IMF warns that friendshoring is a threat to financial stability and growth.

Fund points for foreign direct investment are increasingly flowing between geopolitical allies.Rising geopolitical tensions have triggered a reshaping of global investment that threatens to depress growth and raise the risk of financial instability, the IMF has warned.

The fund published Wednesday’s reports stating that foreign direct investments were flowing more between countries that are geopolitical allies than between those that are geographically closer.

As the two countries view each other more as strategic rivals, there has been a noticeable decline in US-China investment since 2015.

The fund found that bank lending and hot money flow had decreased by 15% due to increased tensions between two of the world’s largest economies.

Although it is possible to find capital in more friendly countries, a phenomenon called “friendshoring”, the IMF warns that this trend could increase political security and increase the likelihood of economic downturns.

The IMF stated that the long-term efficiency cost of the world moving towards economic blocs with higher investment barriers at the borders would be high in a simulation exercise. They could reduce global economic output by 2%, according to the IMF.

The authors of the IMF report stated that “the large and widespread long-term production losses are a reason why it’s vital to foster global integration — particularly as major economies endorse inward looking policies.”

These reports were published before the spring meetings of IMF and World Bank next week.

These reports highlight the risks associated with countries and companies trying to increase resilience in their supply chains through trading and investing more in countries with similar geopolitical views.

This message clashes with the increasingly protective rhetoric of governments.

Janet Yellen (US Treasury secretary), urged companies last year to continue looking outside the US for investment opportunities, but to prioritise friendshipshoring supply chains with countries that we can trust. China has tried to reduce its dependence on technology from foreign countries.

These policies, along with rising tensions since 2016, could be seen in data, according to the IMF report. Foreign direct investment has declined since 2008, and more foreign direct investments are flowing between geopolitical allies countries.

It said that rising geopolitical tensions were further amplified by hot money flows among countries with portfolio balances, and bank lending severely affecting global political relationships.

It stated that emerging economies, which are more dependent on foreign investment, would feel the most adverse effects of fragmentation in the global investment landscape. Rising geopolitical tensions were nearly twice as likely to affect poorer countries than advanced economies.

The IMF performed a simulation to determine the efficiency loss that could result from a 50% reduction in investment flows between two large economic blocs centered on the US and China. It found the US economy was the least vulnerable, with the Asian emerging economies most at risk.

In the IMF simulation, the long-term impact of efficiency losses due to geopolitical tensions on the US economy would be less that 1% of the US gross domestic product. Potential GDP losses for countries that depended on trade flows and investment from both the US or China could be as high as 6 percent.

The IMF stated that “losses may be particularly severe for emerging market or developing economies faced with heightened restrictions by advanced economies, who are their major sources foreign direct investment sources,”

It recommended that efforts be made to maintain global integration of economies in order to avoid these losses and promote global prosperity.

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