Putin launches offensive against Ukraine

Early this morning, the Russian President announced the launch of a military operation to assist the separatist republics of the Donbas and overthrow the Ukrainian regime. The offensive was launched from Russia, but also from Belarus and Crimea, and is currently targeting military objectives throughout Ukraine. The US and Europe will respond with new sanctions, but Europe’s dependence on energy raises doubts as to whether measures specifically targeting Russian hydrocarbon exports and Russian companies’ access to the Swift international payment system could be put in place. This is the problem: imposing sanctions on Russia that do not further damage European countries.

Unsurprisingly, the financial markets reacted strongly to this Russian offensive: in addition to the surge in oil and gas prices, the equity markets fell sharply and government bonds were in high demand (higher prices = lower rates, with the US 10-year falling to 1.87% and the German Bund to 0.13%) as well as gold.

The EUR/USD exchange rate almost touched 1.12 this morning. The probability of rate hikes by the Fed, BoE or ECB is revised downwards a bit. Inflation will certainly be further boosted by rising commodity prices, but the negative effects on growth, whether from a loss of consumer purchasing power, rising business costs or possible energy rationing, are likely to increase as well.