Globalisation after the pandemic

Europe has reaped the benefits of globalisation in the past and has suffered enormously from its fall-back. To reap the benefits in the future in a globalised world in transition, Europe must adapt.

That means using Europe’s economic weight to support reciprocated trade openness globally, while strengthening its own domestic demand to insure against a more volatile global economy.

A stronger Europe would be a global public good, providing an anchor of stability in a less predictable world. And it has the scale to prepare this journey. Will it have the will?

In the decades before the pandemic, rapid globalisation profoundly transformed international trade for the better.

Europe’s largest gains from trade had taken place against the backdrop of a particular geopolitical constellation, marked by the global dominance of the United States after the end of the Cold War and a multilateral commitment to governance by rules. But the re-emergence of protectionism began to call that global economic order into question.

In parallel, waning trade growth reduced the scope for countries to rotate demand to external economies when they needed to. After 2008, the pace of globalisation slowed and world trade growth no longer outstripped world GDP growth. In fact, by 2019 world trade growth had more than halved since the year before. This contributed to a manufacturing recession in the euro area on the eve of the pandemic.

For all these reasons, I was already highlighting back in 2019 the need for Europe to acknowledge that the world around us was changing fast, and to reconsider whether its growth model was sufficiently balanced in light of these changes.[1]

A globalised world in transition

The pandemic has so far only reinforced this message. Though it is still too early to draw firm conclusions, the pre-crisis trends that capped the gains from both trade and diversifying demand could be becoming stronger.

First, the trend towards protectionism shows no signs of abating. In 2020, more than 1,900 new restrictive trade measures were implemented worldwide. That is 600 measures more than the average of the previous two years.[2] And there is evidence of further discriminatory practices being introduced this year.[3]

Navigating the post-pandemic world

So how should Europe respond to these changes?

There are two priorities, both of which would help Europe act as an anchor of stability in a more fractured and uncertain world.

As a first priority, we need to be clear that turning our back on trade openness is not the answer.

Even if the protectionist actions of others mean that the gains from trade are no longer as pronounced, the answer is not to respond in kind. Instead, we should use our economic weight to shape openness in a European direction, which means one characterised by being reasonable rather than reactionary, by cooperation rather than conflict, and by redistributing the gains of globalisation to those who have lost out. This is essential to make openness sustainable.

In particular, Europe has immense potential to use the size of its single market to set its values and standards in other parts of the world through open trade – the so-called Brussels effect.[4] This is already tangible in many areas. But it is naturally strongest where the single market is at its deepest. So, as new sectors emerge, like digital services and the green economy, it is crucial that our single market deepens in tandem so that we can continue to use our domestic strength to exert a positive global influence.

At the same time, we need to protect against risk in areas where our vulnerabilities are excessive. There are vital goods and services that we cannot easily produce at home, and where we need more insurance against external shocks. This lies behind Europe’s ambition to increase its “open strategic autonomy”. The European Commission has found that 34 products used in the EU are extremely vulnerable to supply chain disruptions given their low potential for diversification and substitution inside the Union.[5]

To achieve strategic autonomy, some re-shoring or near-shoring of specific sectors – like semiconductors and pharmaceuticals – is probably inevitable in the long term. And the European Commission is already taking measures to strengthen the international role of the euro, which can ultimately make European companies more resilient to the unfavourable actions of others, such as foreign sanctions.

The second priority is for Europe to strengthen its own domestic demand. This is essential to compensate for a more uncertain global landscape in which economies may find it harder to rely on external demand in times of need. That would make European growth more robust, as well as helping stabilise global growth if the contribution of other economies weakens.

In the decade before the pandemic, Europe tended to import demand from the rest of the world. Annual domestic demand growth was, on average, 2 percentage points lower in the decade after 2008 than in the decade preceding it, and it was slower than that of our main trading partners. This was reflected in a persistent current account surplus.

To reverse that trend, we need to learn the lessons of the past and implement policies that strengthen our internal sources of growth. There are three components to this.

First, we need to steer public and private investment towards the areas of the economy that will generate higher real incomes in the future, namely the green and digital sectors. Green investment is estimated to have a multiplier two to three times higher than non-green investment.[6] The pandemic has already shifted activity in this direction, but we need to provide the financing and regulatory framework to help the economy adjust smoothly.

Europe already has the ideal tool in place to kickstart this process, in the form of the €750 billion Next Generation EU (NGEU) fund set up in response to the pandemic. The European Commission estimates that NGEU could raise potential output by 3% in some countries by 2024.[7] But we also need to flank NGEU – which is temporary – with permanent progress on broadening and deepening Europe’s capital markets for green and innovative investment.[8]

Second, unlike after the great financial crisis, fiscal policy support should not be withdrawn until the recovery is more mature. But it should shift from a blanket approach to a more targeted action plan that supports sustainably higher demand. This means that fiscal policy will need to facilitate structural changes in the economy rather than preserving sunset sectors. And, taking a medium-term perspective, it will need to follow a rules-based framework that underpins both debt sustainability and macroeconomic stabilisation.

Third, monetary policy will continue supporting the economy in order to durably stabilise inflation at our 2% inflation target over the medium term. The ECB is committed to preserving favourable financing conditions for all sectors of the economy over the pandemic period. And once the pandemic emergency comes to an end – which is drawing closer – our forward guidance on rates as well as?asset purchases will ensure that monetary policy remains supportive of the timely attainment of our target.[9]

Conclusion

Europe, more than any other major economy, reaped the gains of globalisation in the decades leading up to the pandemic. But now we must sow the seeds for a future in which globalisation becomes a more unpredictable terrain.

The benefits of trade and diversifying demand are still there to be had. But they are facing headwinds that Europe cannot ignore. This means we must adapt and change to continue thriving in a global economy and to remain an anchor of stability and peace.

The good news is that we are already on the right path. As Stefan Zweig once wrote, “once a man has found himself there is nothing in this world that he can lose.” Europe’s historic response to the pandemic shows that it has found itself.

That allows us to focus on building resilience to face global challenges as and when they arise. In this sense, the pandemic has given us an opportunity and we must seize it.

This article is an abridged version of my lecture at the Per Jacobsson Foundation, delivered on 16 October 2021. https://www.ecb.europa.eu/press/key/date/2021/html/ecb.sp211016~25550329d5.en.html

[1] Bradford, A. (2015), “The Brussels Effect”, Northwestern University Law Review, Vol. 107, No 1.

[2] European Commission (2021), “Strategic dependencies and capacities ”, Commission Staff Working Document, 5 May.

[3] Specifically, the multipliers are estimated to be 1.1-1.5 for renewable energy investment and 0.5-0.6 for fossil fuel energy investment, depending on horizon and specification. See Batini, N., di Serio, M., Fragetta, M., Melina, G. and Waldron, A. (2021), “Building Back Better: How Big Are Green Spending Multipliers? ”,?IMF Working Papers, No 2021/087, International Monetary Fund, March.

[4] Pfeiffer, P., Varga, J. and in ‘t Veld, J. (2021), “Quantifying Spillovers of Next Generation EU Investment ”, European Economy Discussion Papers, No 144, European Commission, July.

[5] Lagarde, C. (2021), “Towards a green capital markets union for Europe ”, speech at the European Commission’s high-level conference on the proposal for a Corporate Sustainability Reporting Directive, 6 May.

[6] Lagarde, C. (2021), “Monetary policy during an atypical recovery ”, speech at the ECB Forum on Central Banking “Beyond the pandemic: the future of monetary policy”, Frankfurt am Main, 28 September.

[7] Cigna, S., Gunnella, V. and Quaglietti, L., op. cit.

[8] As evidenced by 2021 data from Global Trade Alert (number of new interventions implemented each year – all state interventions).

[9] Lagarde, C. (2019), “The future of the euro area economy ”, speech at the Frankfurt European Banking Congress, 22 November.