To what extent can Ukraine tensions fuel global inflation?

The war in Ukraine has been going on for more than 3 weeks. Beyond the humanitarian crisis, the entire global economy could feel the impact of this conflict: slower growth and faster inflation.

Wartime inflation

According to WSJ, before the 1930s, when currency was generally convertible into gold, keeping the money supply and thus inflation under control. During war, this ability to convert was frequently halted and sometimes completely eliminated. Hyperinflation (when prices rose by at least 50% in a month) in the last century often occurred during or after war.

The US is a country that has experienced wartime inflation. During World War I, the outflow of gold from Europe helped boost the money supply in the United States, and the Federal Reserve kept interest rates low to fund military operations. As a result, prices skyrocketed, and after the war, the Fed had to deploy a severe recession response model to stabilize. By World War II, the United States had almost abandoned the gold standard – a monetary system that used a fixed gold price as the basis for determining currency prices. To control inflation and support military mobilization, the US federal government implemented price controls and the Fed set a ceiling on interest rates. Not long after the controls were lifted in 1946, prices skyrocketed.

After the Cold War, wars were generally able to be smaller and more localized, thus causing less economic damage.

Now, however, globalization seems to be reversing the extent of the local damage caused by war. And Russia’s military campaign in Ukraine could have an impact beyond imagination. Some impact has been on Russia. With the ruble halved and imports disrupted due to sanctions, Russia’s inflation could reach 20-25%, according to Sergey Aleksashenko, a former central bank official.

Higher military spending could also add to inflationary pressures. In 2020, Russia spent 4.3% of GDP on defense, one of the highest in the world, according to the Stockholm International Peace Research Institute, not counting undisclosed expenditures.

Germany plans to increase military spending from 1.5% of GDP in 2021 to 2%. German Finance Minister Christian Lindner emphasized that the war had an impact on German fiscal policy.

Global impact

According to experts from the International Monetary Fund (IMF), the impacts of the Ukraine conflict on the global economy will go through three main channels.

First, higher prices of commodities such as food and energy will push inflation higher, reducing the value of income and burdening demand.

Second, economies will face disruptions to trade, supply chains and remittances as well as an increase in refugee flows.

And third, falling business confidence and investor uncertainty will weigh on asset prices, tightening financial conditions.

Russia and Ukraine are major commodity producers. Supply disruptions from these two ends have sent global prices soaring, especially for oil and natural gas. Food costs have also skyrocketed, with wheat, for which Ukraine and Russia account for 30% of global exports, hitting a record.

In addition, countries with key trade, tourism and financial activities will feel additional pressure. Economies that are dependent on oil imports will have larger financial and trade deficits and face more inflationary pressures.

Fragile balance

The aftermath of the Russian-Ukrainian conflict has shaken not only these countries but also the region and the world, and points to the importance of global safety nets and regional agreements to support these countries. economy.

While some of the effects may not be apparent, there are already indications that fighting leads to increased costs for essentials, and will make it difficult for policymakers in some places to strike a balance. balance between curbing inflation and supporting the economy to recover from the pandemic.

“We live in a world that is more resilient to shocks.” IMF Managing Director Kristalina Georgieva recently said. “And we need collective strength to deal with the impending shocks,” he said. she said.