The US, UK, and EU countries reacted to the Russian-Ukraine war by imposing powerful economic sanctions targeting the Russian economy. However, history shows that wars can enormously disrupt economic activity, especially international trade, national income, and global economic welfare. Russia and Ukraine’s economies account for only around ( 2.23 Russia +0.16 Ukraine = 2.39%) of the World’s gross domestic product (GDP), and the global economy is estimated to contract by 0.17 percent in 2024. Furthermore, due to sanctions imposed on Russia, its economy is projected to decline by 0.7 percent in 2024 and 1.21 percent in 2025. However, some recent analyses have drawn attention to the fact that the Russian and Ukrainian economies are significant regarding certain strategic goods.
Russia is a leading oil and gas supplier to the European Union, especially in Germany and other Eastern European countries. It is one of the World’s leading nickel producers and an essential input for much of the aluminum, automotive, and other capital goods industries. It is the World’s largest supplier of palladium, an essential component in producing sensors, computers, and catalysts for the automotive industry. It is the third largest producer of titanium sponge, with 13% of the World’s production, a relevant component for the aerospace industry and used as an input in manufacturing oil and gas, paper, and packaging processes. Moreover, Russia is a crucial supplier of fertilizers, being the World’s leading producer of ammonium, nitrate, urea, nitrogen, phosphorous, and potassium.
The sanctions adopted by most Western countries affect the fields of international trade in goods and services, financial flows, diplomatic relations, and the mobility of people. It is also worth noting the unprecedented sanctions on individual people and companies, trying to exert pressure on the Russian oligarchy and the closest circles to Putin. Despite the sanctions, Russia’s factories are humming, its oil and gas sales are relatively strong, and its people are at work in a system retrofitted to be all about the war. Vladimir Putin, meanwhile, appears firmly in charge of the Kremlin. Accordingly, Sanctions and other economic measures alone will not win this war.
On the other hand, Ukraine is vital in producing and exporting industrial and agricultural goods such as titanium sponges (4th largest producer in the World) and in producing inert gases necessary to produce semiconductors. Moreover, Ukraine is the tenth-largest exporting economy of agricultural products, highlighting its position in cereal, sunflower oil, pigs, poultry, and butter. It is an important food supplier to emerging countries such as China.
Studies on the effects of sanctions suggest that up to 1995, sanctions were efficient, but since 1995, their success rate has fallen. However, the sanctions imposed on Russia since 2014 show that strategic firms systemically outperform nonstrategic firms under sanctions, implying a cost of shielding to the regime that adds substantially to the total cost of sanctions. Introducing new sanctions to Russia significantly lowered firm‐level probabilities of serving these sanctioned markets. Firms that depend more on trade finance instruments are more strongly affected, while prior experience in the sanctioned country considerably softens the blow of sanctions. There is also evidence for sanctions avoidance by exporting indirectly via neighboring countries.
From a macroeconomic point of view, the possible economic impact of the war and the economic sanctions against Russia are two simultaneous shocks operating through two different channels: prices and trade. Both are expected to impact the economic activity of each country and region in Europe. Two possible short‐term impacts should be noted:
First, the drop in production and export activity in both countries related to the war and sanctions will produce shortages in the markets where both economies are essential, especially those related to energy and food products, generating immediate tensions in prices, with its derived effects on the rise in production costs and its corresponding translation to the general price indices of most countries and regions. Such a price rise is expected to generate additional effects on the demand side by reducing the consumer behavior of households and firms. Likewise, it is possible to expect supply problems in essential parts and components for specific industries, which will again result in interruptions in normal production processes.
Second, the military conflict and the restrictions imposed by NATO countries and Russia will reduce trade with Russia and Ukraine. Reducing such transactions will also decrease the GDP and employment in the source countries. Moreover, the intensity of such an effect will be conditioned by the degree of previous trade relations.
The adverse supply shock
The adverse supply shock is an unexpected reduction in the trade supplied for a commodity for any given price. Such a situation could result from natural disasters, pandemics, or significant political upheavals like war. In the short run, an economy‐wide negative supply shock will cut the aggregate supply curve, decreasing the output and increasing the price level. The sudden price increases imposed by OPEC in the 1970s appeared as adverse supply shocks to oil importers, and the imposition of an embargo on trade in oil would cause an adverse supply shock since oil is a crucial factor of production for a wide variety of goods. The economic consequences of adverse supply shocks by oil and loans lead to higher energy prices. Single commodity adverse supply shocks usually generate macroeconomic disturbance, usually in the form of inflation. The Russian–Ukrainian war resulted in several adverse shocks for different commodities.
The sanctions’ effect on trade and finance
For the European regions, within the trade effect, indirect effects are more important than direct effects, something that indicates that, although the direct exposure to Russian and Ukrainian economies is low, the high relevance of the most affected sectors (energy and food), and the higher exposure of some large EU economies (Germany and the Eastern Europe), tend to magnify the indirect inter‐sectoral effects over the whole European economy. Regarding the territorial distribution of the impacts and focusing on the worst scenario, the most significant effects are obtained in Cyprus and all the Eastern European countries, especially Lithuania, Slovakia, Latvia, Estonia, and Hungary. Ireland, Liechtenstein, and Luxembourg also have solid impacts for other reasons.
Additional factors determine economic resilience, such as withstanding shock and adapting to new conditions.
First, the magnitude of the direct and indirect effects of the war and the economic sanctions will depend on the magnitude of the event, both in terms of the degree of destruction inflicted on the economies of both countries and the decision with which such measures are applied.
Second, the breadth of the actions taken against Russia, or those that Russia could take against the rest of the countries. The outcome will be different if the economic measures include energy (gas and oil) or raw materials, where Russia’s position is dominant.
Third, the duration of the war and the sanctions will determine the scope of the effects. Regarding the price shock, the longer the period of economic blockade, the greater the risk that the shock will become structural, generating second‐round effects. The duration of the conflict and the sanctions also favor the strategic actions of agents to reduce their exposure, changing their consumption patterns. Specific technological and organizational changes depend also on this factor. The reaction of the energetic sector is critical in this regard.
The emerging policy implications point to two main problem areas that must be addressed.
First, the adverse supply shock will increase product prices from Ukraine and Russia. In the latter case, it is mainly fossil fuels, minerals, and metals.
Second, Eastern Europe’s old economic colonial‐like structures materialize in the regional effects. It is no surprise to find the former Soviet Union republics, as well as the former Communist satellite countries, to face the most brutal negative hit of the adverse supply shocks emerging in the wake of the Russian war on Ukraine. These countries are hit especially hard in terms of inflation, unemployment, and GDP losses, and for some regions in these countries, the adverse effects will lead to economic hardship for the governments and the population.
Russia’s strategic efforts to make the European Union dependent on Russian energy to force it into giving in to Russia’s political ambition to restore the Russian Empire clashes against several of the programs the EU launched even before Russia started its war on Ukraine; the Just Transition Fund, the Recovery and Resilience Fund, and the Green Deal that all aim at reducing the dependency of fossil energy and transform society into using sustainable energy sources. If these programs are fully implemented, Russia’s energy weapons are lost. Against this background, Russia needs to create division and discord between EU member states and tensions and conflicts within the member states. The goal is to cut the aid to Ukraine and, when citizens freeze and cannot afford to cook, repurchase Russian energy.
The geopolitical aspects are profound. The systematic destruction of the social overhead capital in Ukraine will also force the European Union to take two different actions. On a short‐term basis, one substitutes Ukrainian products for products from other countries. The other focuses on a long‐term perspective and is about rebuilding Ukraine’s economic capacity and social overhead infrastructure and bringing Ukraine into the western side of the resurrected ‘iron curtain’ Russia is building. Hence, Ukraine will be an attractive market for European producers to meet Ukraine’s enormous needs and rebuild its economic capacity. To have the EU bordering Russia is probably the last thing Russia wants, and hence the war continues.
In conclusion;
1- The war influences energy (oil and gas), food, raw materials for components and high‐tech production, and fertilizers. Higher energy prices typically lead to an increase in production costs and inflation.
2- Europe needs to concentrate on the indirect effects of working through the global and regional value chains, offering novel layers on the region‐to‐region main transmission channels, including some relevant non‐EU countries, such as Switzerland or Norway.
