Ukraine war - a year of disruption to growth

As we approach the first anniversary of the full-scale invasion, the economic impacts of the war are becoming clear.

On 24 February 2022 Russian forces invaded Ukraine and began a war many assumed would be over in days.

Nearly a year later, and there’s no end to the suffering in sight. After a series of attacks and counter-attacks, both sides are digging in for a long war of attrition.

The conflict is a human tragedy first, but also an economic calamity. The economic life of both nations has been severely restricted.

And the reverberations are being felt across the region and across the world. In a globalised economy, everyone is connected and everyone is affected.

In this article we’ll take a deeper look at what those effects are, in Europe and further afield. We’ll also look ahead to what the immediate future might bring.

The economic background

The economic disruption caused by the Russian invasion of Ukraine could hardly have come at a worse time. Many countries had only recently emerged from the Covid pandemic, which shuttered factories, stores and workshops around the world.

“The inflationary environment has been aggravated, not caused, by the war in Ukraine,” says Dana Bodnar, an Economist at Atradius. “The underlying economic issue is the supply and demand imbalance inherited from the pandemic.”

In other words, the global economy was already braced for a difficult recovery period. The last thing it needed was another shock.

The stark reality

Unfortunately, a shock was exactly what it got. It’s hard to pinpoint the precise contribution of the war to the global slowdown, but we know that it’s significant.

For example, in January 2022 we expected global trade to grow by about 5.5% in 2022 and 3.5% in 2023, figures that reflect post-lockdown, pre-war optimism.

In January 2023, the estimated figure for 2022 was about 3% and the forecast for 2023 just 1.5%.

Similarly, global GDP was forecast to grow by 3.6% in 2023 in pre-war calculations, and 1.5% when the same calculations were made earlier this month.

In other words, the war is having a significant global impact, and exacerbating some of the negative effects of the Covid pandemic.

Direct impacts

Needless to say, Russia and Ukraine have taken the biggest hit. As of January 2023, this year’s GDP growth forecasts for Russia and Ukraine are -2.0% and -4.6% respectively. Russia´s economy is estimated by Oxford Economics to have contracted 2.3% in 2022, while Ukraine’s shrank a whopping 30.1%. 

In addition, Ukrainian exports slumped by 32.5% last year. Russian exports held firm but are expected to fall by 10.4% in 2023.

Local crises always have global effects, but on the surface, Russia and Ukraine don’t appear to be major players internationally. Together, their economies represent less than 2% of global GDP.

But the devil is in the detail. Russia and Ukraine don’t contribute much in total, but what they do contribute is essential to the smooth running of global commerce.

The energy crisis

Most importantly, Russia is a major supplier of oil and gas, especially to Europe. That supply has fallen by 80% since the start of the war.

“Faced with the prospect of households and firms running out of energy during winter, European countries started to scramble for alternative gas supplies,” says Theo Smid, senior economist at Atradius. “These were found in the Middle East and in the US, but at a high cost.”

The result is a European energy price crisis and rising costs elsewhere. The seaborne liquified natural gas (LNG) that has replaced pipeline supply from Russia is an expensive substitute.

European gas prices have fallen back from their 2022 peak, but are four times higher than the pre-war figure. “We expect the significant supply disruption of gas from Russia, only partially made up for elsewhere, to continue in 2023,” says Dana.

Beyond that, the picture is cloudy. Europe is expected to increase LNG imports by 60% in 2023 to replace shrinking supplies from Russia, if it can source that capacity. Member states are investing in infrastructure, including new terminals, but Europe is asking for double the available export capacity elsewhere in the world. Filling gas tanks ahead of the winter of 2023/24 will certainly be challenging.

Meanwhile, the EU has banned Russian oil and coal imports, and is phasing out gas. Russia will divert as much production as possible to China and India.

But this new pattern of global trade is unlikely to be as efficient as previous arrangements, creating a drag on global growth for the foreseeable future.

Higher food prices

Energy price hikes also raise food production costs, exacerbating a shortage of supply. Together, pre-war Russia and Ukraine accounted for about 30% of global exports of wheat, 20% of corn and barley and 13% of fertiliser.

Food prices were rising before the war, but the conflict supercharged that trend. Wheat prices were 30% higher in June 2022 than six months previously. An UN-brokered deal led to the resumption of grain exports from Ukraine, but prices remain 20% higher than a year ago.

Fertiliser prices rose as a direct result of the fighting and an indirect result of rising energy costs. Fertiliser producers have been hit by rising gas prices, while sanctions dramatically reduced Russian fertiliser exports. European production of ammonia (which is used for fertiliser production) has fallen 70% since August 2022 due to energy price concerns.

Fertiliser shortages are expected to be a significant constraint on global food supply in 2023. The impact on harvests is likely to be most severely felt in Europe and Africa.

Other consequences

As if that wasn’t enough, both countries supply important commodities. For example, Russia is a major supplier of nickel, used in battery manufacture. Pre-war, Ukraine produced 50% of the world’s refined neon, used in the production of semiconductors.

Inevitably, prices have risen, but the global slowdown has reduced demand and kept those rises in check, at least for now. Chipmakers have managed to meet demand using existing neon inventories and local suppliers. Additionally, the demand for semiconductors has slowed since the third quarter of 2022, due to falling orders from traditional electronic goods manufacturers and tumbling cryptocurrency prices.

One other impact of the war is increased bottlenecks in the global supply chain. “Parts of the Black Sea and Sea of Arsov are not passable and maritime companies have closed routes to avoid Russian airspace and ports,” says Theo. “Diversion of freight routes adds to costs.”

In summary

If the war drags on, the global economy will continue to be buffeted by its direct and indirect consequences. Europe will be the worst hit. After estimated growth in 2022 of 3.5%, current forecast suggest Eurozone GDP growth will increase by a modest 0.4% in 2023, compared to a pre-war forecast of a 2.7% increase.

At the same time, inflation in the region has soared, with estimated consumer price growth in 2022 of 8.4%, more than double the pre-war prediction. This year will see an easing of inflation, though prices are still expected to rise by nearly 5%

Forecasts for the UK suggest similar inflation rates, and GDP growth that slumps from 4.1% in 2022 to -0.7% in 2023.

Due to its proximity to the war zone and previous reliance on Russian gas, the impact on Europe is particularly strong. But nowhere is immune from the war’s economic aftershocks.

“The war has triggered steep price rises in energy and food prices, which has eaten into personal incomes, reduced demand, and raised production costs in advanced and emerging economies alike,” says Dana.

As new trade patterns settle in and a new normal emerges, some of the war’s sharpest impacts may blunt a little. But the new ways are likely to be less efficient than the old. An upheaval in global oil and gas supply is never going to be easy.

For so many reasons - humanitarian and economic - the best hope for 2023 is a quick cessation of hostilities.