An embargo on Russian oil would trigger a recession in Europe and investors are underpricing disruptions to energy supplies, Barclays says
- An EU embargo on Russian energy products puts Europe at risk of
recession, Barclays said this week.
- A deep recession sending GDP down 5 percentage points would occur if an embargo comes with gas rationing.
Economic powerhouse Germany this week ended its opposition to an EU ban on crude imports from Russia, according to The Wall Street Journal. That sets the stage for the bloc to issue more sanctions against Russia for launching a war against Ukraine in late February. EU officials have been discussing an energy embargo as more evidence of Russian war atrocities emerge.
The EU is highly dependent on Russia for energy products, in part as gas imports accounted for 55% of Germany's supply in 2021, and 40% in the first quarter of 2022, according to Reuters. Germany earlier this month activated an emergency plan to cope with natural-gas disruptions after Russian President Vladimir Putin demanded payment in rubles. Households and businesses have been asked to reduce consumption and conserve energy.
"[Any] restrictions of flows would put further pressure on energy prices and could even result in rationing. Therefore, we think gas disruption could dent euro area growth in at least three ways," said Silvia Ardagna, chief European economist at Barclays, in a research note published April 29.
"First, since a large share of energy is imported, rising natural gas prices would be a negative [in] terms of trade shock. Second, physical shortages could limit production from the input side. Third, gas flow disruption would increase uncertainty," she said.
An embargo on Russian energy products that leads to sharply higher wholesale prices without rationing would trigger a "mild recession" in the euro area. That could propel a roughly 200% rise in benchmark Dutch gas futures, and a 40% increase in oil prices. A terms-of-trade shock would one year later reduce real gross domestic product by about 1.3 percentage points and push inflation higher by 1.4 percentage points.
Euro-area GDP could fall by a hefty 5 percentage points if rationing occurs along with an energy embargo.
"Such a deep recession would likely trigger a fiscal and monetary policy response mitigating some of the worst effects," said Ardagna. The ECB, however, has limited room for maneuver as inflation already sits well above its target. Barclays said its three scenarios were not in its current forecasts which call for growth of 2.4% in 2022, and 2.1% in 2023.
Russia halts gas flows
Russia has already further escalated tensions with Europe by halting supply of natural gas to Poland and Bulgaria for their refusal to pay for gas shipments in rubles. Credit analysts at the British bank said there's a credible risk of widespread disruption of gas flows that appears under-priced. The scale of disruption and likely consequent recession wasn't currently priced into euro-denominated investment credit, it said.
In a "middle" scenario, euro-area GDP could take a 4% hit, with a deeper recession in Germany and Italy.
"The longer that gas rationing persists, the wider and more severe these disruptions would become: as such, we would expect to see an underperformance of European issuers versus non-European issuers, and an underperformance of €-IG," versus dollar-denominated investment-grade credit, said Zoso Davies, a European credit strategist at Barclays.
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