How Russia’s aggression can upset the fragile world economy

The Ukrainian invasion has come at a crucial time for the global economy, which has just begun to recover from the damage of Covid. Russia’s war could have significant economic implications while financial markets collapse and oil prices soar.

You can even make a disturbing comparison with the 1973 Middle East War of the Middle East, which led to the oil crisis. The crisis marked the end of an economic boom that shook the world economy, lowered unemployment and improved living standards.

Today, the world economy is much larger than it was then, but its growth has slowed much in recent decades. And the pandemic has had a huge impact over the last two years, forcing governments to spend huge amounts of money to bail out their economies.

Although there are signs of recovery, the risk of rising inflation and slowing growth remains, and high debt levels limit the ability of many governments to intervene.

Rising energy costs and continued supply chain turmoil are both exacerbated by the Ukrainian crisis and are a major contributor to weakening economic outlook. Russia is the EU’s largest oil and gas supplier, and rising energy costs mean higher transportation costs, affecting the movement of all types of goods.

But perhaps the greatest risk to the global economy is that a prolonged crisis puts the world in stagflation, a combination of high inflation and weak economic growth.

This was a major problem after the 1973 oil crisis, but for the past two decades prices have been relatively low and stable, forgetting the problem many economists wanted.

Living expenses may increase

Highly rising inflation will exacerbate the cost of living crisis, which is already affecting many consumers.

It also poses a dilemma for central banks, which have invested money in the economy in the last two years of pandemics.

Most of them are now planning to gradually withdraw this support, gradually raising interest rates to curb inflation.

But all of this only further weakens the economy. Especially if inflation continues to accelerate and central banks respond to dramatic rate hikes. During the crisis of the 1970s, the Federal Reserve raised interest rates to 10%, causing a serious recession. The following year, the Bank of England’s interest rate reached 17% in the UK, causing a sharp recession.

Expecting inflationary pressures to ease by mid-2022 now seems uncertain. Energy and food prices can continue to rise, as Russia and Ukraine are one of the world’s largest exporters of wheat, and many (especially Europe) rely on Russia’s oil and gas.

Oil prices are rising.

Festa / Shutterstock

And what is important is not only the inflation rate, but also the public’s expectations for further inflation. This can cause a “wage price spiral” where everyone demands higher wages to compensate for rising living costs. This forces companies to raise prices more generally to fund these same wage increases. In this case, the central bank will be forced to raise interest rates further.

Very high inflation also means that public spending can be substantially reduced, lowering the level of public services and squeezing public sector wages.

Finally, if companies are afraid that they will not be able to raise prices enough to compensate for the rise in wages, they may want to reduce their workforce, which will lead to higher unemployment.

Fall in stock

Central banks have invested huge amounts of money in financial markets to stabilize their weak economies, but the stock market has risen by an average of nearly 10% annually over the past decade and remains very strong.

However, stock prices have already begun to fall this year after the central bank announced that it would end the intervention, and the market has fallen further since the Ukrainian attack.

If stagflation reoccurs, central banks need to cut back on economic support more quickly, and slowdowns could impact corporate profits and push stock prices down further (energy stocks are expected to rise). Even if). It can also reduce investment and business confidence and reduce new jobs.

For many who own stocks and other assets, rising prices often lead to an “asset effect.” That is, people are particularly confident in spending (and borrowing) money on luxury goods. Therefore, market weakness impacts economic growth and the viability of the pension system.

The political and human consequences of Russia’s attack on Ukraine are highly uncertain, but the world must also be prepared for serious economic consequences.

Europe may be the first to be hit by an economic storm, partly due to its high reliance on Russia’s energy supply and its geographical proximity to the war at its gateway.

In the United States, financial difficulties could further weaken the Biden administration and strengthen its isolationist position. At the same time, a global alliance between Russia and China could further strengthen the economies of these two countries by reversing the effects of sanctions and strengthening their military and economic influence.