Greater trade linkages and financial integration means that China and other emerging markets will pose a greater risk to the global economy, according to the IMF.

A new report has outlined the huge increase in connectivity between China and western markets in recent years. Between 2010 and 2015, cross-border bank lending to Chinese institutions grew by more than a factor of five to over US$1tn.

At the same time, Chinese bank lending abroad increased threefold, to US$600bn. With China aggressively pursuing investment opportunities for its state-owned enterprises through initiatives such as the New Silk Road, this figure is likely to rise.

As China – currently the world’s largest trading nation and second-largest economy – continues to become more dominant, its influence will increase. Mere fluctuations or speculation over the health of China’s economy can have – and has had – real effects on global markets.

The IMF describes the phenomenon of “spillover”, with even the slightest volatility in China’s economy having the potential to cause shocks on an unprecedented level.

Such repercussions were traditionally the reserve of fully blown financial crises, such as the Asian crisis of the late 1990s. However, given the scale of integration in recent years, matters such as concerns over China’s GDP slowdown and its government’s interventionist policies in the currency and stock markets have the potential to cause disruption on a similar scale.

This is particularly true for sectors which have large trade linkages with emerging markets (the report is ostensibly written about emerging markets, generally, but focuses mainly on China), which have accounted for more than half of global growth over the past 15 years and now account for 38% of the world’s GDP. While trade linkages have been growing for decades, it’s the pace of cross-border banking which has caught the eye in recent years.

“Growth in cross-border banking in the past five years has been striking, and if the recent pace keeps up, China will emerge as a major global banking hub in the medium term,” IMF report

“Growth in cross-border banking in the past five years has been striking, and if the recent pace keeps up, China will emerge as a major global banking hub in the medium term. Bank lending is the main channel of financial linkages between China and the rest of the world,” the report reads.

Amid concerns over China’s downturn, banks have been downsizing their Asian operations, with some cutting their headcount significantly and others cutting business lines to focus on core markets and sectors.

Investors are waiting to see how the current economic situation will play out, according to Ben Simpfendorfer, the CEO of the Silk Roads Associates, a consultancy. He tells GTR: “In terms of investor appetite, it’s difficult to know how consistent it will remain at this stage. Many are taking a ‘wait and see’ approach. But Chinese investment is not straightforward at the moment, particularly for funds.”

The IMF calls on China to articulate more clearly its policy decisions and ambitions, for the stake of global stability. This comes at a time when genuine concerns exist about the Chinese government’s clampdown on dissenting domestic media and, ultimately, its commitment to transparency.

“As China’s role in the global financial system grows, economic and policy developments in that country will have increasing implications for global financial stability. Clear and timely communication of its policy decisions, transparency about its policy goals, and strategies consistent with achieving them will, therefore, be essential to ensure against volatile market reactions, which may have broader repercussions,” reads the report.

The IMF specifically refers to its decision to include the Renminbi in its special drawing rights (SDR) basket of currencies, saying that “financial integration with the rest of world is expected to accelerate, and its financial influence abroad will likely catch up with its economic prowess”.

The fund, then, expects the rate of financial integration to continue along its spectacular trajectory, which would likely increase the risk of contagion in certain areas. It advises: “Policymakers need more comprehensive and granular data on capital flows and their intermediation by banks, large institutional investors, and investment funds to better assess risks and vulnerabilities and identify potential shock triggers and spillover channels.”