The Coming Global Recession, Helped By Europe’s ‘Green War’ With Russia
Inflation, thanks to unpresented money printing and Universal Basic Income test-drives during an unprecedented China-style lockdown of the U.S. economy in 2020—2021, is now eroding living standards.
The U.K. inflation print on May 18 was 9%. How transitory is this? If Europe keeps the pressure on commodities in its economic war with Russia, then the answer is – as long as Europe and Russia are sanctioning each other to smithereens.
As I predicted here back in February, before the Russian siege of Mariupol, and before much of the Donbas region fell to Russian military control, the war in Ukraine was going to be terrible for Europe.
And Europe is not going to be the only one. Western markets (G-7) are more enmeshed than U.S.-China markets.
The S&P has been on a losing streak for six weeks. If it loses for 8 weeks in a row, that’s a record breaker. It’s down over 20% year-to-date.
The Nasdaq is in similar territory. As is China, as measured by the CSI-300.
Europe can only get worse from here, barring the European Central Bank buying DAX and CAC-50 blue chips without telling us.
France just went through an election, and Emmanuel Macron saw his populist opponent, Marine Le Pen win more votes of those under the age of 50, than Macron. There are parliamentary elections coming up this summer, another test for how the Macron government is handling a series of non-stop crises since the pandemic started in 2020, and the adults and expert class returned to power in Washington.
Speaking of which, the Democratic Party is worried.
There is constant talk of pulling tariffs off China to fight inflation. But this is highly unpopular, according to a Morning Consult poll. Nomura said in a note to clients last week that “rolling back tariffs is unlikely to have a meaningful impact on U.S. inflation.”
Midterm elections are expected to turn the tide in the House for the Republicans, and maybe in the Senate, as well. Pretending to fight inflation by opening the flood gates to China imports is bad policy and against voters’ interests.
Even Janet Yellen is worried. The markets take her seriously.
This month, she warned President Biden that sanctions against Russia and retaliatory sanctions imposed by Russia against the U.S. and Europe risk plunging the world into a deep global recession. No one in Europe is getting Russian fertilizer or wheat. Oil will be cut off by the end of 2022, with a few exceptions. They are still buying natural gas, but claim to be trying to buy less as they wean themselves off of it to source from elsewhere, including Qatar, Nigeria, Algeria, and more expensive American LNG.
Europe wants to go green anyway, so this is a Godsend for them. They can power their aging economy with Chinese made solar panels and windmills…while they still make them.
Yellen raised doubts about whether Europe buying less Russian fuel would really hurt the Russian economy. Higher oil and gas prices will make up for lower volume.
She said that while it made sense for the European Union to diversify away from its dependence on Russian energy, an embargo or a Russian retaliatory ban would cripple the EU. As it is, Russia is demanding payment in rubles, sending the ruble back to pre-war highs against the dollar and euro.
The U.S. wants to become a supplier of energy to Europe, replacing Russia, so all of this is in American foreign policy and economic interests. Washington is wooing the Europeans by sending them oil from our strategic petroleum reserves to refine into gasoline, which is one reason why the market sent gasoline prices to nearly $5 a gallon over the last three weeks.
This can’t possibly go on. The Biden administration has to get gas prices lower by the November mid-term elections – or else face major Republican victories in November.
Economic problems are not limited to the Euro-Atlantic zone.
China’s lockdown of Shanghai, the busiest port city in the world, is creating logistical bottlenecks that are also inflationary and bad for the economy. The good news, it looks like the Chinese leadership is about to end lockdowns there.
After looking at that chart, if you’re a global investor, the MSCI Qatar ETF is looking pretty good right now. The VanEck Russia ETF would have looked good. But that’s been canceled.
The Russia-EU Green War
Russia brought back the specters of the past invasions of Western Europe. The Germans remember Berlin being captured by the Russian troops twice, in the eighteenth and the twentieth centuries. Paris was seized in 1814. Vienna in 1945, and Budapest in 1848 and 1945.
The EU has already done all the damage it could have possibly done to Russia by siding with the U.S. and banning the Central Bank of Russia from accessing its dollar and euro reserve accounts in their countries.
Many major EU companies are leaving the country, including Shell Oil and BP. The only thing the EU has not done is ban Russian energy. That’s because Russian hydrocarbons are about 30% Europe’s base oil supply and 40% for natural gas. That number is higher for some countries (Germany), lower for others (France).
If Russia shut down Nord Stream I, Europe would have rolling blackouts and energy rationing in a worst-case scenario. This could happen any day.
“I still believe that a full cutoff of Russian gas supplies to Europe and a Eurozone-wide recession will be avoided,” says Mark Haefele, Global Wealth Management Chief Investment Officer for UBS. That’s their base case as of May 3. “We do see several consequences of the sea change in Western attitudes toward Russian energy,” he admits. “These are likely to have implications for investors in both the near and longer term.”
Natural gas prices as high $3,500 per 1,000 cubic meters are expected next winter in Europe if this war keeps up, according to Rystad Energy. Natural gas prices are already rising in Europe, though most of this is due to market speculation making matters worse.
Because Europe is saying no more Russian piped gas, demand for LNG from the world’s second largest economy (when considering EU as one) is driving prices up and up.
Global LNG demand is expected to hit 436 million tons this year, outpacing the available supply of just 410 million tons. A “perfect winter storm” may be forming for Europe as the continent seeks to limit Russian gas flows, Rystad analysts said on May 8. The supply imbalance and high prices will set the scene for the most bullish environment for LNG projects in more than a decade, although supply from these projects will only provide relief from after 2024.
The European Union’s REPowerEU plan has set an ambitious target to reduce dependence on Russian gas by 66% this year – an aim that will clash with the EU’s goal of replenishing gas storage to 80% of capacity by November 1.
By Rystad’s estimates, Europe’s move away from Russian sources of energy have “destabilized the entire global energy market” that began 2022 in a delicate balance of supply and demand.
The EU’s announcement to reduce reliance on Russian piped gas and by as much as 40% in the next few years will transform the global LNG market, “resulting in a steep increase in energy-security based European LNG demand” that current and under-development projects will not be able to supply, Rystad estimated this month.
Russia sold 155 billion cubic meters (Bcm) of gas to Europe in 2021. Replacing that will not come quickly and will have dire consequences for the European economy, potentially driving it into economic stagnation and a painful recession, derailing the post-pandemic recovery.
This will also likely create a boom for LNG producers in the U.S. of a scale and duration not seen in over a decade: LNG exporter Cheniere Energy is up over 30% year-to-date.
“There simply is not enough LNG around to meet demand. In the short term this will make for a hard winter in Europe. For producers, it suggests the next LNG boom is here, but it will arrive too late to meet the sharp spike in demand. The stage is set for a sustained supply deficit, high prices, extreme volatility, bullish markets, and heightened LNG geopolitics,” says Kaushal Ramesh, senior analyst for Gas and LNG at Rystad Energy.
On the geopolitics side, Germany is acting like Venezuela and nationalizing foreign country assets. They took over Gazprom Germania in early April. Then Russia one upped the Germans and banned all Russian companies from selling fuel to the once Gazprom-owned subsidiary.
In April, Washington Post reporters Evan Halper, Steven Mufson and Chico Harlan wrote that in almost every instance, the next 18 months “are going to be a harrowing time for Europe, as the impacts of high prices ripple around the world and governments struggle to power their factories, heat their homes and keep their electricity plants running.”
Bundesbank, Germany’s central bank warned that the country’s economy could shrink by 2% if the war persists. Watch for energy rationing. And not just in Europe. We could be dealing with that in the U.S., says Steven F. Hayward, a resident scholar at the Institute of Governmental Studies at UC Berkeley.
“President Joe Biden and the Democrats seem determined to repeat every policy mistake of the 1970s, and it might not end until Biden attempts to impose price controls and rationing,” Haywood wrote in a New York Post op-ed on May 18.
Nevertheless, Russia can only be so savvy. It remains a commodity play, and not much else. The economy is already in a recession.
According to a Bloomberg forecast, Russian GDP will fall by 9.6% in 2022 with a peak quarterly GDP decline reaching –15.7% versus a year ago. Russia’s government forecasts a 6-8% decline, but this is too optimistic, given there is no end to the war in Ukraine.
The history of the last three decades shows that Russian GDP was falling by up to 16% at the peak of the transformation crisis at the beginning of the 1990s, by 5% during the sovereign default crisis of 1998, by up to 9% during the global crisis in 2008, and by just 3% in the local crisis phase in 2014 when the Russia-Ukraine divorce began in earnest.
The currently predicted decline exceeds in magnitude all of those previously observed during normal crises and is comparable to the one during the most painful transformation crises, economic research firm Vox EU says.
How Bad Can It Get?
The U.N. is reportedly trying to facilitate talks with Russia, Ukraine, Turkey, the European Union, and U.S. on restoring grain exports out of Ukraine.
United Nations Secretary-General Antonio Guterres is warning of famine because of wheat exports stuck in Ukraine.
Is this an exaggeration? Maybe. The UN warns of famine every other year it seems. They did so in 2021 and there was no war anywhere outside of Yemen.
Back in March, Foreign Policy magazine published an article sourcing the IMF saying that Ukraine wheat delays would be a major food security issue for parts of Africa. With Russia continuing to dominate the Black Sea and launching a war effort to capture the principal Ukrainian ports of Mykolayiv and Odessa next, there are no easy ways for Ukrainian wheat to reach its traditional markets in Middle East and Africa at this time.
In April, David Malpass, president of the World Bank, told CNBC that a global recession was not their baseline scenario. Is it now?
Much of this will depend on Europe, the U.S., and the war in Ukraine.
The U.S. is escalating, with the Senate voting to approve a $40 billion military aid package. That’s roughly 23% of Ukraine’s GDP. Europe is pushing back on escalation, but is not offering much in the way of mediating talks between the Russians and Ukrainians. Europe knows an extended war means a deeper recession, and the possibility of the kind of civil unrest countries in the EU have seen in regard to higher fuel prices and Covid policies. Europe has been on tenterhooks since 2008. Now it has a war on its Eastern border.
If the U.S.-Russia proxy war in Ukraine continues, the chances of a global recession grow higher by the day.
Investors know it. Whether it’s a crypto fund, a quant fund, or mutual fund, money managers are building cash, picking their spots, and – like the rest of us – trying to read between the lines of the Western media’s portrait of the biggest war since U.S. and the Soviet Union won World War 2 against a brutal European dictator.