opinion | When geopolitics shakes the economy

Since the end of the Cold War, and even since the mid-1980s, investors have pushed international tensions into the background. The fall of the USSR, China’s transition to a market economy, and globalization have reinforced their belief that geopolitics now has little effect on company values. The September 11, 2001 attacks caused a financial shock primarily due to their proximity to Wall Street. However, over time, the effects of the stock market have been relatively weak. Companies and investors, believing that the economic impact would be contained, paid relative attention to the struggle between China and America, the rise of populist leaders in Latin America, or tensions in the Middle East. Thus, disputes with Iran did not lead to real changes in the markets, nor to a trade war between China and the United States.

With the invasion of Ukraine, this scheme could be destroyed on the grounds that it could lead to the isolation of the 11th world economy, which is also one of the largest producers of raw materials. Never since 1945, apart from wars between states that emerged from the breakup of Yugoslavia, has a war involved two internationally recognized European states knowing that Russia is a member of the UN Security Council. You have to go back to the worst years of the Cold War to have the same level of tension. This crisis has more deaths than the crisis caused by the blockade of Berlin in 1948 or the construction of the wall of the same city in 1961, followed by the Cuban missile crisis in 1962. These various events led to the division of the world or intensified it. The economic consequences were certainly less important than those that an invasion of Ukraine could have caused.

The immediate global impact will be higher inflation, weaker growth and some financial market disruption as tougher sanctions come into effect. The longer-term consequences will be a further weakening of the system of globalized supply chains and integrated financial markets that dominated the world economy after the collapse of the Soviet Union in 1991.

Since the second oil shock, Western countries have not experienced such a sudden increase in the prices of energy, raw materials and agricultural products. The barrel of oil certainly increased significantly in 2007 and 2014, but they were spread over time. The energy shock of 2022 all the more marks the spirit that it shackles Russia, which is one of the world’s top three oil and gas producers, in addition, Russia is a key supplier of industrial metals such as nickel, aluminum and palladium. Russia and Ukraine are major wheat exporters, while Russia and Belarus are major producers of potassium, which is essential for agriculture. The price of a barrel of Brent oil crossed the $100 mark as soon as Russian intervention began and the price of gas in Europe rose by 30%.

A number of European countries, starting with Germany, are heavily dependent on Russian gas. It will be extremely difficult to stop the supply, as a result there will be a risk of shortages. The supply of raw materials can be challenged in two ways. Supplies could be interrupted if physical infrastructure is destroyed, such as gas pipelines or Black Sea ports. They can also be called into question by sanctions and counter-sanctions. So far, both sides have been reluctant to militarize the trade in energy and raw materials that continued throughout the Cold War. Sanctions after the occupation of Crimea did not prevent the signing of gas and oil contracts. The decision of ExxonMobil or Shell to leave Russia is the first. The conservation of the Nord Stream 2 gas pipeline by Germany on February 22 is symbolic, since it was already inoperative. Western sanctions, even if they don’t result in a ban on gas and oil purchases, could eventually put pressure on production due to the difficulties Russia will face in upgrading its equipment. The latter can also retaliate by favoring clients whose countries have not condemned it. Westerners hope that the Arab countries will partially compensate Russia. For now, they are resisting. They have been making agreements with Russia for years to allow them to regulate the price of oil. They do not want to create a crisis with this country, which, of course, is not a member of OPEC, but which is connected with its work. In addition, rising prices are offsetting the shortages created during the health crisis.

If the West is subject to energy risk, then Russia is subject to technological risk. The United States could impose sanctions similar to those imposed on Huawei on Russian tech companies. This may limit their access to advanced semiconductors and software. They also have the option to disable internet access. Some digital companies, such as Apple or Google, have already reduced their services in Russia.

Western countries are counting on financial sanctions to put Russia in a difficult position. However, this country can count on significant foreign exchange reserves and on its sovereign wealth funds. He has a reserve for several months or even a year, but with inflation and the depreciation of the ruble, the accumulated reserves tend to quickly evaporate. The desire of Westerners is to minimize the financial flows in and out of the country. To deal with this risk, Russia has sought to isolate its economy from the dollar zone since 2014. The share of its trade denominated in US currency has declined over the past five years. Russia will have to turn to China more for its financial needs. If in 2014 97% of exchanges between these two countries were carried out in dollars, then in 2021 this figure was only 33%. The decision to exclude several Russian banks from the SWIFT network could also slow down financial flows and trading. SWIFT, an abbreviation for Society Worldwide Interbank Financial Telecommunication, is a Belgian-based company that operates an international secure banking data transmission system. This system allows financial institutions to securely share interbank transaction data. These messages are especially important for import payments. Two countries are currently excluded from the network: North Korea and Iran. For several years, China has been implementing its own financial data exchange security system. Russia may join. Russian banks can also pass through Indian institutions associated with the SWIFT offline transfer system. The risk of generalization of bans on access to SWIFT lies in the emergence of competing systems and the de-dollarization of the global economy.

Days after the start of the Ukrainian crisis, the consequences for the global economy are already numerous. Russia is facing an unprecedented economic and financial shock: its currency has lost more than 30% of its value, while key rates have risen to 20%. Although the sanctions are significant, they do not pose an immediate threat to the Russian economy. They complicate the organization of threads, but do not prohibit it. The economic weight of the West in 2022 is less than in 1973. At that time, more than two-thirds of GDP was generated by the United States, Western Europe and Japan. Today, their weight in world GDP is less than 45%. For the world economy, the Ukrainian crisis is primarily an additional source of inflation, exacerbating the dilemma facing central banks. Should they raise their key rates quickly, risking undermining the growth eroded by the Russian invasion, or accepting higher inflation?

In the long run, this crisis could accelerate the splitting of the world into several economic blocs. Russia will be forced to swing a little further east, relying more on trade and financial ties with China. In the West, in the name of economic sovereignty and the protection of national interests, protectionism can again be legitimized. China may be tempted to defend itself against possible Western sanctions by opting for self-sufficiency. An invasion of Ukraine today may not cause a global economic crisis, but it could be a turning point in the development of the world economy for decades to come.

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