'Down the Rabbit Hole'
The Sterling Report

FEBRUARY 24, 2022 will go down in infamy as the day Russia invaded Ukraine.

In response, the West has never been more united in a coordinated effort to isolate and punish Russia for its so called “special military operation” in Ukraine. In a few short days many countries have transitioned from the decades-long policy of trying to make peace with Russia to hitting it with sanctions the likes of which have never before been seen. They have frozen Russia's foreign assets. They have removed many of its major banks from the Society for Worldwide Interbank Telecommunication (SWIFT) network. They have also confiscated the mansions and yachts of some Russian oligarchs. Additionally, some of the world's largest companies have been cutting ties with Russia. Even Mastercard and Visa are reportedly blocking Russian transactions. Indeed, Russia is currently the subject of some of the harshest economic sanctions ever imposed upon a country.

To add further fuel to the fire, the US has imposed a ban on Russian oil imports. However, so far, no other country has accepted the challenge. This is quite understandable given Russia's importance in the energy sector.

Russia is the world's third-largest producer and second-largest exporter of oil and accounts for about 10 per cent of the world's oil supply. Most of Russia's oil exports go to Europe. Countries such as Finland and Hungary import virtually all their oil from Russia. Poland reportedly gets more than 55 per cent while Germany and the Netherlands receive more than 40 per cent. In addition, the European Union gets almost half of its gas from Russia, a dependency which has been growing in recent years.

Imposing large-scale energy sanctions on Russia would therefore risk adding more pressure to an already supply-constrained market. This would mean even higher oil and gas prices worldwide which would fuel even higher inflation, thereby causing central banks to deploy tighter monetary policies and likely halt the ongoing global economic recovery from the novel coronavirus pandemic. Hence, most countries have carefully crafted their sanctions to avoid targeting Russia's energy exports.

The US, however, is far less dependent on Russian oil than Europe. For instance, less than 10 per cent of US oil imports came from Russia in 2021. As such, the US is much better equipped to wage an energy war against Russia than its European allies and as such, it remains unlikely that they will impose a full oil embargo like the US. Germany, for instance, given its influence as the biggest economy in the Euro area and the world's fourth-largest economy, has so far resisted calls from the US to impose a ban on imports of Russian oil and gas. Nevertheless, the European Commission has been emphasising the need for Europe to be less dependent on Russian oil and gas and shift towards more environmentally friendly energy alternatives.

The collaborative effort to immediately impose sanctions on Russian oil and gas could potentially cripple the Russian economy and hasten the cessation of hostilities in Ukraine. However, given Europe's heavy reliance on Russia for energy supplies it is unlikely that the EU will follow the US down the metaphorical rabbit hole.

Eugene Stanley is the VP, fixed income & foreign exchange at Sterling Asset Management. Sterling provides financial advice and instruments in US dollars and other hard currencies to the corporate, individual, and institutional investor. Visit our website at www.sterling.com.jm

Feedback: If you wish to have Sterling address your investment questions in upcoming articles, e-mail us at: info@sterlingasset.net.jm


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