geography may allow Australia to avoid the direct human costs of the Ukrainian conflict, but not its fallout. Commodity market disruptions, supply chain disruptions, sanctions and geopolitical realignments will affect Australians.
Russia is the world second gas producer (17% of world production) and third oil producer (12%). It’s a key supplier aluminium, copper, nickel, platinum, palladium and titanium. Russia and Ukraine provide up to 80-90% of neon gas used in lasers to make semiconductors.
They produce large quantities of grain, including almost 25% of the world’s wheatand oilseeds for human and animal consumption.
The loss of all or part of this supply will affect production and prices. Oil, gas, wheat, palladium and nickel prices have gone parabolic. Without rapid de-escalation, sustained high commodity prices could reduce global growth by 1% and add up to 3% to inflation.
Australian energy producers and farmers can benefit, although supply constraints limit opportunities and higher transport costs reduce gains. Farmers face shortages and higher prices for fertilizers, as Russia is responsible for around 20% of each global supply of potash and ammonia.
For consumers, as Reserve Bank of Australia Governor Philip Lowe warned, the conflict could trigger new waves of inflation and higher interest rates. If wage increases do not match price increases, Australians will see a decrease in their purchasing power.
Trade restrictions and sanctions targeting Russia may be ineffective. They assume the dominance of the United States and the West in world trade, but Russia and its ally China are major suppliers of energy, raw materials and many manufactured and intermediate products. China and Russia have technological and financial workarounds that allow them to somewhat mitigate the effect of the sanctions. There could be an economic backlash from retaliatory measures.
Restricting Russia’s access to the global banking system could rebound. Foreign investors are owed at least US$150 billion (A$208 billion)US$20 billion (A$28 billion) of Russian dollar debt, US$41 billion (A$57 billion) of ruble-denominated sovereign bonds and US$86 billion (A$119 billion) Australians) of shares. With Russia unable or unwilling to make payments, a large portion of those payments could be lost.
Businesses forced to close or divest will not recoup their investment. For example, the sale by BP of its stake in Rosneft may result in an impairment of up to US$14 billion (Aus$19 billion). Russia could also seize foreign business assets or fail to return around 500 aircraft, valued at US$10 billion (A$14 billion), leased to Western companies. Western auto, aerospace and technology companies face lost revenue due to reduced access to the Russian market.
Australian savings, via investment funds, are modestly exposed to Russian stocks and debt, but more significantly to companies directly or indirectly affected by the developments. Volatile stock markets price losses and broader dislocation.
The largest exposure is through the banking system, which has extended credit to Russia as well as companies hit by sanctions, commodity price volatility and a slowing economy. Banks, mainly European and American, have already announced multi-billion dollar write-downs. Problems can ripple through the hyper-connected financial system, creating a daisy chain of losses triggering a financial crisis.
The inevitable geopolitical realignment will have significant costs. There are loss of “peace dividends” which helped reduce defense spending. Alongside the United States and the EU, Australia plans to significantly increase defense spending.
While benefiting defense contractors, increased military spending will divert resources from more productive uses, such as health, education, social services, infrastructure and strategic investments. This will put additional pressure on the already fragile public finances of many pandemic-hit countries.
Since 1989, the dissolution of Cold War alliances and improved security have allowed increased global trade and capital flows. The trend now is towards closed economies, economic nationalism and self-sufficiency. A fragmented global economy and growing barriers to cross-border trade and investment can lead to lower incomes and more expensive goods and services.
Sanctions and the seizure of central bank assets can set dangerous precedents. The militarization of trade and financial relations between nations will slow long-term growth and development. It will also produce lasting suspicions and tensions that will prevent cooperation on global issues such as the environment and pandemics.
Australia, as an open economy, is particularly vulnerable. Closer Sino-Russian ties could reduce Australia’s export opportunities.
“You may not be interested in war, but war is interested in you.” The aphorism attributed to Leon Trotsky grasps the profound consequences of conflict. Trapped by historic alliances, Australia is not immune to a fractured global economic and political order.