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Last week, Moscow made good on its threat to weaponize its energy exports in retaliation against Western sanctions by imposing wide-ranging export bans. Alexander Novak, Russia’s deputy prime minister, said his government has the “full right” to “impose an embargo” on gas supplies by halting gas supplies through the Nord Stream 1 pipeline.
Facing one of the harshest sanction campaigns against any nation in modern history, Russia is in for a world of hurt. StanChart says continuing consumer reluctance to buy from Russia and shortages of capital, equipment, and technology will continue to depress Russian output over, at least, the next three years. The commodity experts have predicted that Russia’s output will fall by 1.612 million barrels per day (mb/d) y/y in 2022 and a further 0.217mb/d in 2023, with the y/y decline peaking at 2.306mb/d in Q2-2022. Russia also risks getting booted from the World Trade Organization or the IMF.
To save the Russian currency from total collapse and to combat inflation, Russia’s central bank has raised its key interest rate to a staggering 20%–an all-time high. But that won’t be enough to prevent Russia from descending into a calamitous recession.
Yet, Russia can take some comfort in the knowledge that it’s in good company.
The rise in oil and gas prices triggered by the Ukraine conflict has raised the threat of the worst stagflationary shock to hit Europe since the 1970s. Amid heavy reliance on fossil fuels, energy prices in Europe have spiraled out of control, with European natural gas trading at ~$62/mmbtu, translating to $360 per barrel oil on an energy equivalent basis.
But it could get much worse.
A cross-section of experts is now warning that Europe will be plunged into a deep recession if Russia follows through with its threat to halt gas supplies into Europe. The EU has laid out plans to lower its dependence on Russian gas by two-thirds before the end of this year and end imports completely by 2030. Moscow, however, says it will retaliate against energy sanctions by cutting off vital supplies more quickly.
The euro area generates a quarter of its energy from natural gas, with Russia accounting for around one-third of the bloc’s imports. Goldman Sachs has warned that any further gas import disruptions could therefore have significant knock-on effects for eurozone economic output and inflation.
Eurozone Recession
In a research note, Goldman’s Chief European Economist Sven Jari Stehn and his team has laid out several scenarios and assessed how they might impact the European economy.
“By mapping physical gas supply constraints and upwards price pressures into GVA (gross value added) effects in the Euro area and the U.K., we estimate that for 2022 as a whole high gas prices could weigh on Euro area GDP growth by 0.6pp (percentage points) and the U.K. by 0.1pp relative to our baseline forecast if we assume no further gas supply disruptions,” Stehn said.
The impact in Germany is likely to be even greater (-0.9pp), Stehn added, due to its high reliance on Russian gas.
In a worst-case scenario in which Russia stops all pipeline exports, Sven and team says Euro area GDP growth is likely to fall by 2.2pp in 2022, with sizable impacts in Germany (-3.4pp) and Italy (-2.6pp).
On a brighter note, a complete stoppage is seen as being unlikely given Russia’s reliance on exports to Europe as well as its ever-shrinking sources of revenue elsewhere.
“Although Moscow forged a new deal with Beijing last month to supply China’s CNPC with an additional 10 billion cubic meters of gas a year, the new planned pipeline to carry these supplies will take two to three years to complete. In the meantime, Russia will have to rely on its sales to Europe to fund its military incursion in Ukraine and ensure domestic stability,” Mathieu Savary, chief European strategist at BCA Research, has told CNBC.
Savary suggested, however, that Novak’s threat still highlights the risk of disruption to European energy supplies, which will continue to exert upward pressure on natural gas prices in the near term.
“Until the risk premium in oil and natgas prices dissipates, high energy costs will lead to a period of stagflation in the Eurozone,” Savary has added.
