The economic consequences of the war in Ukraine

Blain’s Morning Porridge April 21 2022 – The economic consequences of the war in Ukraine

“The Ravenous Bugblatter Beast is so mind-boggling stupid it thinks if you can’t see it, it can’t see you. Therefore, the best defence is to wrap a towel around your head.”

This morning: The Ukraine War has catalysed a tsunami of negative economic events around the global economy – and markets are remaining pretty much blind to the long-term consequences.

Earlier this week I was chatting to a client with a keen interest in economic history about the unprecedented effects of: “a small regional conflict in Ukraine, and the global economy has gone to wracksh*t.”

It’s clearly not a little war if you are the last stand defenders of Mariupol, or preparing to pushback waves of T-72s on the Donbas front, but you would be hard put to find a historical example of a regional conflict triggering the magnitude of uncertainty or such deep biting global trade ructions around the globe, without it turning into something even more destructive and wide-ranging.

Forget the geopolitical ramifications for a moment. The waves of tectonic economic instability unleashed by the Ukraine conflict have shocked and caught the global commentariat of politicians, central bankers, economists and investment analysts off guard. Inflation from agribusinesses, energy and supply chains is spinning unchecked – and, like a nuclear reaction, they are triggering a host of follow up consequences. It feels a little bit Chernobyl – the reactor is going critical! Our cosy assumptions about how the interconnected globalised economy was supposed to work are being rocked to the core.

Unsurprisingly, global markets aren’t showing anything like as much concern. Yesterday’s spanking of Netflix by a mind-numbing 35% plus tumble will be this morning’s topic on trading desks. They will wonder if its another nail in SPACS or which firm goes next. But they won’t be thinking through the implications of inflation on consumer discretionary spending on growth.. that’s complex…

Consequences and tomorrow are overly difficult notions for most day traders. Markets prefer binary questions.  War in Ukraine? Let’s buy defence stocks…. Food crisis? Ok, more wheat and rice… Supply chains? Doesn’t seem to be a problem for Tesla. If they think beyond today, markets are focused on central banks interest rate policy, and figuring out just how sustainable relative stock prices will remain. As usual – markets remain focused on the short-term, almost blind to anything beyond their own time frame.

As I’ve said before; there is a massive difference between the way markets trade, and how to invest in them.

I am convinced the market is significantly underestimating how the rollover from Ukraine consequences will hit the global economy – and thus long-term markets…

More to the point, the Ukraine war is raising massive issues and consequences around how governments can respond to the multiple global challenges it throws up. It is also throwing government failures to address pre-existing economic malaises and issues into stark relief. The failure of the West to anticipate a global shock, redrawing geopolitics, and supply chains looks like it has close parallels in 1930s appeasement.

This week the IMF has warned global growth will slow significantly as a result of the Ukraine war – down to 3.6% from 6.1% last year. They see impacts across emerging economies from higher food and energy costs causing significant economic pain and plunging millions into poverty. Businesses with high cross-border elements are set to contract dramatically – from airlines to software as nations increasingly look internally. Rising interest rates to combat inflation will simply further slow growth – financial tightening triggering an aggressive negative feedback loop across highly indebted nations and corporates.

Meanwhile, China’s pandemic lockdowns, the ongoing ructions in real estate and banking are no-doubt rising tensions within the leadership as the economy adjusts to a growth shock will spread through the global economy. Its simply too easy to assume China’s mono-leadership has magic solutions the rest of the globe is unaware of.

In the UK, the crisis is throwing the bumble, bluff and bluster of the Boris Johnson Brexit promise into stark relief. 5 years and 10 months after the vote that propelled Boris (eventually) into No 10, its still impossible to discern any coherent plan or programme to establish the UK within new trading blocks, or redefine the relationship with our largest trading parters. Its all still stunningly unclear how the UK will thrive in a post Brexit, post-pandemic, post Ukraine world… The Pandemic certainly didn’t help, but over its 3 years the current UK government has stumbled from one embarrassment to the next – and a leader now guilty of breaking his own lockdown laws. (Where is the Red Queen when we need her?)

The US is little better. Its desperate need to reform and rebuild its ailing infrastructure and decaying social systems has become the ultimate no-go-area. The political parties see their role as primarily to stop the other guys actually doing anything. They’ve succeeded – thus ensuring the US becomes progressively less and less effective, and more and more divided.

Then there is Europe. Full credit to Marcus Ashworth in his piece yesterday: The ECB Must Act Soon to Avoid a Currency Crisis. Inflation is being accelerated by dollar strength – while the Euro is being increasingly seen at risk through the failure of the ECB to address inflation by stemming monetary stimulus. Of course.. its very difficult for the multi-member ECB to actually agree on a course of any action that could destabilise the weaker economies and a debt crisis for Italy, Greece and whomever. Suddenly, the global economic position threatens to reopen the gaping flesh wounds hidden by the ECB and Euro’s construct.

And then there is the problem of actually fighting the economic war against Russia. Germany is slowly being pushed towards closing its energy connections to Moscow – a clear example of previous energy security incompetence – but that will come at enormous cost to the German economy… triggering the consequences of it becoming more difficult for German politicians to countenance polices that look like transfers from Germany to the rest of Europe. Convoluted or what… ?

This coming weekend we have the Marine le Pen vs Emmanuel Macron. It’s a low risk moment. Macron should win – because no one likes a far-right bigot (is the conventional wisdom)… but no one really expected Brexit. As I wrote a while ago, if the French election was even a month later it’s entirely possible the European economic situation will have become significantly worse, triggering a larger shift to the populist right – and le Pen sounds much better.

My prediction is Macron will comfortably win – but if not… Europe will take a spanking on Monday morning.

Meanwhile… an increasing number of investment banks are predicting recession as central bank tightening and the war unravel plans to smoothly address rising inflation. I’ve even seen one call for cash to outperform stocks and bonds – not sure about that… I’d be in Gold at that stage!

The bottom line? This is getting more complex every day…

Five Things to Ponder Around Today

FT – Bill Ackman sells entire Netflix state at roughly $400 mm loss

BBerg – Elon Musk’s Shanghai Bullishness Belies Supply Chain Snarls

WSJ – Buying a Tesla Will Remain a Luxury

Torygraph – Ditch Banks and buy Energy stocks to beat this world crisis

FT – Baille Gifford’s James Anderson: “There will always be the Ides of March out there”

Out of time, and back to the day job… unlikely to get a porridge out tomorrow due to early morning meetings in London..

Bill Blain

Strategist – Shard Capital