When is a war not a war?

March 3, 2014

Is it war if no shots have been fired? The Ukrainians say so but Moscow, its grip on Crimea now pretty much complete, says it is merely protecting its people. The rest of the world and its financial markets watch on very uneasily.

There is virtually no chance of any western military response after Vladimir Putin declared he had the right to invade his neighbour – NATO  expressed “grave concern” but did not come up with any significant measures to apply pressure on. But there will be a diplomatic and economic price to pay.

The rouble tumbled by 2.5 percent at Monday’s open and the central bank has already acted to try and underpin it, raising its key lending rate by 1.5 percentage points although the Russian economy is already in poor shape. The main Russian stock index has plunged by about 9 percent with Gazprom doing worse than that and safe haven German Bund futures have jumped.

Already the talk is of shunning Russia’s G8 summit later in the year. America’s John Kerry, who will visit Kiev on Tuesday, has put visa bans, asset freezes and trade isolation on the table, saying U.S. business may well want to think again about involvement in Russia. Putting pressure on Russia’s oligarchs could be one way of exerting leverage.

But sanctions will only work if the EU, some of whose members have much deeper economic ties with Russia, follow suit.

It’s a tough one for Germany’s Angela Merkel in particular though we know Europe has healthy stockpiles of gas after a mild winter so the prospect of the pipes that run through Ukraine being turned off is not immediately scary. France has said the crisis has not yet reached the point that it is considering halting the sale of assault warships to Russia.

The new government in Kiev is in a bind. If it responds to Russia’s presence on its soil that could give Putin the cover he needs for a much deeper incursion, maybe into the industrial heartlands of the east as well as Crimea. Do nothing and it is de facto giving up on parts of its country.

For Putin, part of the calculation may be not to give separatists in his own country any thought that he could give way. Reclaiming Crimea, a former Russian territory handed to Ukraine in 1954, would win him kudos among core voters and especially nationalists.

The Group of Seven —  Canada, France, Germany, Italy, Japan, the United Kingdom and the United States – put out a joint statement last night saying they would give “strong financial backing to Ukraine” once Kiev agreed to economic reforms sought by the International Monetary Fund.

The group suspended its participation in planning for the G8 summit in Sochi in June. The Paralympics, starting in Sochi this week, also look likely to be shunned by politicians around the world.

The IMF is sending a fact-finding team to Ukraine. Can it temper previous conditions it put on any loan? It has previously called for an  increase in gas prices for domestic consumers and introduce a flexible exchange rate for the hryvnia currency – both unpopular steps that were rejected. A team of financial experts from the European Commission will be in Kiev from today.

The “Spain Global Forum 2014” in Bilbao, featuring IMF Managing Director Christine Lagarde, Eurogroup President Jeroen Dijsselbloem and Spanish Prime Minister Mariano Rajoy, also catches the eye.

The European Central Bank meets on Thursday and Mario Draghi is in front of a European Parliament committee today. He should be “in purdah” but we’ll see. After euro zone inflation held steady at 0.8 percent in February it has now been in Draghi’s “danger zone” below one percent for four months. The ECB insists it sees no risk of deflation but…

Our poll of economists showed a growing minority saying QE will be needed. Most of the respondents said there would not be a rate cut next week. But 26 of 78 said there would be one. That was strongest view for an easing in policy in Reuters polls since November last year when the ECB surprised markets by cutting the benchmark rate by 25 basis points.

Euro zone manufacturing PMI surveys due this morning will no doubt influence expectations ahead of Thursday’s policy meeting. China’s equivalent survey showed its mighty manufacturing sectors struggled last month although services picked up.

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