The Implications of Unrestricted Financial Warfare
Putin unwittingly pushed us into a new world. How will it change behavior?
An unprecedented global alliance has ejected Russia from the networks of trade and finance that bind most of humanity together. Without access to much of the internet, without technical expertise in everything from aircraft maintenance to oilfield services, and without imports of high-tech goods, spare parts for existing equipment, or even fresh fruit, the resulting isolation is set to turn Russia into a larger version of North Korea: a terrible place to live that also happens to be a menacing threat to its neighbors.
Cutting Russia off from the rest of the world—and impoverishing more than 140 million Russians—probably wasn’t what Vladimir Putin had in mind when he started his war of aggression against Ukraine. No one knows how the Putin regime, the elites who currently support it, or the broader civilian population will respond to this kind of deprivation.1 But we can start thinking about how the rest of the world will respond to this shock. In particular, we can look back at the long history of how societies have adapted to dramatic changes in the security situation in the past.
What follows is necessarily speculative. Consider it my initial attempt to grapple with the longer-term implications of what we are witnessing. These are the main themes I will cover:
“Safe” financial assets now look much less appealing to any government that thinks it could ever get cut off from the allies currently mobilizing against Russia. China is the most obvious and single largest case, but not the only one.
By contrast, “saving” by investing in domestic industrial capacity and by investing in efficiency gains that lower the need for imported commodity inputs now looks much more appealing. A global increase in capital spending to promote self-sufficiency (or at least supply chain resiliency) and to limit the risk of security-related disruptions seems likely, although it is far too early to estimate the magnitude of the change.
World military spending will likely increase substantially. Investment in armaments and equipment was already on the rise globally before the Russian attack on Ukraine, and many governments, most notably Germany, have made clear that recent events are only going to accelerate that trend. It’s not a coincidence that the share prices of the major defense manufacturers have surged since the crisis began.
While all of these developments should be broadly positive for global growth in the short- to medium-term, there is a real danger that a synchronized surge in demand for physical goods will continue to put upward pressure on industrial commodity prices, especially since many of those commodities used to come from Russia. Governments considering the capex+rearmament agenda should consider how the tradeoffs were managed in the past. Moreover, there is a risk that the longer-term consequences will be excess capacity and inefficient spending compared to what consumers in a peaceful world would prefer.