It was a famous Russian, Vladimir Ilyich Lenin, who said: “There are decades in which nothing happens; and there are weeks in which decades happen.” The 2020s may be another time of historic change, started by Russia’s war in Ukraine. When war breaks out, it causes devastation and loss of life. The ripple effects are felt around the world. When exports from a country like Russia are blocked, its airspace closed, and most of its financial system paralysed, the cost of doing business in the world goes up.
Sanctions are a powerful way to put pressure on a country without having to go to war. But the combination of war and sanctions has dramatic effects on businesses and ordinary citizens on both sides.
Commodity shock
It’s not just sanctions that disrupt businesses and supply chains. It’s also the nature of the economy that’s being sanctioned. Most Western firms have not suffered much from existing sanctions against North Korea or Iran, for example, as neither was such a big exporter.
Russia is different. It is a giant for commodities, among the world’s biggest exporters of natural gas, oil and coal — most of which goes to Europe. Russiais an important supplier of the world’s aluminium and copper, and it supplies about 20 per cent of battery-grade nickel. Shortages of metals affect the production of a wide range of products, while everyone feels the cost of higher energy prices.
Commodities markets were already under pressure because of the pandemic. As economies reopened, demand rose quickly and pushed prices up. This illustrates the main problem: the supply of commodities can be quickly reduced or stopped, but increasing production takes time. This is why an oil embargo is difficult, and not just for Europe, which gets much of its energy from Russia. America produces its own oil, but the price of oil is decided globally, so energy costs will rise there, too. The US and other nations can increase production, but it may take a year or more before any extra oil arrives — and probably still won’t be enough to replace Russian supplies.
Price shocks to markets eventually reach the real economy as rising costs for businesses, higher prices for consumers and shortages of various materials. Even products not directly sanctioned can be affected if traders feel the risk of accidentally breaching sanctions is too high. Others worry about being unable to sell inventory. Also, sanctions cover not just direct trade but include Western-made components, such as microchips, used in products that are assembled in neutral countries, like China, for export to Russia. This complexity makes sanctions hard for companies to manage.
Disruption on this scale can bring supply chains to a halt. Shipping companies cannot get insurance for routes threatened by war, as is now the case with routes across the Black Sea. Lloyd’s listed 347 tankers at the end of March that could not sail because of the war in Ukraine, leaving many ports too congested to operate. When airspace is closed, air freight may have to use slower, more expensive routes. As Covid had already made clear, global supply chains do not work well when cargo stops moving and prices change dramatically.
When wheat fields become battlefields
Disrupted supply chains are an even bigger problem when it comes to the supply of food, particularly if a war is happening where food is supposed to be growing. Together, Russia and Ukraine provide about 12 per cent of the world’s food, when measured by calories. They supply close to 30 per cent of global wheat exports, 30 per cent of barley and 80 per cent of sunflower oil. Many experts fear we could see the worst global food shock since 1914. And the problems may continue long after the war — Russia and Ukraine export key ingredients for fertilizers, and shortages of these will affect future harvests.
The Norwegian firm Yara International buys raw materials from Russia. Its CEO, Svein Tore Holsether, told the BBC: “We were already in a difficult situation before the war. … Half the world’s population gets food as a result of fertilizers … and if that’s removed from the field for some crops, [the yield] will drop by 50 per cent.” Holsether says: “It’s not whether we are moving into a global food crisis — it’s how large the crisis will be.”
In developing countries, where food usually makes up a larger part of household spending, even basic foods could quickly become unaffordable — and that can have serious political consequences. It was partly high bread prices that led to the Arab Spring protests in North Africa and the Middle East in 2010–11. Those two regions are the biggest importers of Black Sea wheat.
Hundreds of millions of people are already seen as “food-insecure” by the United Nations. The number is going up, and the situation will get much worse if protectionism leads richer countries to hoard food.
Globalization in reverse
For Russians who lived through the decades of communism, what must it have felt like to see Coca-Cola, McDonald’s and other Western brands appear in Moscow and Saint Petersburg? What must it have felt like to see them suddenly leave? After years of creating new markets and growth, globalization now seems to be going in reverse.
The Economist called what’s happened in Russia “the great leap backward” — also because of the political repression felt by the country’s educated middle class, who had embraced globalization. Russians used to travel a lot, especially to the Mediterranean. They bought electronics and luxury goods from the West. For them, that open, connected world has disappeared, which will result in a brain drain as many of the youngest and brightest leave. Without transformational reform, even long after this conflict, Russia will be seen as a risky investment.
Of the hundreds of Western brands that have left the Russian market, some were covered by sanctions and had no choice. Others, like Volkswagen, Renault and most other European car manufacturers, suffered so much disruption that business became impossible anyway. And still others have left voluntarily — a decision known as “self-sanctioning”.
Leaving the market is a messy business. Far from a “fortress economy”, Russia was highly integrated with Europe and other parts of the world. The Financial Times reports that about 3,650 German companies were active in Russia before the invasion, employing around 280,000 people there. Much of that investment will now come to nothing, and firms may even have to give up assets in Russia.
Back to a divided world?
After the US-China trade war and then Covid, the war and the sanctions against Russia are the third major blow to global business in less than a decade. Over that time, it’s become increasingly difficult for companies to separate business from geopolitics. It’s unlikely that global business and the global economy will return to the way they were.
In fact, the world may divide even further. The exclusion of Russian banks from SWIFT means the Russian government and businesses cannot make smooth, instant and inexpensive transactions. If such economic sanctions are effective, other autocratic states such as China have an incentive to move further away from the current financial system and set up their own networks.
The 1970s showed that persistently high energy prices reduce economic growth, push up inflation and cause upheaval in politics. When the Cold War ended three decades ago, many believed that interdependence through trade could guarantee peace.
Now, business is experiencing a painful readjustment to a divided world again.