- Europe is expected to have higher economic risks from the Russia-Ukraine conflict than the U.S.
- Despite being a significant exporter of natural gas, gasoline and food prices will still cost more in the U.S. because of continued supply chain issues and triggering higher inflation.
- Russia and Ukraine have small economies compared to the U.S. but export agricultural products and semiconductor components.
- Increased business uncertainty from the tighter financial situation is likely to ensue.
- The Fed is likely to continue with interest rate hikes later in the year as inflationary pressures persist.
Price Increases and Danger of Economic Recession
Existing supply chain issues will continue and may intensify due to the conflict between Russia and Ukraine, and increases in the price of gasoline and food will raise fears of a recession. Reuters reported that inflation is currently at a 40-year high, reaching 7.5% in January, and the increase in the prices of essential commodities like gasoline and grains does create uncertainty among consumers.
According to a CNBC report, Wall Steet Economists Wells Fargo’s chief economist, Jay Bryson, sees higher inflation and slower growth, but not enough to create a recessionary climate. “Consumer confidence is expected to falter slightly, but not dramatically,” according to Bryson.
Weak Trade Links and Supply Chains
A Goldman Sachs Group report also indicates the direct effects of the conflict will pose a limited threat to the U.S. economy, mainly because of the weak trade links between the three countries. However, higher energy prices will affect Europe more.
The combined account of Russian and Ukrainian imports and exports is less than 1%, resulting in a minimum impact on trade. Since the United States also exports natural gas, the price effects are limited. Unfortunately, there is a danger that the conflict may affect trade between the U.S. and its important trading partners in Europe.
Despite their high output of agricultural products, Russia has a smaller GDP than the state of New York, despite being a vast military power. On the other hand, Ukraine’s economic output is similar to Nebraska’s.
Impact of Higher Prices
However, the surge in oil prices from reduced Russian production can impact other costs significantly. With Brent already reaching $105 a barrel late last week, households can expect to have less money available to spend on other consumer goods.
The increase in oil prices and supply chain issues will raise core inflation, leaving Americans with higher inflation issues and an increased cost of living. Another industry set to feel the pressures are automakers relying on palladium for catalytic converters. The largest supplier is Russia, and with palladium prices already at their highest level in almost a year, disruptions to supply will impact production. Adding to the problem is the shortage of semiconductor chips caused by the pandemic.
One-quarter of the global wheat supply and 70% of sunflower production comes from Russia and Ukraine. Since Ukraine is also a significant corn exporter, the prices of these commodities will surge. The effect on consumer prices is not that big, but these increases can add up to 0.4 percentage points to inflation rates. Russia and Ukraine also export more than a quarter of the world’s wheat, and Ukraine supplies a significant amount of corn globally.
Just hours after the invasion of Ukraine by Russia, U.S. stock indexes dropped only to recover after President Joe Biden announced a package of sanctions against Russia. Consumer demand and confidence drop when there are plunges in the stock markets. These tremors in the stock market follow a period of excellent performance after the dramatic drop at the onset of the pandemic. Today American households hold a record share in mutual funds and stocks, and a decline in prices will affect consumer sentiment and spending.
The more countries pressure Russia with sanctions, the more Vladimir Putin may risk taking countermeasures. He has already threatened to use Russia’s nuclear weapons arsenal, and some people even believe that he may unleash cyber-attacks on government or financial databases.
Any threats of a broader conflict in Eastern Europe will affect the U.S. economy by placing price pressures due to commodities and goods shortages. As a result, monetary policy tightening would become unavoidable, driving uncertainty and weaker consumer sentiments.
Trade disruptions and increased energy prices are just two of the impacts of the conflict between Russia and Ukraine, leading to tighter economic environments. However, the effects on the U.S. will most likely remain smaller than in Europe. As a result, financial tightening is highly unlikely in the U.S. However, the Fed is still expected to raise interest rates in March to help ease the current inflation risks, which will likely continue doing well into 2023.