By Mike Dolan
LONDON (Reuters) – The hit to Europe from an economic war with Russia over its invasion of Ukraine pales against the blow to Moscow – but another recession may still be the price to pay.
After a month of war and retaliatory western sanctions against Russia’s leaders, businesses and central bank, Moscow upped the ante again this week when President Vladimir Putin demanded ‘unfriendly’ nations pay for their gas in roubles rather than dollars or euros.
Most bankers and economists are still scratching their heads as to how this would even work or what the point of it would be for a country where energy exports are one of its last remaining sources of badly-needed foreign currency.
Some think it’s just an artificial way of propping the rouble via forced foreign demand, indirectly channelling hard cash back to a sanctioned central bank – the ultimate provider of roubles – and hoping to avert an inflationary collapse that’s already wiped off a third of the currency’s value this year.
Others see it as contractual minefield and possibly just a ruse to complicate payments while pressuring to European gas importers most dependent on Russia – such as Germany, Austria, Hungary and Slovakia. It may also have been threat to forestall an EU oil embargo.
Yet many also fear it’s simply a pretext to cutting off gas supplies altogether if European nations then refuse to pay in roubles – as leaders meeting in Brussels this week insisted they would not.
For Barclays Chief European Economist Silvia Ardagna, there’s little doubt what would happen next in that case.
“If you say to me Russian gas supplies are cut completely tomorrow, then definitely there will be a recession – not only this year but well into next,” she said.
Ardagna already cut her forecast for euro zone growth this year by 1.7 percentage points to 2.4% due to the Ukraine war and its fallout – seeing quarter-on-quarter growth almost stalling in the second quarter and picking up to about 0.5% by Q4.
Unlike the futures markets, she doesn’t see the European Central Bank raising interest rates this year as a result.
But to model the impact of a halt to Russian gas requires going back to drawing board again. And for that Ardagna said the best rule of thumb was an ECB bulletin last month that showed a 10% rationing of overall gas supplies to the bloc’s industries would cut gross value added by about 0.7 percentage points over subsequent quarters.
And this hit doesn’t even take account of the likely additional surge in gas and oil prices as a result – with European gas prices are already up more than 500% over the past year.
However, it also doesn’t take account the fiscal supports or the scramble underway to wean the EU off Russian gas altogether.
The EU earlier this month outlined plans to cut its dependency on Russian gas by two-thirds this year and end its reliance on Russian fuel supplies well before 2030.
What’s more, the variations in dependency vary widely. Unicredit estimates Russian gas accounts for 8% of gross energy consumption in the EU and euro zone – but it’s as high as 25% in Hungary, almost 15% in Germany and Italy, and only 2% in France.
And while second order effects on household or business confidence would amplify things, they are partly offset by the momentum behind pandemic reopenings and relatively healthy labour markets.
Graphic: European energy price surge- https://fingfx.thomsonreuters.com/gfx/mkt/zdvxojrnzpx/Two.PNG
Graphic: Rouble slide this year- https://fingfx.thomsonreuters.com/gfx/mkt/gdvzyjwdzpw/Three.PNG
TROUBLES AHEAD
Painful roads ahead, no doubt. But there are potential long-term positives for Europe too, not least in its greater cohesiveness on energy security and defence, fiscal supports and more common borrowing for future investment.
“These will take time and are unlikely to change the 2022 economic outlook,” Barclays reckoned. “But the ongoing war at the borders of the EU, perhaps even more so than the European debt crisis and the pandemic, could well turn out to be a force of further European integration.”
And for Russia? Selling gas in roubles may be a poke in the eye for an international payments system dominated in dollars and euros, but cutting off gas exports would hardly do much to improve an already dire prognosis for its economy.
Benjamin Hilgenstock and Elina Ribakova at the Institute of International Finance expect the effect of war, sanctions and ‘self sanctioning’ of global businesses avoiding censure will see Russia’s gross domestic product contract 15% in 2022 and a further 3% next year – wiping out almost 15 years of growth.
And they say the medium-term impact of a likely ‘brain drain’ of young educated emigrants from Russia and a lack of overseas investment there could be even more severe on Russia’s growth potential for years to come.
If that were to pass and the rouble were to keep falling, Russia would plummet from the 11th biggest economy in the world last year to 19th by December – a country of 144 million people with GDP roughly on par with the 17 million population of the Netherlands.
Everyone loses in a war. But some much more than others.
Graphic: Europe’s energy dependency- https://fingfx.thomsonreuters.com/gfx/mkt/znvnejgwbpl/Pasted%20image%201644910167628.png
Graphic: Impact of a 10% cut in the gas supply in Europe- https://fingfx.thomsonreuters.com/gfx/mkt/gdpzyngxwvw/Pasted%20image%201644910365863.png
Graphic: UniCredit chart on EU energy dependency- https://fingfx.thomsonreuters.com/gfx/mkt/gkvlgqxdepb/One.PNG
The author is editor-at-large for finance and markets at Reuters News. Any views expressed here are his own
(by Mike Dolan, Twitter: @reutersMikeD)
