Russia sanctions threaten to blow eurozone off course

  
Eurozone economies may suffer as a result of the sanctions against Russia. [Stephanie Jones/Flickr]

The knock to confidence from harsher European sanctions on Russia could spoil the eurozone's budding economic recovery even if it shrugs off the fallout on trade.

Following months of hesitation, the European Union will seek on Tuesday (29 July) to seal the first broad economic sanctions on Russia - its third-biggest trading partner - following the downing of a Malaysian airliner over territory controlled by pro-Moscow rebels in eastern Ukraine.

If endorsed by ambassadors from 28 European Union countries, Europe could limit access to capital markets by Russian state banks, impose an embargo on arms sales and restrict trade of high-tech energy technologies and "dual use" technology that has both civilian and defence applications.

Even if these measures are diluted, they will mark a fundamental change in how Europe deals with Russia, one which carries risks not just for Moscow but for Europe itself.

"The impact on trade is relatively small. The far bigger risk is a knock to overall economic confidence," said Gregor Eder, an economist with Allianz, one of the world's largest fund investors.

"A spiral of sanctions together with the loss of overall confidence could be enough to bring the already fragile economic recovery in Europe to a halt," Eder said.

Previously, EU leaders were reluctant to impose sweeping sanctions on Russia, and with good economic reason. Not only does Moscow supply about a third of the EU's gas needs, trade ties in other areas between Russia and Europe run deep.

German energy giant E.ON has invested €6 billion since 2007 in Russia while chemicals firm BASF has a joint venture with Gazprom.

In France, defence group Thales owns a stake in a company that sells warships to Moscow, while Franco-German aerospace group Airbus and its suppliers depend on Russia for titanium to make heavy-duty plane parts such as landing gears.

The trade ties help explain why German business confidence fell to its lowest level in nine months in July, with respondents blaming the Ukraine crisis.

The EU has already imposed narrow sanctions since Russia backed rebels fighting Kiev's forces in east Ukraine. A list of people, including allies of Russian President Vladimir Putin, are subject to asset freezes and travel bans.

These limited measures have already discouraged business - eurozone exports to Russia were down 13% between January and April and foreign investment in Russia has dropped sharply.

Exports from the eurozone to Russia account for less than 5% of the bloc's total and economists believe Europe could cope with lower Russian trade. But the blow to confidence and knock-on effect on investment could be more serious.

"The German and European economies are already experiencing negative effects from the conflict with Russia. The biggest risk to Europe, however, stems from the enormous uncertainty that the conflict has caused," said Marcel Fratzscher, head of Berlin-based DIW economic research institute.

"Companies do not know if they can still sell their products to Russia in three months' time or a year. Banks are uncertain whether loans will be paid back. It is unclear for energy users and consumers what will happen with oil and gas prices."

Tit-for-tat?

The uncertainty comes at a bad time for the 18 countries in the eurozone, whose economy is already in the doldrums.

The currency area is expected to have eked out barely any economic growth in the second quarter of the year with the Bundesbank forecasting that even the mighty German economy flatlined.

Policymakers' biggest hypothetical concern is about the potential for gas supplies to be interrupted, requiring countries to seek more expensive supplies from elsewhere - which could depress spending in other areas even further.

Given the financial cost to Russia of turning off the taps, industry experts say that may be unlikely. US and EU sanctions so far have avoided targeting Russian gas export monopoly Gazprom. But there are other ways Russia could fight back, short of switching off the gas.

"Russia will retaliate," said David Gordon of Eurasia research group, predicting that Moscow could erect informal barriers such as stricter health and safety rules to make it harder for foreigners to do business in Russia.

Eder of Allianz fears worse. "How would Russia react if European banks were not allowed to grant credit to Russian companies?" he said.

"There could even be the threat of confiscation of productions sites in Russia from European companies."

Any counterstrike from Moscow to sanctions would fall heaviest on European countries with the deepest trading ties.

The Netherlands, which bore roughly two thirds of the casualties when the Malaysia Airlines flight was downed over Ukraine, is among those that could lose most.

The Dutch economy, which shrank 1.4% in the first quarter of 2014, depends on its port of Rotterdam, the single largest destination for Russian exports last year, receiving shipments of oil that are then dispatched across the EU.

The Netherlands also needs to safeguard its own energy supply from countries including Russia after earthquakes forced it to cut output from one of its most important gas fields.

Other eurozone countries depend on Russia to buy certain goods and services, even if in most cases it is not a top overall export market. Italy exported €12.7 billion to Russia last year, while France, at more than €10 billion was not far behind. Austria, which has long had close energy and financial ties to Moscow, exported €4.6 billion.

The largest repercussions may be felt from potential restrictions on Russian banks' freedom to refinance themselves in Europe. This would hit Russia's two biggest banks, Sberbank and VTB Bank, whose Austrian arms were recently taken under the watch of the European Central Bank.

Any retaliation by Moscow could affect European banks active in Russia, such as Italy's UniCredit, Austria's Raiffeisen or France's Societe Generale.

For some small European countries that offer off shore financial services, flows of funds from Russia have been disproportionately large. Russian individuals moved more than $33 billion into tiny Cyprus, Ireland and Luxembourg last year, according to data from the Bank of Russia.

European banks, meanwhile have lent tens of billions to Russian industry and would suffer if they were not repaid. Russian companies, individuals and banks have borrowed more than $650 billion, according to the Bank of Russia, much of which analysts believe is owed to European banks.

For now, however, it appears that European politicians believe that sending a political signal to the Kremlin is worth the economic cost.

"These sanctions are harder than anything we have ever had before," said James Nixey of British think tank Chatham House. "It will hurt a little bit but it's a down payment on the future security of Europe. It's a question of Western credibility."

EU meets to thrash out economic sanctions on Russia on EurActiv

EU meets to thrash out economic sanctions on Russia

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Comments

an european's picture

"Russia will retaliate"??!!
Maybe a king of menace of Mr. Putin.

Do we have forgot who annexed Crimea ? Insurgents trying to take power of Ukrainian states ?
Has Putin ever undertaken anything to stop it ? Or separatists who shot down the MH17?
No he merely waits until things goes insidiously to his advantage !
I think It's the Europoean Union or at least the Eurozone this time not to LET influence by Russia!
I ask me ! Have Europeans Leader a little sense of selfdetermination ?
Or only selfinterests ?

Jay's picture

Self Determination? You kick that one around like it was football. Typical western response when it fits your goals, not so for others that oppose your ideas.

Under international law –something western countries love to cite when their interests are at stake, sanctions are illegal under UN charter 41 except in certain circumstances imposed by the UN. But who in the west ever let international law hinder their agenda? EU has their own set of rules outside of the UN charter -why bother to have a UN? Of course Russia is not allowed to have their own rules, that would violate EU hypocrisy -can't have that now can we?

Sanctions are the same as a declaration of war if one views it through historical lenses. It doesn't matter weather it's diplomatic, economic, military, trade, or sports, targeted countries will always find a way around the limitations.

In the short run the west will see some minor victory but in the long haul it's doomed. Between Russia and China and their many allies, the petro dollar will see a drastic rate of decline in usage as the world's currency. Therein is the death bell tolling for the holier than thou US empire and Europe may very well fall with it.

an european's picture

@Jay
" kickin' like it was football ?.
Well Putin didn't play footbal wit us but merely Pac Man grabbing further to gain deeper european territory gaining powers despite whatever cost of lives .He's still continuing and doesn't make a game over !
You can call sanctions a same as an declaration of war but take in mind in war people dies and in sanctions economy degrades - per definition!
I would say after all that the European continental Union had tried with more diplatic solutions to reach an agreement - merely than to be in "hypocrisy" but fine to see that the E.U. shows that they indeed have "balls" !
Ah forgot ..
Putin banned the MC Donald and replaced it proudly with " Russian Burger " after the superfast 1-day-annexation of Crimea - in other terms - Putin doesn't care a f*ck about western negotiations !

Concerning your last section about the BRICS Worldbank currency competitions loving to eradicate the dollar and the Euro there is again a solution for this too !
As long as our not only advanced technologies of goods in general are exported then we still sell theses on Euro or Dollar !
(No need for a painful hate against Europe and America )
But I love the Sacrum Romanum Imperium in which traces of it are still circulating in our blood !

El Pluribus Unum

Jay's picture

Following 21WIRE’s initial independent investigation into the downing of Malaysian Airlines Flight MH17, hundreds of thousands of readers now have a clearer insight into what appears to be a failed false flag operation designed to assign blame for the tragedy – to eastern Ukrainian rebels and Moscow. Fortunately, the world is waking up fast to this latest tale of overt deception by neo-fascists in Kiev, Washington and its NATO allies, but the danger stakes are now higher than ever, as western planners are even more desperate to expedite their plans to re-polarize the globe into a binary conflict.

https://www.youtube.com/watch?v=b67OGUsQC44&feature=player_embedded

US is like the Austrians wanting to persuade the world that Hitler was German and Beethoven Austrian.

Russia does not and in some cases will not accept dollars for energy payments. I expect other nations will soon follow suit.

Jay's picture

To: an european

I really have fond memories and friends Sacrum Romanum Imperium, still see the woman I had a crush on when I was 14yo. I don't want my country which carries El Pluribus Unuma on it's seal and coins involved in a war with Russia. The Europeans used to have the balls to stand up to the world's foremost polieman -what happened? You got greedy for expansion!