Ukraine & Russia: Too weak to win, too strong to lose

Almost 500 days into what Russian President Putin calls the ‘special military operation’ the Ukrainian military forces have launched their long-expected ‘counter-offensive’ according to Ukraine’s President Zelensky. The war has taken a darker turn after the destruction of the Kakhovka hydroelectric power plant and dam; the global economic prospects as a result have become even gloomier, if that’s possible. Both sides rushed to blame each other for the disaster; and it’s true that territory of both Ukraine and Crimea, annexed by Russia after 2014, are suffering as a result of the dam’s collapse. Both territories now have limited access to fresh water, probable sanitation problems and greater risk of waterborne disease.

Europe has now slipped into stagflation, after two successive quarters of paltry gross domestic product (GDP) results combined with average inflation of 6%, much higher in some countries such as above 20% in Hungary. Europe’s worst war since 1945 is now stagnating too. Ukraine and Russia are too weak to win but too strong to lose this war.

Food insecurity

The United Nations has published a report assessing the sanitary, energy and other associated consequences of the breaching of the dam.  Human suffering is horrible wherever it occurs, but this newsletter is focused on economic matters – and the loss of the Kakhovka dam was immediately felt in the markets for grains and oilseeds such as sunflower oil. On the Chicago Mercantile Exchange the price of wheat rose by 2.4% the day the dam burst. More than 55% of Ukraine’s land is dedicated to arable production; agricultural products are the country’s most important exports, accounting for $27.8 billion (41% of the total) in 2021. The US department of agriculture says that Ukraine produces a third of the world’s sunflower seeds, sunflower oil and sunflower meal. The lion’s share of Ukraine’s agricultural exports (more than 90%) typically go to the Middle East and North Africa, but prices are international; Ukraine’s lost agri-exports as a result of the war are close to 75% of those from the last year of peace, about $34 billion in total according to the International Food Policy Research Institute. Estimates of Ukraine’s 2022/2023 harvest vary but the consensus is for a drop of around a third from the previous season. The UN’s Food and Agriculture Organization’s price index, which tracks the most traded food commodities, such as cereals, dairy and vegetable oils, shows that food commodity prices have fallen by 22% in the past year. The extreme volatility in food prices – the International Monetary Fund (IMF) reported that global food commodity prices went up by 40% in the two years prior to Russia’s invasion of Ukraine – is merely snoozing. Food price inflation is something we have all experienced but not as badly as some countries; in Zimbabwe food price inflation has reached 285% says the World Bank. The expected decline in Ukraine's harvest this year will drive cereals' prices back up again. Trade has tightened; the World Bank says that 19 countries now have food export bans.

It's not only cereals' prices that are being affected. The Dollar is vulnerable too. Countries have started to doubt the wisdom of holding foreign reserves in Dollars, seeing that Russia’s have been placed in a cryogenic chamber and pressure is growing to confiscate and use them to help rebuild Ukraine. If that happened it would kill the Dollar as an international reserve currency. Some countries have run out of Dollars; Pakistan, which has inflation of more than 30%, has started barter trade with Afghanistan, Iran and Russia because its Dollar reserves are so low. Despite sanctions the Russian economy has, thanks to China and India buying its oil and gas, survived. Some are profiting from the war; sellers of old oil tankers, now being snapped up by Russia, for example, or owners of oil storage tanks in Singapore, where Russian fuel can be blended, disguised, and re-exported.

Russian exports of oil and coal have continued to flow at “close to pre-war volumes” says Gavin Thompson, vice chairman for energy in the Asia Pacific at Wood Mackenzie.

Escalation

We know the war ‘aims’ of President Zelensky – to recover all territory, including Crimea. We do not know Russia’s aims. We will not discover the truth of who was responsible for the demolition of the Kakhovka dam for many months, if at all. But it’s clear that it marks a new escalation of the war. It prevents Ukraine from launching its counter-offensive in the southern Kherson region, which is now flooded.

But more than that; it shows how, 16 months into this conflict, neither side is really strong enough to ‘win’. It's estimated that more than 350,000 Russian and Ukrainian troops have lost their lives so far. Russia’s population is three times that of Ukraine. President Putin has much in reserve – not least he has yet to call a full mobilization, which could sweep up around one million more troops, although they could not be put into the fight immediately. Behind those troops there is the regularly mentioned threat of ‘tactical’ nuclear weapons, which some commentators have blithely dismissed as being a taboo that cannot be broken, although this war has shown how little taboos matter.

Ukraine is sacrificing its soldiers against well-prepared Russian defensive positions, not solely because it hopes it can win a military victory but because it needs to demonstrate to the West that it is willing to fight for itself. President Zelensky knows that time is running out; the $77 billion that the US has given to Ukraine to support its fight may well dry up 18 months from now if a Republican wins the 2024 Presidential election. Public support for aid to Ukraine has fallen from 60% in May 2022 to 48% currently according to a poll by the Associated Press-NORC Center for Public Affairs Research; a recent NBC News poll found that two-thirds of Democrats support more funding to Ukraine, just one-third of Republicans do. Time is on President Putin's side.