performance has thus failed to absorb nearly 12 million new entrants to the labor market each year. As a result, the unemployment rate remains high at more than 8 percent—and much higher at 17.8 percent for young workers compared with the world average of 14.3 percent. The economic and social ramifications for India are even worse than those unfavorable numbers appear to suggest.

India faces a double-edged sword of being the most populous country on earth with more than 1.4 billion inhabitants—75 percent of whom are of working age (15 to 64 years)— but with a labor force participation rate at 51 percent. The Asian average is 63 percent and China’s is 76 percent. Furthermore, only 23 percent of the workforce are salaried workers. The rest work in agricultural and informal sectors. This has made the goal of strong and inclusive growth intractable and difficult to achieve.

India’s huge working-age population can fuel strong growth if adequately and properly employed. However, if job creation cannot keep pace with labor force growth, what could have been a tremendous demographic dividend will turn into an economic and social crisis. The challenge to Modi in the next five years is to carry out a balancing act between maintaining the recent growth momentum and making it more inclusive by providing regular employment, especially for the millions of young entrants to the labor force. This probably means switching government priorities from supporting a few conglomerate national champions to helping the multitude of micro-, small-, and medium-sized enterprises, which provide the bulk of employment in India. Furthermore, government attention should be widened from a focus on advanced technological areas such as semiconductors and artificial intelligence to basic manufacturing and processing, which can create many jobs. Policy announcements in the weeks ahead will tell us how Modi intends to deal with this challenge.

Hung Tran is a nonresident senior fellow at the Atlantic Council’s Geoeconomics Center, a former executive managing director at the Institute of International Finance, and a former deputy director at the International Monetary Fund.

At the intersection of economics, finance, and foreign policy, the GeoEconomics Center is a translation hub with the goal of helping shape a better global economic future.

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Kapil Sharma: A Modi-led coalition government is good news for India’s economic growth

Seema Sirohi: The BJP came into the election overconfident. It leaves humbled.

Ratan Shrivastava: After surprise results, Modi will need to govern more cautiously to keep his coalition together

Shék Jain: Expect Modi to keep pushing back against the West on climate policy, while making changes at the local level

Srujan Palkar: Factionalism split India’s political parties—and their voters

Adnan Ahmad Ansari: India’s democracy is alive and kicking

Jeff Lande: The BJP won, but uncertainty has been introduced to the picture

Nish Acharya: Indian voters just proved the axiom that “all politics is local”

Atman Trivedi: A surprising election verdict puts the BJP on notice

A Modi-led coalition government is good news for India’s economic growth

The Indian electorate handed Modi and the BJP a historic third consecutive five-year term. After an election supported by more than 642 million voters, 312 million of whom were women, Modi, the BJP, and their coalition members have secured a mandate to continue their ambitious political and economic agenda—albeit with a bit more political maneuvering and a much stronger opposition.  

Modi’s win was not a surprise, although it was not expected to be under a coalition government. Still, he is prepared to hit the ground running. Modi’s agenda will likely be executed by a new and younger coalition cabinet, though the exact portfolios and officials are yet to be announced. Even under a coalition government, this is good news for India’s economic growth and business environment. The agenda will continue to include reforms for industrial manufacturing, infrastructure, digitization, regional trade, supply chain agreements, and even land reform—with a coalition government even more likely to emphasize economics. While the Indian equities markets have not reacted favorably to the news of a coalition government, businesses will welcome continued certainty. But as the results have shown, the voters need to feel the success of these policies on the ground with jobs and economic growth.

The BJP has many challenges going forward. The party’s popularity rides on Modi—he polls twice as popular as the BJP as a party and drives a third of its votes. Looking to the future, Modi is seventy-three years old and does not have a clear successor. This is likely his last national election. His popularity and a weaker national opposition party have allowed the BJP to paper over its weaknesses—especially at the state and local levels.

Indian voters have shown that they have taken their vote seriously with the Congress party and other regional parties taking seats in traditional BJP strongholds in the north and west (specifically in Uttar Pradesh and Maharashtra). As former US House Speaker Tip O’Neill famously said, “all politics is local,” and that has never been truer in India.

At this stage, there are three big takeaways from this election: 1) Democracy is alive and well in India; 2) Indians want jobs, jobs, and jobs; and 3) the Indian voter will hold the government to growing the economy over religion. On the third point, it’s worth noting that the BJP is losing in Ayodhya, the site of the Ram Mandir, a temple the BJP fulfilled a campaign promise to build to replace a sixteenth-century Mughal-era mosque razed by Hindu groups in 1992. The site is considered to be one of Hinduism’s holiest sites and has been the center of Indian politics for decades.

The BJP struggled to translate its economic policies and benefits to the average voter. Coupled with a stronger anti-incumbency mood and operating under a coalition government, the BJP will need to work hard to maintain its position as India’s largest party. The BJP and its coalition government are now operating in a “now or never” moment.

—Kapil Sharma is the acting senior director of the Atlantic Council’s South Asia Center.

The BJP came into the election overconfident. It leaves humbled.

The Indian elections were long, spread over six weeks, but they proved to be a thriller in the end. Early results show that the Indian voter decided to humble the mighty and restore balance. The ruling party has done worse than projected and the opposition alliance much better than expected. 

As vote tallies come in, it appears Modi’s BJP may not secure on its own the 272 seats needed for a majority in the 543-member Lok Sabha, the governing lower house. The BJP will be beholden to its allies, something the party has been able to avoid since Modi first came to power in 2014.

The reduced numbers are a far cry from an overconfident projection of four hundred seats by the BJP and its allies and a campaign centered around Modi’s personal appeal. In the end, a host of real issues—inflation, unemployment, rural distress, caste divides—mattered more than a slick message designed to project Modi not just as an Indian leader but as a global statesman. 

The opposition Congress party under Rahul Gandhi has made a spirited comeback with a campaign that emphasized economic issues over religious divides. Gandhi’s two yatras, or journeys, through huge parts of India listening to people and learning about their problems seemed to have resonated with voters. The performance is all the more significant given the uneven playing field—the Modi government is accused of using various ploys to hobble the opposition.

Shrunken and humbled, the BJP will still be able to form a government with Modi as prime minister for the third time, but the party’s allies will extract a bigger price for coming along. 

—Seema Sirohi is a columnist for the Economic Times.

After surprise results, Modi will need to govern more cautiously to keep his coalition together

Heading into his third term as prime minister, this election was marred for Modi by the unrealistic expectations that he set for himself—a target of four hundred parliamentary seats for the ruling National Democratic Alliance (NDA). NDA’s numbers have been diminished, as some parties have left the alliance—including Shiromani Akali Dal, which could have helped the NDA in Punjab, and the Shiv Sena, which could have added eleven more members of parliament (MPs).

This election has seen a close contest in Uttar Pradesh, a state that sends eighty MPs to the parliament. It witnessed the consolidation of minority voters and support for affirmative action, based on the opposition INDIA coalition’s narrative that the ruling NDA would change the constitution and end the reservation system, under which historically disadvantaged castes and communities receive quota-based jobs and educational opportunities.

The election also saw candidates intelligently align themselves in key constituencies, where the Samajwadi Party and Indian National Congress avoided direct clashes and made the BJP/NDA candidates sweat, especially in the eastern Uttar Pradesh and western Uttar Pradesh belt of Jats, which had substantial opposition to the NDA and BJP because of the controversial farm law proposals.

The BJP is still the single largest political party in the parliament, and the NDA coalition will return to power, as it has comfortably crossed the required majority of 272 seats in parliament. But Modi’s administration will be weakened by the pressures of running a coalition government and catering to demands based on regional mandates, which makes bold economic or political decisions long in the making. This may impact policy formulation and the financial investments by big corporations as well as the stock market, in the near term.

Modi may not be seriously impacted by the election results, nor is his image in the international arena likely to suffer. He will still be the prime minister and thus represent the government and India in international fora, but he will need to tread with caution to keep his coalition together.

—Ratan Shrivastava is a nonresident senior fellow at the Atlantic Council’s South Asia Center and managing director at Bower Group Asia. He previously served in the Indian Ministry of Defense.

Expect Modi to keep pushing back against the West on climate policy, while making changes at the local level

Modi and the BJP will garner another five years to implement their vision of Bharat with the assistance of coalition partners. Modi’s support appears firm, while the BJP experienced stronger regional challenges than expected.  

Voters seem satisfied with Modi’s efforts to elevate India on the global stage and with many of his policies for national economic growth. Viewed from the lens of climate change, the electorate appears content with Modi’s performance at the COP26 climate change summit in 2021—where Modi committed to reducing India’s carbon emissions to net-zero by 2070—and as president of the Group of Twenty (G20) last year. Constituents largely agree with Modi’s position that India needs balance in solving climate change and deserves an opportunity to develop like Western nations. I expect to see Modi double down on this position and work with the developing nations grouping known as the BRICS to deflate pressure from the West. Modi will flex more on global climate change, arguing that sustainability encompasses poverty alleviation and economic opportunity as much as environmental stewardship.

But Modi cannot ignore the fact that his party lost ground in this election. Modi’s support as a strongman facing the rest of the world may be intact, but the BJP’s strong-arm approach domestically seems to have made the electorate wary. The climate corollary is that, while India’s international stance on climate change is popular, the BJP’s approach at the local level has been less effective (notwithstanding the borderless nature of most pollution). Constituents do not seem to be able to connect the dots on how BJP climate policies benefit them. The air is still polluted, clean water remains scarce, heat is reaching unlivable levels, and climate catastrophes keep occurring. To shore up his party, Modi likely will start connecting these dots by promoting new, farmer-friendly alternatives to burning crop residues, doing more on water recycling and floodwater detention/retention, and making lower-carbon cooking fuels more accessible. Look for new programs, or revamping of existing programs, in these areas.

—Shék Jain is a nonresident senior fellow at the Atlantic Council’s South Asia Center and chairman of the Pura Terra Foundation.

Factionalism split India’s political parties—and their voters

Despite India’s massive scale, Indian national elections are largely local. More accurately, these elections are contested on a regional level. Recognizing these regional issues is crucial to understanding the national result. For example, the increasing political factionalism at the regional level split the loyalty of politicians and voters alike. In various regions, political parties from across the ideological spectrum have split into opposing factions or allied with ideologically unaligned parties—running with the BJP to hold onto power or teaming up with the rest of the opposition to topple the BJP. Amid the factionalism, the BJP has relied largely on Modi to sway voters.

To understand the complexity, consider just one state, Maharashtra. Maharashtra’s politics since the state’s formation in 1960 have been eccentric and eclectic to say the least—with only one chief minister (the equivalent of a governor in the United States) having completed a full five-year term. Four major parties ran in Maharashtra in the 2019 elections. Over the years, two of these parties split, resulting in different factions of them being simultaneously in government and opposition. As the results come in, the BJP and the Congress party are leading in Maharashtra, but in third and fourth place are the surviving factions of the broken parties running against the BJP. In Maharashtra and several other states, factionalism worked to secure power for the BJP by bringing together diametrically opposed right-wing and left-wing parties, but this method has not received validation from the Indian voters in Maharashtra as the results of this election cycle show. 

Maharashtra is only one example, and political factionalism is only one topic that has trended in India in the last five years. The results show that Indian citizens have paid attention to the regional issues affecting tens and hundreds of millions—political factionalism, women’s rights, employment, government employment in all sectors including the military, communal strife, controversial legislation, caste discrimination, and regional discrimination. 

—Srujan Palkar is a program assistant at the Atlantic Council’s South Asia Center.

India’s democracy is alive and kicking

India’s election results held a surprise that very few expected. Modi is expected to become the prime minister for a third consecutive term, unless there are any last-minute surprises or changes in coalitions, which cannot be ruled out—stranger things have happened in Indian democracy. Yet, this victory should feel like a setback for Modi. He gave a clarion call for his coalition to get four hundred seats. However, his coalition is struggling to gain even three hundred seats and his party is falling short of an absolute majority. The BJP has won, but it’s a victory of a different kind. The Congress party is celebrating, despite winning only around one hundred seats in the parliament. But for them, it’s a defeat that must feel like a victory, since they performed much better than expected. 

However, the key takeaway from this election is that India’s democracy is alive and kicking. It is a myth that the Indian economy and polity thrives under especially strong majority governments. Some of India’s biggest economic reforms happened under the coalition governments of the 1990s and 2000s. This result, in which the BJP will need to form a coalition to govern, should give us hope.

India has a parliamentary form of government, which some say was slowly turning into a “prime ministerial” form of government (with power concentrated in the executive). These election results will give back some of the power to the legislature. 

We can expect India’s parliament and parliamentary committees to become more active, with more bills being debated and deliberated. This is also a vote that shows that the Indian electorate does not cast its votes based on singular issues. Regional issues cannot be neglected, every vote needs to be earned, and overconfidence can be lethal. The best politics is building an economy that works for everyone—these elections have reminded us of this fact. The country will see policy continuity, but with checks. India will have the strongest opposition it has had in the past ten years, but a decisive leader still at the top.

Both sides may claim victory based on these surprising election results. But India’s democracy has been the biggest winner in these elections. And that is the best outcome we may have asked for.

—Adnan Ahmad Ansari is a nonresident senior fellow at the Atlantic Council’s South Asia Center and associate vice president at the Asia Group.

The BJP won, but uncertainty has been introduced to the picture

The election results are a surprise given the predictions going into the vote count. The results reinforce the difficulty of gathering such polling data around the world. Exit polls and media reports from across the country had set the expectation of a massive win—and perhaps even an absolute majority—for Modi and his ruling BJP.

The BJP did win, but by a significantly smaller margin than many predicted. Instead of looking at an absolute-majority rule, the BJP appears headed for a return to coalition politics. This surprise creates political and policy uncertainties that will have at least short-term consequences. A reversal of the sort of investments and capital expenditure that the government has advanced in recent years, in favor of a return to subsidies, protectionism, and welfare programs, is unlikely. But uncertainty has been introduced into the picture. Policy and political decisions will likely be delayed. Industry, particularly multinational corporations, and partner governments may hold off on some decisions as they wait and see how the new government develops.

Among the sectors least affected could be the technology sector, particularly software and services. This is because the ruling parties, throughout the past several decades, have all seen the tech sector as a growth engine for the economy, exports, and jobs. In contrast, infrastructure, agriculture, and large banks are among those that face questions about the shape and impact of potential policy changes.

—Jeff Lande is a nonresident fellow at the Atlantic Council’s South Asia Center, president of the Lande Group, and senior advisor to Conlon Public Strategies.

Indian voters just proved the axiom that “all politics is local”

Listening to the speakers at a recent business conference in India, as I did recently, one would never have predicted the election results announced today in India. Business and government leaders spoke about export-driven growth, artificial intelligence, advanced manufacturing, and ambitious visions for India over the next twenty-five years. But every so often, election results prove that voters are not necessarily as monolithic or unsophisticated as elites may think them to be. Clearly, it was what the chief executive officers and ministers did not speak of—income inequality, local development, and the fabric of society—that was on the minds of voters.

India is at an important transition point that will make life difficult for any leader. The prime minister, MPs, and business leaders should be speaking about India’s emerging role on the global stage. They should be positioning India in the Quadrilateral Security Dialogue as a leader on climate change and investing in emerging technologies.

And the BJP was rewarded for strong stewardship of the economy over the past ten years. India’s hard infrastructure—roads, bridges, and airports—have all improved significantly. Electricity and clean water are far more accessible than before. And the tough implementation of economic reforms, such as the goods and services tax and digital public infrastructure, are rapidly bringing millions of people into the formal economy.

But, as the US politician Tip O’Neill famously said, “all politics is local.” Despite strong overall economic growth, the real numbers are more complex. After subsidy adjustments, the growth rate is really closer to 6 percent. Growth remains concentrated in the south and west. Pollution and extreme heat are unbearable for large portions of the year in Delhi. And India still has nearly two hundred million people living below the global poverty line of $1.25 a day. 

This wasn’t a Hindutva election. It was not an embrace or rejection of the BJP’s majoritarian agenda. Instead, it was the type of pushback that voters around the world often provide when politicians and business leaders lose sight of the important issues in front of them.   

 —Nish Acharya is a nonresident fellow at the Atlantic Council’s South Asia Center.

A surprising election verdict puts the BJP on notice

While vote counting is ongoing, the BJP has won significantly fewer seats than expected. This national poll was, first and foremost, a referendum on Modi and his populist policies. After all, the BJP ran a presidential-style campaign with its charismatic leader front and center.

The party is still on track to remain by far the largest in the lower house, but its results fall well short of expectations. Nevertheless, voters seem comfortable with Modi and much of his agenda—the BJP’s vote share may prove to be comparable to 2019. Indians also appear keen to voice their concerns over economic distress and rising inequality.

Under Modi’s reign, the country has begun to witness robust economic growth after uneven progress during the pandemic. The economy grew at 8.2 percent in the fiscal year ending March 31, and the International Monetary Fund forecasts that it will grow by 6.8 percent in 2024 and 6.5 percent in 2025. India’s hard and digital infrastructure has improved, as well.

The problem is most Indians have not adequately participated in the fruits of an economy with gaudy headline numbers. Growth is unequal, and jobs are few and far between. Unemployment was the top concern for 27 percent of respondents in a recent poll. Against this backdrop, it’s not difficult to understand why both domestic consumption and investment are tepid.

In these elections, the BJP appealed to the religious identity of India’s Hindu majority, while Congress cautioned that a BJP landslide would result in changes to the constitution, removing exceptions afforded to the historically marginalized. Building temples, no matter how grand, doesn’t put food on tables. To address everyday concerns, Modi has accelerated welfare support, but at the cost of reducing already low public investment in education and health.

The surprising partial results begin to puncture Modi’s aura of invincibility, chip away at the BJP’s dominance, and breathe new life into Congress. The BJP still casts a large shadow over Indian politics, but it lacks a policy mandate. 

Coalition governments require compromises. That reality could complicate any plans for ambitious structural reforms on land, labor, or opening India’s markets to unfinished and intermediate inputs. 

Despite the skittish reaction from equity markets, a governing coalition could lead to a sustained period of strong economic growth, like in the 1990s and 2000s. Additional consultation, while perhaps slowing reforms, promises to strengthen the health of India’s democracy. 

Until now, most questions about succession and party leadership have been pointedly directed at Gandhi, the sometimes-reluctant leader of India’s most storied political family. While it is hard to imagine anyone filling Modi’s shoes, there will likely be more open discussion about who in the BJP succeeds the seventy-three-year-old. 

Voters have once again defied expectations and, once more, confirmed the resiliency of India’s democracy. So close to solidifying his status atop the list of the world’s most popular democratically elected leaders, Modi must now rely on kingmakers to help determine the BJP’s future.

—Atman Trivedi is a nonresident senior fellow with the Atlantic Council’s South Asia Center and partner at Albright Stonebridge Group, where he leads the firm’s South Asia Practice. He previously worked on US-India affairs in the US Commerce Department, the US State Department, and for then US Senate Foreign Relations Committee Chairman John Kerry.

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The strength of India’s economy is one reason for the BJP’s favorable position in the polls. When Modi became prime minister in 2014, India had the tenth largest economy in the world. Today, it has the fifth. So what might the world expect from a “Modi 3.0” in terms of economic priorities if the elections pan out as expected? And would this political stability mean an end to policy uncertainty?

The administration appeared to be sprinting in the lead-up to March 16, when the election’s model code of conduct came into effect to discourage policy announcements that could influence voters before the contest. On March 10, the government signed a free trade agreement with the European Free Trade Association, and on March 15 it announced a new policy to open the Indian market to the world’s leading electric vehicle companies. It also approved three new semiconductor projects, revised prices for liquefied petroleum gas, and formalized rules to implement the Citizenship Amendment Act before the March 16 deadline.

This flurry of activity could continue after the election. Modi has reportedly asked his cabinet to develop an ambitious hundred-day agenda for a third term. Assessing the BJP’s election manifesto and other signals, the following are some of the likely economic priorities for Modi 3.0.

Intensified efforts to grow India’s footprint in global value chains, including in pharmaceuticals, medical devices, electric vehicles, green energy, and electronics. The government will likely refine its incentives—including the flagship production-linked incentives—based on the experience gained in their design and implementation. Policymakers are also likely to continue their trade push, with a free trade agreement with Oman reportedly awaiting signature after the elections, and talks with the United Kingdom, the Gulf Cooperation Council, and the European Union, among others, at different stages of progress.

A third term could also involve efforts toward factor market reforms, including a revived push to see through the labor market reforms initiated in 2019. However, such reforms will require substantial political capital. Their progress will therefore be contingent on the size of the BJP’s majority in parliament and on support from state governments, which have substantial mandates over their implementation.

Continued emphasis on physical and digital infrastructure and on the energy transition. The government will likely maintain a high budgetary allocation toward initiatives to expand and modernize its infrastructure, including Gati Shakti and the National Logistics Policy. These initiatives will involve the accelerated development and modernization of highways, railways, airports, and ports.

The government will also continue building digital public infrastructure (DPI) based on the India Stack. The DPI approach for payments has enabled a rapid increase in financial inclusion. The government might next prioritize access to credit for individuals and small businesses.

While petroleum will remain a key part of the energy mix, the government is likely to maintain its goal of using green energy sources for much of India’s growing energy requirements. Policymakers will seek to continue prioritizing solar—including a massive effort to increase the use of rooftop solar in homes—as well as “green molecules” (hydrogen, ammonia, and methanol), batteries, and electric vehicles. Nuclear energy, especially small modular reactors, could be a new area of focus.

Safeguarding and empowering groups most vulnerable to economic shocks. The administration could deploy a mix of current and new programs—involving benefits, credit, skilling, and employment guarantees—aimed at women, the youth, the poor, farmers, and small-business owners. Such groups are simultaneously the most vulnerable to economic shocks, especially given global technological trends and the ongoing transformation of India’s economy, and among the most electorally powerful.

The administration has already asked the International Labor Organization to help develop a living wage framework to replace the current minimum wage approach. The government is also looking into widening social safety nets to better cover informal workers.

Further growing India’s global profile and leadership. The government will likely redouble its efforts to represent the voices and interests of the Global South and to obtain a permanent seat on the United Nations Security Council. While this might seem to be a purely geopolitical goal, there are associated economic factors as well. The government will continue to partner with like-minded nations in areas such as security, diversifying supply chains, and critical and emerging technology. Closer to home, the administration will look to build on its relationships with the governments of Bangladesh, Bhutan, Nepal, and Sri Lanka to continue growing connectivity, commerce, and other linkages in South Asia.

India’s economy is expected to become the third largest in the world in the coming years. However, the administration will likely face challenges both abroad and at home as it seeks to keep its economy growing at around 7 percent of gross domestic product per year. To name just one example, the United States and Europe ramping up their industrial policies could dampen manufacturing growth in India by limiting foreign direct investment and exports.

Domestically, even if the Modi administration returns to power with a strong mandate, there will be times of policy uncertainty. For instance, some policymakers support a more open approach to trade and others favor protectionism. Some policymakers might even modulate at times between openness and protectionism.

Such seeming confusion is natural in a large and diverse democracy with a myriad of interest groups but it nonetheless will present challenges. Additionally, perspectives and priorities will vary across different arms of government, depending on the specific constellation of stakeholders each represents. But observers would do well to focus on the overall trajectory rather than be distracted by temporary fluctuations.

Taken together, if the election manifesto and ongoing policy discussions are any indication, Modi 3.0 has the makings of a transformative term for India and the world.

Gopal Nadadur is a nonresident senior fellow at the Atlantic Council’s South Asia Center and is also vice president for South Asia at The Asia Group.

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According to the administration, there are two major motivations behind these tariff increases: 1) Protect and stimulate US clean energy industries and supply chains, and 2) Counter a flood of Chinese goods, as Beijing turns to exports to compensate for weak internal demand.

The challenge with the second objective is that, as was evident in the 2018 trade war, tariffs are not likely to change Chinese behavior. The question with this new wave of tariffs is if there will be a more united strategy with G7 allies, as Secretary Yellen called for in her speech yesterday in Frankfurt en route to the G7 finance ministers meeting.

A shared strategy among allies would not only communicate shared concern, but may also make China’s export-driven growth strategy less viable if important markets use tariffs and other barriers to reduce imports on rapidly growing industries like EVs. 

This is easier said than done. The United States can impose high electric vehicle tariffs because China only represents 1-2 percent of the US EV imports. By contrast, EVs from China already comprise over 20 percent of Europe’s EV imports, making tariffs more likely to raise costs for consumers. Then there’s European exports to China. Over the last seven years, the EU’s share of China’s auto imports has been more than double the US’ share, at 45.5 percent compared to 20.2 percent.

The Biden Administration’s decision also means that Chinese manufacturers may further ramp up their exports to non-US destinations. That could put enormous pressure on US partners, especially Brussels. As G7 leaders meet this weekend in Stresa, Italy, from May 24 to 25, they’ll discuss the potential for a shared strategy on Chinese overcapacity.

Europe’s year-long anti-dumping investigation is wrapping up this month, and a decision is due by July 4. Will the EU impose anything close to the US policy on Chinese EVs? Unlikely. The potential retaliatory strike on European auto exports to China is just too costly to stomach. 

The highest the EU may go is 30 percent, but as Rhodium Group has pointed out, a move like that would still not have a major impact on European demand given China’s subsidies and competitive pricing. 

Then there’s Japan. Japan has no auto tariffs, but maintains many non-tariff barriers to auto imports to help ensure the success of its car companies. Last year, however, the top electric vehicle in Japan wasn’t made by Toyota or Honda—it was BYD’s Dolphin. 

Still, Japan’s import market for electric vehicles is small, importing only 22,848 electric vehicles in 2023. Fully electric vehicles made up only 1.8 percent of total auto sales last year, as Japanese car manufacturers have gravitated towards hybrid models like the Toyota Prius. Japan’s primary concern is not China dominating its domestic import market—but rather holding on to its place as the top global exporter of vehicles. 

In fact, China exported more cars than Japan for the first time last year, many of which went to Japan’s neighbors. In response, Japan and its ASEAN neighbors announced on May 20 that they will develop a joint strategy on auto production by September this year to compete with China, especially on electric vehicles. 

The bottom line? In this sector, tariffs, working in isolation, can’t fully achieve all the objectives—no matter how high they go. It’s only when tariffs are relatively aligned across countries and then matched with positive inducements, new trade arrangements, and, ultimately, a better product, that the trajectory could change. 

Josh Lipsky is the senior director of the Atlantic Council GeoEconomics Center and a former adviser to the International Monetary Fund.

Sophia Busch is an assistant director with the Atlantic Council GeoEconomics Center where she supports the center’s work on trade.

Ryan Murphy contributed research to this piece.

This post is adapted from the GeoEconomics Center’s weekly Guide to the Global Economy newsletter. If you are interested in getting the newsletter, email SBusch@atlanticcouncil.org

At the intersection of economics, finance, and foreign policy, the GeoEconomics Center is a translation hub with the goal of helping shape a better global economic future.

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It is an honor to provide testimony to the US-China Economic and Security Review Commission on the topic of outbound investment from the United States to China, its potential to create national security concerns, and ways in which to address these concerns in a balanced and effective manner. In this testimony, I provide:

• Descriptive data that show the United States is the primary overseas investor in China, mostly through venture capital, though the volume of these flows has declined substantially in recent years.
• An overview of the four key components of the executive order on regulating certain types of US investment to China that I believe are most important to maintain, primarily at the strategic design level.
• A review of three key questions/challenges in implementation that remain after reading the advanced notice of proposed rulemaking (ANPRM) that was released in August 2023, along with recommendations for how to address these challenges.

My core recommendations are as follows:

1. That the Commission should affirm the importance of maintaining any outbound regulation as a notification/prohibition regime rather than a screening apparatus.
2. That the Commission should endorse a sector-based approach to outbound investment regulation. List-based approaches, notably the NS-CMIC list, can be judiciously used to complement sector restrictions, but the bulk of the outbound regime should rest on narrow sectoral restrictions.
3. That the US Congress should consider providing a statutory basis for the NS-CMIC list and extending its reach to include non-public subsidiaries of NS-CMIC listed companies as well as to non-public companies that are determined to be part of China’s military-industrial complex.
4. That Congress should refrain from adding non-national security-related tests, such as supply chain diversity or local employment considerations, to any legislation related to outbound investment regulation.
5. That Congress recommend that Treasury’s final rule for implementing E.O. 14105 include an intangible benefits test to scope covered investments as described above and that any legislation regarding outbound regulation include the same provision.
6. That Congress recommend that Treasury’s final rule for implementing E.O. 14105 further clarify “routine intracompany actions,” and ensure that the rule does not allow for material expansion or operational pivots into covered activities. Any legislation regarding outbound regulation should include similar clarity.
7. That Congress, in addition to adopting recommendation 3, further modify the CMIC program to authorize the designation of Chinese entities beyond the current scope to include any Chinese entity operating in sectors important to US national security, as defined through a regulatory process. These sectors may be broader than the three sectors identified for the purpose of the current implementing rules for E.O. 14105 but should be relatively narrow and stable. A subset of the Critical and Emerging Technologies List (CETL) is a good place to start.

Level-setting the scale of US outbound investment to China

US outbound non-passive investment flows to China have declined substantially in recent years, likely due to policy changes in the United States as well as the Chinese Communist Party (CCP)’s crack down on Chinese tech companies.

Greenfield investment

According to available data, in recent years greenfield investment in China has declined dramatically – both from US investors and the rest of the world. Figure 1 comes from fdiMarkets, the pre-eminent data source for greenfield investment. This chart illustrates that greenfield investment from any foreign source – not just the United States – has declined from a peak in 2018 of roughly $120 billion to under $20 billion in 2022. Note that fdiMarkets uses announcement data rather than realized investment, so many FDI experts believe their numbers are likely to be a bit inflated. Clearly, global investors are avoiding greenfield investment in China, likely due to a mix of push and pull factors. US sources of greenfield investment totaled $8.69 billion in 2020.

Mergers and acquisitions (M&A), private equity (PE), and venture investment (VC)

Pitchbook data can provide more insight into non-greenfield US investment to China. As Figure 2 illustrates, Pitchbook data reports a high watermark of US investment in companies headquartered in mainland China, Hong Kong, or Macau in 2018. Investment volumes have declined every year since 2021; in 2023, US outbound investment to China was 30 percent of its 2021 value. To compare volumes across greenfield and these other forms of investment, US investment through M&A, PE, and VC was about three times as large as global greenfield FDI to China in 2022. A key feature of US investment in China is that a large portion of these flows happen through VC. However, an important caveat is that Pitchbook’s data relies on systematic web crawling and is unable to capture investments that have not been reported in regulatory filings, news articles, or press releases. Because US investors are not currently required to notify outbound investment – at least until E.O. 14105 is implemented – we simply do not know the full universe of US investments into China. Indeed, the reporting component of the E.O. will be very important to better understanding the full scale of US investment to China, and better allow policy makers to scope any regulation appropriately given the true volume of such investments. A costly and burdensome regulatory process to address a tiny concern is not in the long-term interest of the United States.

A deeper dive into the sectors that E.O. 14105 currently contemplates regulating suggests that US participation in these areas is quite small and almost exclusively concentrated in VC, as Figure 3 reports. Furthermore, this investment is almost entirely in the semiconductor industry; in 2020, investments in all other sectors amounted to only about $700 million.

Furthermore, the US is the most important global source of investment to China. Figures 4 and 5 present capital raised in China from investors headquartered in places other than China and the US in all industries (Figure 4) and in key national security technology industries (Figure 5). The United States supplies greater than half of all inward FDI to China and is even more dominant in the relatively small volumes of FDI into national security technology. Moreover, we do not see the United States’ relative position as major supplier of FDI to China diminishing, even as the US government has indicated it will place more restrictions on these kinds of flows.

Taken as a whole, these figures suggest that the size of U.S. investments in Chinese companies of concern is relatively small, but also that the United States is the primary global investor in these sectors. Even small deal values can generate national security concerns if US investors provide capital and expertise to a small set of key entities. However, the available data suggest that the scale of the concern – and particularly outside of the semiconductor industry – is modest. The data also suggest that an effective approach to this potential national security problem needs to address VC, since that is the dominate mode of US investor participation in these core sectors of concern.

Assessing E.O. 14105 – Addressing US investments in certain international security technologies and products in countries of concern – and its proposed rules

The executive order, for which we expect draft rules to be released within the next several weeks, is directionally an appropriate step forward in addressing national security concerns that arise from US investment in sensitive, national security-relevant technology in China. Four of the likely design features outlined in the related ANPRM that are important to maintain are:

1. A notification and prohibition regime rather than a case-by-case review. Initial policy conversations around an outbound regulation envisioned a screening process typically referred to as “reverse CFIUS.” However, the administrability of outbound case-by-case review would be much more complicated than is inbound. This is because The US government has better visibility into the capabilities and national security vulnerabilities of US businesses – which are the targets of inbound investments – than of such capabilities and vulnerabilities of businesses based in China. Additionally, the US government has more leverage over companies that wish to invest in its market – and therefore need its ongoing regulatory approval – than it has over companies that operate in foreign markets over which the US government does not enjoy regulatory authority. In the absence of such investigatory capability or compellence power, a screening mechanism would likely be very challenging to implement effectively. A notification and prohibition regime has the added benefit of providing industry and investors with bright lines about what investments are allowed and which are prohibited, which makes compliance and developing forward-looking business strategies more possible.
   
   Recommendation 1:  The Commission should affirm the importance of maintaining any outbound regulation as a notification/prohibition regime rather than a screening apparatus.
   
   
2. A (narrow) sector-based approach rather than an entity/list-based approach. Some in Congress have suggested that a sector-based approach is inadvisable because, while a sector-based prohibition regime would prevent US persons from investing in Chinese sectors of concern, it would not prevent investors from other countries from doing so. To make restrictions more biting, and to make them apply to investors beyond the United States, some have suggested a list-based approach in which the US government would regularly update a list of Chinese entities that are connected to the Chinese defense and/or surveillance industrial base and impose asset blocks on these entities through the Specially Designated Nationals (SDN) List.
   
   It is my view that this approach creates many problems. First, overuse of the SDN list generates substantial incentives for economic actors to further shift their activities out of the US dollar. While dollar dominance enjoys substantial persistence due to network effects, there is mounting evidence that country governments and related economic actors are increasingly finding ways to avoid US dollars – and thereby the reach of US financial sanctions – through cross border payments systems that do not use the dollar as an intermediary, and by shifting economic activity into other currencies. Dollar avoidance not only erodes the power of financial sanctions more generally, but it also makes it harder for the United States to track patterns in investment flows globally. This, in turn, makes enforcement of existing sanctions and disruption of money laundering activities more challenging. Thus, the unintended negative consequences of a list-based approach are high. Furthermore, the designation process is investigatively burdensome and exposes the US government to litigation. As a civil action, SDN packages need to provide substantial evidence that a designated entity is a national security threat, and designated persons can sue the US government to be removed from listing. Because of this legal structure, an SDN approach would be unable to address risks associated with US investments in Chinese entities working on more speculative but high consequence technologies. This is the exact type of national security concern – that is, early-stage investments and assistance through knowhow in pre-commercialization stages – that the US government identified as a gap in authorities because US export controls are not able to capture these kinds of emerging technologies well.
   
   Recommendation 2: The Commission should endorse a sector-based approach to outbound investment regulation. List-based approaches, notably the NS-CMIC list (more below), can be judiciously used to complement sector restrictions, but the bulk of the outbound regime should rest on narrow sectoral restrictions.
   
   
3. A focus on non-passive investments. There has been a flurry of policy entrepreneurship and innovation around addressing national security concerns related to US investments in Chinese military/surveillance technology. The current E.O. develops a regulatory structure around non-passive investment (colloquially, often referred to as “money plus,” meaning money that comes with control, knowhow, or other forms of more active engagement with the Chinese entity obtaining the investment. Others have argued that such an approach does not go far enough, and instead desire to completely remove all US money from the China market, including passive investment through securities. Indeed, proponents of a list-based approach argue that designations would stop flows of all kinds of US investments to listed entities, not just foreign direct investment (FDI) orVC. While preventing any US money from entering the China market may be symbolically satisfying, this kind of divestment is least likely to have an appreciable effect on decreasing China’s capacity for indigenous development and deployment of advanced technology for military and surveillance purposes. This is because money is fungible and the global equity market capitalization outside of the United States is roughly $62.8 trillion. Moreover, US share of global capital markets is projected to decline from about 42.5 percent today to about 27 percent in 2050.
   
   Thus, the bar for preventing such passive investments much be higher than restrictions on non-passive investments since the benefit-cost ratio of such actions is lower. Already, the non-SDN Chinese Military-Industrial Complex Companies (NS-CMIC) List allows the US government to prevent passive investment in designated entities that are identified as part of China’s military industrial complex, even if they are not state-owned. These authorities exist through E.O. 13959 and amendments. Currently, these restrictions only apply to relevant Chinese companies that are publicly traded.
   
   Recommendation 3: The US Congress should consider providing a statutory basis for the NS-CMIC list and extending its reach to include non-public subsidiaries of NS-CMIC listed companies as well as to non-public companies that are determined to be part of China’s military-industrial complex.
   
   
4. A focus on national security objectives rather than broader “economic security” or supply chain resilience concerns. Discussions on outbound investment regulations began in earnest after Senators Bob Casey and John Cornyn circulated a preliminary version of their draft legislation – the National Critical Capabilities Defense Act – in 2021. As the name implies, this early version of an outbound regulation concept was rooted not only in national security but also broader objectives around supply chain resilience. Over time, and through substantial and rigorous policy discussions, supply chain resilience components were eliminated from draft legislation on this matter and from the E.O. that was ultimately released. I view this as sound policy.
   
   As discussed in greater detail in a 2022 policy report I co-authored with Emily Kilcrease, supply chain concerns are largely due to features of the domestic and global economy that make supplier diversity and localized production commercially unviable. In that report, we recommended that the US government address supply chain resilience concerns through industrial policy and other actions that could incentivize re-shoring and friend-shoring to trusted suppliers. The Congress’ actions on supporting the semiconductor, EV, infrastructure, and other related industries and supply chains through legislative action such as the CHIPS and Science Act and the Inflation Reduction Act are far better able to address the underlying market challenges that have created supply chain fragilities in the first place.
   
   Moreover, by focusing squarely on national security and related technology, the United States is better able to act in a coordinated fashion with partners and allies. The Summer 2023 G-7 communique on economic resilience and economic security is indicative of the positive returns to such multilateral engagement, as leaders affirmed the legitimacy and importance of targeted outbound investment measures to protect “sensitive technologies from being used in ways that threaten international peace and security.” The European Commission’s January 2024 package on economic security, which includes monitoring and evaluation process for considering outbound controls, further illustrates the benefits of multilateral engagement around narrow, technology-related regulations on outbound investment.
   
   Recommendation 4: Congress should refrain from adding non-national security-related tests, such as supply chain diversity or local employment considerations, to any legislation related to outbound investment regulation.
   
   Outstanding design issues for an outbound investment regime
   At time of writing, the draft rules for the outbound E.O. have not yet been released. However, the advanced notice of proposed rulemaking surfaced several issues that a final rule will need to address.
   
   
5. Aligning covered investments more closely to the concept of intangible benefits. As discussed above, it is my assessment that it is correct to focus on non-passive investments. To do so well, the final rules will need to differentiate between purely passive investment and capital that confers some form of intangible benefit. Currently, there is no such test. Instead, the draft rules scope jurisdiction to investment that either rise above a control threshold or confer some form of special rights. But this rights-based approach may not be appropriate for a country with weak rule of law and shareholder protection such as China where control and influence are often exercised in more informal and extralegal ways. Such an approach may also lead to rule circumvention as investors interested in maintaining or expanding China presence simply shift their activities in China away from traditional FDI and VC structures and into uncovered forms of participation such as venture debt, business consulting, and/or university-to-university research collaborations. A final rule may better ensure that all relevant forms of intangible benefits are covered by constructing an intangible benefits test, in which a transaction would be covered if any one of the following conditions is met:
   
   • The US investor has a role in “substantive decision making” regarding the invested entity, leveraging this concept as it exists in the CFIUS context (see 31 CFR 800.245);
   • The US investor conducts one of a range of specified activities with respect to the invested entity, including the provision of management expertise;
   • The US investment conveys control of the invested entity to the US investor, with “control” set as a clearly defined percentage threshold; or
   • The US investment conveys a defined set of management or governance rights short of “control.”
     
     Recommendation 5: That Congress recommend that Treasury’s final rule for implementing E.O. 14105 include an intangible benefits test to scope covered investments as described above and that any legislation regarding outbound regulation include the same provision.
     
     
6. Coverage of growth transactions and operational pivots. Under the current text, it is unclear how the new outbound authorities will apply to follow-on transactions that are made after an initial investment, both in scenarios where the initial investment was made prior to the effective date of the new authorities and those made after the effective date. The ANRPM envisions exempting “routine intracompany actions,” providing an explicit exemption for the “intracompany transfer of funds from a US parent to a subsidiary located in a country of concern.” This text would allow for a US company to sustain an existing operation in a country of concern and to undertake the necessary financial transactions to do so. However, it also appears that this provision allows for a company to expand its investment without constraint if the funds to do so are made available via an intracompany transfer of funds.
   
   Material expansion of existing investments is likely inconsistent with the policy intent of the E.O. If so, the final rule should include clear standards for which intracompany transfers will be considered “routine” and therefore exempt from notifications or prohibitions and which will trigger new obligations under the notification/prohibition regime. The Chips Act guardrails set clear standards around material expansion, with respect to the investments in China of companies receiving Chips Act funding, that could be leveraged for the purposes of this rulemaking as well, at least for covered semiconductor investments.
   
   Similarly, the rule should anticipate scenarios in which a US person invests in a Chinese entity that is not a covered transaction at the time of investment, but, through a change in business strategy, pivots to operate in a covered national security technology or product. This is not a hypothetic exercise: for example, a US person could invest in a Chinese facial recognition software company that plans to develop its products for commercial use, but subsequently the Chinese entity could change its orientation to instead focus on selling its products to the Chinese government for surveillance use. This is of particular concern for cases in which the US person holds a non-controlling interest in the entity, and therefore cannot exert influence to prevent problematic changes to business plans. The final rule should clarify whether US persons are required to notify such investments and/or if the rule would require divestment if entity into which the US person invested subsequently operated in a prohibited national security technology or product.
   
   Recommendation 6: That Congress recommend that Treasury’s final rule for implementing E.O. 14105 further clarify “routine intracompany actions,” and ensure that the rule does not allow for material expansion or operational pivots into covered activities. Any legislation regarding outbound regulation should include similar clarity. 
   
   
7. Differences in corporate supply chain expansion vs. venture & technology startups. As outlined in the section above on trends in outbound investment from the United States to China, there are two types of investment that the US government is most worried could create national security concerns. First are corporate investments, usually made either to execute a global supply chain strategy or to serve the China market. The second are VCinvestments in early-stage companies operating in emerging technologies that may be used for military or surveillance purposes. E.O. 14105 attempts to address both kinds of investments in the same manner, but the differences in the incentives for and structure of corporate operational versus venture investments are substantial. In particular, venture investments are more speculative in that early-stage investment is made before it is clear what the commercial use for a nascent technology will be. Additionally, divesting from a venture capital position is very challenging as early-stage investment is all but frozen until an eventual liquidity event – usually after fifteen or more years of holding the investment position.
   
   Thus, venture investments present three key challenges to policy makers that are usually absent or less relevant to corporate operational investments:
   
   
   • The speculative nature of their technologies’ capabilities and use make it harder to draw narrow bright line distinctions between permissible and impermissible investments.
   • Funding structure flexibility provides VC investors with more opportunities to design their investments in ways that avoid generating reporting obligations or prohibition requirements.
   • Venture positions are illiquid over the medium term, making divestment more challenging.
   
   
   • Given this, it is advisable for the US government to consider additional ways in which forward guidance can help shape the commercial incentives of VC investors in ways that disincentivize early-stage investment in Chinese entities involved in the development of technology that may not be consider national security technology or products at the time of investment but that have a high likelihood of future national security implications. As outlined in greater detail in a report co-authored with Emily Kilcrease, it is advisable for the US government to undertake a set of actions designed to reshape investor expectations about the long-term financial payout to, and the reputational risks associated with, early-stage investments in technologies that are likely to develop into national security technologies or products.
     
     The goal of such actions is to better align investor incentives such that they are less willing to participate in particularly problematic start-ups, thus reducing the need for the US government to be prohibiting transactions or issuing divestment requirements in a heavy-handed manner. Already, the Congress has made steps in this direction by introducing legislation requiring the disclosure by previously exempted investors of their holdings in China and other adversarial jurisdictions. Additionally, the Congress can codify an expanded version of the NS-CMIC list to commit to preventing US persons from investing – even passively – in a set of designated Chinese entities that operate in a narrow set of particularly concerning national security technology areas. Doing so will communicate to VCs that their early-stage investments will not be rewarded by big payoffs during future liquidity events because US investors will be unable to participate in initial public offerings for these companies or private placements. Thus, the value of this approach is its deterrent effect on shifting the calculus of early-stage investors against participating in Chinese startups with technology that are likely to have use cases of particular concern for national security.
     
     Recommendation 7: That Congress, in addition to adopting recommendation 3, further modify the CMIC program to authorize the designation of Chinese entities beyond the current scope to include any Chinese entity operating in sectors important to US national security, as defined through a regulatory process. These sectors may be broader than the three sectors identified for the purpose of the current implementing rules for E.O. 14105 but should be relatively narrow and stable. A subset of the Critical and Emerging Technologies List (CETL) is a good place to start.
   
   
   

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The reality is that Beijing’s measures are a mere drop in an ocean of empty or unfinished apartment buildings, moribund developers who have defaulted on at least $124.5 billion of dollar debt, and hundreds of millions of homeowners who once bet on a now-collapsed property bubble. It also is bad news for an economy that over the past two decades came to rely on the property sector—and the industries like construction that it turbocharged—to provide between 20 and 30 percent of the growth that fueled China’s economic “miracle.”

Even if the Chinese government eventually comes to grips with the current crisis, it is extremely unlikely that the property engine will end up firing on more than a few cylinders. The combination of a declining population, slowing urbanization, and market changes that have made new homes less attractive than existing housing stock means that frothy property development will be a thing of the past.

None of this is good news for the global economy. The downsizing of China’s housing demand will be felt by natural resource suppliers across the developing world. But of far greater concern will be the implications of China’s growing reliance on low-priced exports to fuel growth—a surge that already is sparking trade tensions with the United States, Europe, and emerging market countries. This dependence on factory output will be a constant now that the property bubble has collapsed, taking with it a big chunk of Chinese domestic demand.

The impact of the real estate downturn has been reflected for months in China’s economic indicators. Sales of new and existing homes fell at a record pace in April, and property investment plummeted nearly 10 percent year on year. Home prices posted their sharpest decline in nearly ten years. The impact on employment in the property sector has been severe: an estimated half million real estate jobs have disappeared since 2020.

The carryover to the larger economy has been severe. Consumer spending has been hit especially hard, with many small businesses failing to recover from China’s strict Covid-19 shutdowns. Automobile sales posted their largest one-month drop in nearly two years in April, and overall retail sales rose at an anemic pace. Youth unemployment is a lingering problem, although the government’s recent recalculation of that number after it rose to an embarrassing 21 percent has masked the true extent of the problem.

The damage from the property collapse is virtually everywhere in China, with the possible exception of mega-cities like Shanghai and Beijing. Unoccupied and uncompleted buildings are ubiquitous, especially in smaller provincial cities that hosted the final stages of the building boom. Housing statistics compiled by Bloomberg and Chinese researchers estimate that the current stock of unsold housing in 100 major cities totaled 511.8 million square meters at the end of February, down from a peak of 530.6 million at the end of 2022. That is roughly ten times the total office space in Manhattan.

Goldman Sachs estimated last month that it will cost 7.7 trillion yuan to buy up enough apartments to return China’s inventory of empty homes to 2018 levels—and that assumes a 50 percent discount on current market prices. That figure is roughly 25 times the amount in the central bank’s bailout plan. The same study calculates that Chinese developers need $553 billion to complete housing that they pre-sold to buyers, and then failed to finish, in what amounted to a nationwide Ponzi scheme. Even that is far more than the $42 billion allocated in the new plan.

The core problem that China faces in dealing with the remains of its property bubble is the sector’s interlocking financial obligations of private and government developers, financial institutions ranging from state banks to shadow institutions, and local governments (many of which set up financing vehicles to buy land that the governments themselves put up for sale). With the market’s collapse, that foundation now has become profoundly unstable.

While developers have defaulted on their dollar-denominated bonds issued overseas—leaving foreign investors with little recourse but to file suit in Hong Kong courts—Beijing so far has tried to forestall defaults and restructuring of yuan debts. To mishandle the situation could have destabilizing consequences that would further damage the economy and undermine the legitimacy of Xi Jinping’s government. The result so far has been incremental steps: funding for some developers to complete pre-sold apartments, interest rate cuts to encourage buyers, and the release of funding like last week’s central bank initiative.

But buyers remain cautious, in part because prices so far are not coming down significantly. More importantly, banks are very hesitant to lend the cheaper money that’s been made available. For example, when the central bank last year made available $27 billion of interest-free funding developers to complete apartments, banks lent only a tiny proportion. They worry that they will be left holding the bag when defaulters eventually default.

On the other hand, history suggests that a bailout delayed only becomes an ever-larger bailout. The IMF, which has considerable experience helping countries address property crises has recommended that China pursue “more market-based adjustment in home prices and quickly restructur[e] insolvent developers to clear the overhang of inventories and ease fears that prices will continue to gradually decline.”

But it is not clear whether Beijing is willing to commit the trillions of yuan—and the political capital—that will be required to do this. The government has begun issuing what is slated to amount to $138 billion of ultra-long-term bonds this year and has announced plans for $539 billion of local government bonds. But it remains to be seen how much will go to relieve the property crisis. With local governments and their financing vehicles overloaded with more than 100 trillion yuan of debt, Beijing is facing many difficult decisions.

It may just end up trying to muddle through while repeating its declaration of the need “to urgently build a new model of real estate development,” as the Politburo stated on April 30. In that case, it will continue to widen the divide between weak domestic demand and expanding exports—with all the international political tensions that inevitably will result.

Jeremy Mark is a senior fellow with the Atlantic Council’s GeoEconomics Center. He previously worked for the International Monetary Fund and the Asian Wall Street Journal. Follow him on Twitter: @JedMark888.

The post There’s less to China’s housing bailout than meets the eye appeared first on Atlantic Council.

In March 2024, China’s Premier Li Qiang capped off a bumpy first quarter by cancelling a traditional annual press conference to talk about the government’s plans for the coming year. But in many ways, China’s policy measures spoke for themselves. The year-to-date story has been one of harried effort to support a faltering stock market, ramp up exports to make up for domestic demand, and double-down on high-tech sectors with subsidies and other innovation funding. The most important policy document of China’s economic year, the Government Work Report, promised state guidance and fiscal expansion but did not address the structural problems that have impaired Beijing from doing that in the past several years.

We identify some positive policy developments compatible with global market norms this quarter, including in financial system development and direct investment openness. New data security guidelines provided some reassurance to skittish foreign investors after years of uncertainty on the scope of data rules. Beijing pledged once again to ease the business environment and level the competitive playing field for foreign firms, this time through twenty-four measures and a charm offensive with foreign CEOs at the China Development Forum. And despite uncertainty, foreign portfolio investors took advantage of premium China bond returns, even as direct investment stalled.

These policy strategies were mostly familiar. In most of the areas monitored under the Pathfinder framework, there was either no market convergence or active backsliding. There was little to no public discussion of the structural and systemic factors weighing on the economic outlook, low productivity, foreign concerns over overcapacity or exchange rate risks. This paucity of needed debate fanned the flame of discussions in G7 capitals about the need to coordinate collective trade defense. While a few signs of the end of the property correction are showing up, suggesting a cyclical stabilization with the next several quarters, the longer-term headwinds to sustainable growth will mount until meaningful market reforms are implemented.

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Report Oct 4, 2023

Running out of road: China Pathfinder 2023 annual scorecard

By Atlantic Council GeoEconomics Center and Rhodium Group

The China Pathfinder project examines whether China’s economy is converging or diverging with the world’s leading open market economies.

China Digital Policy

Issue Brief Feb 5, 2024

China Pathfinder update: Lack of policy solutions in second half of 2023 belies official data

By GeoEconomics Center and Rhodium Group

Through the second half of 2023, the gap between China’s impressive official data and visibly underwhelming consumer demand, unresolved local government debt problems and an unprecedented drop in foreign direct investment was stark.

China Economy & Business

Econographics Dec 11, 2023

China’s manufacturing overcapacity threatens global green goods trade

By Niels Graham

Chinese lending is exacerbating a growing glut in its green manufacturing sector. Beijing is increasingly looking abroad to absorb excess capacity. This may have devastating effects for the global trading system as economies move to protect their own domestic industry.

China Economy & Business

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Catalyzing climate financing through the Green Climate Fund

Mafalda Duarte, executive director of the Green Climate Fund (GCF), gave a succinct overview of the GCF’s role and its work in mobilizing and implementing climate financing in the Middle East and North Africa (MENA) and across the globe. 

She explained that the GCF functions as the main financial mechanism of the United Nations Framework Convention on Climate Change, bringing some $14 billion in resources to more than 250 adaptation and mitigation projects in 129 developing countries. Under its mandate and the direction of its board, the GCF prioritizes assisting the world’s most climate-vulnerable countries.

Duarte emphasized the inclusivity of the GCF’s work, noting that adequate climate financing requires partnerships with national governments, international organizations, and the global private sector. Partnering with a vast network of organizations, including the IMF and World Bank, gives the GCF access to a large-scale and flexible resource pool. She listed advisory services, project preparation, loans, equity, guarantees, and results-based payments as some tools that the GCF can leverage.

She also mentioned that roughly $1 billion of the fund’s $14 billion is earmarked for projects in the MENA region specifically in this funding cycle. She specifically highlighted the GCF’s work on renewable energy projects, given the region’s potential to harness solar and wind power and the potential cost savings on infrastructure construction offered by economies of scale. 

Duarte concluded with her own hopes for the GCF’s mission, saying that “it’s important to honor what we have been asked to do, but it’s important to take it one step further…with a particular focus on expanding efforts targeting the most vulnerable.”

An optimistic outlook on Egypt’s economic reforms

Rami Aboulnaga, deputy governor of the Central Bank of Egypt, shared an upbeat assessment of his country’s economic reforms. 

To halt further devaluation of the Egyptian pound, which recently reached seventy pounds against the US dollar at black-market rates, Aboulnaga emphasized the importance of restoring investor confidence. “The keyword is confidence,” he said. “I think the issue we are trying to grapple with is shoring up confidence.” Aboulnaga highlighted that speculation drives the parallel market and underscored reforms’ success in addressing this issue.

In terms of diversifying foreign exchange reserves and compensating for lost revenues, Aboulnaga outlined the bank’s efforts to enhance competitiveness and rectify structural imbalances. He also emphasized measures to ensure dollar availability through a flexible exchange rate. Despite regional geopolitical volatility, Aboulnaga noted a resurgence in tourism and an increase in remittances, which he cited as helping mitigate other challenges.

Aboulnaga stressed the importance of maintaining momentum to achieve and sustain stability as the core of government economic reforms. These measures aim to build resilience in the economy rather than generate short-term gains. Addressing inflation and debt reduction, which he described as top priorities for the Central Bank of Egypt, is crucial for protecting vulnerable communities. The bank is actively working to increase transparency in markets to make fluctuations more predictable.

Concerning the private sector, the structural reforms aim to cultivate a neutral environment and 

establish a level playing field for investors, thus enhancing business competitiveness. The market will be closely regulated, but not controlled.

Moving from stabilization to reform in the Egyptian economy

H. E. Rania al-Mashat, Egypt’s minister of international cooperation, led a discussion centered on macroeconomic stabilization, economic reform, and leveraging concessional funding to promote economic growth in Egypt.

She emphasized the significance of the past two months in terms of macroeconomic stabilization. According to her, recent actions toward a flexible exchange rate, fiscal consolidation, and collaboration with the IMF have provided Egypt with the opportunity to address the deeper challenge of structural reform.

This structural reform, as outlined by Mashat, revolves around three main pillars: stabilizing Egypt’s macro-fiscal landscape, enhancing the country’s business environment, and supporting the green transition. She stressed the importance of relationships with multilateral development banks and other partners in facilitating these reform programs, emphasizing that they must be country-led to ensure success.

Furthermore, Mashat highlighted the necessity of building long-standing relationships based on transparency and trust to access additional concessional finance. She emphasized the importance of accountability for every dollar received through concessional finance, ensuring alignment with the national strategy. Egypt has been able to utilize concessional finance to implement assistance programs for the country’s most vulnerable, such as Takaful and Karama, addressing both economic and social needs simultaneously.

Conflict resilience and economic integration in the MENA region

Jihad Azour, IMF director of the Middle East and Central Asia, concluded the MENA portion of the Atlantic Council’s IMF/World Bank Week by providing an evenhanded examination of the region’s economic outlook. Azour emphasized the region’s positive developments, with most inflation returning to historical averages, increased growth from non-oil sectors in the Gulf, and efforts to transition toward renewable energy. At the same time, he said issues regarding geopolitical instability and debt remain persistent challenges for MENA countries.

On geopolitical tensions and their economic impact, Azour said that “the war in Gaza is having a devastating impact on the Palestinian economy and a relatively large impact on neighboring countries” and beyond. Disruptions in the Red Sea have also affected the region. One-third of global container shipping goes through the Suez Canal, and more than one-third of oil and gas come from the region, so the Houthis’ attacks in the Red Sea are creating uncertainty regarding the waterway’s trade. Fortunately, explained Azour, recent shocks like the COVID pandemic and the war in Ukraine have helped the market and supply chain adapt to major disruptions and shifts in oil supply.

Like conflict, Azour said, debt is a major concern in regional growth, citing Jordan and Egypt’s 90-percent debt-to-gross domestic product (GDP) ratios and Lebanon’s ratio surpassing 100 percent. He explained that long-term solutions to the debt crisis require predictable macroeconomic frameworks to restore investors’ confidence in the economy. 

While debt and conflict are continuing challenges for the region, Azour assessed the Gulf as a source of optimism for MENA’s economic prospects. He noted that the Gulf’s policy and reform-driven approach to transformation has been successful in reducing reliance on oil while positioning Gulf Cooperation Council (GCC) countries, including the United Arab Emirates and Saudi Arabia, to seize on the potential of artificial intelligence. Azour explained that this economic success has allowed the GCC to lead the way in both regional and global integration, which could boost all of MENA’s economic potential under a tempered and incremental approach to greater regional integration. With sustainable long-term reforms, this progress could translate to greater economic spillover effects in the broader region.

JP Reppeto and Charles Johnson are Young Global professional in the Atlantic Council’s Middle East programs

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The saga illustrates the global ramifications of US interest rates and a strong dollar. Basically, pro-dollar fundamental factors include resilient economic activity and sticky inflation data in the United States keeping interest rates high for long—pushing the expected first rate cut by the Fed to later this year. In this context, statement by Fed Chairman Powell after the Federal Open Market Committee (FOMC) meeting on May 1 will be scrutinized for clues of the Fed’s intentions. This will keep FX markets on tender hooks until then. By contrast, the BOJ has been reluctant to raise rates much, even though it has brought Japan out of the long period of negative interest rates. This was due to the fact that the BOJ has revised downward its estimate for Japan’s GDP growth for fiscal 2024 to 0.8 percent from 1.3 percent in fiscal 2023. It was therefore not willing to tighten monetary policy in response to FX movements. As a consequence, government bond yield differentials in favor of the United States have hovered near 400 basis points—the widest spread since 2000—and the yen has kept weakening.

Moreover, in an unusual reversal of historical relationship, the dollar’s strength has been associated with elevated oil prices, imposing a double whammy on many countries, especially those having to import oil. The firming trends in both the dollar and oil prices are likely to have benefited from heightened geopolitical tension, including military conflicts in Ukraine and the Middle East.

As a consequence, besides the yen most of the world’s currencies have been under pressure from the dollar, which has been on a rising trend, having appreciated by 30 percent over the past decade. The dollar’s strength is also likely to be sustained as many other countries, including the Euro Area, have been looking for opportunities to cut interest rates to support their economic recoveries since their inflation performances have been better than that of the United States. That would help to keep interest rate differentials in favor of the US dollar.

In Asia, the Korean won (-7 percent against the dollar year-to-date) and China’s RMB (-2 percent) have also been burdened by domestic problems. Specifically, Korea has been hurt by elevated oil prices, the unresolved real estate project financing defaults and uncertainties over government policies after the April general elections. Meanwhile, China has a struggling economy trying to cope with an unfolding property crisis and a host of other structural impediments including high debt levels, an aging population, and slowing productivity growth.

Going forward, the dollar strength will be checked only when fundamentals change. Most importantly, this means upcoming US economic data, starting with the April non-farm payrolls report on May 3. Those numbers will be scrutinized to see if the lower-than-expected 1.6 percent GDP growth for the first quarter of 2024 implies a softening of economic activity and inflation rates in the foreseeable future. If so, expectations of Fed easing can be brought forward again.

In addition, signs of policy coordination among G20 countries could help prevent disorderly fluctuations in foreign exchange markets. In this context, the G20 and the International Monetary and Financial Committee (IMFC) might have missed a good opportunity during the IMF-World Bank Spring Meetings two weeks ago to show that they can rise to the occasion to reassure financial markets. Realistically, the G20 may not be able to reach any agreement on policy coordination given the increase in the level of mutual distrust among members as a result of geopolitical rivalry. If the G20’s inability to cooperate persists, leaving many countries in the world struggling to cope with the dollar’s strength on their own, that will be adding to the growing economic costs of geopolitical rivalry.

Hung Tran is a nonresident senior fellow at the Atlantic Council GeoEconomics Center, a former executive managing director at the Institute of International Finance and former deputy director at the International Monetary Fund.

The post The yen’s travails in an era of geopolitical rivalry appeared first on Atlantic Council.

Times are changing and the IMF’s Fiscal Monitor released earlier this month documented this in detail. Policymakers are increasingly turning to subsidies to achieve a variety of objectives. The Fiscal Monitor documented the proliferation of industrial policy and, notably, offered a partial endorsement. The report also illustrates how economists’ views of industrial policy are evolving and where there is still disagreement.

What’s the IMF-approved version of industrial policy? In short, the IMF cautiously endorsed sector-specific interventions as a way to promote innovation, but remains skeptical of measures that get in the way of free trade.

The IMF’s case for industrial policy starts with the acknowledgement that innovation doesn’t happen under ideal market conditions. New ideas and inventions have positive spillovers (externalities) which means that the market, left to its own devices, won’t provide sufficient innovation.

That opens the door to policies like research grants or R&D tax credits that subsidize new research and inventions. Those economy-wide measures are known as “sector neutral” or “horizontal” industrial policy, and they tend to have more buy-in from economists. But the IMF’s Fiscal Monitor went further, outlining when and why “vertical” or sector-specific industrial policies can be worthwhile, too. The key, according to the IMF’s researchers, is to target sectors that either have especially high spillovers—where a breakthrough would improve productivity in lots of other arenas—or where there are other unresolved market failures at work. They cite clean energy and health care as examples.

“This Fiscal Monitor shows that well-designed fiscal policies to stimulate innovation and the diffusion of technology can deliver faster productivity and economic growth across countries,” the report concludes.

The IMF’s endorsement comes with a lot of caveats, which the researchers summarize:

They also note that larger, less open economies like the United States benefit more from such policies—because they capture more of the benefits of innovation subsidies.

The IMF is not the only international organization recognizing the case for industrial policy. The OECD’s researchers published an extensive and largely positive evaluation in 2022.

However, the IMF’s version of industrial policy isn’t necessarily the one most in vogue. Most notably, the Fiscal Monitor warns that “policies discriminating against foreign firms can prove self-defeating and trigger costly retaliation.” In a paper published in January, IMF researchers found that two-thirds of industrial policies enacted in 2023 distorted trade. So while the IMF may be warming to industrial policy in theory, it remains skeptical in practice.

Walter Frick is chief editor of the Atlantic Council’s GeoEconomics Center

At the intersection of economics, finance, and foreign policy, the GeoEconomics Center is a translation hub with the goal of helping shape a better global economic future.

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Below are his prepared remarks.

The Middle East – North Africa (MENA) has emerged as an important strategic region for the People’s Republic of China (PRC), with a significant expansion of its interests and presence across the region. However, at this stage China remains primarily an economic actor there, with growing political and diplomatic engagement and little in the way of a security role. This economics-first approach has contributed to improved public perceptions of China across MENA; public polling data from the Arab Barometer consistently shows positive views of China as an external actor, with respondents from 8 out of 9 countries perceiving China more favorably than the US. At the same time, its modest involvement in regional political and security affairs, evident in its minimal response to Houthi strikes on maritime shipping, underscores its reluctance to play a more meaningful role in MENA, which has no doubt been recognized by governments that expected a more robust response given Beijing’s outsized economic presence.

This highlights an important point about how MENA features in the PRC’s broader strategic objectives. It is first and foremost a region where China buys energy, sells goods, and wins construction infrastructure contracts. These economic interests have not required a corresponding political or security role, and Chinese leaders have not indicated that they will do so; they benefit significantly from the US security architecture that underpins the region’s fragile status quo. China works closely with US allies and partners in MENA, especially the Gulf Cooperation Council states and Egypt, and in many regards Beijing’s interests in the Middle East have been consistent with those of the US.

At the same time, MENA has to be considered as part of a larger global strategy under which US- China interests diverge substantially. China’s more assertive foreign policy since the global financial crisis started under the leadership of Hu Jintao and has intensified under Xi Jinping. The 2017 US National Security Strategy identified China as a great power competitor, and the rivalry is playing out in MENA as elsewhere. Beijing has rolled out new global initiatives – the Global Development Initiative (GDI), Global Security Initiative (GSI), and Global Civilization Initiative (GCI), discussed below – to present itself as a leader of the Global South, using a state-centered alternative to Western liberalism.

In this effort, the MENA is a region where China aims to establish a normative consensus consistent with Beijing’s preferences. As a result, we see several examples of PRC leaders promoting narratives that the US is unreliable, or that its presence in the region exacerbates tensions and conflict. After a January 2022 meeting with MENA officials, for example, Chinese Foreign Minister Wang Yi said the Middle East “is suffering from long-existing unrest and conflicts due to foreign interventions…We believe the people of the Middle East are the masters of the Middle East. There is no ‘power vacuum,’ and there is no need of ‘patriarchy from outside.’” Whereas in the preceding two decades the PRC rarely overtly challenged the US position in MENA, it has become a regular feature as Chinese leaders exploit pressure points between the US and regional actors in order to differentiate itself from the US and to create friction between Washington and its MENA partners and allies. This has been especially present in Chinese messaging since the October 7, 2023 Hamas attack on Israel, as PRC leaders have consistently used the crisis to undermine the US and present itself as a more reliable partner to the Arab world.

China’s diplomatic activities in the Middle East

While it has not been widely recognized, China has developed a deep, broad and systematic approach to diplomatic engagement across MENA. It uses a range of bilateral and multilateral diplomatic tools, and these have been complemented in recent years with international organizations where Beijing has significant influence. It also has appointed special envoys for region-specific issues.

At the bilateral level, China has diplomatic relations with all regional countries. Several of these are enhanced by strategic partnerships, which are mechanisms to coordinate on regional and international affairs. Five MENA countries – Algeria, Egypt, Iran, Saudi Arabia, and the UAE – have been elevated to comprehensive strategic partners, the top level in China’s hierarchy of diplomatic relations. This results in the “full pursuit of cooperation and development on regional and international affairs.” To be considered for this level of partnership a country has to be seen as a major regional actor that also provides added value, such as Egypt’s control of Suez, or Saudi’s leadership role in global Islam and energy markets. Therefore, when assessing China’s diplomatic efforts in MENA, these countries (Algeria to a lesser extent) are the load-bearing pillars of Beijing’s approach. They see more official visits, attract more investment, do more contracting, and generally support a wider range of China’s interests in the region. That China has comprehensive strategic partnerships with both Saudi Arabia and Iran means there are more frequent bilateral high-level meetings, no doubt contributing to China’s role in the Saudi-Iran rapprochement.

At the multilateral level, China uses the China Arab States Cooperation Forum, which includes all Arab League members, and the Forum on China Africa Cooperation, which includes nine Arab League members. These forums present China with regular ministerial-level meetings where they map out cooperation priorities. They also have several sub-ministerial level issue-specific working groups. The result is a relatively deep level of diplomatic engagement.

China has appointed special envoys for the Middle East, the Horn of African Affairs, and the Syrian Issue, all of which were designed to present the PRC as an actor with influence and interest in these issues, although the impact of each has been marginal.

Finally, two international organizations where China plays an influential role, BRICS and the Shanghai Cooperation Organization Forum, have admitted Middle Eastern states as members in recent years. BRICS expanded for the first time in 2023 to include Saudi Arabia, Egypt, Iran, the UAE, and Ethiopia, giving the organization a presence in MENA and the Horn. The SCO admitted Iran as a full member in 2023, a position it has coveted since 2005. Other MENA participants in the SCO are Bahrain, Egypt, Kuwait, Qatar, Saudi Arabia, and the UAE, all of which are dialogue partners. This does not make them SCO members; it is a position for countries that wish to participate in discussions with SCO members on specific issues that they have applied to join as dialogue partners. It could eventually result in full membership but that does not appear to be on the horizon for any Middle Eastern dialogue partners for now.

All in all, Chinese diplomacy has been highly active and quite successful laying the groundwork for a deeper presence in the Middle East.

China’s involvement in MENA conflict mediation

China’s efforts to position itself as a conflict mediator is part of a larger strategy, embedded in the GSI, to present the PRC as a leading global actor. As a 2023 report from MERICS cautioned, “China’s current mediation push seems to be largely a reflection of its geopolitical competition with the United States and its ambition to expand its global influence at the expense of the West.” In MENA as elsewhere, the results have been mixed. The Saudi-Iran rapprochement is an example of a low cost ‘win’ for China. It has been well documented that much of the negotiation that led to the March 2023 announcements in Beijing had been done through Iraqi and Omani efforts. China’s involvement appears to be as a great power sponsor that was broached during Xi Jinping’s December 2022 summit in Riyadh and further discussed during President Ebrahim Raisi’s visit to Beijing in February 2023. Given China’s comprehensive strategic partnerships with the Saudis and Iranians, it has significant diplomatic relations with both countries and was therefore the only major power that could play such a role. However, it has to be stressed that most of the groundwork had been laid before China’s involvement, and that the rapprochement itself was the result of domestic political and economic pressures within Saudi and Iran.

Given this highly publicized diplomatic ‘win’, Chinese analysis promoted a narrative of a “wave of reconciliation” in the Middle East as a result of Beijing’s efforts. Ding Long, a Middle East expert at Shanghai International Studies University, described China’s mediation diplomacy, guided by the GSI, as driving events in the Middle East in the wake or the Saudi-Iran deal:

Within a month since then, the Saudi-Iran rapprochement is like a key that opens the door to peace in this region. The warring parties in Yemen took a critical step toward a political solution; Bahrain and other Arab countries have restored diplomatic relations with Iran; Saudi Arabia and other Arab powers are interacting more frequently with Syria. A wave of reconciliation is also encouraging more joint efforts between China and the Middle East in pursuing peace.

Shortly after the Saudi-Iran deal, the PRC announced that it was willing to wade into the Israel- Palestine conflict during a June 2023 visit from Palestinian President Mahmoud Abbas. Immediately following this, Israeli Prime Minister Benjamin Netanyahu announced that he had accepted an invitation to Beijing for October; for obvious reasons the visit did not happen. China’s response to the Hamas attack, discussed below, has negated any prior work towards being a mediator on the issue; its relationship with Israel has been deeply damaged at this point and it is hard to see how Beijing could play a constructive role negotiating between the two. The March 2024 meeting in Doha between Chinese ambassador Wang Kejian and Hamas official Ismail Haniyeh further cements this. Any role China can play would be in support of Palestine and highly partisan.

In any case, just over a year after Beijing’s first successful foray into Middle East diplomacy, the region is less stable that it has been in recent memory, and China’s efforts at mediation have had little tangible impact. It has little influence on Iran or its non-state partners of Hamas, the Houthis, or Hezbollah, and is not seen as credible by Israel. Generally, its response to events since the Hamas attack have made China look very transactional and self-interested in the region, rather than a responsible extra- regional power with substantial Middle East interests.

A point worth considering on this topic is that China is a relative newcomer to Middle East political diplomacy. As described above, it is primarily an economic actor in the region, and despite its special envoys, cooperation forums, and strategic partnerships, it does not have the depth of regional specialization that the US or European countries do, given their longstanding involvement in MENA. As China develops a deeper pool of MENA talent this will change, but it is early days. Its area studies programs in universities and think tanks are not nearly as developed as their US counterparts, making for a much shallower pool of expertise.

China’s response to the Hamas attack on Israel

The Hamas attack on Israel had significant repercussions for China’s approach to the MENA and resulted in a more blatantly realpolitik approach to the Israel-Palestine conflict. China’s ambition to play a role in resolving this conflict was based largely on the ‘peace-through-development’ framework of the GDI/GSI. The attack demonstrated the need for a more robust response, but in the wake of the attack the limits of Beijing’s normative approach were evident. Since then, China has not pursued a mediator role, siding firmly with Palestine while frequently condemning Israel and the US. Pointedly, it did not blame Hamas for the attack and has seemingly made the ‘one man’s terrorist is another man’s freedom fighter’ argument; during International Court of Justice hearings Ma Xinmin, a legal advisor for the Chinese Ministry of Foreign Affairs, argued that Palestinian acts of violence against Israelis are legitimate “use of force to resist foreign oppression and to complete the establishment of the Palestinian state.”

A point worth considering is that within China, the Israel-Palestine conflict resonates differently than it does in the US and other Western liberal democracies. The demographic composition of the West with large immigrant populations means that there are significant Jewish, Muslim, Christian and Arab communities for whom the Israel – Palestine conflict is a major issue that animates voters, NGOs, and lobbyists. Democratic leaders are expected to have positions that represent their constituents, and Middle East policy has to try to thread the needle of interests and values in a manner that balances citizens’ often deeply held convictions. In China, religious minorities – especially of the Abrahamic faiths – are comparatively insignificant in the demography, and the immigrant population from the Middle East is virtually non-existent. The Party has increased repression against Muslims, Jews, and Christians during the Xi Jinping era, making overt political action from them incredibly costly. This, combined with the fact that China has an authoritarian government, means the issue if Israel and Palestine does not mobilize Chinese citizens like it does in the US, and the government is less concerned with being responsive to citizens’ concerns. It is, therefore, a purely geopolitical issue. The CCP can use its policy in the region to advance its own interests while challenging the US and its Western allies without the additional consideration of managing domestic pressures. Its messaging on the war in Gaza is therefore more about China presenting itself as an alternative to the US as a global leader than it is about the war itself.

China’s global initiatives and international order

At this point China’s three global initiatives (GDI, GSI, GCI) are following the same early-stage trajectory of the Belt and Road Initiative (BRI). When it was announced in 2013 there was little understanding or awareness of it outside of China, and within China ministries, agencies and municipalities spent most of 2014 and 2015 incorporating the BRI into their missions. The 2015 white paper on the BRI and the 2017 Belt and Road Forum enhanced its global profile. The GDI, GSI, and GCI have been appearing in joint communiques across MENA and are cited by local actors as useful contributions from China, but they do not appear to be widely understood yet, nor do many local governments seem to be aware of them. It is likely that the GSI first came to a wider audience when then-Foreign Minister Qin Gang described the Saudi -Iran rapprochement as “a case of best practice for promoting the Global Security Initiative.”

However, the normative framework of these initiatives has appeal for regional governments. Whereas liberal norms of global governance focus on democracy, free markets, human rights, and international institutions, China’s trio of initiatives promote sovereignty, territorial integrity, self-determination, and noninterference in the domestic affairs of states. Essentially, it rejects the universalism of liberal norms and promotes a statist vision instead. For governments and societies long frustrated by the inconsistent promotion of liberal values from the west, or by those that reject liberalism altogether, China’s model is attractive.

The impact of China’s global initiative and the BRI should also be considered as a consequence of a global order transition. During the Cold War, bipolarity meant governments in need of development assistance could turn either to the West or the Soviets. The end of the Cold War meant the developing world was limited to Western institutions underpinned by liberal values that imposed conditions, often inconsistent with local norms. The emergence of China and its global initiatives provides alternatives, and that Beijing presents these initiatives in contrast to liberal institutions is appealing to many governments in the Middle East.

The issue of Xinjiang

The CCP identified its ‘core interests’ in a 2011 white paper, “China’s Peaceful Development”. These core interests are state sovereignty, national security, territorial integrity, national reunification, maintenance of its political system and social stability, and maintaining safeguards for sustainable economic and social development. Importantly, all of these are domestic concerns. In practical terms, anything another country does to undermine these – especially including support for independence movements in Xinjiang, Tibet, Hong Kong and Taiwan – will damage the relationship. The CCP faces numerous challenges from issues of domestic governance, and pressure from within is the most significant threat to its continued rule. When foreign governments apply pressure on Beijing on domestic issues there is pushback, typically in the form of coercive economic statecraft.

All of this is to say that Middle Eastern governments have shown no inclination to speak or act on the issue of repression of Uyghurs or other Muslim minorities in China. No regional government wants to jeopardize a bilateral relationship with one of its most important trading partners on an issue that few feel is relevant to their own core interests of building sustainable economies and improving governance in the face of significant domestic pressures. Engagement with China is largely seen as an opportunity for regional governments to address these challenges, and China’s own experience of development since the Reform Era began in 1978 is perceived as a model for this.

Another consideration here is that Beijing frames its repression of Uyghurs as a response to a conservative religious ideology that promotes separatism and has used terrorism in an attempt to establish an independent state. In doing so, it addresses a concern for many Middle Eastern governments, most of which are deeply concerned about the spread of political Islam in their own countries. As such, the issue is less about any notion of pan-Islamic solidarity than it is about challenges to the state from an ideology seen with deep hostility from regional governments.

Policy Recommendations

• Provide explicit support for MENA countries in their development programs.
• Encourage more investment into MENA from private US companies.
• Improved messaging on what the US does in the region beyond the realm of security.
• Improved messaging on how MENA features in US interests and policy.
• Enhance public diplomacy – bring more MENA students to US on training and education programs.
• Draw upon the narratives of other extra-regional allies and partners that have interests in MENA and have also had challenges in dealing with China. They can help with the messaging – what have their experiences with China been? What issues should MENA countries be considering?
• Where possible, align approaches to MENA with US allies to provide a greater range of investment, development, and trade options.

Jonathan Fulton is a nonresident senior fellow with the Atlantic Council. He is also an associate professor of political science at Zayed University in Abu Dhabi. Follow him on Twitter: @jonathandfulton.

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But central bank governors and finance ministers who met in Washington this week grappled with more than the question of when their countries will be “landing” after a period of high inflation: They also looked to manage how their countries recover, aiming for a soft landing that avoids recession.

With so much at stake, we dispatched our experts to IMF and World Bank headquarters in Foggy Bottom to decode the institutions’ plans to navigate the turbulence of the global economy.

• Dispatch from IMF-World Bank Week: Your cheat sheet on progress made

• This week in one word: Clarity

• Côte d’Ivoire’s Nialé Kaba on the future of World Bank leadership: Why not an African?

• The Polish finance minister on his country’s “U-turn” toward European values

• See day five analysis

Watch all our conversations with central bank governors, finance ministers, and experts

IMF-World Bank Week at the Atlantic Council

WASHINGTON, DC APRIL 15–19

The Atlantic Council hosted a series of special events with finance ministers and central bank governors from around the globe during the 2024 Spring Meetings of the World Bank and International Monetary Fund (IMF).

Dispatch from IMF-World Bank Week: Your cheat sheet on progress made

This week, the world’s finance ministers and central bankers came together in force for the first time since the “Marrakesh miracle,” that was the annual meetings last year—at least in the words of former IMF Managing Director Christine Lagarde—which finally resulted in progress on quota reform and a debt restructuring deal for Zambia.

But I doubt this week will go down in history as the “Washington wonder.” Tepid global growth, difficulty recovering from the pandemic (among developing countries), US-China competition (with Washington’s threat of new tariffs), and war cast a long shadow. Still, the officials were able to make real progress on both sides of 19th Street.

Yesterday, my colleague Martin outlined the IMF’s successes: The Fund adjusted its lending policy, allowing it to step in to support countries in debt distress, and called attention to the risks of large fiscal deficits.

But there are, after all, two sides to 19th Street. And on the World Bank side, countries including the United States, Japan, and the United Kingdom pledged $11 billion for some of the Bank’s guarantee instruments, which make its programs less risky—and more attractive—for private investors. The added firepower complements restructuring within the Bank to streamline the guarantee system. Hopefully, these changes will encourage private investors to fill countries’ funding needs for the green and digital transitions.

The G20 finance ministers and central bank governors also met this week, with Brazil’s Fernando Haddad giving the group homework: Find agreement on a wealth tax by the time the ministers meet again in Rio de Janeiro in July (the Atlantic Council will be there too).

Later today, as officials and their delegations start heading home, the security barriers will come down and 19th Street will open again. For the ministers, the hard work begins when they get home—and we will be watching closely to analyze whether the financial leaders make meaningful progress before the annual meetings in the fall.

This week in one word: Clarity

As the spring meetings drew to a close and leaders made their final statements, a few points became clearer.

Even though the global economy can feel hyper-interdependent at times, it is now becoming clearer just how muddled the economy is by divergence, inequality, and fragmentation. “Winners” and “losers” are seeing the economic gaps between them widen. There’s a heightened sense of uncertainty, with the threat of another political, economic, or natural shock looming.

What some may have seen as mission creep in finance—addressing energy transition challenges, the inclusion of gender and youth, and fragility—has become mission critical as macroeconomic stability and growth have become more dependent on, or disrupted by, these factors.

As a result, the timeframe for analysis—and more importantly action—has shrunk as spillovers, impacts, and risks from debt, inflation, conflict, and climate change have brought more urgency. On top of that, fiscal space has tightened, and capital flows stream away from where they are needed most. New research shows that countries in the Global South are paying out more in debt service than they are bringing in grants or loans—to the tune of fifty billion dollars. The United Nations’ annual Financing for Development report, released just before the spring meetings, reveals a more than four-trillion-dollar annual shortfall in funding to meet the Sustainable Development Goals, as I discussed this week with Assistant Secretary General Navid Hanif. 

While the World Bank and IMF have introduced reforms to optimize balance sheets, quotas, and capital adequacy to increase available financing, those changes are necessary but insufficient; that makes the World Bank announcement on Friday (that eleven countries have pledged eleven billion dollars to support the Bank’s hybrid capital and guarantee instruments) a welcome step.

Another thing that is clear after this week: the role regional multilateral development banks and international financial institutions (beyond the Bretton Woods institutions) play in addressing today’s challenges. This role isn’t new; I wrote about their role in COVID-19 response and recovery a few years ago. But there is again a need for private capital and philanthropic funding in a revamped international architecture that meets the moment.

And while more resources are key, it has become even clearer that more consideration needs to be paid to how funds are actually disbursed and delivered. As UN Undersecretary General and UNOPS Executive Director Jorge Moreira da Silva noted in our conversation, more than half of existing IDA funds have yet to be allocated. Furthermore, while analysis and policies are important, implementation matters and warrants additional attention.

Leaders across the global economy must ensure that even as they drive supply, they don’t forget about demand—from bankable projects to business environments, and from building capacity to domestic resource mobilization. This is the macro- and micro-challenge of the road ahead.

Côte d’Ivoire’s Nialé Kaba on the future of World Bank leadership: Why not an African?

On Thursday, Côte d’Ivoire’s Minister of Economy, Planning, and Development Nialé Kaba sat down with Rama Yade, senior director of the Atlantic Council’s Africa Center, to discuss the country’s economic priorities—among them, fostering sustainable growth. The two, conversing in French, spoke at an event that took place at the Atlantic Council’s IMF broadcast studio.

Côte d’Ivoire’s economy is predicted to rank fifth this year among the fastest-growing economies in Africa. Kaba said that the country would continue to make economic reforms to “enhance competitiveness, attractiveness, and economic performance.”

Kaba touched upon the IMF’s support to Côte d’Ivoire, which includes $3.5 billion under the Extended Fund Facility and Extended Credit Facility, in addition to a newly agreed upon 1.3 billion through the Resilience and Sustainability Facility. The minister also noted the importance of reform efforts at the Bretton Woods institutions, pointing to changes in how the IMF and World Bank select their leaders. “Perhaps one day the World Bank could be led by an African. After all, why not?”

Kaba also discussed topics closer to home. On Côte d’Ivoire’s agricultural sector, the minister said she’ll be looking to focus on the “local transformation of our raw materials.” Côte d’Ivoire is the world’s leading producer of cocoa, and Kaba said there is a need for investors to “settle and employ local labor.”

Touching on more global matters, Yade asked about the relationship between Côte d’Ivoire and China—specifically how a decrease in Chinese investments in Africa would affect the economy. Kaba was clear in her position that while China has been a primary investor, Côte d’Ivoire remains “strongly connected to Europe and also to the United States.”

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The Polish finance minister on his country’s “U-turn” toward European values

“Poland is back to Europe… we’ve made a ‘U-turn’ from what I call a ‘Hungarian path,’ which is out of the European values,” Andrzej Domański, minister of finance for Poland, argued at an Atlantic Council event on Friday.

Domański gave his remarks in discussing how Poland’s economy—which has proven resilient after avoiding recession in periods of mounting global economic challenges—fits within the greater European economy.

When analyzing the reasons why Poland’s economy recovered relatively quickly after the pandemic and after the initial wave of impacts from Russia’s full-scale invasion of Ukraine, Domański pointed to Poland’s economic diversification. “We don’t have one sector that would be overwhelming the whole economy. I believe this is one of the factors that is behind our resilience.”

Following that, when discussing Poland’s plan for the energy transition, Domański said that Poland can take “two obvious directions: one of them is renewables, and the second one is nuclear energy.”

Domański also discussed the ongoing priorities of the Polish government in further bolstering the economy. On the topic of security, Domański vowed that Poland “will not cut spending on defense” and that it will “will not stop helping [its] Ukrainian friends.”

Watch the event

• Dispatch from IMF-World Bank Week: What will this week’s legacy be?

• Paolo Gentiloni on how the war in Ukraine is impacting Europe—and how the EU can help fill Kyiv’s “financial gap”

• Is the global financial system fit for climate change?

• The South African finance minister’s plans to champion an African perspective during its 2025 G20 presidency

• “Congo is open for business,” argues DRC Minister of Finance Nicolas Kazadi

• See day four analysis

Dispatch from IMF-World Bank Week: What will this week’s legacy be?

There were plenty of reasons for a dour mood to spread across the spring meetings this week.

One such reason is that higher-than-expected inflation readings in the United States dampened expectations of Federal Reserve rate cuts, driving up long-term rates around the world. The Financial Times even spoke of relegating the low-interest period of the 2010s to the dustbin of history. Countries are beginning to realize that they may not have the means to service their debt, support their aging populations, pay for the green transition, help Ukraine, and finance military rearmament all at the same time.

The dour mood was reinforced by the Israel-Iran exchange of direct attacks and Russia’s destructive air campaign in Ukraine. Higher oil prices and further supply-chain disruptions consequently topped the IMF’s downside risks to the forecast. Calls from the Biden administration to triple aluminum and steel tariffs provided a reminder of the risk of future trade conflicts and increasing economic fragmentation.

Less discussed, but similarly mood-souring, was the topic of the stronger dollar, which might have negative consequences for emerging and developing countries with growing fiscal deficits.

The International Monetary and Financial Committee chair released a statement today that was among the most bland in recent history, repeating well-known positions about the IMF’s role in the global economy and committing to the implementation of recent decisions, but falling well short of new initiatives.

But when determining this week’s legacy, there are reasons for a better mood to prevail. The IMF did propose a tweak to its debt policies, allowing the Fund to lend to countries even if they’re still in debt restructuring negotiations with big bilateral creditors (think China). The IMF also, in its World Economic Outlook, finally zeroed in on the “significant risks” that large countries’ fiscal deficits pose to the global economy. And there are signs of momentum ahead: Liechtenstein is on track to join the IMF as member number 191, in a year marking the eightieth anniversary of the Bretton Woods institutions. Whatever mood the delegates are in when they depart Washington, their work will carry on.

Paolo Gentiloni on how the war in Ukraine is impacting Europe—and how the EU can help fill Kyiv’s “financial gap”

In a discussion at the Atlantic Council on Thursday, Paolo Gentiloni, the European Commissioner for Economy, expressed a surprisingly positive outlook about the European economy, as the European Union (EU) continues to face post-pandemic and security challenges. 

In discussing the IMF’s latest World Economic Outlook, which slightly downgraded forecasts for the eurozone, the former Italian prime minister said he sees “the conditions for an acceleration of the economic activity for the second part of this year, and probably more in 2025.” His conviction rests, he said, on “better-than-expected” declining inflation, shared “strong labor markets” across the Atlantic, and an increase in purchasing power in several European countries “not impacting inflation, but consumption, which would trigger a better level of growth.” The EU’s goal was ultimately to “avoid a recession and major energy crises.”  

When assessing Europe’s economic-rebound prospects, Gentiloni urged to not “compare the impact of the Russian invasion in Ukraine, in Europe, with other parts of the world,” highlighting its disproportionate impact on “Europe and the Global South.” Russia’s invasion “disrupted part of the European business model” reliant on “cheap gas” and exports, which particularly affects Europe’s largest economy, Germany. The geopolitical risk remains “the largest risk” threatening Europe, he said, while there is no “substantial risk from a financial stability point of view” or “divergences in level of growth among different European countries.” Gentiloni said he is “quite optimistic that [Europe is] out of the most difficult part” of its “economic situation.” 

Amid the growing debate about Europe’s future competitiveness, Gentiloni said that the topic fits into wider discussions on “how the model we built the European Union [on] in the last decades should be probably transformed.” To achieve its ambitions, Europe must “find common funding” beyond the NextGenerationEU (which is expiring in 2026) to further attract private investments and complete the green transition, “avoiding the idea that slowing down or taking a different direction will solve our problems, because the global competition on clean tech is there,” Gentiloni said.  

Drawing on a quote from former European Commissioner Pascal Lamy, Gentiloni remarked how “the EU cannot be the only herbivore in a world of carnivores” and argued that the “solution is to compensate economically, socially those that are most affected and to win the battle of the cultural narratives.”

Watch the event

Is the global financial system fit for climate change?

We know what the future is set to look like: By 2040, according to the Intergovernmental Panel on Climate Change, we will be living in a 1.5 degrees warmer world, with consequences that are already being predicted by science. That’ll be the case unless extraordinary action is taken.

The private sector is now waking up to this reality. Industry is beginning to recognize that climate risks raise financial risks. Homeowners are finding it harder to insure their houses. Water levels are rising, disrupting ports that play a large role in the global economy. Outdoor workers cannot work safely in heat waves, which are striking with alarming frequency.

The economic costs of inaction cannot be postponed and passed on to future generations.

There must be a new ambition for adaptation and resilience finance. Currently, progress on catalyzing investments in climate solutions is often slow and scattered, and it also often lacks scale. The solution: Redefining the economic and financial order.

To begin imagining what that new order should look like, we sat down with climate finance experts, who helped us spread our Call for Collaboration between the public and private sectors that we launched at COP28 last year. Catch up on that conversation, held on the sidelines of the IMF-World Bank Spring Meetings, below.

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The South African finance minister’s plans to champion an African perspective during its 2025 G20 presidency

South African Minister of Finance Enoch Godongwana joined the Atlantic Council’s IMF Broadcast studios on Wednesday to outline his country’s economic priorities, including its vision for the Group of Twenty (G20) agenda during its presidency in 2025.

In the conversation with Atlantic Council Africa Center Senior Director Rama Yade, Godongwana said that South Africa is focused on being not the biggest economy but the strongest. “What we must focus on is that we are the most industrialized economy on the African continent, and to what extent we can build on that, to build competencies, that makes us the strongest economy on the African continent,” he said. Sharing his optimism about economic growth on the African continent, Godongwana cautioned that a slowdown in growth in South Africa’s trade partners, such as China, may lead to a spillover effect not only on South Africa’s economy but that of the South African Development Community region.

Regarding South Africa’s upcoming presidency of the G20, the minister said that South Africa is developing an agenda that will include some of Brazil’s current priorities—and others from previous presidencies—and that South Africa “will inject an African perspective into that agenda” after consultation with countries on the African continent.

Turning to South Africa’s membership and ambition within the BRICS group, the G20, and the IMF and World Bank, the minister argued that there is no tension for South Africa within these groupings, but that they have been helpful in addressing challenges that the country faces. Responding to a question about a possible BRICS currency, the minister stated that there “is no document from the BRICS that talks about a BRICS currency in our declarations.” Godongwana stated that there is a push, regionally in Southern Africa and within the BRICS, to accept local currencies and to use alternative payment systems beyond the dollar when conducting international trade. But BRICS, he said, is not about undermining the current system—but changes in the current system are needed.

Speaking during the IMF-World Bank Spring Meetings, Godongwana discussed reforms he’d like to see the Bretton Woods institutions make, including governance and funding changes at the IMF and the World Bank. The minister argued for a change in the selection of heads of the IMF and World Bank and called for non-American and non-European candidates to be considered for the top leadership positions of the organizations. Speaking to investors, Godongwana stated that he welcomed investment into South Africa and the African continent that respected countries’ sovereignty and geopolitical strategies.

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“Congo is open for business,” argues DRC Minister of Finance Nicolas Kazadi

DRC Finance Minister Nicolas Kazadi joined the Atlantic Council’s IMF broadcast studios on Wednesday to outline his country’s economic priorities, including its intent to create more opportunities for investment.

Kazadi argued that “Congo is open for business” and “the mining sector specifically is driven by foreign investment.” In March this year, the Congolese government began to implement a 2017 law requiring all subcontracting companies to be majority Congolese-owned. The minister explained that while Congo encourages investment, the country wants to ensure that private investors share the prosperity with local partners and build local capacity. “We don’t even need a law for that, it is a matter of principle” to help local Congolese businesses grow, argued Kazadi.

In the mining sector, the finance minister said that Congo is looking for investments along the full energy value chain, “trying to raise awareness in our youth, support them as they invest in the ecosystem that we are trying to build in partnership with the big private sector,” he said. Kazadi said that “Congo is trying to bring more transparency along the value chain to raise the standards” to avoid situations in which products do not meet international environmental, social, or governance standards that can impact the image and business environment of the country. He said that he hoped companies working in the Congo would help charge a “local transformation of critical minerals” that would change the economy “completely,” bringing the gross domestic product “from billions to trillions,” he said.

Speaking during the IMF-World Bank Spring Meetings, Kazadi discussed Congo’s upcoming sixth review of its Extended Credit Facility program and reforms he’d like to see the Bretton Woods Institutions make, including changes to the channeling of Special Drawing Rights. He expressed a readiness to work with international financial institutions on addressing the development challenges facing his country.

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• Dispatch from IMF-World Bank Week: The issues we haven’t heard about—yet

• European Investment Bank president urges multilateral cooperation on Ukraine’s reconstruction and climate financing

• “The role that digitalization plays for Ukraine, especially now, is critical,” says Olga Zykova

• The Global South’s reform agenda for the IMF and World Bank

• See day three analysis

Dispatch from IMF-World Bank Week: The issues we haven’t heard about—yet

IMF headquarters was abuzz today following the announcement of Managing Director KristaIina Georgieva’s new global policy agenda, outlining the economic challenges of the day and what the IMF plans to do about them.

The three priorities she chose for the Fund to tackle: rebuilding fiscal buffers, after public debt edged upward to 93 percent of GDP; reviving medium-term growth, which has deteriorated since the global financial crisis; and renewing its commitment to its members, with more quota resources to go around.

All of the above are worthwhile things to do. But, at least from where I was watching in the IMF HQ1 Atrium, Georgieva didn’t seem to mention anything about two of the most pressing issues of the day when she presented the global policy agenda this morning.

The first issue is China’s industrial overcapacity and its global impacts. The EU has launched or is expected to soon launch anti-subsidy investigations looking into Chinese electric vehicles, wind turbines, and medical devices. But the news that really spread like wildfire at the spring meetings was that, just a couple blocks away, the White House announced an investigation into China’s shipbuilding practices. President Joe Biden also called for tripling tariffs on Chinese steel and aluminum products, the starting gun for more protectionist measures to come—and a major risk to global growth.

The second issue is the divergent monetary policies being put forth by the US Federal Reserve and the European Central Bank, pushing up the dollar’s value in foreign-exchange markets. The topic did come up during the G20 press conference following the group’s meeting of finance ministers and central bank governors today. A strong dollar will undermine low-income countries’ growth prospects—something the IMF must pay attention to.

The silence on these risks to global growth shows the Fund should pay more attention to the issues at the core of its mandate to coordinate members’ economic policies as they are being shaped and implemented. Doing so early—rather than reactively helping countries deal with the fallout of poor international cooperation—would avoid negative spillovers on the global economy.

European Investment Bank president urges multilateral cooperation on Ukraine’s reconstruction and climate financing

On Thursday, Nadia Calviño—who this year took over as president of the European Investment Bank (EIB)—spoke to the Atlantic Council at the IMF-World Bank Spring Meetings, where she talked about the EIB’s priorities, including encouraging investment in Ukraine for reconstruction, rallying climate financing, and helping the European Union achieve its strategic priorities.

Calviño explained that the EIB is working with other multilateral institutions and with local Ukrainian partners to identify Kyiv’s rebuilding priorities—including infrastructure projects and support to small and medium-sized enterprises—to “make the most of Europe’s money.” She added that the EIB is working with the European Bank for Reconstruction and Development, the World Bank, and the United Nations Development Programme to ensure that “the experts that are on the ground are providing the most efficient service… to all of us.”

Calviño said that the EIB is proud to have garnered a reputation as “the climate bank,” with over 50 percent of its investments being in green projects and having supported the development of innovative technologies. “The green agenda is really ingrained in everything we do, inside and outside the EU,” she said. She argued that the investments being made in less-developed countries were strategic in nature and critical for Europe’s future priorities.

Calviño additionally said that there’s a sense of a “shared responsibility” across the Global North in addressing climate financing needs and deconflicting those efforts. She added that a North-South dialogue is “very important” and “needs to be accompanied by facts, not just words.”

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“The role that digitalization plays for Ukraine, especially now, is critical,” says Olga Zykova

In the bustling IMF headquarters on Tuesday, I sat down with Ukrainian Deputy Finance Minister Olga Zykova to talk about the role of digital development in post-war reconstruction.

Ukraine had been busy taking many of its public services digital, even before the outbreak of the war in 2022. Zykova, who became deputy finance minister a few months into the war, told me that Ukrainian citizens have used technologies, such as the Diia app, to do everything from travel to access healthcare to buy war bonds for financing. She told me (and also Candace Kelly from the Stellar Development Foundation and Kay McGowan from Digital Impact Alliance, who also joined the expert panel) that she believes Ukraine’s efforts can be a successful example for other war-torn economies looking to rebuild their digital infrastructure.

The conversation then turned to the importance of open-source infrastructure, as the panelists discussed the collaborative advantages of open-source technological solutions which can provide developers the flexibility to adapt technologies to fit their needs across countries and situations.

We also discussed the need for a robust evaluation and impact assessment of the funding of these programs and the technologies themselves, to ensure that they reach their full potential. This call for robust impact metrics has been a consistent theme of this week, echoed by multilateral development banks, the private sector, and civil society.

Zykova also outlined Ukraine’s priorities for the IMF-World Bank Spring Meetings, calling for the creation of a sustained plan to equip Ukraine with the means to meet its reconstruction demands. She encouraged countries to not lose focus, even with lingering uncertainties about funding in Ukraine, and reiterated the importance of building resilient networks as the EU approaches its elections.

Reconstruction in Ukraine represents many of the existential questions ahead for the World Bank and IMF this decade—how to shore up democratic resilience, build consensus across an increasingly fracturing global order, and use technology to reduce inequality and achieve lasting prosperity.

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The Global South’s reform agenda for the IMF and World Bank

International media has until now paid little attention to statements of the Group of Twenty-Four (G24). The committee represents developing countries within the IMF and World Bank, playing a similar role to the Group of Seventy-Seven, a coalition of developing countries that comes together at UN gatherings. As Global South countries have become more vocal in their demand for reforms of the Bretton Woods institutions, the G24’s statements have become more important. The group should be considered counterparts to the Group of Seven (G7) in discussions about changes, especially in the context of the International Monetary and Financial Committee (IMFC)—an important body in the governance of the IMF.

On April 16, the G24 met and issued a communiqué summarizing the positions of developing countries on many issues on the reform agenda.

Regarding the IMF:

• The G24 welcomed the equi-proportional increase in quota but stressed the need for a quota realignment to reflect involving realities of members. (Developing countries in aggregate have increased their weight in the global economy but feel underrepresented in the Fund’s quota and voting-share distribution.)
• It urged the Fund to eliminate the surcharge on its base lending rate which has resulted in high borrowing costs to members in need of substantial IMF support.
• It proposed considering sales of IMF gold to increase the financial resources of concessional lending facilities such as the Poverty Reduction and Growth Facility.

Regarding the World Bank:

• The G24 acknowledged the Bank’s efforts in implementing the Evolution Roadmap, sponsored by the Group of Twenty to optimize its balance sheets and increase its financing capability and efficiency.
• However, the G24 cautioned that the commitment to allocate 45 percent of annual financing to climate-related projects should not be at the expense of financing for basic development challenges like combating poverty and hunger.
• It called for a capital increase for the World Bank and multilateral development banks in general—especially a strong replenishment of the resources of the International Development Association (providing grants and low-interest loans to low-income countries) in its twenty-first round of funding, which is currently underway.

In the view of many in developed countries, the demands articulated by the G24 may resemble a wish list containing many items difficult to command sufficient agreement to be adopted—for example, the quota reform. Nevertheless, developed countries should take these demands seriously and engage constructively with developing countries to find a reasonable way forward. Failure to do so would undermine the legitimacy and effectiveness of the IMF and World Bank—institutions that should play important roles in sustaining global growth and supporting less-developed countries.

• Dispatch from IMF-World Bank Week: A tale of two headquarters

• Mixed developments on sovereign debt restructuring

• The Spanish minister for economy outlines his country’s economic trajectory—including a predicted 20 percent drop in its debt-to-GDP ratio

• Despite the IMF’s revised growth forecast for Russia, the Russian economy is not doing well

• Finance Minister Muhammad Aurangzeb outlines Pakistan’s path to economic reform and stability

• Back to the basics: High turnover rates for central bank governors do not help with inflation

• Spooking the spirit of Bretton Woods

• See day two analysis

Dispatch from IMF-World Bank Week: A tale of two headquarters

In many ways, the story on day three of these spring meetings feels like a tale of two headquarters: Both style and substance differ between the boisterous World Bank on one side of 19th Street and the more buttoned-up IMF on the other.

The Bank’s atrium has been decorated with hundreds of colorful drawings by staff members’ children, depicting a “livable planet”—the newly added objective to the Bank’s vision statement. The Fund’s atrium, on the other hand, hosts an interactive “let’s grow together” board where delegates can affix stickers to the types of training and institutional strengthening they need. Both spaces strive to inspire and provoke thought, but the vibes are quite different.

Substantively, the Bank is abuzz with chatter about its “evolution,” touting progress such as a new guarantee platform, the corporate scorecard, and the series of reforms initiated last year to improve its impact. People at World Bank HQ are also energetically making the case that the Bank’s “money and knowledge” are vitally needed now, as a “great reversal” in development—explained in a new report—has resulted in one in three low-income countries becoming poorer than they were on the eve of the pandemic.

At the Fund, it’s about “resilience amid divergence” (as I discussed this afternoon with my fellow World Economic Outlook ‘decoders’ from the Atlantic Council): cautiously celebrating the fact that better-than-expected resilience in the US economy, coupled with stronger labor markets and cooling inflation in many places, is driving steady global growth. But that celebration doesn’t paper over the fact that debt, higher-for-longer interest rates, and conflict are undermining growth and impeding recovery in many developing countries.

Where Bankers, Funders, delegates, and guests seem to be speaking the same language is around “leverage” (the need to use the Bretton Woods institutions’ funding to crowd in additional financing) and “demographics” (with certain population trends raising macroeconomic and social-development pressures and opportunities, which I’ll be talking about at the IMF on Friday).

PS: If you’re wondering which of the headquarters has the better store for some spring meetings swag, it’s the World Bank’s.

Mixed developments on sovereign debt restructuring

This was a big week for those working to help vulnerable middle- and low-income countries overcome debt crises. For years now, there has been a slow-moving discussion about how to improve the framework for sovereign debt restructuring. And on that front, there has been both good news and bad news in recent days.

First, the good news: Three years or so since Zambia defaulted on its international bonds, it has just reached a restructuring deal with its bondholders which has been accepted by the official bilateral creditors. However, Zambia is not out of the woods yet. It still has to negotiate debt deals with its commercial creditors—basically international banks including many Chinese stated-owned banks such as the China Development Bank, Industrial and Commercial Bank of China, etc. It is not clear if this problem will hold up the actual implementation of the agreed debt restructuring measures—highlighting the complexity of the sovereign debt restructuring process.

The second piece of good news is that the IMF Executive Board has just approved some adjustments to the Fund’s Lending into Official Arrears (LIOA) policy—basically allowing the Fund to lend to a member in distress even though that member is in arrear in servicing its debt to an official bilateral creditor. The just-approved adjustments would give the Fund more flexibility in making use of the LIOA policy when a creditor country (i.e. China) has not been forthcoming in the restructuring process, delaying its timely conclusion. The key outstanding question is whether a low-income debtor country would be prepared to go along with the idea of activating the LIOA vis-à-vis China—especially those who have relied on China for trade and investment via the Belt and Road Initiative.

Then there’s the bad news. A piece of proposed legislation is moving through the New York State Legislature that would amend the state’s creditor and debtor law. Basically, the amendments would unilaterally impose a restructuring regime, for example compelling bondholders to accept a restructuring deal managed by an overseer appointed by the governor of the state of New York. As about half of international sovereign bonds have been issued under New York law, and the other half under English law, this legislation would, if passed and implemented, introduce a huge element of uncertainty to the sovereign bond market. It could potentially disrupt its smooth functioning and raise borrowing costs for emerging market and developing countries. And it could short circuit international efforts, such as the G20-sponsored Common Framework and the Sovereign Debt Roundtable, which are trying to develop international agreements to improve the sovereign debt restructuring framework.

All three stories highlight the complexity of debt restructuring negotiations. But the summary of the week’s news on that front: two steps forward, one step back.

The Spanish minister for economy outlines his country’s economic trajectory—including a predicted 20 percent drop in its debt-to-GDP ratio

Spain is positioning itself as a “growth engine” in the eurozone, argued Spanish Minister of Economy, Trade, and Business Carlos Cuerpo.

He said that in 2023, Spain “grew five times the euro area average.” That, coupled with his prediction of a 20 percent drop in the country’s debt-to-GDP ratio (with respect to the peak post-pandemic), “[configures] a good way forward” for Spain, Cuerpo said, with sustainable growth likely ahead in the medium term.

Cuerpo said that Spain is hopeful about its economic prospects, as foreign direct investment has grown, indicating “confidence of world investors in the Spanish economy.”

Cuerpo spoke with GeoEconomics Center Senior Director Josh Lipsky at Atlantic Council headquarters during the IMF-World Bank Spring Meetings. They discussed Spain’s path forward utilizing NextGenerationEU funds and its role in the conceptualization of new EU fiscal rules. Cuerpo reflected on the transformation of primary themes of discussion over the EU’s fiscal rules, beginning with the green transition, pivoting to strategic autonomy, and now focusing on economic security. “There is a common denominator [within] those discussions, which is the need for investment,” he said.

Cuerpo pointed to Spanish investment in green hydrogen, semiconductors, and battery-related initiatives through the NextGenEU funds. A midterm evaluation from the European Commission found that the Spanish GDP level increased by 1.9 percentage points in 2022, when compared with a hypothetical Spanish economy without the NextGenEU funds present. “It’s not just an opportunity for the Spanish economy,” Cuerpo said. “The impact of the plan is already a reality.”

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Despite the IMF’s revised growth forecast for Russia, the Russian economy is not doing well

You’ve heard it before. Gross domestic product, or GDP, is not the best indicator to understand Russia’s economic performance under sanctions. Nor is the exchange rate. Yet, the IMF’s decision this week to revise Russia’s growth forecast for this year upwards to 3.2 percent after another upward revision in January is one of the most talked-about findings of the World Economic Outlook. And while the widening fiscal deficit and rapid inflation remind us that the Russian economy is still under strain, it’s important to acknowledge that, at the start of Russia’s full-scale invasion, sanctions policymakers thought they could reasonably hope to plunge Russia into a prolonged recession. And in April last year, when the IMF predicted the Russian economy would grow in 2023, most thought this was wrong, but it did indeed grow by 3 percent.

How are they pulling this off? It’s not just about oil and gas export income, though higher oil prices help. Combined disclosed and undisclosed military and domestic security spending exceeds 30 percent of GDP—and therefore represents a major boon for overall GDP figures. The Ministry of Finance had to reach into its savings more than expected at the end of 2023, taking the liquid part of the National Wealth Fund down from $150 billion to $130 billion. The weak exchange rate and labor shortages are also working together to keep inflation very high, at almost 8 percent.

It’s wrong to say the Russian economy is doing well. The problem is that it has enough resources to keep funding the war.

Finance Minister Muhammad Aurangzeb outlines Pakistan’s path to economic reform and stability

On Monday, Pakistani Finance Minister Muhammad Aurangzeb emphasized the country’s need for structural reforms over a span of two to three years. In an Atlantic Council conversation with the South Asia Center’s Kapil Sharma, Aurangzeb outlined Pakistan’s strategy, arguing that efforts shouldn’t merely focus on financial stabilization: They should also lend focus to sustainable growth and inclusivity. 

“The crux of our strategy with the IMF involves not just temporary relief but laying the groundwork for enduring stability and economic resilience,” Aurangzeb said. He underlined the importance of understanding and implementing long-term policies that have been on the nation’s agenda for decades. The minister argued that the time for action on these reforms is now, especially with the looming end of Pakistan’s three-billion-dollar Stand-By Arrangement with the IMF, currently set for late April. 

Pakistan reportedly intends to ask for a larger and extended program from the IMF to support its economic reforms. To that end, Aurangzeb argued that when it comes to these economic reforms, Pakistan doesn’t need more policy prescriptions: It needs implementation. 

“Ensuring macroeconomic stability is not merely about stabilization; it’s fundamentally about inclusive growth and addressing climate impacts,” said Aurangzeb. He noted that the financial and structural reforms would help Pakistan mitigate the adverse effects of climate change and promote financial inclusivity, especially among vulnerable groups, including women. 

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Back to the basics: High turnover rates for central bank governors do not help with inflation

Inflation is front and center at the spring meetings. Reducing it is crucial for any inclusive growth and development strategy because, after all, inflation is a regressive tax on the poor, who lack the real assets to effectively hedge against inflation.  

While the global median headline inflation has declined to 2.8 percent in 2024 and many central banks have been successful in their fight against inflation—particularly the Federal Reserve (known as the Fed), Bank of England (BoE), and European Central Bank (ECB)—many developing and emerging economies are still suffering from high inflation rates, sometimes with rates higher than 20 percent. Several factors continue to contribute to these rates: rising energy and food prices; increasing sovereign debts; higher policy rates in the ECB, UK, and Fed (and thus larger capital inflows to these economies); and growing budget deficits—partly because of the higher cost of energy and of servicing debt due to higher interest rates.

An often ignored but equally or even more important factor is the independence and reputation of central banks. While the majority of countries suffering from inflation rates higher than 20 percent claim that their central banks are independent and their policies are not influenced or dictated by their central governments, in practice the so-called “independence” of these central banks is severely undermined by the high turnover rates of their top bosses.

Available data suggests that over the past decade, the median tenure of a central bank governor or president in the twenty economies with the highest inflation rates has been a mere two years. Over the past ten years, a number of central bank governors have come and gone: Seven in Argentina, eight in Turkey, six in Venezuela, and five in Iran. Just to put this in perspective, during the same period, the median tenure of the leadership in the Fed, ECB, BoE, and Bank of Japan has been five years, and these institutions have each changed leadership only once in the past decade.  

Such a high turnover rate for the central bank leadership is a clear sign of its lack of independence. It also severely undermines the most important asset of a central bank: its reputation and credibility. Economic actors, markets, and consumers in an economy look to the central bank and its leadership for direction on the future of the economy and directly equate high turnover in a central bank leadership to policy uncertainty, demolishing the reputation and policy credibility of a central bank. A central bank lacking reputation and credibility is like a chef without a kitchen.

In fighting inflation, it’ll be important to go back to the basics: religiously protecting the reputation and independence of central banks and aggressively rebuilding any losses on these fronts. After all, reputation is extremely hard to build but very easy to lose. And that is the most important tool a central bank has to fight inflation.

Spooking the spirit of Bretton Woods

It was supposed to be a week of multilateralism, breaking down barriers between borders, and preventing “fragmentation” (as the IMF often likes to say). But the United States had different ideas.

Following US Treasury Secretary Janet Yellen’s recent trip to China where she hammered home the risk of Chinese manufacturing overcapacity, the Biden administration today called for a tripling of tariffs on Chinese steel and aluminum. As if that wasn’t enough, the Office of the United States Trade Representative is beginning an investigation into Chinese unfair trade practices on shipbuilding and maritime logistics, per a White House announcement this morning.

Couple this with the European Union’s ongoing anti-dumping investigation on Chinese electric vehicles (as we’ll discuss with EU Commissioner for the Economy Paolo Gentiloni tomorrow), and suddenly the spirit of Bretton Woods is looking a little spooked. That’s one reason why the understated warning in the IMF’s World Economic Outlook yesterday about downside risks may already feel out of date.

• What the World Economic Outlook left out

• What should be done with Russia’s blocked reserves?

• Dispatch from IMF-World Bank Week: IMF report launches keep it dull

• The IMF warns the United States to get its fiscal house in order

• How much can multilateral development banks crowd in private capital? It’s not looking like much—so far.

• When it comes to trade relationships, North America comes first, argues Mexico’s secretary of finance

• Read day one analysis

What the World Economic Outlook left out

The just-released World Economic Outlook (WEO) has a nice subtitle that sums up very well its key messages—”steady but slow: resilience and divergence.” Resilient because economic activity in advanced countries has been solid and precipitated a 0.2 percentage point upgrade in the IMF’s growth forecast, to 1.7 percent this year. Divergent because low-income countries (LICs) have had their growth estimates cut by 0.2 percentage points to 4.7 percent this year. They have absorbed most of the $3.3 trillion loss in global economic output relative to the pre-COVID trend. They’ve also built up onerous levels of debt so that many are in debt distress and now have to use more than 14 percent of their government budget to pay interest, crowding out other important and necessary expenditures.

Unfortunately, the outlook for the LICs looks to be even worse than the WEO’s forecast, thanks to the Iranian attack on Israel over the weekend, as well as recent upticks in US inflation data.

Going forward, the heightened risk of war following Iran’s direct attack on Israel will likely keep oil prices elevated, having risen by some 12 percent since the beginning of the year. Meanwhile, higher-than-expected inflation will delay any easing by the Federal Reserve. That has caused a renewed uptick for the dollar. The combination of elevated oil prices and a strong dollar is bad for many countries, but it is particularly devastating for LICs because most LICs have to import oil—so high oil prices coupled with a depreciating currency against the dollar represent a double whammy, undermining growth. Also hurting LICs is the fact that a strong dollar increases their debt and debt servicing burdens, and it also tends to trigger capital outflow exacerbating the stress.

These two news events will push LICs even further behind in the convergence process. In short, global economic disparities will likely increase with unfavorable social implications for the world. The WEO has not paid sufficient attention to this risk.

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What should be done with Russia’s blocked reserves?

Since February 2022, Western sanctions have blocked roughly $300 billion in Russian reserves. Thanks to high interest rates, these reserves have been generating income for their custodians, the largest of which is Belgium-based company Euroclear. The question Group of Seven (G7) members will be discussing this week is how to use that interest income.

Bloomberg’s Viktoria Dendrinou and the Council on Foreign Relations’ Brad Setser joined the Atlantic Council GeoEconomics Center’s Charles Lichfield to compare the two primary proposals: 1) Tax almost all the interest income and use the windfall as a funding source for Ukraine or 2) pull forward some of the interest income stream to provide funding more quickly, maximizing its value through financial engineering.

Although the United States wants to come to an agreement by June, Dendrinou explained that things are moving more slowly on the European side due to the greater risks posed by Russian retaliation, as Europe has more assets in Russia. This adds to fears of knock-on effects on the euro’s role as a reserve currency.

Still, Setser came back with ambitious plans to generate even more interest income by actively managing the funds. “If you put this in deposit accounts and you had access to the full $300 billion,” he said, a reasonable estimate “is nine to ten billion dollars per year.”

Dendrinou and Lichfield expressed skepticism about the feasibility of doing this from a legal perspective, as it may require changing the ownership of the assets. Looking to the future, Dendrinou tentatively suggested that there’s “probably going to be some kind of financial engineering in place” by next year’s spring meetings.

Setser, on the other hand, boldly predicted that by June, the G7 will “agree to a facility that pulls forward some, not all, future interest income so that the current sum that flows to Ukraine this year is more than the three to four billion that is currently being discussed.” G7 outcomes from this week may provide some early signs about a realistic timeline for using the interest income.

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Dispatch from IMF-World Bank Week: IMF report launches keep it dull

Each year at the spring and annual meetings, participants like me count down to the launch of the IMF’s most important flagship publications—the World Economic Outlook (WEO) and Global Financial Stability Report (GFSR). The launches are typically the high point of the week, often receiving more media attention than pronouncements from the finance ministers and central bank governors that come later on.

The GFSR unveiling has always been a jargon-laden affair. While the WEO press conferences have become increasingly staid over the years, they were once known for public debate and even sarcasm.

The most memorable launch happened in the aftermath of the 1997 Asian financial crisis, when the IMF came under fire for its tough policy prescriptions. Then IMF Chief Economist Michael Mussa had firmly defended the Fund against the attacks—which especially rankled when they came from then World Bank Chief Economist Joseph Stiglitz. At the September 1998 WEO launch, Mussa declared that “those who argue that monetary policy should have been eased rather than tightened in those economies are smoking something that is not entirely legal.”

But today’s launch events at IMF headquarters hewed to the new status quo. IMF Economic Counsellor Pierre-Olivier Gourinchas, who heads the Fund’s Research Department, offered the WEO’s case for optimism—with global growth forecast at 3.2 percent in 2024 and 2025—arguing that “the global economy remains remarkably resilient” although progress to reduce inflation has “stalled.” Notably, he called on China to address its property downturn and “lackluster” consumer demand. IMF Financial Counsellor Tobias Adrian then elaborated on the financial sector risks hanging over China at the GFSR press conference.

Mentioned only in passing were global geopolitical fragmentation, the divergence of fortune between advanced and low-income countries—the latter an important theme of this WEO—and the stalled progress in restructuring developing country debt. These uncomfortable issues were left to another day.

The IMF warns the United States to get its fiscal house in order

Unlike last year, the IMF’s World Economic Outlook (WEO) and Global Financial Stability Report (GFSR) were not derailed by events happening a few days before publication. Last October, the Hamas terrorist attack on Israel the weekend before the Marrakesh meetings rendered the Fund’s forecasts outdated by the time they appeared.

Iran’s large-scale attack on Israel, by contrast, has not yet led markets to a fundamental reassessment of geopolitical developments, although the situation remains extremely fragile. The IMF’s spring reports therefore deliver a timely message about the factors behind a more somber medium-term outlook. With the inflation shock gradually diminishing, the Fund’s forecasters are on more solid ground assessing the challenges facing the IMF’s member countries, with fiscal pressures front and center in this year’s reports.

These are also depicted in an excellent article by Pierre-Olivier Gourinchas, the IMF’s chief economist. The degree of fiscal adjustment needed to stabilize medium-term debt ratios for many countries is striking, including the United States. The US fiscal stance is raising “short-term risks to the disinflation process, as well as longer-term fiscal and financial stability risks for the global economy,” as Gourinchas put it. In other words, US fiscal policy poses a risk both to US disinflation and to global long-term interest rates unless the United States gets its fiscal house in order.

“Something will have to give,” concludes Gourinchas, an ominous reference to a long list of downside risks that are listed in the two reports. However, the good news is that the GFSR is less alarmist about financial sector developments this time, focusing instead on how to manage the “last mile of disinflation,” a considerable change in tone compared to the discussions only a year ago when the United States was on the verge of a major banking crisis.

As always, the IMF as a multilateral institution needs to be careful how it depicts geopolitical events, and there are well-calibrated references to commodity price developments and supply chain disruptions caused by ongoing conflicts. The reports, however, cannot elaborate on the precarious situation caused by Russia’s war in Ukraine and the ongoing conflict in the Middle East.

But these conflicts may increase pressures on government finances, including from rearmament needs, fiscal spending during an election cycle, and lower tax revenues due to mediocre growth rates. As a result, the advocated fiscal adjustment may remain elusive. Still, the IMF’s staff has done its duty by pointing out the underlying risks.

How much can multilateral development banks crowd in private capital? It’s not looking like much—so far.

In redefining its mission as striving for a world without poverty on a livable planet, the World Bank—under President Ajay Banga—has drawn attention to the need to mobilize capital resources to help developing countries close the climate action funding gap: A gap that currently amounts to the difference between the $100 billion committed annually by donor countries and the over $2.4 trillion needed per year by 2030.

It is clear that developed countries and multilateral development banks don’t have the capital resources to meet much of the investment gap. As a consequence, the Bank has put much effort into finding ways to catalyze, or crowd in, private capital by providing risk-sharing and guarantee facilities. With private institutional investors and asset managers holding more than $400 trillion of assets under management, the Bank hopes to draw in multiples of private capital to stretch its project dollars.

However, research by the Institute of International Finance has found that in recent years, multilateral development banks collectively managed to mobilize just fifteen dollars for every one hundred dollars committed—or one-fifteenth, decidedly not significantly multiplying the amount it has put up in its commitments.

While it is truly important and laudable for the Bank to find ways to catalyze private capital, it is better to be realistic about the potential outcome and impact of such efforts, so as not to set the stage for later disappointment. By presenting realizable targets—at least for the foreseeable future—the Bank can focus on the tremendous climate action investment gap that needs to be filled, continuously urging the international community to rise to the occasion to help meet the challenge before it is too late.

Of course, developing countries can help themselves by implementing structural reforms, especially in governance, to make themselves increasingly investable in the eyes of both domestic and international investors, attracting the needed investment flows.

When it comes to trade relationships, North America comes first, argues Mexico’s secretary of finance

Mexico’s Secretary of Finance Rogelio Ramírez de la O joined the Atlantic Council’s studios on Monday to outline his country’s economic priorities, including its relationship with the United States.

Ramírez de la O argued that Mexico is “one of the most open economies in the world for both trade and capital,” thanks in part to the country’s exports, which are reported at over 35 percent of gross domestic product. The secretary of finance said that the country benefits from its level of openness, which he stated is comparable to certain European countries—but it’s also one that “fewer economies in Latin America have.”

Last year, Mexico surpassed China as the biggest exporter of goods to the United States. Mexico is committed to North American integration because “it’s where the core of our exports activities [lie],” Ramírez de la O argued. “This doesn’t mean that anything else comes secondary, but it comes next.” Looking ahead toward the USMCA renewal in 2026, the secretary of finance reassured members about product traceability—a demand rising from concerns over Chinese products. “We’re trading mainly and foremost North American content,” he said.

Speaking on the first day of the IMF-World Bank Spring Meetings, Ramírez de la O discussed reforms he’d like to see the Bretton Woods Institutions make, including correcting current account imbalances to revisit the world trade rules architecture and advocated for revisiting financial assistance for Latin America. He expressed readiness to engage with the Group of Twenty and multilateral development fora to define a global tax framework.

Watch the event

• What’s the strategy behind this year’s smaller-scale spring meetings?

• Dispatch from IMF-World Bank Week: Climate change is the writing on the wall

• Geopolitics is eroding the IMF’s relevance

• COVID-19’s economic impact on the poorest countries has just become clearer

• Financial markets may be calm after Iran’s attack, but watch how countries react to pressure from elevated oil prices and dollar pressure
• Read preview analysis

What’s the strategy behind this year’s smaller-scale spring meetings?

The spring meetings have just gotten underway, but thus far the official events around 19th Street feel somewhat scaled down. The registration and security lines today were certainly shorter than last year. And there are notably fewer headline events, at least as far as the official World Bank side convenings are concerned.  

Perhaps it’s reflective of the Bank’s intent to bring more focus to its work—as President Ajay Banga discussed in his preview press conference. The Bank consolidated its public schedule into three days with just two “flagship events”—one on the energy transition in Africa and one on strengthening health systems. Both are decidedly linked to the International Development Association (the Bank’s concessional fund for low-income countries) whose twenty-first replenishment campaign seems to have more urgency and ambition as debt and other macroeconomic, microeconomic, and geopolitical challenges stymie recovery and growth in deeper ways.

Or perhaps it reflects an interest in putting more time into one-on-one, closed-door, dealmaking meetings—including with the private sector. Leveraging resources and mobilizing private capital is a priority for the Bank, as Anna Bjerde, managing director for operations, reiterated in our conversation this afternoon: “In a world where resources are scarce, ‘leverage’ is the name of the game,” she said.

Or perhaps it reflects the pace and impact of the “unofficial” spring meetings: The increasing number of side events with a broader array of actors around and beyond 19th Street, including our robust dual-sited slate at the Atlantic Council. These convenings are as well, if not better, placed to unpack—and discuss critically—the global geoeconomic, financial, development, and sustainability challenges and opportunities we collectively face, as well as navigate how (after eighty years) the Bretton Woods Institutions and the larger multilateral system should evolve and respond.

Dispatch from IMF-World Bank Week: Climate change is the writing on the wall

With the IMF-World Bank Spring Meetings taking place again in Washington this year, the setting is familiar—but there’s also something strikingly new. As I walked into the World Bank’s headquarters today alongside many of the world’s finance leaders and experts, I was pleasantly surprised to see that the Bank’s mission statement, posted by the entrance, had changed: “Our dream is a world free of poverty,” had smartly been amended to add “on a livable planet.”

The new statement reflects the World Bank’s goal to evolve and to equip itself fully to deliver on its mission, which I discussed today with the Bank’s managing director of operations, Anna Bjerde.

The statement also exposes a hard truth: A world free of poverty cannot be attained or sustained in a world where carbon dioxide (CO2) emissions keep rising and climate challenges keep growing at the expense of the poorest—even as low-income populations contribute a mere 0.5 percent of global CO2 emissions, according to World Bank data.

Addressing global poverty and climate change requires more cooperation among the world’s largest economies and emitters; but the recent rise of geopolitical tensions and geoeconomic fragmentation, as our Bretton Woods 2.0 Project has pointed out, has made such cooperation much harder. This year’s spring meetings are a golden opportunity to make the case for more cooperation on addressing global challenges and reducing the rising temperature—both of the planet and its geopolitics.

This July, the Bretton Woods institutions will celebrate their eightieth anniversary, amid multifaceted perils facing the global economy and the world order. The countries present at the spring meetings must face these threats head on, so that by the time the IMF and World Bank turn one hundred, their member countries can look back with pride at the hard decisions they made to secure a livable and peaceful planet for all.

Geopolitics is eroding the IMF’s relevance

Expectations for this week’s Group of Twenty (G20) and IMF-World Bank Spring Meetings have hit a floor as the geopolitical environment continues to deteriorate. Russia and Iran are intensifying their pressure on Ukraine and Israel respectively, and political divisions in the West on the conflicts are becoming more acute. China is about to trigger another trade scuffle by throwing the (financial) weight of the state behind key industries that compete for global market share. The United States and Europe are on the defensive, fiscally stretched and riven by societal polarization that is also shaped by geopolitical adversaries.

There will be ample diplomatic squabbling over communiqué language concerning the wars in Ukraine and Gaza and the usual appeals to the spirit of multilateral cooperation—but there will also be complaints over excessive subsidies, trade restrictions, and financial sanctions. Discussions over quota reallocations will be doomed by irreconcilable geopolitical differences, and progress toward a more workable global debt architecture is likely to remain gradual, even if important work is proceeding on a technical level.

The one area where some consensus may exist is in raising funds for climate and development finance. Again, Western countries are on the defensive here, given that national development budgets have generally shrunk. Leveraging the funds of multilateral lenders, which the Western countries still dominate, remains an important way to at least partly match the financial resources that China, the Gulf countries, and increasingly India channel into building diplomatic ties with the developing world.

This also explains the selection of Kristalina Georgieva from Bulgaria to serve another term as IMF managing director. Under her leadership, the fund has expanded its toolkit to lend to developing countries, generally with fewer questions asked of loan recipients than under her predecessors, likely spelling financial trouble in the future. Already, there are demands for further reductions in the IMF’s lending rates as well as additional Special Drawing Rights (SDR) issuances.

By contrast, the Fund’s core economic work has generally received less attention. During her first tenure, the institution’s work was tailored to Georgieva’s personal areas of expertise, most of which lie in the mandate of the World Bank. The Fund was largely silent on the run-up in inflation, and its global economic messages have lacked clarity as it generally shies away from calling out countries for bad economic management.

Kenneth Rogoff, a former IMF chief economist, asked in a 2022 article why the IMF has turned into an aid agency. This question has now been answered by the majority of the IMF’s shareholders, who simply seem to prefer it that way. Whatever may be achieved during this year’s spring meetings, the mandate of the once proud institution seems to have shifted from safeguarding global financial stability to becoming a source of cheap funding for climate and development purposes.

COVID-19’s economic impact on the poorest countries has just become clearer

Four years after COVID-19 shook the global economy, the World Bank has released a report that lays out in the starkest possible terms just how devastating the pandemic was for the world’s poorest economies. In a report entitled “The Great Reversal,” the Bank details how much ground many of the world’s seventy-five least-developed countries have lost: One-half of that group is seeing its income gap with advanced economies widening, and one-third is poorer today than on the eve of the pandemic.

A key reason for the failure to regain growth momentum after COVID-19 has been sharply rising debt. In a separate report on developing country debt issued late last year, the World Bank estimated that eleven of the low-income countries were in “debt distress,” and twenty-eight were at “high risk” of distress. In 2022, the year the report analyzed, low- and middle-income countries paid $443.5 billion in debt service and $185 billion in principal repayments.

The countries assessed in “The Great Reversal” are eligible for World Bank low-interest loans and grant aid from the Bank’s International Development Association. They account for 92 percent of the world’s population living without access to affordable, nutritious food and over 70 percent of the world’s extreme poor. At the same time, their economies collectively account for only 3 percent of global output.

As central bank governors and finance ministers gather this week, the question—which they have faced at every spring and annual meeting since early 2020—will be whether they are prepared to work together to address this crisis of deepening poverty and debt. Or, will they leave town having only issued more communiqués expressing their “deep concern”?

Financial markets may be calm after Iran’s attack, but watch how countries react to pressure from elevated oil prices and dollar pressure

The IMF-World Bank Spring Meetings have officially kicked off, and international financial markets have maintained fragile stability in the immediate aftermath of Iran’s large-scale attack on Israel, which included the launch of more than three hundred missiles and drones. The United States, along with several European and Middle Eastern countries, has emphasized the need to prevent further escalation. Due to the fact that Iran’s attack was less damaging than some anticipated, but with the still lingering risk of war, oil prices have given back some of the risk premiums built up last week in anticipation of Iran’s attacks, with Brent Crude sinking to just below ninety dollars a barrel—after having gained some 12 percent since the beginning of this year. In case of all-out war between Israel and Iran and disruptions of the oil flow through the Strait of Hormuz, oil prices can well exceed one hundred dollars a barrel. About a fifth of the volume of the globe’s oil consumption ships through the strait, with very few alternative routes.

Meanwhile, persistently strong inflation data in the United States has pushed market expectations for the first Fed cut later in the year, keeping the dollar strong—the greenback has appreciated by about 14 percent since the recent low in 2021. The dollar is also underpinned by safe haven flows given heightened geopolitical tension.

The combination of elevated oil prices and a strong dollar has put pressure on many countries, especially low-income countries. In particular, nearly all Group of Twenty (G20) members have seen their currencies weaken against the dollar—led by the Turkish lira and the Japanese yen, which each lost more than 8 percent since the beginning of the year. This has prevented many countries from easing monetary policies to support their economic recoveries. Watch this topic closely: The dollar’s strength, and the potential negative impact of it, could be a main topic of discussion in the G20 meeting of finance ministers and central bank governors scheduled for April 17 and 18.

• Dispatch from IMF-World Bank Week: The era of separating geopolitics and economics is over

• IMF head Kristalina Georgieva on how to avoid ‘the Tepid Twenties’ for the global economy

• What to expect from the 2024 IMF-World Bank Spring Meetings

Dispatch from IMF-World Bank Week: The era of separating geopolitics and economics is over

As the world’s finance ministers and central bank governors descend on Washington this week—and snarl the city’s traffic—they seem to just want to be able to stick to the script.

It’s an understandable sentiment. The agenda is daunting, with issues such as sticky inflation, China’s struggling economy, and a rising risk of debt defaults. And, as IMF Managing Director Kristalina Georgieva made clear in her curtain-raiser speech at the Atlantic Council on Thursday, those are just the immediate problems. The medium-term challenges of job disruptions from artificial intelligence and the green energy transition can’t be ignored.

But as Iran’s large-scale attack on Israel this weekend reminded us, the ministers and governors will need to first address something else—the reality that geopolitical tensions and conflict have, as Georgieva said, “changed the playbook for global economic relations.”

Six months ago, on the eve of the IMF-World Bank annual meetings in Marrakesh, Hamas unleashed its brutal terrorist attack on Israel. The ministers spent the next five days being asked about the possible impacts on the regional and global economy, and nearly all of them demurred. As we at the Atlantic Council pointed out at the time, that was a mistake. It was clear from the start that war between Israel and Hamas would have economic repercussions. Sure enough, two months later, Houthi attacks linked to the war began disrupting major shipping routes in the Red Sea.

Now, Iran’s attack has cast a dark shadow over the spring meetings. Once again, many of the ministers will surely try to avoid addressing the potential fallout. Even if geopolitics is the last thing the ministers want to be discussing, they may not have a choice. It’s worth remembering that the Bretton Woods Institutions were created during a war to address the devastating economic toll of conflict. For the last several decades, it was often possible to keep geopolitics and economics separate—but that time is over. The sooner the ministers recognize the new reality, the more effective they can be.

IMF head Kristalina Georgieva on how to avoid ‘the Tepid Twenties’ for the global economy

With global growth predicted to remain “well below” its historical average—at slightly above 3 percent—“making the right policy choices will define the future of the world economy,” International Monetary Fund (IMF) Managing Director Kristalina Georgieva said Thursday.

“The sobering reality is global economic activity is weak by historical standards,” inflation is “not fully defeated,” and fiscal buffers “have been depleted,” she explained at an Atlantic Council Front Page event ahead of the 2024 IMF-World Bank Spring Meetings. “Without a course correction, we are indeed heading for ‘the Tepid Twenties’—a sluggish and disappointing decade.”

Yet, there is reason for optimism, Georgieva argued while previewing an upgrade to global growth forecasts the IMF will release next week: Growth is “marginally stronger” thanks to “robust activity” in the United States and in many emerging-market economies, including an increase in household consumption and business investment and the easing of supply-chain problems.

Inflation is dropping “somewhat faster than previously expected”—a trend Georgieva expects to continue in 2024. While inflation is down in the United States, new data this week show that it may be creeping back up; “that is a concern,” Georgieva said, “but I think the [Federal Reserve] is acting prudently.” In response to some predictions that inflation would come down, propelling the Fed to cut interest rates this year, Georgieva cautioned “not so fast.” If the Fed has to then reverse course and raise rates, she said, that would undermine public confidence in monetary policy.

Yet on the other hand, high interest rates in the United States are “not great news” for the rest of the world. “High interest rates mean the dollar is also stronger,” which for other countries means that their currencies “are weaker,” she explained. “It could become a bit of a worry in terms of financial stability.”

Below, read more highlights from Georgieva’s curtain-raiser speech and conversation with Atlantic Council President and Chief Executive Officer Frederick Kempe, which touched upon the “good policies” needed to achieve a soft landing across the world and concerning economic trends in China.

New Atlanticist

Apr 11, 2024

IMF head Kristalina Georgieva on how to avoid ‘the Tepid Twenties’ for the global economy

By Katherine Walla

“Making the right policy choices will define the future of the world economy,” International Monetary Fund Managing Director Kristalina Georgieva said at the Atlantic Council.

China Financial Regulation

What to expect from the 2024 IMF-World Bank Spring Meetings

Josh Lipsky, senior director of the Atlantic Council GeoEconomics Center, breaks down the issues at the top of the agenda for the spring meetings.

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As IMF Managing Director Kristalina Georgieva said at the Atlantic Council yesterday, inflation is going down and global growth is increasing, driven by the United States and many emerging market economies. Also helping are increases in household consumption and business investment—and the easing of supply chain problems.

“We have avoided a global recession and a period of stagflation—as some had predicted,” said Georgieva. “But there are still plenty of things to worry about.”

The problem: Geopolitical risk is rising in a way that’s hard to measure, difficult to manage, and almost impossible to predict.

“Geopolitical tensions increase the risks of fragmentation of the world economy,” she said. “And, as we learned over the past few years, we operate in a world in which we must expect the unexpected.”

For example, this decade has already had a worldwide COVID-19 pandemic in 2020, a full-scale Russian invasion of Ukraine in 2022, and a Hamas terrorist attack in 2023, followed by a still-ongoing Gaza war. 

From the moderator’s seat, I asked Georgieva whether she thought this level of geopolitical volatility was the new normal. “I think we have to buckle up for more to come,” she said, “because it is a more diverse world, and it is a world in which we have seen divergence, not just in economic fortunes, but also divergence in objectives.”

So how does the IMF manage that divergence?

Georgieva replied: It does so through the quality of its analysis, through the confidence that emerges from its financial strength, and through its staff’s ability to “quickly shift gears toward what the most important priority is.”

Oh, yes, the IMF also runs “think of the unthinkable” analyses, Georgieva said. The goal of which, she explained, was to “come up with the hypothesis of something that looks, you know, absurd and impossible, and what are we going to do if the impossible becomes a reality.”

Don’t miss the entirety of Georgieva’s compelling speech and discussion, rich with graphics and charts. She shared her insights on issues ranging from how artificial intelligence could reshape economies to why China’s current economic policy course is unsustainable.

China’s leadership is aware of that unsustainability, she noted. How Beijing changes course next is of global consequence, she explained, given that the country is contributing one third of global growth this year. “China making good choices would be good for everybody.”

It starts with tackling manufacturing overcapacity, which Georgieva pointed to as a significant issue. Expect to hear much more about that in the days ahead, as Chinese exports have become a key off-the-agenda topic for the ministers to debate next week.

Frederick Kempe is president and chief executive officer of the Atlantic Council. You can follow him on Twitter: @FredKempe.

This edition is part of Frederick Kempe’s Inflection Points Today newsletter, a column of quick-hit insights on a world in transition. To receive this newsletter throughout the week, sign up here.

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The issues Yellen raised reflect real concerns in the United States and Europe—in particular about hi-tech and clean energy sectors like electric vehicles (EVs), lithium batteries, and solar panels. However, it is not a straightforward matter pushing back against China on grounds of overcapacity. The EU has initiated anti-dumping investigation of Chinese EVs—imports of which have surged in many European countries threatening domestic producers—but evidence of overcapacity in that sector is weaker than in solar panels and batteries. Measures to restrict import of these products would simply raise their prices, as Western companies are not in a position to replace Chinese products.

More importantly, the West needs to recognize that overcapacity is intrinsic to China’s economic model—and therefore that calls to end it amount to wishful thinking. In other words, while the complaints about overcapacity are justified  from a Western perspective, they will not change the situation any time soon—despite platitudes about US-China relationship being on a “more stable footing” expressed at Yellen’s meeting with China’s Premier Li Qiang.

Chinese EVs pose different challenges than batteries and solar panels

China does have overcapacity problems. Overcapacity is typically measured using utilization rates, the rate of industrial capacity in a sector that is being used for production—low rates imply surplus capacity. Companies with a lot of surplus capacity tend to lower prices to generate demand, hurting the profitability of the whole sector. China has low utilization rates—which have fluctuated around 75 percent, well below the 80 percent considered to be normal. At the end of 2023, China’s capacity utilization rate has recovered to almost 76 percent—a few percentage points higher than the pre-Covid low in 2016 and a few percentage points lower than those of other major countries including the United States (whose utilization rate fell below 80 percent in 2023).

However, behind the aggregate low utilization rate of 76 percent is a very wide dispersion among different sectors. EVs have a high utilization rate, whereas China has very low-capacity utilization rates in low tech sectors such as cement and glass—which are being pulled down by the property construction slump—as well as in lithium batteries and solar panels.

In automobiles, producers of internal combustion engine (ICE) vehicles have suffered from very low capacity utilization rates—in many cases well below 50 percent—as consumers have been shifting from ICE vehicles to EVs. By contrast, EV producers, especially large ones like BYD, SAIC and Li Auto, have high utilization rates, exceeding 80 percent. These companies have increased their production and export of EVs significantly in recent years, arguably because they are quite efficient in terms of prices and quality. Even Elon Musk admitted that Chinese EV companies “are extremely good…and the most competitive in the world.” The smaller and less efficient EV producers have been weeded out relentlessly from the more than 400 companies launched more than a decade ago to about fifty having some degree of recognized name brands. This consolidation process has accelerated after China ended its subsidy program for EVs at the end of 2022—putting huge pressure on less efficient producers. (While past subsidies supported Chinese EV companies, the fact that this subsidy has been ended could be used by China in its defense against the EU investigation.)

Furthermore, China is not as dependent on the export of automobiles including EVs as some other major car manufacturing countries. Specifically, its export rate is quite low, at 15 percent compared with 48 percent in Japan, 72 percent in South Korea, and 79 percent in Germany. As a result, possible EU and US tariffs may blunt China’s EV export growth in those regions but can hardly be expected to alter the overall growth trajectory of the country’s EV sector.

In the first two months of 2024, China experienced an 8 percent increase in total EV export in volume terms, having been able to shift EV sales in the EU (which has declined by 20 percent) to Asia (export to RCEP countries has increased by 36 percent). These two regions account for 30 percent each of China’s EV export. Furthermore, China can boost domestic demand by raising the target for the share of EVs in new car sales from 45 percent by 2027 (rather low relative to the target of 65 percent by 2030 in the EU). Such a move would be helped by the fact that China has rolled out 2.7 million charging stations across the country at the end of 2023–compared with only 64,187 in the United States.

In contrast to the EV sector, lithium battery and solar panel producers have suffered from very low capacity utilization rates—in many cases below 50 percent. In particular, China’s annual production of solar panels is more than twice the global demand. This huge overcapacity has significantly driven down the prices of these products, benefiting all importing countries in their green transition efforts. Raising tariffs on these products will increase their prices to users and delay many countries’ green transition targets, especially as Western companies are not in a position to replace Chinese products. It is instructive to note that President Biden has vetoed a Congressional resolution to reinstate tariffs on cheap solar panel imports from South East Asian countries—for fear of delaying the pace of solar installations necessary to meet his administration’s target of 100 percent clean electricity by 2035.

Overcapacity is intrinsic to China’s economic system

The West should focus its complaints on the sectors where Chinese overcapacity is most egregious—for example in wind power turbines on which the European Commission has just launched an anti-subsidy probe. As it does so, it must also recognize that the long cycle of overcapacity build-up and correction is generic to China’s economic system of state capitalism. Strategic decisions by leaders the Communist Party of China (CCP) will mobilize resources to invest in chosen sectors. That leads to overcapacity, which comes with unfavorable side effects, which eventually cause the leadership to undertake corrections. This process usually takes far longer than the prompt market-driven resolution of inefficient and unprofitable companies in the West. In China, grossly inefficient companies have been liquidated or absorbed by more efficient units, but in a managed and gradual consolidation process to minimize undesirable social impacts such as rising unemployment or hollowing out manufacturing communities.

A clear example of China’s overcapacity cycle can be found in the huge stimulus program unleashed by Beijing in response to the 2008 Global Financial Crisis—offering abundant and cheap credit to spur construction in infrastructure and housing. The resulting overcapacity in coal, steel, and other construction materials was quite severe, depressing producer price inflation, keeping it in negative territory for more than fifty consecutive months. In addition, overcapacity in the steel industry caused bitter complaints by other steel producing countries. By 2015, China launched a wide-ranging Supply Side Structural Reform to reduce overcapacity  by encouraging a consolidation process in those sectors, cushioned by measures to boost demand. China’s Belt and Road Initiative (BRI), launched in 2013, could have been designed partly with the goal of exporting the country’s surplus capacity in construction in mind. These measures were able to bring the overcapacity problem under some degree of control.

In another example, China has had significant overcapacity in the shipbuilding sector, which is 232 times greater than that of the United States, posing a threat to competitors like South Korea and Japan. China has addressed that problem in a strategic way by using its abundant capacity to build modern warships to catch up with the US Navy.

At present, CCP leadership seems to be aware of the industrial overcapacity problem which has caused producer price inflation to be negative continuously since late 2022. In presenting the government work program at the National People’s Congress meeting last month, Premier Li Qiang said that “China wanted to reduce industrial overcapacity” but flagged more resources for tech innovation and advanced manufacturing to develop “new productive forces.” It appears that, like in the 2015 episode, China will spur the consolidation of the sectors having significant surplus capacity. However, the result could be more efficient and competitive enterprises, continuing to pose a challenge to producers in the West and a few developing countries aspiring to develop their manufacturing industry.

A realistic path forward

The United States and EU, together with other manufacturing nations, have wrestled for some time with the overcapacity problem in various industries, caused by China’s economic system of state support to its enterprises. So far, the major remedy to this challenge has been countervailing duties on China, either sanctioned by the World Trade Organization (WTO) after a lengthy and difficult process or imposed unilaterally by former President Trump and maintained by President Biden. However, raising tariffs has not been a totally satisfactory solution. It has given some protection to impacted sectors in importing countries at the cost of higher prices to consumers. But it has not been a game changer in terms of ensuring a level playing field for all countries.

Based on historical experience, it’s safe to say the current phase of China’s overcapacity in hi-tech and green industries like lithium batteries and solar panels will be impacting the rest of the world for some time to come. It is reasonable to criticize and complain to China, but policymakers should remember that an end to overcapacity would mean a major shift in China’s economic model, which is exceedingly unlikely. They must therefore be prepared for a sustained period of heightened trade tension during which Beijing will eventually take some measures to reduce industrial overcapacity when its domestic impact becomes unacceptably negative—but in China’s own way and on its own timeline.

Hung Tran is a nonresident senior fellow at the Atlantic Council GeoEconomics Center, a former executive managing director at the Institute of International Finance and former deputy director at the International Monetary Fund.

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California, New York, and other states should move heaven and earth to authorize and construct new housing rapidly, especially in dense urban areas. If these states and others prioritize building houses, emissions and interest rates could fall substantially, providing a major economic and climatological boost to the United States.

The US housing shortage

Like all prices, elevated housing costs are a symptom of supply and demand.

Housing demand surged amid the pandemic and shifting office routines. With Covid-19 constraining mobility, individuals working from home upsized into larger dwellings suitable for full-time remote work.

The housing problem is on the supply side: the United States is not building enough housing.

From 2012 and 2022, the gap between household formations exceeded national home constructions by 2.3 million homes.

While many places have underbuilt housing, it’s worth highlighting the abject failure of two large and important states: California and New York. The nation’s largest and fourth largest states by population have failed to match the housing construction pace of Texas and Florida, the nation’s second-largest and third-largest states, respectively. In 2023, Florida and Texas together authorized three times more housing than California and New York combined.

The situation is even more stark after normalizing for population. California and New York’s per capita homebuilding rate actually declined from 2019, while Florida and Texas’ rose slightly despite a much less favorable interest rate environment.

Why have California and New York failed to build housing? As John Burn-Murdoch identified in a trenchant analysis for the Financial Times, these states’ planning systems place artificial restrictions on supply.

California and New York’s permitting processes are in shambles, largely due to state and local dysfunction. In San Francisco’s infamously restrictive housebuilding environment, it usually takes two years to fully approve a housing development, without even taking construction time into account. New York state legislators, meanwhile, blocked tax and zoning changes that would have allowed for more new large apartment buildings.

Due to insufficient housing supply, California and New York are, unsurprisingly, deeply unaffordable compared to other markets that are constructing housing. The burden of these failed policies disproportionately affects the young and individuals of color.

Housing accounts for about one-third of a median household’s budget. But costs are even higher for younger individuals: in 2022, half of all householders aged 15-24 spent 35 percent or more of their annual household income on rental costs.

Similarly, individuals of color are particularly impacted by higher rental prices. Black and Hispanic Americans have home ownership rates of 44 percent and 51 percent, respectively, while white Americans have home ownership rates of 72.7 percent.

How housing prices affect inflation—and the cost of clean energy

Rental prices rose 22 percent from December 2019 to December 2023, higher than the 18.4 percent rate of inflation if shelter is excluded. Consequently, renters have experienced higher rates of inflation. Expanding housing supply could therefore have a positive impact on renters.

US inflation today is largely a housing phenomenon, as shelter now accounts for over two thirds of the rise in the US core consumer price index (CPI), which excludes volatile food and energy prices and is a useful proxy for tracking consumers’ out-of-pocket spending and inflation-adjusted wages. Moreover, real-time measures of shelter costs, such as Zillow’s Home Value Index, show that prices rose 3.6 percent year-over-year in February 2024. (Housing represents a smaller share of the Fed’s preferred inflation measure, the Personal Consumption Expenditures Index, but even there it’s a major chunk of the total.)

With housing shortages contributing to inflation, the Federal Reserve has been forced to impose higher interest rates. High interest rates are disastrous for US climate goals, as capital-intensive clean energy projects benefit from lower financing costs and are penalized by higher rates. If interest rates rise to 7 percent from 3 percent, the cost of offshore wind and solar farms rises by about one-third, nuclear energy costs grow by even more, but natural gas plant prices barely budge. Unsurprisingly several US clean energy projects, from nuclear to renewables, have faced cancellations due to higher-than-expected interest rates.

As inflation abates, central banks will be freer to lower interest rates, reducing financing costs for clean energy projects. Expanding housing would therefore not only provide a sizable economic boon to the United States, producing a virtuous cycle of lower interest rates for longer, but also deliver progress on climate.

Dense housing is good for climate mitigation

Insufficient housing, especially dense urban housing sited near transit, also carries huge climate consequences. Per-capita greenhouse emissions are much lower in urban neighborhoods than other areas.

New York and California are not only failing to build a sufficient quantity of housing stock, but also to build sufficiently dense units. In California, dense housing stock is facing an array of challenges, especially at the local level. Although New York’s home building is very dense, owing to the prominence of New York City, the share of dense housing structures as a percentage of all units has fallen sharply since 2019.

In sum, greater housing—especially in urban areas—would provide reduce inflation and interest rates while lowering emissions. Expanding dense, urban housing options should be a top policy priority.

There are several ways to accelerate housing construction.

The most important step is to identify the problem and mobilize actors across all levels of government—national, state, and local—to build housing as quickly as possible.

Legalizing apartment units, including same-lot units, and eliminating parking requirements are also important steps for cities. Additionally, lowering or eliminating tariffs for some housing inputs, such as softwood lumber imports from Canada, would incentivize housing construction. Incredibly, the US Commerce Department is considering raising duties on Canadian lumber imports. This action would raise consumer prices and disincentivize new housing. It would constitute a profound error with grave inflationary and climate consequences. Instead of raising tariffs on what is arguably the United States’ closest ally, Washington should vigorously pursue policies that decrease shelter costs as quickly as possible.

Reducing shelter costs should be considered a primary priority for US policymakers. While apartment rental price increases have recently abated, and even begun to decline in some markets, these benefits have often yet to pass through to consumers on year-long leases. Rental prices may decline further if action is taken at all levels of government. If housing prices continue to lift inflation, however, the consequences could be profound.

Joseph Webster is a senior fellow at the Atlantic Council. This article represents his personal opinion.

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Economic targets for 2024

The 2024 Government Work Report sets this year’s economic targets, which are virtually identical to those made in 2023. GDP growth is planned to be “around 5 percent”, with a central government budget deficit of 3 percent of GDP in continuation of a proactive fiscal policy and a prudent monetary policy. In particular, China plans to issue one trillion yuan of ultra-long special government bonds to support the budget; and to raise the special local government bond quota to 3.9 trillion yuan from 3.8 trillion yuan in 2023. The urban unemployment rate is set at around 5.5 percent with twelve million new jobs to be created.

More interesting than the targets are the government‘s priorities as reflected in the increases in spending. Total central government expenditure is projected to increase by 3.8 percent to 28.5 trillion yuan (almost $4 trillion), with debt interest payments topping the list rising by 11.9 percent; followed by science and technology at 10 percent; stockpiling of grains, edible oils, and other necessities at 8.1 percent; national defense at 7.2 percent (same as last year); diplomatic activities at 6.6 percent; and education at 5 percent.

The planned fiscal deficit at 3 percent of GDP—declining from the realized deficit of 3.8 percent in 2023—along side the commitment to“prudent” monetary policy have disappointed many analysts and financial market participants who had hoped for a “big bazooka” stimulus plan to kick start the lackluster economy. Furthermore, they point out that this year will not benefit from the base effect resulting from earlier slow growth due to Covid-19. As a consequence, most analysts are keeping their estimates for 2024 growth below 5 percent, with the IMF expecting 4.6 percent.

The key factor in this year’s growth prospects is whether the property sector starts to stabilize, having been in a sharp decline over the past three years. In particular, after suffering the worst price fall in nine years—a drop in investment of 9.6 percent and in new construction starts of 20.4 percent in 2023—home sales and prices have increased modestly in recent months. If this trend gains traction, it would set the stage for the series of moderate support measures implemented so far to show some positive results. In this context, it is interesting to note that Rhodium Group, which had estimated actual 2023 growth to be 1.5 percent instead of the official 5.2 percent, has expected a cyclical recovery to 3.5 percent in 2024.

Developing the “New Three” for high-quality growth

In any event, more important than the exact GDP growth estimates is the NPC’s endorsement of the decisions made earlier by the CCP Politburo. These decisions reflect Xi Jinping’s emphasis on developing new quality productive forces, through strengthening capability in science and technology to form the foundation for high-quality growth. This has emerged as Xi’s main strategy to develop a new engine of growth for China. It is also a way to stay competitive with the West in science and technology, not the least to sustain the modernization of the Chinese military.

New quality productive forces refer to new clean energy technologies and products—dubbed the “New Three” by the Energy Intelligence Group. These include electric vehicles (EVs), lithium ion batteries, and renewable energy products such as solar panels, wind turbines, storage facilities and other infrastructures—all together accounting for 11 percent of China’s GDP. These sectors were targeted in the 2015 “Made in China” plan as well as the 14th Five Year Plan adopted in 2021. Last year, with state guidance and support, the New Three sectors have experienced a surge in investment of 6.3 trillion yuan ($890 billion)—40 percent higher year-on-year. According to Finland’s Center for Research on Energy and Clean Air (CREA), without that investment, China’s growth in 2023 might have been 3 percent instead of 5.2 percent. The Energy Intelligence Group has estimated that the new clean energy sectors will continue to grow, accounting for 18 percent of China’s GDP by 2027—in contrast to the property sector shrinking to a smaller but more sustainable 15 percent from its former peak of 25 percent of GDP.

Overcapacity problems

The problem with this approach is that it has created substantial overcapacity in those sectors, leading to a surge in export at low prices to Europe, the United States, and the rest of the world.

For example, China accounts for 75 to 96 percent of the global production of various components of solar panels but demands only 36.4 percent of the output. The rest has to be exported. And China’s export of EVs has increased by 1,500 percent in the past three years, helping China replace Japan as the largest exporter of automobiles. All together, exports of New Three products increased by almost 30 percent in 2023, exceeding one trillion yuan ($139 billion) for the first time.

Alarmed at the prospects of their markets being swamped with Chinese green energy products enjoying state support, the EU has started an anti-dumping investigation into EV imports with a possibility of imposing countervailing duties. The United States has opened an investigation into the data security risks of Chinese vehicles using “connected car technology”. China has reacted strongly to such moves, threatening retaliation. And China will try to export those products to countries in the Global South, many of which having no domestic manufacturing and would welcome competitively priced goods for their climate transition efforts.

In short, one of the biggest implications of the Government Work Report is that the development of clean energy industries has been identified as a strategic focus to promote high-quality growth—a new Xi catchword. The chosen strategy serves China’s strategic and economic interests but has created serious overcapacity problems, distorting world markets and raising trade tensions with the West. This adds another dimension to the geopolitical rivalry between China and the United States, making it more intractable and difficult to diffuse.

Hung Tran is a nonresident senior at the Atlantic Council’s Geoeconomics Center; a former executive managing director at the Institute of International Finance and former deputy director at the International Monetary Fund

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Table of contents

Evolution of freedom

International comparisons recognize that Europeans enjoy the highest quality of life in the world. European society benefits from great equality in income, excellent healthcare and basic education, good infrastructure, and eminent rule of law.¹ However, the past decade has presented an array of challenges to European Union (EU) nations. Europe’s gross domestic product (GDP) in 2016 had only just returned to its 2008 level—before the eurozone crisis—and it has been losing market share in the global economy. Russia’s annexation of Crimea in 2014; the 2015–16 migrant crisis; the UK’s secession from the EU; COVID-19; and Russia’s full-scale attack on Ukraine, the EU’s ensuing sanctions, and complete reorientation of its foreign policy toward helping Ukraine—by any historical standards, the past decade has been trying.

The EU is also the freest region of the world in the Atlantic Council’s Freedom Index, 20 points above the global average throughout the period of analysis. The increase in aggregate freedom was sustained until 2014 but has stagnated in the past decade. The main reason is the changing priorities in the aftermath of the eurozone crisis, which diverted politicians’ attention towards reducing social vulnerabilities.² The ensuing decade brought several other challenges, starting in 2015–16 with a wave of migration from northern Africa that divided public opinion and engulfed the EU in heated debates about migration policy. These debates brought about political change in a number of European countries too, shifting the focus further from expanding freedoms and on to defining a narrower European identity. Just as this changing political landscape started to stabilize, the COVID-19 pandemic hit Europe hard, resulting in more demands for government participation in the economy and putting the emphasis on security rather than freedom. In sum, the past decade in Europe has been one of crisis abatement.

Crisis abatement has brought about new politics in Central Europe in particular, a region which was for a quarter century (1989–2014) at the forefront of increasing political freedom in Europe. The governments of Hungary and Poland, and to some degree Slovakia, have followed a path of what Viktor Orbán calls “illiberal democracy,” concentrating powers in the hands of few political leaders. This concentration has come at the expense of media freedom, judicial independence, and institutional development. The European Commission and other European institutions have responded with concerned actions to limit the loss of freedoms, with some success.

Economic freedom increased by more than 10 points until 2014, leveling off since then due to the various crises that emerged. However, there are some bright spots. Women’s economic freedom has increased continuously during the whole period, up 25 points. Investment freedom increased substantially during the period 2005–15, and has seen another upswing since as governments have tried to keep their economies competitive. This reflects the response of many EU countries to the pandemic, including significant subsidies to particular sectors of the economy, enlarging the role of the state, and crowding out the private sector. This effect continues to evolve, particularly in the energy sector where the war in Ukraine has given a jolt to Europe’s desire to be independent from Russian oil and gas.

The level of political freedom is very high in the EU, although “legislative constraints on the executive” receives a clearly lower score than the other three components of the political freedom subindex. All components of political freedom decrease slightly after 2016, coinciding with the reverberations from the migration crisis and the rise of populism in a number of European countries. The most prominent of these have been in Central Europe, where Hungary’s Viktor Orbán has been particularly outspoken on the need to curb political freedoms. The trend, however, runs deeper, with nationalist parties gaining popularity in Austria, Finland, Italy, Germany, and Sweden, among others. Europe is a more closed society now than it was thirty years ago.

From freedom to prosperity

Prosperity in the EU is around 17.6 points higher than the global average, and this gap has been stable since 1995. The trend is positive until 2019, but has stagnated since the pandemic struck. This is broadly consistent with the global pattern, suggesting that Europe is finding ways to maintain its edge in prosperity over its competitors.

The superior outlook on prosperity, coupled with geographic proximity, has made Europe a magnet for migrants from Africa, Asia, and the Middle East. The pandemic reduced this inflow, as have various country-level policies to prevent migrants from entering Europe. Still, 2022 saw a significant new wave of migration from Ukraine, reaching a total of 6 million refugees towards the end of the year. And a new wave of non-European migrants has posed challenges for Italy and Greece in 2023.

The effects of the eurozone crisis of 2008–10 and the COVID-19 pandemic of 2020–22 are evident in the income component data. Fortunately, financial assistance to vulnerable groups was quickly dispensed during both episodes, reducing social tensions. Europe’s social safety net expanded, increasing budget deficits but allowing the crises to pass with minimal losses in welfare. Reflective of these policies, inequality is relatively low compared to the global average.

Finally, the data show sustained improvements in health and education for the EU, probably driven by countries in Eastern Europe. These countries saw social supports deteriorating at the beginning of the post-communist transition period in the 1990s. Heavy government spending, assisted by EU funding since their accession in the 2000s, has reversed these losses and led to convergence in health and education indicators across the EU.³

The future ahead

The next decade of EU freedom and prosperity dynamics will be marked by the war in Ukraine. The EU has committed enormous financial resources, nearly €100 billion across 2022 and 2023, in supporting Ukraine’s fight against the aggressor. It has also imposed a dozen rounds of sectoral and economy-wide sanctions on Russia. These sanctions also have negative implications for some industries in Europe, which have traditionally relied on resources from Russia. The war, in other words, has a slowing effect on Europe’s economy.

Another major impact of Russia’s war in Ukraine is that it has forced the EU to rethink the Green Deal, which the European Commission has championed for the past decade. Given Russia’s threats to Europe’s energy security, a decision was taken in 2022 to sever the dependence on Russian energy products. With only two countries—Bulgaria and Hungary—receiving postponement of these measures to 2024, Europe has quickly weaned itself from Russian oil and gas. However, this change has come at a cost: a number of countries have increased their use of coal and other high-polluting sources of energy.

The war has also sped up the process of EU integration for Moldova and Ukraine, and this will occupy the attention of Brussels institutions in the years to come. Such integration provides for a larger European market: a welcome development. The past decade has shown that Europe cannot multitask—perhaps the inevitable result of gradual consensus building among twenty-seven member states—preferring to focus on one issue at a time. The clear task at hand is helping Ukraine win the war.

The two case studies in this volume on Ukraine (by Professor Yuriy Gorodnichenko from the University of California at Berkeley) and Russia (by Professor Konstantin Sonin from the University of Chicago) demonstrate what is at stake for these countries in terms of freedom and prosperity. In this chapter I suggest that, for Europe as a whole, what is at stake in the conflict is the further development of freedoms and the ensuing prosperity of Europe. Only with a free and victorious Ukraine can the EU refocus on its prosperity agenda.

In the face of Ukraine’s resolute response to Russia’s invasion, President Putin has escalated the economic warfare against its citizens by incessantly attacking the country’s energy infrastructure and cutting off vital trade channels. These acts have severely hampered the prospects for economic recovery in 2024.

A large part of Ukraine’s civilian population, an estimated 6 million refugees, is awaiting a ceasefire that would allow them to return to their homeland, as the frequent bombings and power outages have forced them to take temporary shelter in other European countries.⁴ These immigrants look forward to reuniting with their families and continuing with their jobs or finding new economic opportunities. In both cases—whether Ukraine’s refugees stay abroad or return home—massive European help is needed to jump-start the economy. The needs are enormous: rebuild infrastructure, provide financing for entrepreneurial activities as many old enterprises are razed to the ground, open new export opportunities, and invest in the training of workers and in new technologies.

Europe’s prosperity agenda

This prosperity agenda is fourfold. First, there are wide disparities across regions within Europe. These are seen within countries, for example southern versus northern Italy, and across countries, for example Scandinavia versus Eastern Europe. A significant portion of the EU budget is directed to reducing these disparities, through investments in infrastructure, agriculture, and regional economic development. Such financial aid needs to be coupled with policies that increase economic freedom at the regional level. For example, decentralization of some tax policies combined with explicit subsidy schemes will keep more resources in underdeveloped regions and thus attract businesses and individuals who would otherwise look for opportunities in more advanced parts of the EU.

Second, increased prosperity in the EU comes from completing the internal markets for energy and financial services. These topics were discussed even prior to the 2014 annexation of Crimea, which started a series of crisis years for the EU. 2024 is a good year to go back to the original design and create a single energy market in Europe, as well as a single financial market, with a single set of regulators. Much has been written and discussed about how to achieve these goals; now is the time to act.

Third, migration has been at the forefront of European politics in the past decade. It promises to remain an issue in the decade to come. On the one hand, Europe’s demographics are such that the labor market benefits from human capital coming into European countries and putting their labor and talents into productive use. On the other hand, social tensions have risen in the countries that have received large numbers of migrants. Even in countries with few actual migrants, the specter of competition for social services and jobs has boosted the fortunes of nationalist parties that have promised to erect barriers to further migration. This issue, more than any other in Europe, inflames public opinion.

Finally, prosperity in Europe emanates from open markets. While the European market itself is large, many innovations and technologies come from either the American or Asian markets. The two other superpowers—the United States and China—have been on a collision course in asserting their economic dominance, leaving Europe to choose how to align in the global picture. So far this path has meandered, with some calling for greater protections for Europe’s own market. Such an isolationist approach is counterproductive. Europe has to remain as open as possible, assimilating leading innovations and creating the space to implement these new ideas into better production processes and products.

The Atlantic Council’s Indexes also raise some philosophical questions regarding European identity: Has the golden age of European prosperity passed, weighed down by the heavy fiscal burden of an unwieldy social safety net? Has the energy of European integration through the accession of new member states tapered off? Is federalism, in the shape of the EU, losing momentum? The past decade has not given many indications of a clear reform agenda, as Europe has stumbled from one crisis to another. The existential crisis of a war in Europe has strained the abilities of European institutions to act, yet it has demonstrated a unity that has been largely absent in previous decisions Europe has faced. This unity leads to strength and such strength is needed to overcome the many challenges that lie in Europe’s path.

Simeon Djankov is policy director of the Financial Markets Group at the London School of Economics. He was deputy prime minister and minister of finance of Bulgaria from 2009 to 2013. Prior to his cabinet appointment, he was chief economist of the finance and private sector vice presidency of the World Bank.

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Freedom and Prosperity Indexes

The indexes rank 164 countries around the world according to their levels of freedom and prosperity. Use our site to explore twenty-eight years of data, compare countries and regions, and examine the sub-indexes and indicators that comprise our indexes.

The post EU’s future prosperity will be marked by war in Ukraine appeared first on Atlantic Council.

Table of contents

Evolution of freedom

For many years, I have had issues with discussing various graphs and indexes illustrating what is going on in Russia, because the picture on the ground was very different from what those indexes showed. But the Freedom Index very closely represents what I felt was happening in my country over the last ten years: basically, a gradual deterioration of all dimensions of freedoms, but especially political freedom. This process started even before the war in Ukraine, and accelerated after the war started. The deterioration in economic and legal freedoms is not so evident, but this is because the starting points were already low in 1995.

Thirty years ago, Russia was a competitive democracy. Of course, an unstable democracy, as we can see from the way it has unraveled in the twenty-first century, but it was really competitive. Opposition (i.e., those not aligned with the president) controlled the parliament, incumbents would lose elections at the subnational level, and measures of democratic standards would agree that the country could be labeled as a democracy. But the system has gradually deteriorated until today, when there are no longer any competitive elections at any level above small municipalities. Every reasonably sized city or town is already fully controlled from the political center; even in cases where officials are formally elected, they are still appointed.

Civil and political rights are at a minimum. Think of freedom of expression. Nowadays you can get arrested for just mentioning the word “war” when referring to the Russia-Ukraine conflict. I myself am a fugitive of Putin’s “justice,” and by the time this book is published I will probably have been sentenced in absentia to nine years in prison for my social media posts. So, in terms of freedom of the press or individual freedom of expression, Russia today is as close to a perfect score of zero as you can possibly imagine.

The fall into autocracy is also evident in the legal freedom subindex, especially in the components of clarity of the law and judicial independence. A clear example that connects both indicators is the passing of several laws by parliament that clearly contradict the Constitution. The criminalization of any comment on the war that contradicts the story told by the Ministry of Defence obviously contravenes the Constitution, which protects freedom of expression. There cannot be any clarity of the law when day-to-day legislation contradicts the Constitution. And citizens cannot try to defend their rights through the judicial system, as it is completely controlled by the executive.

Economic freedom has never been high in Russia, and the data confirm this. But economic freedom has further deteriorated in the last few years, especially since the beginning of the war. Future updates of the Indexes will surely reflect this evolution, as they will capture the outright expropriation of western-owned property that has been taking place. Foreign companies’ assets have been seized without compensation, and those who were lucky enough to sell their assets have done so at 80 percent discounts and with a 50 percent tax rate imposed. So, trade and investment freedom are surely lower than reflected in the data right now. Even the score on women’s economic freedom is likely to drop in the short run, as Putin’s government propaganda is already pushing the idea that women should marry and bear children at a very young age, because this is good for the nation, and this directly impacts women’s economic rights.

Overall, the picture portrayed by the Freedom Index and its subindexes is consistent with my view of the situation in Russia, and I believe things may be even worse than is currently captured in the data due to lags in the underlying sources.

From freedom to prosperity

The income component of prosperity clearly shows the stagnation of the Russian economy in the last fifteen years. Economic growth was extremely low until 2018, and Russian gross domestic product (GDP) has even contracted in the last few years. Moreover, the Russian economy appears in this graph to perform reasonably well, as it somewhat follows the European trend—but this is misleading. Russia’s income in 1995 was significantly lower than the European average, so the country should have grown faster and caught up with its neighbors, as did Poland and the Baltic countries. This process of convergence is clearly not happening for Russia, and we can even observe a divergence between Russia and the rest of Europe in the last decade.

The inequality indicator is very noisy. There is likely to be significant measurement error at short-term frequencies, but the big-picture situation is clear: Russia was a very unequal country in 1995, and that inequality remains at a similar level. Looking forward, some respectable economists argue that we may see an improvement in the in­equality measure. I think there are several forces at play. On the one hand, the government is providing very substantive wartime payments to the families of killed soldiers, and these are disproportionally going to the lower quantiles of the income distribution, which can improve inequality measures. But on the other hand, wartime profits are increasing, and these are captured by the top 1 percent of the distribution. So basically, it is the middle class that is being squeezed. The inequality indicator in the Prosperity Index is the share of income going to the top 20 percent of the distribution, so I think it very likely that this will deteriorate in the coming years as inequality increases.

Regarding minority rights, the worrisome negative trend is obvious in the graph, despite the fact that the indicator only captures religious liberty. The government is now persecuting anyone whose faith is not compatible with the heightened militarism of the Russian state. Even priests of the Orthodox Church, usually in favor with government officials, are being prosecuted if they utter words against the war. Religious minorities whose faith is incompatible with military service, such as Baptists and other minority Christian denominations, face criminal prosecution and extra-legal harassment.

It is not only religious minorities who are persecuted. Think about LGBTQ+ citizens, who are now criminalized to the point where even holding hands in public may see them prosecuted. The current situation is probably worse than in Iran, in some senses. Legally, there have not been any changes in the status of—or official attitude toward—different ethnicities, but it is evident that ethnic minorities in the poorest regions of the country have been disproportionately recruited for the war. Therefore, deaths among minority ethnic groups are significantly higher than, for example, for Muscovites.

The health indicator is one of only a couple in the Freedom and Prosperity Indexes that I do not think paints a fully accurate picture of reality, especially for the past few years. Russia was one of the worst performing countries during the COVID-19 pandemic, with more than a million deaths. The total number is similar to that of the United States, where the population is 2.5 times larger, so Russia performed significantly worse. Also, the indicator is probably not yet showing the thousands of deaths since the start of the war, and the deterioration in terms of mental health for a large share of the population due to post-traumatic stress disorder and the like. In 2023, the birth rate in Russia dropped to the level of the worst years of the economic crisis that resulted in the collapse of the Soviet Union. We will likely see further drops in health indicators in the short run.

In terms of environmental quality, it has always been the case that whatever is good for Russian industry is bad for environmental indicators. And vice versa. For many years Russia was one of the best performing countries with respect to the Kyoto protocol, but this was due to a dramatic drop in industrial output. I forecast further decreases in industrial production, so on that side environmental indicators may improve. But at the same time the government is currently removing several regulations and laws that were passed before the war, so this may have an offsetting effect. The effective ban on any public protest and many civil society organizations, including those working on environmental protection, will further erode the existing protections.

Another important process that is probably not fully captured by the data above concerns the educational system. I refer to the exodus of teachers and professors from all levels of the educational system that have left the country in recent years, and especially since the war in Ukraine began. Many have fled the country, others have relocated, some are looking for a way out. This is a huge blow to the Russian educational system. Moreover, tens of thousands of students who should be increasing their human capital through further education are being mobilized and sent to the battlefield, or have become refugees in neighboring countries due to their fear of being called up to fight. This reality is not yet visible as a fall in years of schooling, but as statistics update it will most likely emerge. Furthermore, this issue is not only about the quantity of schooling as measured by the average years of schooling of Russian pupils, but the quality of the education they receive, which then translates into skills and human capital. If the best professors and teachers are leaving the country, it is clear that the quality of the educational system will suffer significantly.

The future ahead

The short- to medium-term prospects for Russia and Putin’s regime are undeniably going to be determined by the evolution of the Russia-Ukraine war. Putin’s regime entered a declining stage even before the beginning of the war, which is typical of authoritarian and personalistic regimes: following a period of stagnation, the regime reaches its final stage, in which every effort is devoted to maintaining power. Even before 2022, political repression was very substantial. Tens of thousands of people were leaving the country every year because they feared arrest if they said something wrong on social media, for example. Yet the repression has dramatically increased since the war began.

I do not think there is an easy way out of the war, nor from Putin’s authoritarian rule. Change in any personalistic regime is always dramatic and turbulent, and even if a lot of the same people still hold power, it always engenders substantial changes. It was the same with the death of Stalin. I think there is always an upside to this, because if and when Putin is gone, the new leadership will be able to do some things that will immediately improve Russia’s situation. I believe any new leadership would withdraw the Russian troops from the newly occupied territories. Talks about lifting economic sanctions and reopening trade will immediately follow. Some companies that left Russia will quickly return. These steps might not generate sustained economic growth, as the loss of growth potential due to the war is substantial. Nonetheless, they will represent an immediate improvement over the status quo. But for now, until this change in leadership takes place, everything will be defined by the evolution of the war, and, as long as the war continues, Russia will suffer further decreases in every dimension of prosperity.

Konstantin Sonin is John Dewey distinguished service professor at the University of Chicago Harris School of Public Policy. He studies political economics. Previously, Sonin has served as faculty and a vice-president of NES and HSE University in Moscow and guest-lectured in dozens of schools across the country. Now he is on the federal wanted list in Russia for posting information about atrocities committed by the Russian occupying forces in Ukraine.

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Jun 15, 2023

Freedom and Prosperity Indexes

The indexes rank 164 countries around the world according to their levels of freedom and prosperity. Use our site to explore twenty-eight years of data, compare countries and regions, and examine the sub-indexes and indicators that comprise our indexes.

The post Russia will suffer decreases in every dimension of prosperity appeared first on Atlantic Council.

Table of contents

Evolution of freedom

Egypt has experienced a political roller-coaster in the decade following the Arab Spring. The militarization of power in politics has been a key feature of contemporary Egypt. At the end of 2010, massive demonstrations broke out against poverty, corruption, and political repression. These led to the ousting of President Mubarak, a former military officer. This was despite the important economic reforms Mubarak had embarked upon in his last few years in office, which had been lauded by the international community. President Morsi of the Muslim Brotherhood movement succeeded Mubarak after free and fair elections in 2012. A year after Morsi’s election, Army General al-Sisi took power in a coup and has since ruled Egypt with an iron fist.

The evolution of the Freedom Index for Egypt is indeed marked by the events of 2011 and 2012. The Freedom Index experienced a steep increase—reflecting the Arab Spring and the free elections that followed—before falling sharply by almost 10 points, a result of the counterrevolution led by General al-Sisi. The political freedom subindex visibly drives the movements in the overall freedom score. The 10-point increase on this subindex in 2011 vanishes, with a subsequent plummeting of almost 15 points, evident in all indicators, but especially in political rights. Al-Sisi has repressed brutally all political opposition and activism.

Economic freedom shows a somewhat erratic evolution, echoing the country’s political instability. Economic freedom seems to improve after 2014 as al-Sisi embarked on a series of reforms. Nonetheless, al-Sisi’s tenure has seen numerous economic problems: The scores on property rights and women’s economic freedom were still extremely low in 2022, and there has been a renewed acceleration toward military control over the economy. Al-Sisi embarked on large infrastructure investments, hoping that these would stimulate durable economic growth. These investments have turned to bad debt. Add to that the fact that the Gulf Cooperation Council countries have significantly reduced their aid to Egypt, making it nearly impossible to repay its ballooning debt and associated interest payments. The country is now at risk of a debt crisis.

Legal freedom presents a clear negative trend in Egypt since 2000, with this subindex losing around 10 points in that time. Clarity of the law, one of the most basic elements of the rule of law, receives a very low score throughout this period. The situation is echoed in the degradation of political freedom and the instrumentalization of the judicial system.

From freedom to prosperity

Just as on the freedom front, Egypt’s prosperity has been a roller-coaster. In what has become a familiar cycle, Egypt typically goes through periods of delayed macroeconomic stabilization followed by a balance-of-payments crisis. The country then calls on the International Monetary Fund (IMF) for a bailout in exchange for drastic reforms. These so-called structural reforms often consist of cutting consumer subsidies (food and fuel), which helps consolidate budgets in the short run but leaves the structure of the economy—including vested interests and cronyism—unaltered. This, in turn, can lead to social instability and repression. The current episode is no different and does not augur well for addressing the social deficiencies affecting Egypt.

The control of the economy by the army is impeding its rapid and deep transformation.
Egypt’s prosperity score remains significantly below the regional average, although it has seen a sustained increase over the last twenty years, suffering only a small regress in 2013–15. There is still a 3-point gap between the country’s prosperity score and the MENA average.

There has been some limited progress in education, health, and the environment. The evolution of the income and education indicators in Egypt has been somewhat better than the average for the MENA region. In the latter case, Egypt has overcome a differential of 6.4 points with respect to the regional average in 2006 and is now almost 2 points above it. In terms of the health and environment components, the country scores visibly below the regional average, and the gap has actually widened since 1995. Minority rights protection dropped by almost 8 points after 2012, coinciding with the period of political turmoil, but most of that fall seems to have been recovered in the last three years.

The future ahead

Egypt will have to navigate very difficult macroeconomic challenges in next few years. The country is heavily indebted, adding to the already worrisome sociopolitical situation. Egypt is gearing up for elections in December 2023. It is likely that President al-Sisi will be re-elected, and although this would theoretically hand him a mandate for reform, it is unlikely he will do anything that would affect crony or military interests. Instead, al-Sisi might have to resort to further devaluation of the currency, which will ignite further inflation and hurt vulnerable households. What is more, it would create a damaging currency imbalance, adding to the cost of servicing foreign debts that are held in foreign currency.

Al-Sisi will have to find external sources of financing outside of capital markets, given the prohibitive spread on external borrowing. Financial aid from Gulf countries, which typically provided a lifeline, is no longer forthcoming. Gulf countries are looking to invest in strategic assets but also want to see reforms before doing more to support the country. Gulf partners are counting on the IMF to push for more market-oriented reforms.

While political reforms are unlikely given the current circumstances, deep economic reforms also seem doubtful. Indeed, they would be difficult as the militarization of politics and of the economy is entrenched. This stalled situation will continue to limit the country’s potential. It is imperative to re-embark on a balanced economic and political transition to avoid the domestic instability that could result from a frustrated youth. What is more, the geopolitical situation is also tense. The renewed escalation of the Israeli-Palestinian conflict risks spilling over into Egypt. That could destabilize the country and spread to the whole region.

Rabah Arezki is a former vice president at the African Development Bank, a former chief economist of the World Bank’s Middle East and North Africa region, and a former chief of commodities at the the International Monetary Fund’s Research Department. He is now a director of research at the French National Centre for Scientific Research and a senior fellow at the Foundation for Studies and Research on International Development and at Harvard Kennedy School.

Trackers and Data Visualizations

Jun 15, 2023

Freedom and Prosperity Indexes

The indexes rank 164 countries around the world according to their levels of freedom and prosperity. Use our site to explore twenty-eight years of data, compare countries and regions, and examine the sub-indexes and indicators that comprise our indexes.

The post Egypt grapples with political uncertainty under El-Sisi appeared first on Atlantic Council.

Table of contents

Evolution of freedom

The countries of the Middle East and North Africa (MENA) region are stuck in economic and political transitions toward more open economic and political markets. The lack of economic freedom has long echoed the lack of political freedom in the region. To maintain the status quo, political elites have for many years sought to cultivate an enduring social contract wherein economic and political elites capture economic rents—including from oil revenues—and citizens receiving patronage spending have tended to look the other way.

That is evident from the overall freedom score for the region, which has remained considerably lower than the global average. Indeed, the MENA region’s freedom score in 2022 is the same as two decades before (around 46.9), 15.4 points below the global average. That said, an increase in the freedom score is evident at the beginning of the period of analysis (from 1995 to 2002) which coincided with a wave of both economic and political reforms.

While there are important cultural and legal similarities among MENA countries, the region is also heterogeneous in many ways. Three distinct groups have progressed at different speeds in their economic transitions: the high-speed group, mostly composed of Gulf Cooperation Council (GCC) countries; moderate-speed, mostly composed of North African countries plus countries like Jordan and Lebanon; and the low-speed group, which includes conflict or post-conflict countries. Indeed, the GCC countries, which are mostly nonpopulous economies with vast wealth, have outperformed the other two groups, increasing their average freedom score by 6.7 points over the sample (1995–2022). The “moderate-speed” group of countries in North Africa, plus Jordan and Lebanon, includes both oil-importing and oil-exporting states, with a mixed record of economic reforms. Most of these countries are populous, with Egypt home to the largest population in the region. The conflict and post-conflict group includes Iraq, Libya, Syria, and Yemen, each with a complex history of civil wars coupled with foreign invasions.

The diversity of circumstances is evident when considering the evolution of the economic freedom score. The regional score has increased by 5 points throughout the period, driven by improvements in women’s economic freedom and, recently, investment freedom. This increase is mainly driven by progress in the GCC group of countries, where economic freedom went up by 14.5 points. The GCC is now led by Saudi Arabia, which has embarked on an important economic and social transformation agenda. In the “low-speed” group, we see an overall decline over the period (−3.7 points). Across the region, trade freedom presents a significant negative trend since 2011, losing almost 15 points.

On the political freedom front, the region is home to the world’s last absolute monarchies, whose transition to constitutional monarchies has been slow, and at times reversed. Military involvement in politics is all too common and has been on the rise. The wave of protests that spread through almost the entire region and which came to be known as the Arab Spring is apparent in the data. The Arab Spring erupted in the early 2010s from the frustration of a young and educated population aspiring to more political and economic freedom and prosperity. The hope raised by the Arab Spring proved, however, to be temporary. Indeed, protests ended up either tamed by autocrats or resulted in internal conflicts, with foreign interventions supporting opposing sides. The political freedom score shows an increase starting in 2010, which has vanished by 2014. All indicators of the political freedom subindex have been affected. This shows that countries in the region are stuck in political transitions toward democracy. 

Legal freedom is relatively low in the region, with all its indicators except informality scoring below 50 in 2022. Most indicators of legal freedom have had a flat trend in the last decade, showing no signs of improvement. Here as well, the GCC countries score higher than the other two groups, with a stable score over the sample. In the other two groups, legal freedom is declining. Just as on the political front, legal reforms toward more fair and inclusive systems have stalled. 

From freedom to prosperity

The prosperity score of the MENA region has clearly diverged from the global average during the period 1995–2022. Overall scores mask important differences between countries in MENA, especially along economic lines. Indeed, the MENA region has the largest reserves of oil and other hydrocarbons in the world.¹ But not all countries in the region are rich in oil. The region is host to both oil importers and oil exporters, and the impacts of oil shocks far outweigh any policy intervention. Evidently, persistently high oil prices—albeit remaining volatile—have been good news for oil exporters and somewhat bad news for oil importers in the region. However, the reality is not always so straightforward, as high oil prices result in large and positive spillover effects from oil exporters to oil importers, especially in terms of remittances and foreign aid, and these have tended to mitigate the differences between the two groups.

While the consequences of oil market fluctuations continue to play a dominant role in driving prosperity in the region, that situation is clearly not sustainable as the world economy is firmly embarking on a transition away from fossil fuels. The MENA region scores higher than the global average in income, health, and environment, but the gap in the last two decades has been narrowing. Countries in the region should not be complacent and should transform their economies by supporting more (genuine) private sector development. The success of the economic and social transformation agenda led by Saudi Arabia is vital for the region. Yet the ultimate test of that transformation is whether it would be sustained and financed through (domestic and foreign) private investment instead of state funds, which will eventually run out.

Education is the best performing indicator for the region, with a score that has doubled in the period of analysis. Nonetheless, there is still room for improvement, as the level is still low (close to 45 points), relative to the global average. Educated but unemployed youth have been the drivers of the Arab Spring. That situation is a source of worry for leaders who want to keep the status quo, and has led them to place limits on political freedom and civil liberties.

The region scores significantly below the global average in inequality and minority rights, and the gaps have not been reduced in the last twenty-five years. Persistently high inequality is a source of further tensions. The need to promote equality of opportunity in the region—through free enterprise and curbing cronyism—has never been greater. Failure to address deficiencies in economic but also political freedom will hamper prosperity in the region and lead to further instability.

The future ahead

Over the next decade, countries in the MENA region will have to grapple with economic and political transitions in a world in mutation. To achieve freedom and prosperity, countries in the region will have to face up to risks linked to geopolitics, climate change, and the transformation of energy markets, as well as social polarization.

The region is at a tipping point when it comes to conflict escalation. Indeed, the alarming intensity and casualties resulting from the conflict between Israel and the Palestinian territories risk engulfing the whole region. This new phase of escalation of violence brings not only tragic loss of lives but also physical destruction, fear, and uncertainty. That new spread of violence will have far-reaching economic and social consequences. What is more, the Palestinian issue is an important fault line between the Global North and the Global South that could have global repercussions and tear the region further apart.

The region is also extremely exposed to the existential threat posed by climate change. Climate change is simply making the Middle East and North Africa unlivable at a faster rate than any other region. Specifically, temperatures have reached record highs and a water crisis is looming in the region, which could lead to heightened domestic tensions and interstate conflicts. The crisis is made worse by the inadequate governance of the water sector and other utilities, which has exacerbated the frustration of the citizenry over poor public services.

The region also needs to transition away from fossil fuels. Oil prices have been persistently high and this has provided some respite to the many oil-exporting countries in the region. Yet, as the world moves away from fossil fuels, the vast reserves of oil and natural gas with which MENA is endowed will eventually become stranded—and so will the capital investment in the sector. With these considerations in mind, several MENA countries have embarked on ambitious diversification programs to move away from oil, although success has, so far, been elusive. As we have said, Saudi Arabia’s ambitious economic and social transformation agenda could be a game changer for the region and perhaps offer a model for other countries to emulate.

A credible economic and social transformation agenda is long overdue, to meet the aspirations of an educated youth and to absorb millions of young people—females and males alike—into the labor market. The aborted political transitions have, however, polarized societies in the region: the people on the streets who continue to protest on the one side, and the political elites and crony capitalists on the other. The political and economic transitions are interlinked and failure to address both could result in further social tensions and instability.²

Rabah Arezki is a former vice president at the African Development Bank, a former chief economist of the World Bank’s Middle East and North Africa region, and a former chief of commodities at the the International Monetary Fund’s Research Department. He is now a director of research at the French National Centre for Scientific Research and a senior fellow at the Foundation for Studies and Research on International Development and at Harvard Kennedy School.

Trackers and Data Visualizations

Jun 15, 2023

Freedom and Prosperity Indexes

The indexes rank 164 countries around the world according to their levels of freedom and prosperity. Use our site to explore twenty-eight years of data, compare countries and regions, and examine the sub-indexes and indicators that comprise our indexes.

The post Climate crisis fuels change in MENA region appeared first on Atlantic Council.

In the immediate aftermath of the invasion, a combination of G7 sanctions and export controls, as well as broad moral outrage, caused Western exports to fall some 63 percent from their pre-COVID, 2019 average. Though G7 exports to Russia did make a slight recovery in the second half 2022, they have since fallen to new lows. In the final months of 2023, G7 exports to Russia were valued at just 28 percent of their 2019 average. Since then, however, Moscow has been able to substitute its long standing trading relationships with the G7, and most importantly the EU, with China. Today, China exports more to Russia than the entire European Union (EU), Russia’s former largest trading partner, did pre-COVID.

However, the EU and broader G7 coalition are still sending Russia around $3.2 billion in goods a month in 2023. What are they still selling to Russia? And what are the products that Beijing is producing and trading with Russia that have since made it Moscow’s most important trading partner? 

What is the G7 still trading with Russia? 

Over the past two years, a coalition of countries, dominated and led by the G7, has implemented the largest sanctions and export controls regime ever imposed on a major economy. This has severely restricted, and in some cases halted, the export of a range of goods to Russia including aviation and space equipment, raw materials, and certain industrial machinery.

In addition to suspension in trade of explicitly controlled items, more than 1,000 companies have voluntarily restricted their operations in Russia or engagement with Russian firms and consumers beyond the minimum legal requirements. The combined impact of this has been a precipitous drop in trade between Russia and the West with exports dropping from around $9.3 billion a month in 2019 to $3.2 billion a month in 2023. 

While total exports from the G7 to Russia fell by around 65 percent in the first eleven months of 2022 when compared with the same time period in 2019, certain goods categories were more impacted than others. In line with the formally-controlled goods categories, the strongest-hit export categories were transportation goods such as air and spacecraft falling 99.6 percent, boats falling 99.4 percent and cars falling 83 percent; raw materials such as iron and steel falling 92 percent; chemicals such as dyes and paints falling 93.3 percent; electrical machinery and electronics 90 percent; and rubber falling 87 percent. (For a full overview see this table.) 

Many of the least-impacted goods were either foodstuffs and pharmaceuticals—two categories that are exempt from sanctions or export controls to avoid causing humanitarian crises. Total G7 food and animal product exports have still fallen by around 15 percent from 2019 to 2023 though pharmaceutical exports remain the same from 2019. 

The EU has felt the brunt of these trade restrictions. Though the United States has experienced a larger percentage drop in export value—falling 90 percent from $484 million a month in 2019 to $48 million a month in 2023—the absolute effects were relatively benign for an economy that, in 2019, exported $212 billion a month. In contrast, for many EU member states like Latvia and Lithuania, Russia still is an important export market. In 2019, EU exports comprised 85 percent of total G7 exports to Russia, or around $7.7 billion a month. By 2023, monthly EU exports had fallen by nearly $5 billion to $2.9 billion a month. 

This exemplifies the disproportionate economic impact the war in Ukraine has had on European countries compared to the broader G7. It also explains EU resistance to additional G7 trade restrictions, such as efforts last year to shift the current sector-by-sector controls regime to a complete export ban with only a few exemptions.

What is China now exporting to Russia?

As Russia’s importing relationships stabilized throughout 2023, it has become increasingly clear that new Chinese exports to Russia have replaced the lost EU imports. While EU exports have fallen by just under $5 billion a month from 2019 to 2023, Chinese exports have risen by just over $5 billion a month growing from $3.9 billion to $9 billion a month over the same time period. 

Most of the West’s attention has been rightfully focused on surging Chinese exports of raw material inputs and finished industrial goods. This isn’t surprising. Russia needs these products, like rubber, chemicals, and plastics, to sustain its wartime economy. China has also become the main machinery shipper to Russia, with a nearly 129 percent increase in exports over the first nine months of 2023 from the same period in 2019. However, Chinese exports have not fully replaced Russia’s lost G7 exports.

While Chinese machine exports have surged by $1.9 billion a month in 2023, G7 exports have fallen by $2.1 billion dollars a month compared with 2019. These are the goods most important to Russia’s war effort, and it has been able to recover most (but not all) of what it lost. Based on data from Brugel’s Russian foreign trade tracker, Russia’s imports of categories that capture goods subject to G7 controls are now around 75 percent their 2019 average meaning that Russia is still unable to import key dual-use and industrial equipment from China and other alternative trading partners. 

But this is only one part of the story. Nearly half of the goods China shipped to Russia in 2023 are consumer goods, not industrial ones. Just as Russian factories are now dependent on Chinese inputs, Russian households are increasingly dependent on Chinese-made apparel, toys, and even office equipment. Many Russians have been forced to swap out the western fashion houses of Paris, London, and Milan for Shanghai’s suits and Fujian’s footwear. They are also now driving Chinese cars: Chinese vehicle exports are 900 percent higher in 2023 compared to the same time frame 2019. 

Russia’s overwhelming reliance on Chinese industrial and consumer imports have increasingly suggested the Russia-China relationship is no longer an equal partnership. Instead, Russia is increasingly playing the role of an economic vassal to China. Moscow has little choice but to turn to Beijing for its large economy, technological prowess, and global clout. While the relationship is certainly asymmetric in China’s favor, Moscow is a rare bright spot in Beijing’s souring global trading relationships. In 2023 Chinese exports globally fell by 5 percent compared with 2022. In contrast, Chinese exports to Russia grew 46 percent. As China faces large domestic industrial overcapacity issues, an increasingly hostile trading environment from its traditional export markets such as the EU, and a return to export oriented growth, Russia is a vital release valve to absorb Chinese products, supporting Beijing’s own domestic economy. 

Because of the importance of Moscow as an export market, as well as Beijing’s own strategic interests regarding the war in Ukraine, it’s unlikely Chinese President Xi Jinping will yield to Western pressure to halt its broad exports to Russia. Additionally, after two years of conflict, the G7 have implemented almost all available sanctions and export controls against Russia that could reach consensus within the group. As the final few months of 2023 demonstrate, Russia’s global trading relationships are beginning to stabilize. China imports will still rise just as G7 imports will continue to fall, though not nearly with the same intensity as during the first eighteen months of the conflict. As the war enters its third year, there is less and less that can be done on the import side of Russia’s trade balance. Instead, the G7 will likely increase focus on stemming Moscow’s ability to pay for its imports by focusing on the other half of Russia’s trade balance and restricting its exports and the payments it receives from them. 

Niels Graham is an associate director for the Atlantic Council GeoEconomics Center where he supports the center’s work on China’s economy and US economic policy.

This post is adapted from the GeoEconomics Center’s weekly Guide to the Global Economy newsletter. If you are interested in getting the newsletter, email SBusch@atlanticcouncil.org

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Geopolitics is rearranging FDI

Geopolitical tension and geoeconomic fragmentation have elevated uncertainty which, together with slow growth, have significantly cut back global FDI flows as a share of economic activity—from 3.3 percent of global GDP in the 2000s to only 1.3 percent in the past five years. In absolute terms, FDI has increased modestly: In 2023, global FDI flows reached an estimated $1.3 trillion or 3 percent more than in 2022.

The slowdown in FDI has disproportionately affected emerging-market and developing countries (EMDCs). FDI flows to developed countries increased by 29 percent, to $524 billion. But flows to developing countries decreased by 9 percent to $841 billion.

These shifts are not driven merely by economic factors: Detailed analysis of almost 300,000 instances of greenfield investment projects from 2003 to 2022 by the Center for Economic Policy Research (CEPR) shows an economically significant role of geopolitical alignment in driving the country allocation of bilateral investments. The friendshoring and nearshoring approaches used to derisk from economic dependencies have significantly affected the pattern of FDI flows of the two main protagonists—the United States and China.

The United States and China

Between 2019 and 2023, FDI flows from the United States to China fell from a 5.2 percent share of total FDI to 1.8 percent—or a drop of 3.4 percentage points of total US FDI outflow. By contrast, shares of US FDI to more geopolitically aligned countries increased—for example, plus four percentage points to India (from 7.6 percent to 11.6 percent); plus 3.4 percentage points to the UAE; plus 2.2 percentage points to Mexico; and roughly plus one percentage point to several Southeast Asian countries such as Malaysia, the Philippines, and Vietnam.

Due largely to the sharp drop of FDI from the United States, total FDI flow to China has declined significantly—from an annual average of $235 billion in the ten years 2011-2020 to $344 billion in 2021, $180 billion in 2022, and only an estimated $15 billion in 2023—mainly due to heightened geopolitical tension and slow growth in China.

Outbound FDI from China has also diminished from a peak of $196 billion or 1.9 percent of GDP in 2016 to $146 billion or 0.8 percent of GDP in 2022. Traditionally, China’s FDI outflow has favored developed countries in North America and Europe (accounting for more than 60 percent of the total) followed by Asia. In recent years Asia’s share has risen. For example, the share of China in ASEAN FDI inflow was 3 percent (8 percent including Hong Kong) in 2016 rising to 8 percent (13 percent including Hong Kong) in 2021. (That is still lower than the 23 percent share of the United States, the biggest investor in the region.) It is important to keep in mind that developing countries have received the lion’s share of China’s international construction projects financed by debt, now totaling $815 billion, mainly through participating in the Belt and Road Initiative (BRI).

The “connector” economies

FDI, especially from competing countries like the United States, Europe and China, have tended to flow to not only geopolitically close countries satisfying friendshoring and nearshoring criteria, but also—especially in the case of Western companies—to those having a minimum necessary political stability, legal, and regulatory environment and manufacturing capabilities including suitable labor supply. As a result, only a dozen or so countries have experienced increased FDI flows from both the United States and China.

In particular, five countries (Vietnam, Indonesia, Mexico, Poland, and Morocco) have been dubbed “economic connectors” by Bloomberg Economics. These countries have combined appropriately calibrated foreign policies and sufficiently developed economic capabilities to navigate geopolitical rivalry and benefit from geoeconomic fragmentation—which has driven the reconfiguration of global supply chains. Basically, they have been able to leverage the friendshoring and nearshoring approaches of the United States and China to attract more greenfield investment from both. They have also increased their exports to the United States (or to the EU in the case of Poland) and their imports (mostly of intermediate goods) from China.

The experiences of the five economic connectors show that there is a pathway for developing countries to navigate geopolitical tension while developing their economies. However, it requires those countries to be able to compete with fellow developing countries to attract trade and investment from either or both China and the United States (and other developed countries). Many may lack the capacity to do so, especially low-income countries and those without natural resources or basic manufacturing capabilities.

In short, the geopolitically driven fragmentation of the global economy has several dimensions: division between developed and developing countries; according to geopolitical alignment; and among developing countries themselves based on their abilities to compete for trade and investment in the reconfiguration of global supply chains. This has increased the complexity of the fragmentation process, probably making it more difficult to measure as well as more costly to the global economy than so far expected. Unfortunately, low-income countries will likely experience the worst outcomes.

Hung Tran is a nonresident senior fellow at the Atlantic Council’s GeoEconomics Center, a former executive managing director at the Institute of International Finance and former deputy director at the International Monetary Fund

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Brazil’s breadbasket to the Global South

Beginning in the 1970s, both the Brazilian government and private entities invested heavily in agricultural innovations, leading to the development of more resilient crop varieties. Along with the expansion of farmland and widespread adoption of double cropping, the investments significantly enhanced agricultural productivity and gave Brazil an edge over other farming nations.

Fast forward to 2022 and Brazil has become the world’s second-largest exporter of agricultural products. It leads the world in soy, meat, coffee and sugar exports and is the second-largest exporter of oilcake and corn. Several large economies, emerging markets in particular, now heavily rely on Brazil to secure their food needs.

The benefits granted by MERCOSUR, a regional trade bloc within South America, make Brazil a prime source of agriculture for Argentina. Many Asian and African countries in the G20 are large consumers of soybeans, corn, and meat—all commodities where Brazil has a large market share. The United States, Mexico, and Canada in turn barely source any agriculture from Brazil as they source the majority of their food imports from one another as a result of the benefits granted by USMCA. Most European countries similarly import the majority of their agriculture from other European countries in the single market. 

Across the G20 economies, China is the most reliant on Brazil for agriculture, buying up a quarter of all Brazilian exports including most of its soy and beef. Brazil’s rise as an agripower since the 1970s aligned neatly with the population boom in China and the growing concern of the Chinese Communist Party over how to secure food for its population. But the real push came in the last decade as Beijing looked for agriculture suppliers other than the United States following intensification of trade tensions. 

To help Brazil increase its capacity and to reduce logistical costs, the state-owned China Oil and Foodstuffs Corporation (COFCO) invested over $2.3 billion, amounting to about 40 percent of its worldwide investments, in Brazil’s agricultural infrastructure since 2014. A key investment is at the Port of Santos, where a terminal expansion will take the company’s own capacity from 3 million to 14 million tonnes. Further cooperation in Brazilian railways, waterways, and farmland restoration is on the agenda.

Lula’s leverage is his history 

By itself, influence in the agriculture sector vis-a-vis emerging markets doesn’t provide a pathway to leadership of the Global South. Agriculture is not like semiconductors; food is an absolutely necessary resource for physical survival. Russia’s sudden blockage of the Black Sea in 2022, for instance, led to massive global grain shortages that created significant price spikes for food around the world. Moreover, the United States remains the world’s largest exporter of agriculture and for several countries in the G20, it remains the largest supplier. Lastly, although Brazil supplies about a fifth of global corn exports, it has relatively little weight in the global market for grains like wheat and rice, two critical food items for developing economies.

But Lula and Brazil nevertheless bring unique credibility with developing and advanced economies on the subject of food security.  

When he first came to office in 2003, Lula launched the ‘Fome Zero’ (Zero Hunger) programme, a series of coordinated large-scale government interventions that resulted in Brazil’s removal from the United Nations’ Hunger Map in 2014. Throughout the 2000s, Lula’s Brazil also mobilized budgetary, legislative, organizational, and narrative channels to orient its foreign policy toward hunger-reduction abroad. 

Since his return to power in 2023, Lula has once again made hunger a domestic priority. He has consistently raised the issue internationally. Now, his moment has come. As President of the G20, he has announced Brasília’s intention to launch a Global Alliance Against Hunger and Poverty at the Leaders Summit in November.

Both Brazil and the global economy have evolved since Lula was last in power. But the country possesses decades of trade and technical assistance relationships with developing economies, the know-how in the sector, and a track-record in hunger-reduction. Chronic hunger and famine remain real prospects for a tenth of the global population and developing countries will likely see Lula’s Brazil to act as a reliable representative in trying to bring together a global consensus on the path forward.

In recent years, China and India have both positioned themselves as leaders of the Global South. Now, the leader of the former is focused on his troubled domestic economy and the leader of the latter has an election on his hands. Meanwhile Lula is about to host the world twice—once for the G20 this year and then again for COP30 in 2025. If Brazil delivers tangible, material, and clearly observable benefits on food security, it will cement its position as a key leader of the Global South.

Josh Lipsky is the senior director of the Atlantic Council GeoEconomics Center and a former adviser to the International Monetary Fund.

Mrugank Bhusari is assistant director at the Atlantic Council GeoEconomics Center focusing on multilateral institutions and the international role of the dollar.

This post is adapted from the GeoEconomics Center’s weekly Guide to the Global Economy newsletter. If you are interested in getting the newsletter, email SBusch@atlanticcouncil.org

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While the United States is well on its way to building the next generation of facilities to produce the integrated circuits, solar panels, and batteries needed to supply its digital and green transitions, the EU is struggling to connect its companies with state financing. In theory, the EU’s 27 members have matched US efforts through the European Commission with the NextGen EU recovery fund, a debt-funded program worth around $880 billion. However, because the commission lacks a permanent fiscal union with centralized taxation and borrowing powers, it has had to rely on member states to design and implement plans for NextGen funds. This decentralized approach, in conjunction with stipulations attached to its disbursements, have made it far harder for EU companies to access funding. 

NextGen EU funds are contingent on governments meeting performance targets set by the Commission. As of early 2024 just 18 percent of the Commission’s targets have been met, meaning that only about 30 percent of available grants and loans have been released to member states. Some member states, such as Poland and Hungary, have been blocked from accessing a bulk of their allocation because of the Commission’s rule-of-law concerns. Others, like Germany, have been stopped by their own constitutional court from releasing the funds to industry. These funding lags and uncertainties have stymied EU manufacturers’ investment at home. In contrast, the scale and accessibility of funding in the United States has meant that some major European manufacturers such as Volkswagen, BMW, Enel, and Norwegian battery group Freyr, are opting to instead prioritize investments in the United States.

What’s driving the US manufacturing construction boom

In line with IRA and CHIPS and Science Act priorities, construction is overwhelmingly concentrated in the computer, electronics, and electrical manufacturing sectors. This broad sector covers manufacturers producing computers, communications equipment, similar electronic products, as well as products that generate, distribute, and use electrical power. In other words, the goods needed to facilitate the green and digital transitions. Since the start of 2022, spending on construction for this sector has approximately quadrupled.

This surge in spending has transformed the computer and electronic segment into the dominant driver of US manufacturing construction. In 2023, the sector contributed some 64 percent of all construction manufacturing spending. Just five years earlier, its share stood at a meager 11 percent. The growth in computer and electronic manufacturing has not come at the expense of other sectors. Chemical and transportation manufacturing construction spending is also up 4 and 21 percent respectively from 2022 to 2023, and food and beverage manufacturing construction spending has remained steady.

While this historic expansion in US manufacturing construction is the first step to the reshoring of domestic production, concerns remain over whether the framework will be able to deliver the manufactured products. Labor force bottlenecks remain as the most immediate risk to the Biden Administration’s success. The US Bureau of Labor Statistics’s Job Openings and Labor Turnover Survey (JOLTS) notes that there were 601K open manufacturing jobs and 449K open construction jobs in December 2023. With US unemployment currently sitting at 3.7 percent, well below the average rate of 5.8 percent of the past two decades, the Biden administration’s main challenge will be to find workers to build and staff these new manufacturing facilities. One way to do this will be to support the transition of workers away from declining industries through the upskilling domestic workers. However, this alone will likely be insufficient. The US will also need to bring in skilled workers from abroad through reforms of its immigration system. 

With US industrial policy implementation well underway, the White House should now shift attention toward how it can best bring along the US’ allies and partners. Delays around NextGen EU, the elevated energy costs and economic uncertainty stemming from Russia’s invasion of Ukraine, and structural differences between the the US and EU’s governance structure mean that the Commission will not be able to galvanize investments in manufacturing production facilities at the same scale or speed as the United States. This is further complicated by the EU’s surging green goods imports originating from China as Beijing attempts to export its production overcapacity abroad. If Washington wants to ensure the European green and digital transition is built by friendly manufacturers, it should aim to do more to directly support its partners in Brussels, Berlin, and beyond. 

Niels Graham is an associate director for the Atlantic Council GeoEconomics Center where he supports the center’s work on China’s economy and US economic policy.

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Missing from this estimation is China. Yet while there is little data on Chinese private funding for generative AI, a comparison of broader AI-related venture capital deals places it in third, after the US and EU.

Policymakers in the United States and European Union increasingly view generative AI, which can produce text, images, or other data from user-generated prompts, as one of the technological “commanding heights” of the coming decade. The increase in productivity from widespread adoption could add up to $4.4 trillion to the global economy annually, according to a McKinsey estimate—a figure comparable to the entire GDP of Germany. However, the technology has also raised new concerns over privacy, election misinformation, and cybersecurity. Likewise, the ability to produce advanced foundation models (large, general-purpose models which underlie generative AI) has implications for national security, where such models may be used for military training, cybersecurity and autonomous or biological weapons systems.

Like earlier waves of startups, many small tech firms rely on venture capital (VC) to scale their operations. Transatlantic divergence in this respect is stark. Last year, over 90 percent of venture capital dedicated to generative AI was concentrated in the United States. In similar fashion, nearly twice as many generative AI startups were founded in the United States as in the European Union and UK combined.

More broadly, these figures reflect a smaller European VC market. The US has just 23 startups per VC firm, and an average of $4.9 million for each. The typical EU entrepreneur has less than one-fourth that amount available–and 198 other startups per VC firm. Yet in tech, the gulf widens. When it comes to private funding for these new commanding heights, the Rockies reach far higher than the Alps.

To some, this disparity in funding can be attributed to differences in regulation. In December the European Parliament reached agreement on the final text of the EU AI Act, a sweeping set of regulations on general AI models intended to encourage transparency and protect copyright holders. Earlier versions drew opposition from France, Germany, and Italy, along with warnings from the US, that the legislation would stifle the growth of continental competitors in AI. (While the United States has not passed comparable legislation, the Biden administration released an executive order on AI in October.)

Others may recall earlier tech waves (think Amazon, Alphabet, and Apple, and the rest of the “Magnificent Seven”) in which the European Union produced few startups but many standards, including on privacy. In the optimistic view, Europe’s policies, such as the General Data Protection Regulation (GDPR), Digital Markets Act (DMA), and Digital Services Act (DSA), have helped shape standards of foreign tech giants—a so-called “Brussels Effect.” In the pessimistic view, they have engendered long-running disputes and created serious compliance (and competitiveness) challenges for the continent’s youngest firms.

Today however, the new EU and US approaches on AI bear significant similarities. To be sure, the US executive order on AI lacks strong enforcement mechanisms included in the AI Act, the latter of which includes substantial fines (7 percent of global turnover) for non-compliant firms. Nevertheless, both adopt a similar focus on “risk-based” approaches, transparency requirements, and testing. More broadly, the United States and the EU have coordinated their approaches through the G7 Hiroshima AI Process, UK AI Safety Summit, Administrative Arrangement on Artificial Intelligence, and the Trade and Technology Council (TTC).

One contrast with previous tech waves is that the European Union is increasingly pairing injunctions with incentives. Shortly after the European Commission reached agreement on the AI Act, it announced new measures to assist AI startups, including dedicated access to supercomputers (“AI Factories”) and other financial support expected to raise $4 billion across the sector by 2027.

While increasingly aligned on regulation, such measures aim to overcome the more enduring disparity in private funding between the two jurisdictions. For now, while Europe is trying to catch-up in the innovation race when it comes to the newest chatbots, the United States still looks more, well, generative.

Ryan Murphy is a program assistant at the Atlantic Council’s GeoEconomics Center. He works within the Center’s Economic Statecraft Initiative, supporting events and research on economic security, sanctions, and illicit finance.

This post is adapted from the GeoEconomics Center’s weekly Guide to the Global Economy newsletter. If you are interested in getting the newsletter, email SBusch@atlanticcouncil.org

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Through the second half of 2023, the gap between China’s impressive official data and visibly underwhelming consumer demand, unresolved local government debt problems, and an unprecedented drop in foreign direct investment was stark. The China Pathfinder framework scans for evidence of market policy reorientation to fix these problems. But in this coverage period (July through December 2023), Beijing’s response was limited. Officials redoubled efforts and incentives to encourage foreign investment and trade, pledged to loosen cross-border data transfer rules, and increased deficit spending limits to stoke anemic demand. Beijing also simultaneously threatened economists with consequences for even talking about bearish signals and discontinued unflattering economic data, severely aggravating credibility concerns. Policymakers did next to nothing to tackle the real structural problems. Though we expect the severity of 2022–23 declines to set China up for a modest cyclical rebound in 2024, long-term growth potential will disappoint until fundamentals are addressed.

Here are five things to watch for in 2024:

1. In the quarters to come, property will shift from a massive drag to a modest boost to GDP growth—though from a much lower base.
2. There is a reasonable likelihood that policymakers will try to use this breathing room to get more reforms on track, rather than defer them further as in recent years.
3. While cyclical conditions will stabilize this year, Beijing must soon acknowledge that slower growth, in the 3 percent or 4 percent range, is here to stay. This may lead to more modest geoeconomic ambitions, but will also bring spillovers to trading partners due to lower domestic demand.
4. China will continue to face weak exchange rate conditions, and capital outflows are expected to continue.
5. Beijing’s capacity to influence growth via government spending will remain constrained by local fiscal stress and an already burdened monetary policy.

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Given how far from credibility China’s 2023 statistics were, closer attention will be paid this year. Institutions which previously took China’s official numbers at face value, including the IMF and OECD, know that individuals, firms and countries with fewer analytical resources depend on them to check the math. Updated IMF WEO projections released January 30 upgraded China’s 2024 forecast by 0.4 percentage points, to 4.6 percent. Meanwhile, the Fund’s Article IV report on China, with its franker Staff Report section, should come out soon. Together these will clarify how international organizations assess the health of China’s economy.

Rhodium Group’s growth outlook for China in 2024 is again lower than consensus, as it was last year, but because our 2023 estimation was so much lower than the official figures (a mere 1.5 percent GDP growth at best) we see 2024 as a modest recovery rather than the continued deceleration reflected in consensus numbers. This is a cyclical stabilization resulting from property hitting rock bottom.

Still more secular stagnation will come—until Beijing gets back to long-deferred structural reform work that President Xi Jinping started in 2013 only to pause in the face of challenges. But a cyclical breath may be what Beijing needs, and explains People’s Bank of China (PBOC) Governor Pan Gongsheng’s remark last week, “now that China’s economy is recovering, we have greater room for maneuver in terms of macro policy”. Greater room, yes; but not a great amount of room. Even the 3-3.5 percent GDP growth we imagine possible for 2024 will require Governor Pan and peers to regain credibility by doing what is necessary to sustain economic growth even when it requires political sacrifices.

Daniel H. Rosen is a nonresident senior fellow with the Atlantic Council’s GeoEconomics Center and a founding partner of Rhodium Group where he leads the firm’s work on China, India and Asia.

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10 percent of the population takes home nearly 60 percent of the nation’s gross annual income. That works out to nearly $2 trillion a year. For perspective, that’s larger than the GDPs of Australia, South Korea, and Spain, and closing in on Italy.

This means there is essentially a rapidly growing advanced economy within an emerging market. Major companies, ranging from luxury goods makers Gucci and Louis Vuitton to manufacturing powerhouses like Tesla, are racing to expand across the sub-continent.

And while inequality is a concern, the data shows that India’s gap is no worse than many G20 peers and is better than the gap in the United States. Inequality in this case is unfortunately in line with the norm.

There is one way in which India’s inequality stands out: Female labor force participation. In India, the share of the female working age population that’s engaged in the workforce (24 percent in 2022) lags behind similar rapidly-growing economies. In China, women’s participation in the workforce has been around 70 percent for the last decade. For India to sustain high growth into the future, it will need to make it easier for the other half of its population to join the economy.

To be sure, India’s economic growth does face headwinds, including slow reforms to governance and the ease of doing business, concerns on freedom of the press, high youth unemployment, and high adult illiteracy. For India to fulfill its growth potential and wield the power of its domestic market, it will need to address these risks. If it does, the potential in the years ahead is striking.

One only needs to look at the data to see there is a good reason why both the UK and EU are busy working on possible trade deals with India.

Back at the 2010 World Economic Forum in Davos, a speech by China’s Vice Premier Le Keqiang captured headlines when he said, “A big developing country with over one billion in population has to overcome many challenges to realize modernization…so we will focus on boosting domestic demand.” That didn’t happen for China. But it turns out a big developing country with over one billion people did shore up domestic demand—it was India.

Josh Lipsky is the senior director of the Atlantic Council GeoEconomics Center and a former adviser to the International Monetary Fund.

Sophia Busch is an assistant director for the Atlantic Council GeoEconomics Center where she supports the center’s work on trade.

This post is adapted from the GeoEconomics Center’s weekly Guide to the Global Economy newsletter. If you are interested in getting the newsletter, email SBusch@atlanticcouncil.org

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Private firms around the world are the ultimate decision makers regarding the international use of the dollar and they respond to the incentives facing them, namely access to and costs of dollar financing. And, for the first time in nearly 20 years, it is substantially cheaper to conduct short-term borrowing in renminbi (RMB) rather than dollars. In other words, a portion of the dedollarization trend is driven not only by geopolitics but also by interest rate differentials.

Fluctuations in the dollar’s global dominance is not a recent phenomenon. As a reserve asset, for example, the dollar composed nearly 80% of global reserves in 1970. By 1980, that number fell below 58 percent. It then plummeted to 47 percent in 1990. The dollar recovered to around 71 percent of global reserves in 1999, though it has since declined gradually to 59 percent in 2020—not in favor of any replacing currency, but a number of smaller currencies including the RMB.  Current trends in dedollarization in global payment must be seen with this historic context. While this is an important trend for policy makers to watch, given its underlying drivers, they should be careful not to attribute all the motivation to geopolitical tension, possibly leading to wrong policy conclusions.

The dedollarization story so far

The reluctance to use the dollar has not been driven by the rise of a competing currency such as the RMB, but more importantly by the growing trend of using local currencies in bilateral cross-border payments. However, because of China’s large footprint in international trade and investment, the RMB’s usage in international transactions has captured increasing attention as the primary challenger to the dollar, following a rapidly growing number of bilateral cross-border payment arrangements. 

Analysts, including our Dollar Dominance Monitor, have pointed to a range of signs indicating a growing risk to the dollar. Last year, global payments settlements using RMB nearly doubled, albeit from a low base of 1.91 percent at the start of 2023 to 4.61 percent in November 2023. The SWIFT data may underestimate the RMB’s true international usage because it may fail to reflect uses of RMB in bilateral cross-border payments facilitated by central banks’ currency swap arrangements. On the other hand, about 80 percent of the use of RMB outside of China takes place in Hong Kong—without Hong Kong, the international use of the RMB remains quite small. More importantly for China, about half of its bilateral cross-border trade and investment transactions are now settled in RMB, reducing its vulnerability to US financial sanctions.

Some of this shift is in response to G7 sanctions imposed following Russia’s illegal invasion of Ukraine in early 2022. Those measures reanimated concerns across global capitals around the risks of overreliance on Western financial infrastructure and the US dollar and generated urgent demand for alternatives to the US-led financial system. But this is not the only explanation and too much focus on it can lead analysts to overestimate the costs of those sanctions. In fact, the dollar was also facing macroeconomic headwinds and its use in cross-border payments likely would have declined to some extent even without the Russia sanctions.

Macroeconomic headwinds for the dollar 

Countries at risk of sanctions, like China and Russia, are the largest individual contributors to dedollarization but they are not alone. As Bloomberg’s Gerard DiPippo points out, Russia-China trade accounts for only 27 percent of the increase in trade settlement in RMB. The remaining 70 percent is likely RMB-denominated trade with Beijing’s neighbors primarily in Asia, but also abroad such as Argentina, Brazil, and the Gulf countries. Without the imminent threat of US sanctions on Beijing, this shift to RMB trade is likely motivated more by lending costs and availability. 

It’s important to understand the integral role trade finance plays in facilitating global commerce. Payments are not made instantaneously; there is a gap from the time firms receive payments for the goods they ship and when they need to pay suppliers for those same goods. Firms often turn to banks to provide loans to help bridge the gaps. Because of this, firms seeking to minimize financing costs pay close attention to the relative cost of capital and available dollar liquidity. Rate hikes by the US Federal Reserve (Fed), which coincidentally began to take full effect in the months after Russia’s invasion of Ukraine, have caused borrowing in dollars to become more expensive and scarcer, encouraging emerging market firms to seek dollar alternatives—namely the RMB. 

Relative costs of capital 

For the first time in nearly 20 years it is substantially cheaper to conduct short-term borrowing in RMB rather than dollars. Borrowing costs, as measured by the proxy of a one-year government bill, imply short-term borrowing in RMB is around two percentage points cheaper than analogous borrowing in dollars. This is pushing firms, particularly those engaging with Chinese individuals and firms on either end of the transaction, towards RMB-denominated debt for trade financing to take advantage of efficiency gains.

This surge in dollar borrowing costs reflects the US Federal Reserve’s rapid rate hike campaign to rein in US inflation, which had hit 8.5 percent. China has not experienced the same sort of surging inflation, so was able to leave its short-term rates largely constant. Notably, this flip in relative financing costs happened in close proximity to Russia’s invasion of Ukraine. This may have caused some commentators to solely attribute firms shifting their trade finance arrangements from dollars to RMB to the overuse of US sanctions. 

Dollar liquidity squeezes

A second, related, macrotrend disincentivizing dollar use in international trade is the appreciation of the dollar and its impact on dollar liquidity in emerging markets. In early 2022 the value of a dollar against a basket of global currencies jumped 19.8 percent from right before the start of the invasion to its peak in October 2022. While its value has dropped in the year since, the dollar’s value still remains elevated by around 10 percent compared to its pre-invasion average. This was also caused by Fed rate hikes; higher rates increased the value of dollar-denominated assets, which created strong incentives for global investors to buy dollars to buy those assets. The war amplified this. Investors also increased their dollar holdings as they view the dollar as a “safe haven asset” and expect the currency to retain, or even gain value during periods of global instability and economic downturn.

An appreciating dollar severely restricts dollar funding availability, particularly for emerging market firms who are more reliant on dollar-denominated credit. This is because a stronger dollar comes with incentives for lenders with large dollar liabilities to curb their willingness to provide new short-term dollar loans (such as the borrowing required for firms seeking to finance trade) and raise the rates they are willing to lend at—further amplifying the relative cost of capital effects discussed earlier. 

The Bank for International Settlements (BIS) finds that after the dollar appreciates, “banks with high reliance on dollar short-term funding reduce supply of credit more to the same Firm relative to banks with low short term dollar funding exposures.” The BIS continues, pointing out, “firms that borrowed from short-term dollar-funded banks will suffer a greater decline in credit following dollar strengthening.” 

Without abundant dollar financing alternatives, such as during the 2008 financial crisis, the impact of this would have subdued global trade. However, following concerted efforts by Beijing to promote RMB-denominated lending, firms seeking short-term finance can now turn to RMB lenders or RMB-denominated debt markets. Indeed, in the past year overseas units of Chinese firms, as well as Western companies like BMW and Crédit Agricole, have raised a record 125.5 billion RMB ($17.33 billion) selling RMB-denominated bonds during the January-October 2023, a 61 percent increase from the same period last year.

As rising dollar borrowing costs and decreasing dollar liquidity push firms to adopt the RMB for their trade financing needs, they are also more willing to engage with the alternative global financing infrastructure China is developing. In 2015, Beijing launched the Cross-Border Interbank Payment System (CIPS) to connect and control its own plumbing in the global financial system. The intention was to construct a new financial architecture to clear and settle transactions in RMB and facilitate the use of the currency in international business. Since 2015 CIPs has rapidly grown, settling just over 480B RMB ($75 billion) in Q4 2015 to 33.4T RMB ($4.6 trillion) in Q3 2023. While CIPS’ utilization growth has been largely steady since its inception, it does seem to experience substantial spikes following contractions in dollar lending availability. And though geopolitical trends may be integral in informing the strategic thinking around firms’ actions, outside of firms engaging with Russia, availability of liquid debt and efficient markets are a more likely proximate explanation for recent trends among emerging-market dedollarization.  

Importantly, geopolitics and macroeconomic trends can work together to support dedollarization efforts. One example is China’s push to denominate more of its Belt and Road Initiative (BRI) lending in RMB. Since its inception in 2013, China has hoped to use the BRI as a tool to promote the international use of its currency. In its first five years Beijing had mixed success at best, with the majority of BRI debt denominated in dollars. This can be explained in part by discrepancies in borrowing costs over the same period. Similar to the large difference in short term lending which provided a cost advantage to US denominated debt throughout most of the 2010s, longer term borrowing was also skewed in the dollar’s favor. A $5 billion loan Beijing offered to Indonesia in 2017 demonstrates this. The loan is split between RMB and dollars with 60 percent denominated in US dollars, carrying a 2 percent interest rate, and 40 percent in RMB, carrying a 3.4 percent rate. 

However, as rates converged in 2018 and onward, China had more success encouraging RMB-denominated debt. By 2020 loans in the Chinese currency overtook dollar denominated debt. While a convergence in interest is not the sole explanation for Beijing’s success, it’s undoubtedly easier to encourage countries to adopt debt in RMB if they cannot point to high opportunity costs by not borrowing in dollars. 

The future of dedollorization 

There are important structural limitations to the international use of the RMB. Prime among them is that the RMB is not freely convertible. Foreign firms that hold RMB or RMB-denominated assets are operating under the direct oversight of the Chinese government, whose interests may not always align with their own. This will give pause, particularly to firms based in advanced economies. China’s legal system also gives firms pause. As Chinese President Xi Jinping has centralized authority, the Chinese system has become increasingly opaque and volatile, offering little protection or recourse for firms who are harmed by central government actions. Finally, China’s financial markets remain less well developed and supervised than their Western counterparts. In particular, China’s bond markets are still far less developed and less liquid than US treasury markets. Though they have been valued at around $8 trillion in recent years, they pale in comparison to the US which is pushing $30 trillion.

Even so, in the coming year macroeconomic trends will likely continue to push emerging market firms towards RMB-denominated debt for trade financing in particular, amplifying the use of the RMB in international trade. While the Fed will likely begin to cut key rates later this year, decreasing the cost of US capital and borrowing, it’s unlikely Washington returns to the near-zero target rates that supercharged cost advantages for borrowing in dollars. 

It will be key for policy makers to disaggregate these macro effects from the very real geopolitical backlash against sanctions and similar tools that are also pushing countries to explore dollar alternatives. Without understanding the relative importance of both trends, US and allied policy makers risk overestimating global sanctions backlash, possibly imperiling the G7 economic response to Russia’s illegal invasion of Ukraine. 

Niels Graham is an associate director for the Atlantic Council GeoEconomics Center where he supports the center’s work on China’s economy and US economic policy.

Hung Tran is a nonresident senior fellow at the Atlantic Council’s GeoEconomics Center, a former executive managing director at the Institute of International Finance and former deputy director at the International Monetary Fund.

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