What Russia’s invasion of Ukraine means for the global economy – and Australia

The latest developments in the Russia-Ukraine crisis — which started with the Russian President Vladimir Putin recognising the Republics of Donetsk and Luhansk within the borders of Ukraine and then answering their ‘cry for help’ — has the world on a knife edge. Overnight, Putin followed through with tanks over the Russian-Ukrainian border and air strikes on major Ukrainian cities and facilities on such a brutal scale that it has sent further shocks waves through the world.

Apart from the potential human tragedy in damage to Ukrainian infrastructure and loss of life, what’s the likely impact on the global economy and how will it affect Australia?

The Russian economy matters

First of all, the Russian economy matters, mainly because, like Australia, it is a major global supplier of commodities such as oil and gas, but also nickel, palladium, coal, copper and wheat.

Europe is particularly vulnerable to a supply shock as it is especially reliant on Russian oil and gas. For example, more than 20% of Germany’s gas emanates from Russia, hence why German Chancellor Olaf Scholz made a pretty gutsy move to call a halt to Nord Stream gas pipeline. Previous Chancellors Gerhard Schröder and Angela Merkel had been cosying up to Russia for gas reasons for years (Schröder has in fact been nominated to be on the board of Russian state owned gas giant Gazprom).

This would be a major problem, not only causing a deep freeze for the Germans, but given the central role of German manufacturing to the European supply chain, it would have major global economic implications.

This could happen two ways. President Putin could cause global disruption by cutting off the gas, or sanctions on Russia from the West could have a similar impact on the world economy already being threatened by inflation and COVID related supply side shocks. And that is even before the second order effects of the counter sanctions by Russia in retaliation.

Secondly, in addition to oil and gas, Russia is also a major global supplier of palladium, important to the global automotive industry, and aluminium. Past US sanctions on Rusal, the major Russian aluminium exporter in 2018, caused a price spike in nearly one third of the world price, so we know there can be immediate inflationary impact.

Could other oil and gas suppliers take the place of Russia? Putin has built strong ties with the Saudis, and other oil producing nations, so this won’t be as easy as it appears. Russia also has ties with Iran, and has been shoring up its ties with other non-democratic states in the emerging world as a bulwark against the West.

But how about the Ukrainian economy? Like Australia, and Russia, Ukraine is a major wheat exporter so any invasion could cause a spike in the world wheat price as occurred during the Crimea crisis of 2014. As the former Soviet Union’s bread basket, Ukraine has the world’s most fertile soil and 70 per cent of the world’s supply of chornozem (that creates fertile black earths). So the crisis could impact global food supply chains as well as oil and gas.

What does the Russia-Ukraine conflict mean for Australia?

How will the conflict affect Australia? Not much directly, as if anything, Australia is a competitor to Russia on gas and a competitor to both countries to on wheat. The higher prices may boost some exporters in the short run but they would soon be overrun by the adverse impact of global economic disruption.

There is also a danger if Australia is targeted by Russia, as it is seen as too close to the rest of the West when imposing the initial sanctions. Not that this would be top of mind at the Kremlin. In fact, when I asked Putin at APEC 2007 in Sydney: “What do you think of Australia – is it what you expected?” He replied: “I never think of Australia”.

The biggest risk to Australia is if China decides to follow Russia’s lead.

We saw at the Beijing Winter Olympics a bit of a thaw in the notoriously frosty Sino-Russian relationship, which was somewhat of a hangover from the old Cold War tensions between the USSR and the People’s Republic of China. If there was anyone these two Communist superpowers hated more that the West then it was each other. But times are different now, and if Xi Jinping sees the West being divided and weak over Ukraine, as it was over Afghanistan, he may make matters tougher for Taiwan.

Is there an alternative to sanctions, especially as Putin may gamble that he has enough reserves to tough them out?

An alternative to sanctions could be a strong economic strengthening of Ukraine through trade and infrastructure measures, such as granting Ukraine EU rather than NATO membership, giving Ukraine preferential trade and investment deals, and a favourable supply of natural resources.

Maybe a Lend Lease style agreement could be arranged for Ukraine like Franklin Delano Roosevelt did for the UK before the US could enter World War II. Russia may like to intimidate but it doesn’t have the economic strength of a united West, including the US, EU and Asia Pacific, which would make Ukraine far harder to destabilise.

There may not be an immediate military solution, or a neat diplomatic fix, but the economic dimensions to the crisis may be more in favour of Ukraine than at first meets the eye.

Tim Harcourt is industry professor and chief economist at IPPG at University of Technology Sydney and host of The Airport Economist, The Big Picture After the Pandemic on Ausbiz and The Airport Economist.

This is an updated version of an article that was first published UTS.