Timothy

Wed 22 Mar, 2023

So the Xi – Putin summit came and went.

Obviously it was bigged-up ahead of time, given the release of the China peace plan for the war in Ukraine on February 24.

Both leaders made reference to the plan, particularly Putin, so lets see what happens over the next few weeks. There has been talk of a Xi – Zelensky call, albeit nothing has been confirmed by either party. As I have argued, there is enough in the peace plan to get both sides interested, albeit the document is pretty vague. I think a deal could be struck around the idea of Russia accepting Ukrainian sovereignty, which means pulling back to February 23, 2022 settings, Ukraine accepting negotiations over the longer term status of Crimea/LPR/DPR and then no NATO for Ukraine but in exchange for sufficient security guarantees from serious powers/allies, like the US, UK and Poland, that Ukraine feels secure in its defence against future Russian attacks. If Ukraine gets those, and the right to arm to defend itself from future Russian attack then it actually does not need NATO membership. I have also argued that this war was never about NATO membership, but the fact that Putin just wants Ukraine, full stop. If that is the case then you might argue that Putin would never accept no NATO for security guarantees, as the latter would mean he accepts that he can never take Ukraine, as if he attacks Ukraine again, NATO powers come in in defence of Ukraine. But I guess at this stage the question really is how weak Putin is, and how desperate he is to accept a face saving deal. I think pretty weak and desperate as he was grovelling almost in his meetings with Xi, and seemed very eager to talk up the China peace plan. Remember here that without China military support, Russia has no path to victory in Ukraine, it just gets worse, a lot worse, and actually between for the US, ad perhaps even China.

So what are the specific take outs from the Moscow meetings:

First, don’t write off the peace plan just yet. Its still an option, fall back position for both sides. Putin would take any peace deal now, that he could get, as he is losing. Ukraine still has more options and I think will forestall talking peace until the mooted Spring offensive plays out. Ukraine still thinks it can win here, as yet more Western arms reach the front line. I noted over the past 24 hours, trains loaded with Russian T54s heading to the front line, which is remarkable to think that these are WW2 era designs, which are about to come up against Western Leopards and Abrams MBTs, which are dated to the 1990s or later. Russia is throwing obsolete kit now to the front, and the carnage on the Russian side is just going to grow.

Russia wanted Xi to back it militarily, and that did not come from the Moscow meetings. The Chinese were diplomatic in their language.

Russia, and Putin’s weakness and vulnerability, and dependence on China were revealed to all at the Moscow summit. China is the dominant power, and Putin is the Pekingese Poodle. Putin likes dogs.

So I think we will see the Ukrainian spring offensive and, depending on where that ends up, we either have: a) Ukrainian victory, and the collapse and withdrawal of Russian forces in Ukraine, and then Russia taking whatever peace it can get, but we could see major political and social upheaval then in Russia.; b) The Ukrainian spring offensive fails to move the frontline much, and then I think we see both side begin to engage in peace talks around the Chinese plan, perhaps facilitated by China. See above in terms of likely outcomes.

Second, China did agree to deepen economic ties with Russia – providing an economic backstop, but deals were done favourable to China. Xi sees Putin’s weakness and is eager to exploit that.

Much focus on the Power of Siberia gas project which entails building pipelines to divert Russian gas which had been going to market in Europe, to Asia, around 93bcm, that’s two thirds of Russian prior supply to Europe. But no actual agreement was signed. Talks on this have been going on for years and the two sides have not been able to agree pricing and who will pay for the pipeline construction. Now I think the Chinese are nervous about signing the deal which in effect would screw Europe, and I think force Europe more closely into the US camp. China is trying to avoid the creation of a polarised world between the US and China, as it wants a multilateral/globalised world where it continues to benefit economically and win eventual economic hegemony over the US. It has not given up on stopping Europe being walled off into the US camp, and is eager to exploit US – European divisions. But if China signs the Power of Siberia deal it would cut Europe off from Russian gas, and force Europe into greater reliance on US energy. China would force Europe into the US camp. So China is trying to stall Putin, keeping all options open.

Third, pretty clear from the China Ukraine peace plan and everything we have seen in recent weeks that China hates anything which disrupts the global economic status quo. I think thru Xi’s visit he will have set guardrails for Putin about the war, in particular, no escalation which would disrupt global markets thereby hurting China. That means a red line or card to Russia for using WMD, or using commodities as blackmail on global markets. Perhaps the economic deals which were signed between China and Russia were all meant to bribe Putin to play ball in terms of global markets.

So China’s game plan is either get the two sides to agree a peace on the back of their plan, which is very vague, or at least set guardrails for the conflict so that it does not rock China’s boat. That’s a good outcome for global markets, either way. Xi’s Moscow trips reduces the risk of escalation, but it does not really reduce the chances of a Ukrainian eventual victory.

Fourth, and perhaps most intriguingly, Xi met Russian prime minister, Mishushtin. I would say it is unheard of for a Chinese leader to meet an official well below his rank, and especially a political non entity such as Mishushtin. In Chinese political and diplomatic etiquette, its all about peer on peer meetings. Same in business actually. For me this signalled that the Chinese were sending a clear signal that while they back Putin, they want continuity, and if for whatever the reason Putin falls, they want someone in the Putin clan and a safe pair of hands to take over- and the Chinese would like Mishushtin there. The Chinese certainly do not want regime change with a pro-Western leader or administration emerging. And also this is a big no from China to the likes of Wagner leader, Prigozhin or even worse, Kadyrov.

Perhaps this could also mark Mishushtin as a threat to Putin – he better not stray near open windows. But I also wonder if any member of the Russian elite might try a move against Putin, to try and get Mishushtin in in his place.

…………

Also, for CEPA, the same author wrote on Mar 20:

War in Ukraine: Russia the Loser, the US a Winner.

The economic fallout from the war in Ukraine has been mixed. A strange collection of countries have benefitted.

What do China, India, Turkey, Armenia, the UAE, and the US have in common? 

More than might appear from a casual glance. They are among the winners from Russia’s aggression against Ukraine. There are others who have benefitted too, and more — including Europe — which have averted disaster and perhaps nudged themselves towards a much-improved future with less reliance on fossil fuels. 

And then there is Russia. The loser. Its armies smashed and scattered across the Ukrainian steppe; its elite soldiers dead or dismembered; its traditional energy export markets shuttered, and its economy teetering, flimsy and Potemkin-like on the brink of ruin. 

It has been said too rarely that the Western oil price cap on Russian crude is having a real effect, with Urals oil trading at close to a one-third discount to Brent. Few people write about this, but many Global South nations (India, China, and others) are now benefitting hugely by securing cut-price oil, energy, and commodity supplies from Russia. The war is now producing an economic win or benefit for many low-income countries. 

Forced to sell its commodities at below market prices at a cost of untold billions of dollars, the war has also sparked a very significant capital flight from Russia (who, after all, would leave their assets anywhere near a kleptocratic Kremlin?) 

While higher oil and energy prices bolstered Russia’s trade and fiscal surpluses last year, helping create a current account surplus of $227bn in 2022, there was also a foreign exchange drawdown of close to $50bn, and more than $100bn is estimated to have left the country, excluding deleveraging.  

That money has poured into countries believed to be beyond the reach of Western sanctions enforcers. The fund outflows can be seen from the balance of payments data across the Gulf to Turkey, and the likes of Armenia, Azerbaijan, Georgia, Uzbekistan, and Kazakhstan. Many of these onetime Soviet states have seen huge remittance inflows on the current account, as well as capital account, and large errors and omissions (essentially unexplained) inflows. 

Armenia, for example, which has traditionally run large structural current account deficits for much of the past 30 years, ran a current account surplus in 2022, and this allowed the central bank to increase foreign exchange reserves by close to one-third, or $1bn. It is all the more remarkable to run a current account surplus despite real GDP growth in excess of 12% (which would be expected to suck in imports.) 

This happy combination helped anchor the exchange rate and weigh down on inflation.

Similar trends can in fact be seen across Central Asia and Transcaucasia. These regions, Russia’s borderlands, appear to have been net beneficiaries of the war. Similarly, you could argue that Turkey, while initially hit by higher energy and food import costs, which ballooned the current account deficit to close to $50bn in 2022, saw huge unexplained inflows, errors, and omissions at record levels of $28bn. Again this helped anchor the Turkish exchange rate — important for Erdoğan as he begins campaigning in what are expected to be closely fought elections in May. 

Other winners were Russia’s energy-provider rivals. The Gulf states, for example, benefited hugely from the initial energy price spike, and efforts by Western countries to diversify energy supplies away from Russia. Saudi Arabia, the UAE, Qatar, Iraq, Oman, and even Bahrain have seen current account and fiscal positions move strongly into surplus, foreign exchange reserves built, and real GDP growth accelerate. Add to this group both Azerbaijan and Kazakhstan, which have not only seen similar energy windfall gains but have also greatly improved their political importance in the eyes of Europe, which has identified them as key alternative suppliers. 

The US too is a winner. Not only is it defeating a strategic rival for the price of peanuts, it has also been able to supply a desperate Europe with energy, especially liquified natural gas (LNG), albeit at inflated market prices. 

US arms firms are also benefiting, equally unsurprisingly. With Europe’s crumbling national defenses suddenly under the spotlight, it was to be expected that orders for top-of-the-range fifth-generation combat aircraft like the F-35 are suddenly on the must-have list. Many other systems are likewise in demand. With NATO members now committed to spending 2%-plus of GDP on defense, the US is once again becoming the arsenal of democracy (even though it too will have to raise defense infrastructure investment.)  

There have been losers too, of course. The war was just the latest shock to the global economy, following on from Covid-19 and supply chain disruptions caused by US-China tensions. The war initially pushed energy and food prices higher, accentuating the global cost of living crisis. War-inspired inflationary pressures forced central bankers to accelerate interest rate normalization, which began to crimp global growth. In Europe, the energy price shock produced a demand response, itself a brake on real GDP growth.  

So for 2022 at least, global growth was lower, inflation higher and most energy and commodity importing countries saw marked deteriorations in fiscal and trade positions. 

Energy and food-importing countries were hit by larger import bills, and their trade and current accounts deteriorated markedly. This hit many low-income developing countries particularly severely. It pushed current account deficits wider and weakened exchange rates with the subsequent devaluations adding to the existing cost of living and inflation pressures. Many low-income and developing countries were already struggling because of Covid — countries like Lebanon and Sri Lanka were in debt distress and default even before February 2022, and the war pushed others over the edge, including the likes of Ghana. Others such as Pakistan, Egypt, and Tunisia appear to be on the brink of default, with the economic ramifications of the war in Ukraine a contributing factor. 

Encouragingly though energy, food, and commodity price inflation is showing signs of easing. Russia’s energy war seems to have culminated without wreaking the promised destruction. A mild winter, rapid investment in alternative energy supplies (LNG imports), and demand destruction seem to have navigated Europe through to calmer waters.  

Europe showed unity and resilience. Arguably it has accelerated the carbon transition in Europe, with a huge rise in spending on renewables. Europe has quickly diversified away from Russian energy, and there is hope it can manage the same trick next winter. Putin has cooked his own energy goose.  

It has been bad. But not as bad as might have been. 

Timothy Ash is a Senior Emerging Markets Sovereign Strategist at RBC BlueBay Asset Management. He is an Associate Fellow at Chatham House on their Russia and Eurasian program.  

The opinions in this article are those of the author.  

Europe’s Edge is CEPA’s online journal covering critical topics on the foreign policy docket across Europe and North America. All opinions are those of the author and do not necessarily represent the position or views of the institutions they represent or the Center for European Policy Analysis.