The unprecedented sanctions imposed on Russia, which some have called economic weapons of mass destruction, have globalized the Ukraine crisis, exacerbated market uncertainty and potentially derailed post-pandemic recovery. Across Europe and elsewhere, growth forecasts for 2022 have been revised down sharply.
In addition to curbing production and pushing up already high inflation, these sanctions increase the risk of a financial crisis. Today’s increasingly complex global financial system amplifies this danger, as the scale of derivatives markets and the co-dependency of supply chains and payment chains make contagion more likely.
Stagflation was already an imminent global threat, and the war in Ukraine heightened the danger even further. The world, still grappling with the fallout from the US-China trade war and the COVID-19 pandemic, is now facing its third policy-induced economic crisis in quick succession.
The pandemic-related slowdown, which disrupted supply chains and exacerbated inflationary pressures, was a crisis of necessity, as containment measures were the price to pay to best stem the spread of COVID-19. But the impending slowdown in growth and potential stagflation triggered by sanctions on Russia would be, like the Sino-US trade war, a policy-induced economic crisis of choice.
One of the lessons of the trade war between the United States and China is that the increased interdependence in the age of globalization makes it extremely difficult to implement targeted economic sanctions – from trade barriers and tariffs to restrictions. on financial transactions – without leading to unintended consequences for countries not directly involved in the dispute. Two of these effects are particularly relevant to the Russian-Ukrainian conflict: the indirect “collateral damage” affecting third countries and the “boomerang” effects on the states imposing the sanctions.
Collateral damage typically results from the destruction or diversion of trade and increasing disruptions to global just-in-time supply chains. For example, the International Monetary Fund estimates that supply chain problems triggered by the tariff war between the United States and China, and exacerbated by the pandemic, have reduced global production by half a percentage point and increased inflation by about one percentage point in 2021.
The larger the economies imposing sanctions, the greater the collateral damage is likely to be. Low- and middle-income countries, which rely heavily on trade for their growth, are invariably those who suffer the most, as they lack the economic infrastructure or the capacity to take advantage of the distorting effects of sanctions or opportunities resulting from the short-term reorganization of the Channels offer. Most entered the pandemic with limited fiscal space, reflecting the sharp reduction in global demand caused by the trade war between the United States and China.
In some ways, the imposition of sanctions on Russia affects poorer countries more severely than the trade war or the COVID-19 containment measures. In particular, sharply reduced access to essentials raises the specter of a global food crisis and pushes the prices of most commodities, including oil, to their highest levels in a decade, raising expectations long-term inflation.
While rising commodity prices may herald a fiscal windfall for oil exporters, it creates serious macroeconomic management challenges for low- and middle-income countries in particular. Most are net importers of oil and also face growing risks of social unrest from rising food insecurity and, in some cases, hyperinflation.
The boomerang effects of economic sanctions can be just as significant. Again, an assessment of the US-China trade war is instructive. In addition to the sharp drop in US exports to China (and a similar drop in US imports from China), research by the Federal Reserve Bank of New York and Columbia University found that companies Americans have lost at least US$1.7 trillion in stock value due to the imposition of US tariffs on Chinese imports. American households were also affected, as prices and exchange rates did not automatically adjust to protect consumers.
For China, the boomerang effects of the trade dispute have accelerated the slowdown in the economy, raising the possibility of a hard landing. Chinese authorities are targeting GDP growth of around 5.5% this year, the slowest pace in decades, excluding the pandemic-related deceleration in 2020. This could have significant negative fallout for the rest of the world, and in particular for developing countries. countries, most of which count China as their main trading partner.
In the Ukraine crisis, European economies that rely heavily on Russian energy have sought to mitigate the boomerang effects of sanctions by not extending measures to Russian hydrocarbon exports or Russian banks involved in energy trading. . But several European companies in other key sectors with direct exposure to Russia will be significantly affected. In the transport and logistics sectors, several financially strong companies could face bankruptcy if the severe and far-reaching sanctions remain in place for an extended period.
Even in the short term, the sanctions against Russia have caused significant collateral damage, with mounting price pressures increasing the internal and external vulnerability of many economies. At the same time, and ironically, the commodity market rally fueled by the sanctions is supporting the flow of cash to Russia from Europe to cover the continent’s critical energy imports.
A new episode of supply chain disruption is already stoking inflationary pressures, further weakening the post-pandemic recovery and increasing the risk of stagflation in Europe. At the same time, sanctioning Russia threatens to deepen the debt crisis and could pave the way for a longer-lasting financial crisis. The risk of contagion will be greatly exacerbated if credit default swaps are not transparently settled in the event of Russian bond defaults, or if sanctions herald a large-scale reallocation of public assets to hedge against the globalization of risk. policies.
The ongoing struggle for geopolitical supremacy means that powerful states will be increasingly tempted to use economic sanctions to advance their strategic goals. In an economically and financially interdependent world, such measures will make policy-induced economic crises more frequent, and all countries will suffer the consequences.
One of the main challenges the world will face in the next decade will be to ensure that no one country’s geopolitical interest trumps the quest for global prosperity. Unless we succeed, the risks of globalization are likely to outweigh the benefits. Diplomacy undoubtedly remains a better alternative to economic weapons of mass destruction.
Hippolyte Fofack is Chief Economist and Research Director at the African Export-Import Bank (Afreximbank).
© Syndicate Project 2022