The economic consequences of the war in Ukraine

Rising prices for energy and certain commodities, slowing economic growth and turmoil in global financial markets: these are the main economic consequences of the Russian invasion of Ukraine.

With the Russian invasion of Ukraine on Thursday, February 24, the conflict between the two nations turned into a war† This could be heavy with consequences also on the economic plan

Towards an increase in the prices of energy and certain raw materials

11th world power in terms of gross domestic product (GDP), Russia is one of the the world’s largest exporters of natural gas† It also supplies oil, grains, such as wheat and rapeseed, and industrial metals, such as nickel and aluminum. In this context, one of the first consequences of the war in Ukraine should be: rise in the price of energy and certain raw materials

On February 24 alone, the price of natural gas rose by more than 25% on the TTF market, a Netherlands-based platform that is considered a benchmark in Europe.

Several factors explain this pressure on energy and commodity prices. First, Russia could voluntarily reduce his offer, to put pressure on those countries, especially European ones, which are likely to impose the toughest economic sanctions on the country. According to a classical market mechanism, with constant demand, the price of a good rises when the quantities supplied decrease. On the other hand, faced with the sanctions imposed by the United States and Europe, Russia could feel increasingly isolated and reduce its participation in trade, which would lead other countries to look for alternative and therefore more expensive energy sources. Finally, the war in Ukraine could lead to the deterioration of the infrastructure necessary for the export of goods: ports, gas pipelines, oil pipelines, etc.

To degraded economic activity and purchasing power

In France, as in many countries, the mechanisms by which gas and petrol prices are formed are complex and only partially dependent on natural gas and oil prices. However, rising prices in the international energy and commodity markets should lead to: the acceleration of inflation which made a comeback in the United States and Europe last year.

This acceleration in inflation could have two major consequences:

  • First she has to influence purchasing power, that is, the ability of households to buy goods and services with their income. If inflation exceeds the increase in household income, purchasing power decreases. This is also the National Institute of Statistics and Economic Studies (INSEE) scenario forecast for the year 2022. According to the Institute’s forecasts published last December, Household purchasing power is expected to fall by 0.2% in 2022† The “extra” inflation caused by the war in Ukraine should exacerbate this phenomenon.
  • The acceleration in inflation could then stimulate central banks, including the European Central Bank (ECB) for the eurozone and the Federal Reserve (FED) in the United States, further tightening of monetary policy† To contain inflation, they have already announced the imminent end of the quantitative easing programs implemented at the start of the Covid-19 crisis, such as the PEPP in Europe, and are raising interest rate futures. As a result of the war in Ukraine, central banks could accelerate the implementation of these strategies at the expense of economic activity.

Turbulence in international financial markets

Finally, the Russian invasion of Ukraine has led to turmoil in international financial markets† Most stocks in the United States and Europe closed lower. Unsurprisingly, the stocks most affected are those with the most exposure to the Russian market. For France, for example, these are banking institutions.

On the Paris stock exchange, the CAC 40 index fell nearly 3.8% during the Thursday, February 24 session.

In recent years, Russia, for its part, has tried to reduce its exposure to the international financial system, in particular by significantly reducing the amount of its government debt and by building up foreign exchange reserves. If the United States and European countries were to completely exclude Russia from the international financial system through sanctions, the Russian economy could collapse.

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