Macro Insights Weekly - Ukraine’s shadow

An armed conflict over Ukraine poses considerable stagflationary risk to the global economy. Energy prices will spike, consumption sentiment will be hurt, while growth downsides will gather.
Taimur Baig, Radhika Rao21 Feb 2022
  • Omicron surge and winter-weather related travel disruptions ought to be dampening energy prices
  • But the opposite is happening
  • As markets price in the risk of war, wide range of prices, from oil to metals to food, have surged
  • Wars are unwelcome everywhere and always
  • But the risk of a regional conflict causing worldwide distress is particularly worrisome
Photo credit: Unsplash

Commentary: Ukraine’s shadow

It may be bluster or perhaps it is the final few days before a war in Ukraine breaks out; either way, the outlook for energy prices, especially of natural gas and oil, to reflect a large degree of geopolitical unease for a prolonged period looks inevitable. Omicron surge and winter-weather related travel disruptions ought to be dampening activity and thus weigh in on energy prices, but the opposite has happened so far this year. Energy prices, spanning natural gas, heating oil, crude petroleum, and gas oil, are up 19-22% this year already, adding challenges to an already difficult inflation backdrop.

Granted, there are still lingering supply issues. Between Iran and US shale producers, nearly 2 million barrels of crude can come to the market but have not yet done so. Iran’s nuclear deal with the US remains yet to re-implemented, and US shale producers continue to resist increasing production despite rising prices. Still, both scenarios, which would bring substantial supply to the markets look increasingly plausible. Adding to this is the economic slowdown narrative of the largest energy importer of the world, China. Given that markets are forward looking, these dynamics ought to be dampening energy prices. 

The fact that that has not happened is a testament to the risk of energy supply disruption if war were to break out in Ukraine. A Russian invasion could put gas supply to Germany and elsewhere in Europe under jeopardy, causing the demand for Liquified Natural Gas from the US and Qatar to spike, which would have knock-on impact on global energy prices. Higher prices seen so far could seem like merely the prelude the mayhem that could ensue.  

At a time when Western central banks are already grappling with elevated inflation and pass-through risks from commodities to a wider range of products, a further jump in energy prices will make their work exceedingly difficult. A stagflationary scenario could begin to take shape as inflation jumps further precisely when consumption sentiment will be hurt and growth downsides will gather. Wars are unwelcome everywhere and always, but the risk of a regional conflict causing worldwide distress is particularly worrisome.

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Taimur Baig, Ph.D.

Chief Economist - Global

Radhika Rao

Senior Economist – Eurozone, India, Indonesia

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