The stand-off between Russia and the West over the former’s imminent invasion of Ukraine is set to deal a serious impact on the global economy mainly through trade, finance and macroeconomic channels. The question here is how intense and prolonged this disruption is likely to be. So far, the markets have been nervous, but haven’t gone overboard. The MSCI world stock index is down almost 6 per cent and sovereign bond yields of emerging markets have hardened 30-90 basis points since the beginning of February. Commodity markets appear skittish, with Bloomberg base metals, agri commodities as well as energy index gaining around 3 per cent this week. These are already at elevated levels due to the unlocking of economies. Energy market analysts have noted if Russia’s supplies of three million barrels a day to Europe are disrupted, it could raise oil prices, already close to three digits, by $10-15 a barrel. If the nuclear deal with Iran is finalised it could release a million barrels a day, while West Asian suppliers could increase output. But prices are likely to remain elevated, anyway. Of course, given Europe’s dependence on Russia for gas and oil supplies (that tap has been shut with sanctions and the Nord Stream 2 pipeline deal scrapped for now) and its difficulties in making alternative arrangements over a short period, chances are that the crisis may not be prolonged.
On the financial side, the standoff could lead to an inflow into safe haven assets, besides commodities, weakening currencies of emerging economies if it intensifies. So far, markets have been subdued. The dollar index has been moving in a tight range. While currencies of commodity-based economies such as Brazil, South Africa, Mexico and Chile have gained, the rouble has lost just 2.5 per cent so far in February against the dollar. The Reserve Bank of India should, in the event that the crisis worsens, be prepared to defend the rupee at prevailing levels; given that India depends for almost 90 per cent of its energy needs on oil imports, the threat of imported inflation is real if the rupee depreciates along with rising oil prices..
However, the macroeconomic impact is less certain. For instance, Moody’s has not ruled out an impact on Chinese property developers “given their large upcoming offshore debt maturities” in the event of widespread risk-aversion and unforeseen spike in interest rates. The Chinese real estate sector has been in a debt crisis even before Ukraine — Evergrande is one example — and if Moodys’ warning turns out right, it may have a cascading effect on the global economy. The impact of high interest rates and inflation on global growth also remains an area of concern. This situation throws into jeopardy the 8-8.5 per cent real growth projection of Economic Survey 2021-22 for the next fiscal (as also the budget estimates) based on oil ruling at $70-75 a barrel and withdrawal of global liquidity being “broadly orderly”. The Monetary Policy Committee’s inflation projection of 4.5 per cent for 2022-23 looks more optimistic than before; it has been observed that a 10 per cent rise in crude prices can lead to a 40-50 basis points rise in retail inflation. This could derail consumption and investment. The Centre’s tax revenues could be dented if it is forced to take an excise duty hit on fuel in the larger economic interest. The overall picture is worrying but the only consolation is that Russia is not a major trading partner.