COLM MCGRATH, Managing Director, Surety Bonds, writes that despite the enormous economic impact of the Russian war on Ukraine, the markets will adjust and that by holding its course, Europe should avoid a recession or lengthy period of stagflation.
My concern at the end of last summer as we headed into the autumn and winter months, which along with the lifting of restrictions and the much-needed return to social life, we would be looking at the energy industry in relation to disruption in supply and whether that would be a short- or long-term global issue leading to higher levels of inflation.
If you had asked me in February if inflation was here for the long term, I would have said that I thought that high inflation in Europe was transitory, but the caveat, of course, was if Russia invades Ukraine, then inflation could hang around longer as the supply of oil and gas are constrained driving up prices, along with other supply chain issues that a war on our doorstep could potentially bring.
Economic impacts of the war
That war has now and forever fractured the supply of energy that we as Europeans have over-relied on for decades, mainly Russia’s supply of coal, gas and oil, a reliance that has come back to haunt us.
To really impact Russia/Putin, we need to cut the supply off at the tap. This will hurt Europe in the short term, possibly even more than the financial recession of 2008, but it is a necessity as it will have the greatest impact on stopping this needless war. The future implications will also mean Putin does not have the stranglehold on European nations he has held for decades.
The combined impact of the pandemic and Ukrainian war has led to an increase in inflation; Ireland circa 7% and the EU circa 8.1% (for May, according to Eurostat) and moved the scenario from a transitory situation to a more medium-term scenario. This means we probably will not see inflation dropping across the Eurozone to its target of 2% or close to that target until the latter part of 2023 or early 2024.
Inflationary pressure now means an increase in interest rates; the European Central Bank (ECB), unlike its US counterpart, the Federal Reserve (FED), looks to be taking a more cautious approach with two increases this year that will bring us to 0%. This approach should taper inflation to some degree, but it is taking into account the impact that the war in Ukraine is severely curtailing the EU’s economic rebound; Move too fast and too hard, and we could be pushed into recession. On 15 May, the European Commission lowered its growth forecast for the Eurozone in 2022 by 1.3 points to 2.7%, at least it is still positive.
Adjustments for inflation
In my humble opinion, inflation will balance out over the next year as the world adjusts and supply chains are rectified. We will find other sources of energy supply, grain, steel, aluminium, etc, alongside modest interest rate hikes. While we are at the end of ultra-low or negative interest rates, lower rates will be maintained across the Eurozone and other first-world countries, there are extensive factors, but a key one is the growing global debt, which stands at 355% of the world’s GDP. In order to manage this debt, lower interest rates in the long term are required.
I suggest that by holding our course, we should avoid a recession or, even worse, a lengthy period of stagflation.
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