IMF: "US-China Split Also Hits Banking Sector... South Korea Vulnerable in Strategic Industries"

The International Monetary Fund (IMF) has warned that geopolitical divisions caused by tensions between the United States and China could impact the global economy, including the banking sector. It also assessed that South Korea's competitiveness in attracting foreign investment in strategic industries, including semiconductors, has weakened.

In the preface to the "World Economic Outlook" released on the 5th (local time), the IMF stated, "The world is becoming poorer due to the division led by the US and China," warning that the contraction of foreign investment resulting from the US-China split will be the biggest side effect on the global economy, especially for poorer countries since the COVID-19 pandemic.

The IMF analyzed that the economic division led by the US and China will have a greater impact on some countries, such as India and Indonesia, which are not aligned with either camp, with their economic growth rates potentially decreasing by 1% within five years and by 2% in the long term.

Meanwhile, the "Global Financial Stability Report," released alongside the World Economic Outlook, warned that escalating US-China tensions could trigger cross-border capital outflows that threaten financial stability.

The IMF estimated that since 2016, the US-China split could reduce investment in the banking sector within bilateral investment portfolios by up to about 15%.

The tensions between the two camps are also expected to shake the real economy and impact the banking sector. Supply chain disruptions and turmoil in commodity markets could hinder domestic growth, stimulate inflation, and amplify credit risks.

The IMF predicted that banks reducing loans to lower risks in response to such stresses could fall into a vicious cycle that further slows the real economy.

The report also provided an analysis of how the division of the global economy into US- and China-led blocs affects foreign direct investment (FDI) flows. According to the IMF analysis, FDI decreased by about 20% from the second quarter of 2020 to the fourth quarter of last year compared to pre-pandemic levels.

The IMF pointed out that "companies and policymakers are adopting strategies to relocate production bases to reliable countries to build supply chains less vulnerable to geopolitical tensions," noting a surge in corporate earnings reports mentioning 'reshoring'?bringing supply chains back to their home countries?and 'friendshoring'?relocating to trusted countries.

As a result, FDI is increasingly concentrated in investee countries that share similar geopolitical positions with the investing countries, i.e., belonging to the same bloc, with this trend particularly pronounced in strategic industries.

Regionally, FDI to the US and Europe increased, while FDI to Asia, including China, decreased. In the fourth quarter of 2022, strategic FDI flowing to Europe was about twice that of Asia.

Especially in strategic industries such as semiconductors, FDI to China significantly declined. The IMF identified the US CHIPS Act, the Inflation Reduction Act (IRA), and export controls on China as factors triggering the blocification of FDI.

[Image source=Reuters Yonhap News]

The IMF warned that there will be relative winners and losers in geopolitical conflicts. It assessed that as US FDI funds leave China and Vietnam and flow to other Asian countries and Europe, politically close countries like Canada and South Korea have become relative winners.

While South Korea has been somewhat shielded from the damage of geopolitical conflicts due to its good relations with advanced countries like the US, a major source of FDI, it was also classified as vulnerable in strategic industries.

The IMF explained that strategic industries show a strong reshoring tendency, meaning that even if other countries are competitive investment destinations and have good diplomatic relations, there is a preference to invest domestically first. The IMF also assessed that many advanced countries, including the US and Germany, are relatively vulnerable in strategic industries.

The IMF projected that if the global economy splits into US- and China-led blocs, making investment between the two camps difficult, long-term global economic growth could decline by about 2%.

The decline in economic growth is expected to be more pronounced in the China bloc, which is centered on emerging countries, but the US bloc also includes countries with deep economic ties to China, such as Japan, South Korea, and Germany, so the damage will not be negligible, the IMF analyzed.

This content was produced with the assistance of AI translation services.