What challenges will China's economy face under the COVID-19 epidemic? What impacts will the epidemic have on international relations, global value chains and economic trends? What adjustments can the Chinese government make to ensure economic and social stability this year?

To answer these questions, China Development Forum (CDF) launched a special column, CDF Online series, in which we will talk with forum delegates on the economic and political impacts of the virus outbreak.

Recently, Yu Jiantuo, Deputy Secretary-General of the China Development Research Foundation, had a call with Martin Wolf, Chief economic commentator of the Financial Times to discuss global economic and political risks and the crisis faced by globalization under the COVID-19 epidemic.

Wolf remarked in a previous interview with CDF that US-China trade friction is not just about trade, but a consequence of changes to the relationship between the two countries.

In this interview, he took a more in-depth look at the background of trade frictions.

He believed the world has entered a phase of deglobalization. Influenced by the rise of economic nationalism, national security, and supply chain risks, trade growth will slow down and supply chains will become more localized.

The epidemic highlights the risk of the global supply chain, which may become an important short-term factor in the process of deglobalization. The Situation of Global Economic Risk

l This outbreak is worse than SARS but still manageable

l Remain cautious about long-term structural risks

Yu: What impact do you think the coronavirus will have on the global economy and the Chinese economy? What risks beyond the outbreak are worthy of attention? Wolf: the coronavirus is significant because it's an unexpected shock. These are obviously not events that you can forecast.

We have a very highly integrated world economy. We are very mobile within our countries and across the world. And at some point，a new disease will emerge，and it will spread, and it will cause disruption.

So there's no particular surprise about such an event, but you never know when it will happen. Because China is such a huge factor in the world economy, and because the disease is now presenting through out much of the world, it also may be disrupting, to some extent, elsewhere.

Now, my sense of it from what I'm reading and analyzing is that this is going to be a fairly short-term event. I expect the disease to plateau and then to shrink in its incidents over the next few months.

But I will be surprised if it lasts more than a couple of quarters. So I expect by summer, things were beginning to return to normal. And then all this activity will return. It will not have a long-lasting effect.

I do expect that for the first two quarters of this year, economic growth will be slowed significantly in China. The 3rd and 4th quarters will be relatively strong. And everything will go back to normal. 

That's what we've seen before. I expected it to be significantly more disrupting than SARS, but still manageable.
Now there are, obviously, some larger risks out there.

These are permanent structural risks, which in any given year the chances something will go badly wrong, are quite low. But then，at some point, something might happen.
So what are these risks? The most obvious ones are geopolitical risks. I'm not saying something is likely to happen, and just say it could happen.

The first area is the middle east. Any military conflict of a large scale could disrupt oil supplies, which has always had and would now have a very large global economic effect.

The second area is India and Pakistan. These are two nuclear-armed powers. They have a long history of very bad relations.

The final area is your own, namely US, Korea, China, Japan. There are a lot of potential frictions.

I think they're all manageable.

Yu: What risks do you see other than geopolitics? Wolf: I think the European economy is recovering a bit, while the Europeans still have a very vulnerable economic system. The currency union is not robust, and the politics underlying the currency union are uncertain.

We don't know the shape of the new German government or whether there will be a stable German government. There's a risk of a big shift to the right, nationalist right in Italy or France at some the next few years. And that could destabilize Europe very significantly as right-wing populist pressures become greater. Obviously, Brexit is part of this.

The other big risk is the enormous scale of the global debt overhang.

Most major economies have more debt than they've ever had before. Emerging-market dollar debt is what worries me the most. Not big economic crises, but quite significant emerging market crises are possible.

Finally, if there were a significant negative shock and recession, the room for policy manoeuvre in the developed world is very little. Interest rates are already very low. The balance sheets of central banks are already very extended. In America, fiscal policy is already very aggressive. And in Europe, using fiscal policy is very difficult.

To summarize, I'm generally quite optimistic. I don't think the disease will turn out to be a huge problem.

I think the world economies basically looks pretty healthy to me, but there are some large low probability high impact risks out there, and we have to be aware of these.

Global Supply Chain is Facing Serious Challenges

l We have entered a phase of deglobalization

l The reason lies in the rise of economic nationalism, national security, supply chain risk and other factors.

l The epidemic may be an important short-term factor in the process of deglobalization

Yu: You also mentioned the virus impact on the global supply chain in China. Now many people are quite concerned about such an issue. They are worried that this temporary shock will create some long term impacts on the global value chain. So what's your view on that?  Wolf: Supply chain is an important component of the global trade. This is perhaps a longer-term risk, which is worth stressing in this context.

Firstly, I think it is very clear that we are, broadly speaking, in a de-globalizing phase. And I expect that trade broadly will grow more slowly than the world economy, not necessarily dramatically more slowly, but more slowly over the next ten years or so.

Because with the rise of economic nationalism, with the rise of nationalism itself, and the rise of what is obviously great power tension and great power friction between the US and China particularly, but also between the US and Europe.

This I think of as a long term structural change that people in China must by now be aware of.
Secondly, that creates, directly and indirectly, a lot of pressure on supply chains because this naturally tends to mean that people will want to reintegrate supply chain, renationalize supply chains, because it reduces risks in this world. And that's reinforced by the conscious effort of some governments, mainly the American government, to renationalize supply chains, which is partly for economic reasons, and partly from their point of view, for security reasons.

There is no doubt that American companies is looking at the risks, and decided that they must diversify their supply chains across the world as insurance. I think to some degree the Europeans and Chinese businesses are thinking the same. So my understanding is that a lot of effort is being made, for example, to make China self-sufficient in chips and microprocessors. Now all of this is part of this process, which is related to trade. But it's also, this is the third point, related to security issues. The reality is we have significant security concerns, which economics and security issues overlap.
And then, the fourth point comes to the disease, the coronavirus. This, I think, is an additional short term factor. In addition to the general protectionism, in addition to the security concerns, in addition to the general geopolitical relationship concerns, there's now also the disease concerns.

I do think that one of the things we're going to be seeing over the next 5 to 10 years, maybe much more quickly, is a renationalization of supply chains and a move towards greater self-sufficiency.

I don't personally think this is very desirable. It has economic costs, but also political costs. my own view was always that having very deep trade relations between countries is a way of creating a strong interest in good relations. So the more these breakdowns, the greater the potential for friction, actually increasing, not falling. But I do think your question is very pertinent. The pandemic is a factor possibly important in what I think of as a general process, structural shift in the disentangling of global economic integration. 

Major Power Relationships in the New International Order

●The epidemic may affect China-US phase-one trade deal

● The trade issues between the US and China have not been resolved

● We're moving into a new global order of great power rivalry and  de-globalization

Yu: What's your estimation on the impact of coronavirus on the fulfillment of China-US phase-one trade deal? Wolf:  I'm very critical of it as a deal. It has a lot of troubling features.

There are lots of commitments in the deal by the Chinese government to treatment of foreign firms, protection of intellectual property rights, no forced transfer of market access, all this sort of thing.

I can't see any reason beyond the immediate disruption caused by the virus, why any of that should be affected by what is happening now. But if the Chinese government wishes to implement these actions, which by the way are basically are in line with commitments the Chinese government already made, long before this deal, they are just putting in writing the policy changes the Chinese government has made or has promised in domestic regulation, domestic law, and which in my discussions with senior Chinese officials are ones they wanted to make anyway.

The second part of the deal is much more problematic, and that is the commitments by the Chinese authorities to buy very large quantities of American products, which I think the Americans should never have asked for. They are inconsistent with WTO commitments because they are inherently discriminatory. They will create a lot of problems for other suppliers.

Given the disruption to trade that is being caused by the virus, I would guess that it will be even more difficult to deliver on these commitments. Of course, the Chinese authorities can still buy things, and shipping still seems to be working. So presumably, it will be possible to do most of this still. But getting it distributed within China efficiently may be more problematic now than it would otherwise have been.

The trade issues between the US and China and not been resolved. And I haven't even talked about technology, Huawei and the self-sufficiency in technology which is linked to the supply chain issue. The underlying conflicts here are bound to remain and are quite likely to get worse.

Yu: What's your expectation on Brexit’s impact on the UK, and also on the UK and China bilateral economic collaboration? 

Wolf: We know now that we are leaving the EU, but it hasn't really created certainty, because the economic relationship is still to be agreed.

The prime minister has said we must have an agreement by the end of this year on the future trade relationship.

Broadly speaking, there are two possible outcomes. One is that there is no free trade agreement between the UK and Europe. And we jump quite suddenly from our existing relationship to a WTO based agreement. 

And the other possibility is that we have a free trade agreement in goods, but very little in services. 

I think we can say that either way, it will be quite disruptive for both sides, but particularly the UK, because it will be a very subtle jump from our current highly integrated situation to a completely different situation.

All the estimates we know of suggest that the results will be quite negative for the UK.

I think we will probably get a deal, that will mean the British government is making some big concessions. But after the deal, I would expect quite a large negative impact on the UK.

Now, in terms of future relations between the UK and China, there are probably the following points.

One, the British government will want a very good relationship with China. China is a very important trading partner, very big and growing.

The Second point is the UK economic relations with the US is even more important to us, and of course, the security relationship is important. This is going to create a lot of tension. And we're seeing it already on issues whether the US and China are in conflict.

This is shown itself already most clearly in the issue of Huawei. The British government has decided, I think, rightly, to stick with Huawei, but the Americans are putting enormous pressure on the British to reverse this decision. 

So I think that illustrates the tensions the British will find themselves in. They will be caught between America the European regulatory system and China’s. I think the British will want to be friendly with all of them, but that may turn out to be very difficult.

Now a lot finally will depend on the global future. They will want a world of open trade and cooperation, But the British cannot deliver that. That's a global issue.

But it brings us back to the starting point of this entire discussion that a lot depends on how the entire global order now evolves. I don't like it, but it seems to be the truth is that we're moving into a new global order, which is one of great power rivalry, some de-globalization, some technological uncoupling, some regulatory fragmentation. 

This interview has been edited for clarity and flow.