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Russia-Ukraine war means there’ll be no return to normality for Europe


German Chancellor Olaf Scholz and French President Emmanuel Macron attend a press conference in Berlin ahead of a Weimar Triangle meeting, which will discuss ongoing Ukraine crises, on February 8, 2022.

Hannibal Hanschke | Reuters

Economists predict that the war in Ukraine, and subsequent economic sanctions against Russia, will result in far greater shifts in Europe’s economies and markets than any previous crisis like the coronavirus pandemic.

Consider the following: Russia’s unprovoked invasion of UkraineEuropean leaders are being forced to move quickly accelerate plans to reduceTheir outsized dependence on Russian energy. On Thursday, the European Parliament called for an immediate total and complete embargo Russian oil, coal, nuclear fuel and gas.

This aggressive decoupling has a cost for the European economic. It drives up already high levels of inflation and threatens to undermine the manufacturing recovery which began last year when economies tried to recover from the Covid-19 pandemic.

Carsten Brzeski, Head of Global Macro Research at ING, noted last week in an article that Europe faces a particular risk due to the war.

“For the continent the war is more important than the pandemic. Brzeski explained that the war is not just about security and defense, but the whole economy.

“The Eurozone now faces the negatives of its economic model: an export-oriented economy that relies more on imports and has a strong industrial backbone.

After having benefited in recent years from globalization as well as the division of labor, the euro area is now required to accelerate its green transformation. pursuit of energy autonomyWhile simultaneously increasing defense, digitization, and education spending. Brzeski said that this was a challenging task, and that it “can” and “actually must” be met.

Europe must be prepared for whatever happens. The pressure on incomes and household finances will be immense until that happens. He said that corporate profits will continue to be high.”

Europe faces a significant humanitarian crisis as well as an important economic transition. It is in Europe’s breadbasket, which is a major production region for corn and grain. Unprecedented food inflation will occur. Rising inflation could spell doom for many developing countries.

Brzeski said financial markets are “misguided” and European stocks continue to rise. Brzeski also stated, “There’s no returning to any type of normality at all right now.”

Sustainability of debt

Economists recognize that this tectonic shift in the European and global economy will put additional pressure on central bank and government governments, who are caught between rock and hard when it comes to juggling inflation and fiscal sustainability.

BNP Paribas wrote Thursday that it would predict that there will be a greater drive to reduce carbon emissions, increased spending by the government and more debt. This could lead to stronger headwinds for globalization, and higher inflationary pressures.

Spyros Andreopoulos, Senior European Economist at BNP Paribas, stated that this backdrop makes it more difficult for central banks to maintain policy and infuse inflation. This not only reduces their commitment to certain policies but also increases the likelihood of making mistakes.

He noted also that increasing interest rates in order to control inflation would eventually be a problem for fiscal authorities.

While this may not be a concern immediately, it is because the government has generally extended the average maturity their debts in low-interest rate years. However, an environment with higher interest rates could change the fiscal calculus. Andreopoulos indicated that eventually, there could be debt sustainability concerns.

The euro area’s low level of inflation in recent years meant that the European Central Bank never had to make a choice between fiscal sustainability or pursuing its inflation goals. Low inflation required the European Central Bank to adopt an accommodative policy which helped fiscal sustainability.

“Politically, the ECB was able to – convincingly, in our view – deflect accusations that it was helping governments by pointing to low inflation outcomes,” Andreopoulos said.

“This time, the ECB has to tighten its policy to control inflation, against the background of increased public debt as a result of the pandemic and ongoing pressures to the public purse.”