Russia-Ukraine war means there’ll be no return to normality for

The war in Ukraine and the ensuing economic sanctions imposed on Russia will cause far bigger shifts for Europe’s economy and markets than previous crises like the coronavirus pandemic, economists have said.

In light of Russia’s unprovoked invasion of Ukraine, European leaders have been forced to rapidly accelerate plans to reduce their outsized dependence on Russian energy. The European Parliament on Thursday called for an immediate and total embargo of Russian oil, coal, nuclear fuel and gas.

However, this aggressive decoupling comes at a price for the European economy, driving up already high inflation to record levels and threatening to undermine the manufacturing recovery that began last year as economies attempted to re-emerge from the Covid-19 pandemic.

ING Head of Global Macro Research Carsten Brzeski noted last week that Europe is particularly at the risk of losing international competitiveness as a result of the war.

“For the continent, the war is much more of a game-changer than the pandemic ever was. I’m not talking just in terms of security and defense policies but notably about the entire economy,” Brzeski said.

“The eurozone is now experiencing the downside of its fundamental economic model, that of an export-oriented economy with a large industrial backbone and a higher dependency on energy imports.”

Having benefited from globalization and the division of labor in recent decades, the euro zone is now having to ramp up its green transition and pursuit of energy autonomy, while at the same time boosting spending on defense, digitization and education. Brzeski characterized this as a challenge that “can and actually must succeed.”

“If and when it does, Europe should be well-positioned. But the pressure on household finances and incomes will remain huge until it gets there. Corporate profits, meanwhile, will remain high,” he said.

“Europe is facing a humanitarian crisis and significant economic transition. The war is taking place in the ‘breadbasket’ of Europe, a key production area for grain and corn. Food prices will rise to unprecedented levels. Higher inflation in developed economies could be a matter of life and death in developing economies.”

Brzeski concluded that financial markets were “misguided” as European stocks attempt to grind higher, adding that “there’s no return to any sort of normality of any kind right now.”

Debt sustainability concerns

This tectonic shift for the European, and indeed global, economy will place additional pressure on central banks and governments caught between a rock and a hard place in juggling inflation against fiscal sustainability, economists acknowledge.

In a note Thursday, BNP Paribas predicted that a faster drive to decarbonize, higher…