Don’t Blame Russia for Europe’s Economic Woes

The Eurozone’s GDP dipped in the second quarter of 2014, according to the European Union’s statistics agency Eurostat, and the fingers of the European media, public, and politicians are all pointing east toward Russia as the reason why. For many economists, though, Vladimir Putin isn’t the real problem.

The 18-country currency bloc’s annualized growth dropped 0.6 percent in the second quarter of the year, from 0.8 in the first quarter to 0.2. Separately, the Organization for Economic Cooperation and Development announced Monday that growth in the euro-zone’s economic engine was "losing momentum." Nearly every report on the GDP drop and the OECD’s Germany caution correlates the news with the economic sanctions Europe and Russia levied against each other. This feeds the public perception that the economic slowdown in Europe is a result of the crisis in Ukraine.

"Geopolitical risks are heightened. And some of them, like the situation in Ukraine and Russia, will have a greater impact on the euro area than they … have on other parts of the world," European Central Bank President Mario Draghi said last week.

Many experts contend, however, that this perception puts too much blame on Russia and too little on deeper, structural problems with key European economies.

Paul Sullivan, a professor of economics at National Defense University and an adjunct professor at Georgetown University, said that the sanctions are a useful straw man for European politicians who have not effectively dealt with the fallout from the European sovereign-debt crisis. The euro-zone technically exited recession in 2013 but that shields fundamental, structural economic problems, which policymakers haven’t solved.

"It’s the policies; it’s the slow recovery; it’s the stagnation of youth unemployment," Sullivan said. "The great recession has yet to see a great recovery in Europe. There’s a huge debt overhang."

He added that the sanctions provide perfect cover for Europe’s long-term economic troubles, especially in countries such as Italy, Spain, and Portugal. The economies of each are decades behind Europe’s economic leaders and their governments have no concrete plans on how to catch up. European leaders could push back on the viewpoint that Russian sanctions are to blame for the slowdown. "But they would be digging themselves into a deeper whole because of bad policy decisions," Sullivan said.

Edward Goldberg, a professor at Baruch College and the New York University Center for Global Affairs, noted that Germany, Europe’s biggest economy, saw its growth dip by 0.2 percent in the second quarter, down from 0.7 percent growth in the first quarter. Still, he said that it would be wrong to blame that slowdown entirely on Moscow’s aggressive actions in Ukraine and the toughening Western response.

"In terms of the German economy, yes it has slowed a little. But that has nothing to do with Russia," Goldberg said. "It is much too early for any of the sanctions to have had an effect."

In retaliation for a new round of sanctions leveled by the United States and Europe, Russia placed restrictions on food imports, including poultry, dairy, and fruits and vegetables. Russia also threatened to ban flights over Russian airspace but has yet to follow through.

Few economists expect Russia’s retaliation to break American and European resolve to punish Moscow. Economists have also long warned that the West’s sanctions packages are far less comprehensive than advertised. The most recent ban new weapons sales to Russia but doesn’t touch existing deals. That’s allowing France to proceed with a multi-billion dollar deal to sell a pair of warships to President Vladimir Putin’s navy. The sanctions also have loopholes: OAO Sberbank, one of Russia’s largest banks, is not being punished, and the European Union allowed European offices of Russian banks to continue operating.  

"They are sort of weaselly in the way in which they’re done," said Robert Legvold, professor emeritus in Columbia University’s political science department. "We’ve sanctioned technical services and finance, not the core energy trade. Natural gas and oil are not sanctioned. Existing contracts are not to be affected."

According to Legvold, the only real way that Russia could hurt Germany, and vice versa, is by disrupting the energy trade between the two nations. But the sanctions were drafted so that the existing energy relationships between Russia and the EU would not be affected.  

According to Columbia’s Legvold, the sanctions’ true effect on Europe won’t be known for at least a year, when they’ll have to be renewed. He predicted that Germany would hardly be affected.

"In the German case, they are predicting somewhere in the neighborhood of a 30 percent drop in trade [with Russia], which would be something like 0.3 of a percent in GDP," he said.

Other, smaller European nations are likely to feel more of a bite. "The agricultural sanctions that the Russians have imposed are broad," said Legvold. "The countries that will be hardest hit will be Latvia and Estonia. They do export a considerable portion of their agricultural products to Russia."

According to a report in the Wall Street Journal,  21 percent of Latvian agricultural sales are to Russia. In the first quarter of 2014, Russian purchases of Latvian agricultural products topped $100 million. By comparison, the United States shipped less than one percent of its total agricultural exports to Russia last year, while the entire European Union shipped 10 percent.

All three experts cautioned that while the sanctions’ economic effect can be dismissed, the psychological impact cannot. According to the German think tank ZEW’s indicator of economic sentiment, German investor confidence was sharply down in August, a drop it attributed to the crisis in Ukraine.

"The decline in economic sentiment is likely connected to the ongoing geopolitical tensions that have affected the German economy by now," ZEW said in a statement.

Whether warranted or not, polls like this show that the European public is likely to connect the EU slowdown with Russia sanctions.

"People are thinking that times are bad and they’re going to remain bad," Georgetown’s Sullivan said. "But the reality is, a lot of these [European] economies always were terrible."