What a mess! Who would have expected that Putin fully invades the Ukraine. My Russian friends tell me they do not understand what is going on, and that Putin must have gone mad. Clearly, there is not enough division of power within the Russian government to stop a crime of such dimension, and so we should expect that Putin is virtually free to do what he wants. One can only suppose that this is because, over the years, he was able to place his friends into key governmental positions and they are simply too scared of going against him. Or too supportive. (I think in this regard, the USA was lucky that there was an election in the way of Trump, as Trump was doing the same thing as Putin.) The whole of Russia seems to be at the mercy of Putin. Belarus is willing to join the fight, with one of the last dictators in Europe, Lukaschenko, strongly supporting Putin’s invasion.

It is not entirely clear what both Putin’s and Lukaschenko’s incentives are for going to war. Ukraine is, however, rich in natural resources and also one of the biggest agricultural producers in Europe. Geopolitical strategies could be another reason, but, really, is that enough for starting a war? Reuniting Russia and restore it to its former “glory”? Who knows. If someone is happy to start a war without apparent reason, then everything is possible with that person.

But the West does not stand idly around. Sanctions and restrictions have quickly been put in place, in addition to those that have been put in place since 2014. Let’s think a bit about their consequences.

Financial restrictions

Most Russian banks were excluded from Swift, the main system that financial institutions use to communicate payments across the world. Furthermore, banks are not allowed to trade with the Russian central bank. The Rubel lost significantly in value (though, interestingly, already regained some), and it is unlikely that the government’s international debt will be rolled over. The Russian central bank announced a doubling of the interest rate to 20% in order to increase incentives that Russians keep their money in the banks. Yet this does not seem to help – we are already seeing bank runs in Russia. It is likely that the central bank will have to print significant amounts of notes to accommodate that demand and keep the banks liquid, which is likely to raise inflation.

So these measures increase uncertainty in Russia, and its stability. Interestingly, going to war nowadays can be done not only via armed forces, but it looks like it is possible to quickly destabilize a country through its financial systems. Repercussions are, of course, widely different. It’s unlikely that this will stop Putin from continuing his war. Maybe it will aid Putin in painting an even bleaker picture of the Western world. Certainly it will show the Russian population that there are significant consequences of going to war. But how much choice do they really have?

Asset freeze

Foreign assets of Russian governmental officials and oligarchs (as well as from Belarusian officials) have been frozen. That will bother them very little. Putin is claimed to have a wealth of roughly 100 billion USD. Even if 99 billion of that was frozen, he won’t notice the difference. Similarly with the other top governmental officials and oligarchs.

Also, what does frozen mean? When the war is over, will they be able to make full use of this? One suggestion could be to tie this freeze to incentives. For every week, or month, that the war continues, fully and irredeemably seize 10% of their foreign assets. One could even use these assets to aid Ukraine or the refugees. An additional condition could be that, if Russia really takes over the Ukraine, then the assets will be fully seized and they will never be allowed to trade internationally any longer.

While this might change incentives for money-hungry oligarchs that like to enjoy sunshine on Spanish beaches or show-walk in St Moritz, it’s unlikely to change Putin’s incentives. However, every little destabilization counts, of course.

Export restrictions

Export restrictions are a big deal, especially on the non-renewable resources that are an important share of Russian exports. Oil, gas and coal make up the biggest share of Russia’s exports. The EU, for example, receives 40% of its natural gas from Russia. Germany’s natural gas prices already nearly doubled when the chancellor announced a (temporary) halt of the Nord Stream 2 pipeline, and when fears of a Russian export stop of gas were discussed.

This might be a good time to push energy independence and the energy transition in Europe. Who knows how long this conflict will last. Who knows what further repercussions and destabilization will be the consequence. Of course, Russia could completely stop supplying Europe, and especially Germany and Italy, with natural gas. That would be extremely costly for both, Russia and Europe. It would, also, be extremely difficult to replace this, in the very short run, with natural gas from other sources. LNG is being discussed as an alternative, but there is also simply not enough supply. Electricity and natural gas prices are already many times higher in Germany compared to the long-term average. Any further disruptions to the natural gas supply will be extremely costly for consumers and producers.

Germany’s military budget

Germany announced a significant increase in the military budget. The promise of an additional 100 billion EUR and annually 2% of GDP towards military expenses are not going to stop a crazy guy from starting wars. It’s also unlikely that this is going to help “win” wars, as desperate leaders with a nuclear arsenal are not going to be deterred by this. The only way to prevent this would be by making clear that there is a unified army, the EU, or NATO, that acts in unison and in mutual support if one of its members is attacked, so that there is no way to win a war against such a machinery. That might work as a deterrent.

Instead, Germany might think about promising that money (2% of GDP and 100 billion EUR), or a significant part of it, to a quick energy transition, in order to make the country independent of natural gas altogether. There is an advantage and a disadvantage. The advantage is, of course, that energy prices will not be dependent on the whim of a person like Putin and at mercy of some international cartels. This should stabilize energy prices. Furthermore, it will help the energy transition and reduce CO2 emissions. The disadvantage is that this will reduce the interdependence between Europe and Russia, and thus also the means to penalize Russia for aggressions. Whether these penalizations are useful or helpful to change incentives is, of course, another question. Time will tell, hopefully very quickly.

Military actions:

John Cochrane argues that Europe and the US should actively participate with military actions in order to save the Ukraine. I believe that would be a huge mistake which would lead to international instability across the world for the years to come. If we are lucky to get away with only that. 

The simple reason is that the USA and Russia have never been the best of friends. If the USA joins the war then even more liberal Russians will be more inclined to fight and the general resentment felt towards the western world will only spread. In a war between Russia, Europe and the USA, there will be no winners. It doesn’t matter that the military budget of the NATO countries is so much larger than that of Russia. A war with NATO actively joining will have consequences that far extend beyond what we can predict. Don’t actively participate, don’t go to war. But yes, do whatever takes through financial sanctions, energy restructuring, etc to show Russia that this is unacceptable.

Integration of Ukraine into European Union:

von der Leyen suggested that Ukraine should be, as soon as possible, integrated into the European Union. I don’t know what that should do or change. Clearly, the European Union is not interested in an armed conflict with Russia. However, if one of its members is attacked, which would then be the case if Ukraine gets integrated into the EU, then the rest of the EU will have to mobilize its armies. This, however, can be done right now, too. There does not need to be a pretense for this.

Nothing is likely to change if Ukraine suddenly becomes a member of the EU. I don’t really understand what von der Leyen believes will be the result of accepting the Ukraine into the EU. I doubt that Putin will change his course due to this “threat”. In effect, he might even have more reason to fight harder and faster and more aggressive, if his original reason for attacking Ukraine was to stop the expansion of NATO and the European Union closer towards Russia.