Widespread Corporate Response to Russian Invasion of Ukraine
The Russian invasion of Ukraine has sent a shockwave around the western world.
While western governments have acted quickly to respond, it’s noteworthy how many private companies have elected to cut business ties with the Russian economy.
In the energy sector, as the German government announced it was abandoning Nord Stream 2, the long-planned (and controversial) natural gas pipeline from Russia, BP and Exxon Mobil announced they would wind up their Russian operations.
This week, Shell has followed suit, including stopping all spot purchases of Russian crude oil. Shell’s announcement even included an apology from Shell’s CEO Ben van Beurden for purchasing Russian oil after the invasion of Ukraine began.
Many corporate executives are recognizing the power that social media – fueled by growing western outrage over needless deaths and destruction in Ukraine – has on customer sentiment corporate governance. Not acting quickly risks long-term reputational damage.
And it’s become harder to obfuscate. Yale professor Jeffrey Sonnenfeld is keeping score, with a list of companies that have divested from Russian – as well as some who “remain in Russian with significant exposure.”
New Financial and Trade Sanctions Against Russia
Western governments acted with surprising speed and unity against the assets of Russian financial systems abroad, following a strategy that limiting access to western capital markets could cut off the necessary funding Russia needs to pursue its war aims.
The US, EU, and UK have banned financial transactions with several of Russia’s leading banks, as well as cutting off access to the SWIFT financial transaction service.
In what may turn out to be a surprising turn of events (if proven true), it appears that as much as half of Russia’s foreign currency reserves were held overseas and have now been effectively frozen.
Trade restrictions are also increasing.
The EU acted first, with credit going to Bjorn Seibertz (European Commission chief of staff), who had been working behind the scenes for months in anticipation of a potential Russian invasion.
This week President Biden announced a ban on Russian oil, coal, and LNG imports, and Congress is pushing to pass new formal trade sanctions legislation against Russia this month.
Follow the Money…
Since the break-up of the Soviet Union, much of Russia’s financial wealth has ended up in the hands of the so-called oligarchs, e.g. individuals with close ties to Putin and the Kremlin.
Many of these oligarchs live overseas outside of Russia and rely on a network of shell companies, family members, and other questionable financial arrangements to hold vast wealth in companies, real estate, and showy yachts.
Some policymakers believe that cutting these oligarchs off from their access to wealth could be an indirect way to influence Putin and help bring his war aims to heel.
But easier said than done.
While the US DOJ has announced a “task force” to identify ill-gotten Russian wealth, it’s a difficult task, particularly since many oligarchs have become deeply embedded in US society, donating millions to charity, for example.
But the problem of undue Russian influence seems even more intractable in the UK, where the City of London has been openly mocked as LondonGrad or the Londromat (in a reference to money laundering).
It’s long been perceived as an open secret that Russian oligarchic money has become a powerful political and economic force in the UK.
Tourists sign up for popular walking tours of London’s priciest enclaves in Mayfair and Kensington, in which guides point out empty mansions where mega-rich overseas owners reputedly store their money in real estate. British sporting life is also under the influence, with several of the UK’s most successful football clubs funded by oligarchs, such as top-ranked Chelsea, which is controlled by Russian billionaire Roman Abramovich.
A full-blown UK political scandal may yet unfold.
The Sunday Times reports that a company founded by Ben Elliott, the co-chairman of the Conservative Party, continues to serve wealthy Russian clients. Concerns are also swirling around the accusations that PM Boris Johnson elevated Evgeny Lebedev (son of oligarch and former KGB agent Alexander Lebedev) to a peerage in the House of Lords against the advice of UK security agency MI5.
Are There Ways around Financial Controls?
Historically speaking, financial capital controls have never been air-tight; there are often ways to get around sanctions. While smuggling gold bars might have been the modus operandi in days past, we can now use electronic fund transfers to accomplish illicit movements of capital.
In this regard, the UK may be the weakest link among the western economies; we’ll have to see if it continues to slow-walk its plans to reform long-standing practices that facilitate hiding wealth.
Kicking Russian banks off the SWIFT system is no panacea either; it’s just makes moving money easier, e.g. with the click of a mouse, and doesn’t preclude old-school wire transfers. As such, sanctions that ban financial transactions outright have more teeth.
Cyber currencies are another avenue for moving money around, and as we’ve written before, the original cyber currency BitCoin was designed with avoiding government capital controls in mind. But few users hold their cyber currency directly, instead, rely on currency exchanges, and the largest one, Coinbase, has blocked the wallets of 25,000 Russian users.
Both China and India could also influence the effectiveness of financial sanctions against Russia. It remains unclear if either country will ultimately take a stand against the atrocities in Ukraine.
In particular, there are reports that Russian banks, including Sberbank, Alfa Bank, and Tinkoff Bank, are turning to the Chinese equivalent of SWIFT, called UnionPay, to reestablish a connection to an international payment network.
The Impact of Sanctions on the Russian Economy to Date
Financial sanctions against the Russian economy have cut fast and deep.
The Russian currency, the Ruble, lost more than a quarter of its value immediately, and videos of ordinary Russians attempting to withdraw western currency from their bank accounts were widely circulated on social media outlets.
The Russian stock market closed and has remained closed.
Interest rates jumped from 8% to 20%, and there are estimates that inflation could reach as high as 70%.
International travel is now more difficult for Russians, as the EU and the US banned Russian aircraft from their airspace. Over the longer term, sanctions by western companies that own or service much of the Russian commercial aviation fleet could become a major problem for a country as large as Russia.
The EU ordered aircraft leasing firms, such as the Ireland-based AerCap, to terminate all leases to Russian airlines within 30 days. However, this may lead to a showdown, with Russia refusing to return the aircraft and/or electing to “nationalize” them.
But these sanctions may not be enough to convince Russia to withdraw.
It would probably take a worldwide ban on Russian energy sales to make a difference because, at present, researchers at the Transport & Environment (T&E) think tank estimate Russia continues to earn $285 million per day in oil exports.
What is the Impact of the Russian Sanctions on Western Economies?
But what about the impact of the Russian sanctions here at home?
Will we suffer a significant economic blowback?
The signs are pointing toward troubled waters ahead, with the stock market entering correction territory this week.
A Sharp Jump in Oil Prices is the #1 Impact on the US Economy so Far
The Wall Street Journal reports that while the US remains the world’s biggest oil producer, we still import around 8% of our crude oil (primarily from Canada, Mexico, and Saudi Arabia) – with Russian imports totaling around 200,000 barrels a day, or about 3%.
But that doesn’t mean Russia is a smaller player in oil exports. It’s an OPEC member that in normal times accounts for 7% of the world’s oil market, with about half of that going to Europe.
Concerns over shortages have led to a sharp spike in oil prices – with Brent Crude trading north of $130 a barrel as of this writing.
This surge is now reflected in the average price of gasoline, which has crossed the politically sensitive $4 per gallon mark, with some areas such as California seeing prices over $7, and it could be headed higher.
The announcement that Biden will ban Russian oil, coal, and LNG imports will put additional pressure on the oil market.
Analysts are skeptical whether the US can ramp up its production of unconventional oil (e.g. from fracking) quickly enough to make up for the shortfall and to keep prices from rising much higher.
This gives the Biden administration some unpalatable choices, which include diplomatic efforts to reestablish oil trade with Venezuela (which would require putting aside differences since the late President Chavez nationalized the economy), conclude another nuclear weapons deal with Iran to allow its oil to be sold on the international market once again (an unlikely proposition as Russia is a co-signatory to the agreement), or to travel to Saudi Arabia and ask for the country to pump more oil into the market (an unpleasant idea given Biden’s past efforts to shun Saudi Crown Prince Mohammed bin Salman over the vicious murder of Washington Post journalist Jamal Khashoggi).
With oil prices on the rise, the effects of inflation will seep into other areas as well, for example, driving up the cost of shipping and logistics operations for manufacturers.
In Europe, the options are more difficult. Fortunately, the winter has been mild (so far), so gas supplies to heat homes and run industry have not yet run out, despite historically low stocks held in 2021. Germany, in particular, has attempted to maintain access to Russian energy markets.
But Russia could yet close off the tap for oil and gas sales to Europe, thanks to its most recent threat to cut off natural gas supplies from its Nord Stream 1 pipeline.
This poses a big issue not only for European residential energy requirements but also for industrial applications. Natural gas costs for European companies have already jumped as much as fourfold in some regions since the start of the pandemic, causing many industries, such as the famed Italian glassmakers, to shut down production.
Nuclear power has also become part of the conversation. France has announced plans to increase the number of new nuclear plants to reduce its dependence on fossil fuels. But the biggest concern is in the short term: what will happen to Ukrainian nuclear plants, including Europe’s largest, which was recently attacked by Russian shelling? Will Russia capture these nuclear plants and shut them down, creating a power shortage throughout Eastern Europe? Only time will tell.
In the meantime, plan for growing inflation due to higher energy costs and shortages.
Risk of Higher Prices and Possible Shortages of Commodities Sourced from Russia and Ukraine
Oil, natural gas, and coal are not the only Russian exports that analysts are watching.
Russia and Ukraine are traditionally leading exporters in several key commodities.
Let’s start with metals first.
Russia is a major supplier of titanium, the super-strong yet lightweight metal that’s prized by aircraft designers. Boeing and Airbus are heavily dependent on titanium supplies, and both companies are in the uncomfortable position of sourcing the valuable metal from Rostec, a company led by sanctioned oligarch Sergei Chemezov, a onetime KBG colleague of Putin.
Airbus reportedly sources half of its titanium supplies from Rostec, while Boeing, which has a direct 50-50 partnership with the company, says it gets about one-third of its supplies from Rostec. Both aircraft makers report they have been stocking up inventories just in case relations with Russia deteriorated.
The price of Nickel, widely used in electric-vehicle batteries, has also experienced unprecedented price spikes, reaching $100,000 per ton for the first time, causing the London Metal Exchange to suspend trading.
The effect on aluminum is also being felt, although less from supply shortages of the raw ingredient bauxite than from the high cost of energy-intensive aluminum smelting and fabricating operations. Aluminum futures have jumped from $2,603 per metric ton to $3,746 as of this writing, a 44% increase.
Potash, a key ingredient in agricultural fertilizer products, is another mineral that could be affected by Russian export bans to the west. While Canada is the world’s largest producer of potash, Russia and Belarus are number two and three, respectively. Canada’s Nutrien seeks to produce a record 14.3 million tonnes of potash this year, but it may not be sufficient to supply the world’s farmers with fertilizer products.
Brazil’s agricultural exports, especially soybeans, are under threat, as it imports 85% of its fertilizer needs from Russia, including nitrogen, phosphorus, and potassium.
The fertilizer shortage will exacerbate prices and availability of food commodities as well, which are already under threat due to expected production shortfalls in Ukraine, long called “the breadbasket of Europe.”
According to the Wall Street Journal, Ukraine is a big player in global wheat and corn export markets, supplying 12% of the export market worldwide. Internally, these exports make up 10% of Ukraine’s domestic GDP.
The markets have reacted to this potential shortfall. Wheat prices on the Chicago Board of Trade have spiked to just under $13 per bushel, outstripping the previous high price record set back in 2008. Corn futures are also up dramatically, briefly exceeding price records set back in 2013.
Agricultural experts are concerned about higher food prices and possible food shortages, particularly in Egypt, Turkey, and Bangladesh, which are highly dependent on Russian and Ukrainian food exports.
Price increases are not the only concern for shippers. There are reports that five tankers and cargo ships in Ukrainian ports have been hit by missiles, with another 200 ships stuck in port. The conflict is disrupting travel in the north part of the Black Sea and the Sea of Azov, a worrisome development for the other countries further south, including Georgia, Turkey, Bulgaria, and Romania.
Further Potential Impacts from an Escalation of Attacks here at Home and Overseas
If things continue as they are, economic analysts see strong economic headwinds, with sustained global inflation north of 6% now expected. The Economist’s Intelligence Unit also forecasts that the economic effects of the Russian invasion will trim 2022 economic growth in Europe in half, from 3.9% down to 2%.
But can we predict what will happen next?
Certainly, many analysts believed that we would see widespread cyber warfare, including attacks on the US financial system and power grid. Thankfully, these have not yet happened, but concern remains high.
More worrisome are further escalations that lead to dangerous outcomes, such as direct fighting between NATO countries and Russia, or the deployment of devastating weapons, such as cluster bombs, thermobaric weapons (also known as vacuum bombs), electromagnetic pulse (EMP) weapons, or tactical nuclear weapons. Russia has been accused of using the first two in Ukraine already, so are nuclear weapons far behind?
Peter Berezin, the Chief Global Strategist and Research Director at BCA Research, was one of the first financial analysts to voice this concern about nuclear weapons in a forecast, writing down for the record what many of us have been concerned about for years.
This is a Humanitarian Crisis. Here’s How You Can Help.
In closing, we recognize that while we have sought to identify some of the key economic issues that affect our industrial clients, we are not losing sight of the fact that the Russian invasion of Ukraine is a humanitarian crisis first and foremost.
Many people around the world are seeking ways to help, many with creative ideas such as booking (but not using) AirBnb listings in Ukraine as a means to send money to individuals and families there.
Here are a few of the charities and relief organizations that use your support:
- American Red Cross
- Doctors Without Borders
- GlobalGiving: Ukraine Crisis Relief Fund
- International Rescue Committee
- People in Need (Czech Republic)
- Razom for Ukraine
- Ukrainian National Women’s League of America (UNWLA)
- United Help Ukraine
- UNHCR – UN Refugee Agency