An apartment building damaged during shelling in Ukraine’s second-biggest city of Kharkiv on March 8. The number of people fleeing the war across Ukraine’s borders to escape towns devastated by shelling and air strikes has passed 2 million, in Europe’s fastest-growing refugee crisis since World War II, according to the United Nations. Photo: AFP
Opinion
Macroscope
by Nicholas Spiro
Macroscope
by Nicholas Spiro
Why Russia’s Ukraine invasion is a ‘Lehman moment’ for the global economy
Investors were caught off guard both by Russia’s escalation of the conflict and the West’s resolve to punish Moscow with severe financial sanctions
The shock from sanctions against a commodities powerhouse makes the conflict a defining moment for a global economy still recovering from the pandemic
Financial markets can be forgiven for downplaying geopolitical risks. One loses count of the number of international crises and military flare-ups that have only had a fleeting impact on asset prices. Investors are poorly equipped to assess and price geopolitical threats, and they have long made light of them on the grounds that their economic and financial impact is negligible.
This is one of the reasons the reaction to Russia’s invasion of Ukraine has been so dramatic and disruptive. Not only were investors caught off guard by Russian President Vladimir Putin’s sharp escalation of the conflict, amplifying the fallout in markets, they underestimated the resolve of the West to punish Russia at the expense of their own economies, especially those in Europe.
The war itself is unlikely to be the trigger for a full-blown financial crisis, as the demise of Lehman Brothers was in 2008. Yet, the scale and severity of a geopolitical shock involving one of the world’s largest producers of commodities makes the conflict a “Lehman moment” for a global economy still recovering from the devastation of the Covid-19 pandemic.
To get a sense of the magnitude of the impact of sanctions on Russia – a commodities powerhouse that supplies 40 per cent of Europe’s gas, is one of the world’s largest oil producers and is a major player in the wheat, aluminium and nickel markets – the Bloomberg Commodity Spot Index, which tracks 23 futures contracts, experienced its biggest weekly gain last week since at least 1960.
The ferocity of the price moves is staggering. Brent crude, the international oil benchmark, is up about 20 per cent since February 18 to its highest level since 2014. Fears over Russian supplies caused the price of nickel to double on Tuesday, forcing the Shanghai Futures Exchange to suspend trading in some of its most active nickel contracts.
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Washington bans Russian oil and gas imports over Moscow’s invasion of Ukraine
Washington bans Russian oil and gas imports over Moscow’s invasion of Ukraine
European natural gas prices, which have hit record highs, are gyrating wildly, and the price of wheat has surged to levels last seen during the 2007-08 food crisis, which sparked political unrest worldwide. Many investors have only just grasped the fact that Russia and Ukraine together account for almost a third of the world’s wheat exports, almost a fifth of its corn trade and 80 per cent of sunflower oil production.
What began as an inflation scare that forced many leading central banks to take a more hawkish stance, fuelling concerns about growth, has turned into panic over the threat of stagflation as soaring energy and food prices increase the risk of a sharp downturn. In a report published on Monday, Credit Suisse warned that “a crisis is unfolding. A crisis of commodities.”
The turmoil is exacerbated by mounting concerns over the costs of Western sanctions on Russia. Global financial and economic risks now go hand in hand with questions about European security, notably whether an eastern European Nato member will be drawn into the conflict. There are also questions whether sanctions will achieve their main purpose of changing Putin’s calculus on how far he will go to achieve his aims.
Just as the US government’s unexpected decision to allow Lehman Brothers to go bankrupt raised the financial stakes exponentially, the West’s willingness to impose sanctions on Russia that were harsher than expected significantly increases the risk of a 1970s-style oil shock.
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Oil prices skyrocket around the world as result of Russia-Ukraine conflict, sanctions
Oil prices skyrocket around the world as result of Russia-Ukraine conflict, sanctions
The knock-on effects of Lehman’s collapse caused a global financial crash. Today’s commodity shock, which in some respects is similar to the one that followed the 1973 Yom Kippur War, makes stagflation much more menacing. Bond markets, having previously seen soaring prices as the main threat, are now far more concerned about a recession, particularly in Europe.
Although the European Union has refrained from joining the United States in banning imports of Russian oil and gas, the global economy is contending with a rapidly escalating energy war between Moscow and the West.
The weaponisation of commodities – the nightmare scenario for oil analysts – is a game-changer. It is prompting self-sanctioning by many Western traders fearful of the legal or reputational damage in buying Russian crude and fanning fears that Putin will halt flows of gas to Europe.
The uncertainty over Russian gas supplies to the European Union – much of which pass through war-torn Ukraine – is hugely damaging to economic confidence in a region whose recovery is not as advanced as in the US.
A sign reading “Nord Stream 2 Committed. Reliable. Safe.” hangs above a painted map on an information container for the Nord Stream 2 gas pipeline, at the Lubmin industrial estate in Mecklenburg, Germany, on February 22. The German government has halted the approval process for the pipeline following Russia’s invasion of Ukraine. Photo: DPA
Attention is now focused on the acute challenges faced by the US Federal Reserve. However, it is the European Central Bank, which is already divided over the timing of interest rate increases, that faces the mother of all policy dilemmas: how to prevent inflation from going through the roof without killing the euro-zone economy.
For markets, which are not used to taking geopolitical risks seriously, the war in Ukraine is a wake-up call for investors to pay more attention to international relations. For the global economy, however, the conflict is a perilous moment that could snuff out the recovery and tip the world back into recession.
