Is It Possible That The Invasion Of Ukraine Will Cause A Global Financial Meltdown?
The assault by Russia on Kyiv and other Ukrainian cities has heightened global economic concern. Western leaders have announced economic sanctions against Russian financial institutions and individuals in response to Putin’s war.
The sanctions include:
- Removing some Russian banks from the Swift messaging system for international payments.
- Freezing Russian companies’ and oligarchs’ assets in western countries.
- Prohibiting the Russian central bank from using its US$630 billion (£473 billion) in foreign reserves to circumvent the sanctions.
As a result of these actions, numerous credit rating organizations have either downgraded Russia’s credit rating to junk status or have indicated that they may do so shortly. In other words, they believe the risk of Russia defaulting on its loans is more significant than it was previously. A default is “highly likely,” according to a consortium of international banks.
Banks are under attack.
With over US$100 billion of Russian debt held by foreign banks, concerns have been raised about the risks to banks outside Russia – and the potential for a default to trigger a liquidity crisis akin to the one that occurred in 2008 when banks became concerned about the solvency of other banks and stopped lending to one another.
European banks, particularly those in Austria, France, and Italy, are the most vulnerable to Russia’s latest sanctions. According to data from the Bank for International Settlements (BIS), French and Italian banks each have roughly US$25 billion in outstanding claims on Russian debt, while Austrian banks have US$17.5 billion.
Since the Crimea sanctions in 2014, US banks have reduced their Russian economy exposure. Nonetheless, Citigroup has a US$10 billion exposure, even though this is a minor percentage of the bank’s US$2.3 trillion in assets.
There’s also the possibility of Ukraine defaulting on its loans. Ukraine’s bond debt, worth around $60 billion, has also been downgraded to junk status, boosting the chance of default from a remote possibility to a genuine threat.
Aside from debt exposure, several banks would be impacted because they provide financial services in Ukraine or Russia. Because of their local operations in Ukraine, French banks BNP Paribas and Credit Agricole, according to rating agency Fitch, are the most vulnerable to Ukraine. The European banks with the most extraordinary operations in Russia are Société Générale and UniCredit, which are also among the most vulnerable to Russian debts.
Furthermore, the cost of raising US dollar money in the euro swaps market has risen dramatically, which is terrible news for European banks. Banks rely on this market to raise the dollars needed for most international trade so that higher rates will pressure their profit margins.
So, how substantial are default risks to banks as a whole? Morning Star, a US investment research firm, feels that European banks’ exposure to Russia, much alone US banks’, is “insignificant” in terms of their solvency. Nonetheless, it has been suggested that European, American, and Japanese banks could face significant losses of up to $150 billion.
Banks will almost certainly be impacted in other ways as well. For example, Switzerland, Cyprus, and the United Kingdom are the most popular destinations for Russian oligarchs looking to deposit their money abroad. With golden passports, Cyprus also attracts Russian money. Because of the sanctions, all of these countries’ financial institutions are likely to lose business. For example, since the invasion began, UK banks Lloyds and NatWest’s stock values have fallen by more than 10%.
In addition to banks
Aside from banks, the war will result in significant losses for numerous firms with ties to Russia. Given the 30 per cent drop in the currency and the Swift restrictions, any company owed money by Russian enterprises will have a tough time getting paid. According to Reuters, US corporations have total exposure to Russia of around $15 billion. Many of these debts could be cancelled, resulting in significant losses.
Some oil firms, such as Shell and BP, have stated that they will sell holdings in Russia. Like Glencore, a trading and mining company with significant investments in two Russia-linked companies, Rosneft and En+ Group, have indicated they are reviewing them. However, if the value of these assets depreciates due to a lack of purchasers willing to pay reasonable prices, organizations like these could face significant write-downs.
One risk is that this triggers a panic sell-off in these companies’ shares, causing a market-wide domino effect akin to what happened with banks in 2007-08.
Pension funds are also under attack. The Universities Superannuation Scheme (USS) team, for example, is looking to sell its Russian holdings. With around 500,000 pension clients and £90 billion in assets, the USS is the UK’s most extensive independent pension system. It has around £450 million in Russian assets. The deterioration in the value of these toxic assets might be devastating. Many investment funds, in general, have money invested in Russian sovereign debt as well as Russian firm shares. They, too, maybe face significant losses.
In summary, the war’s repercussions might be vast, and many more will almost certainly emerge in the coming days and weeks. The invasion of Ukraine by Russia has exacerbated the situation, and financial markets will be on high watch to observe how things play out. The markets have been highly volatile as the global economy continues to recover from the pandemic while also dealing with significant inflation.