Media hype vs. reality: the impact of Russia's economy and counter-sanctions on Europe

Fear is spreading across Europe about the economic impact of Russia's flagging economy and its counter-sanctions. Business leaders and politicians worry that what was once a powerful engine of Western and Central European exports, with growth rates often reaching 20%, will simply stall.

The angst has been capturing headlines across the continent. Polish government officials, for example, urged the country's populace to buy and eat more apples after Russia banned their import in 2014. Other agricultural producers have raised red flags about export losses from wine to olives. The head of Germany's committee for business with Eastern Europe put daunting numbers to the threat: Russian counter-sanctions could eviscerate as many as 400,000 German jobs.

In contrast to these fears, the perceived impact of Russia's economic malaise and counter-sanctions is overblown, according to IHS analysis. Moreover, the concerns are often voiced by those least likely to be affected. Germany, for example, would lose 400,000 jobs only if Russia suddenly banned all German imports, leaving the country no time to adjust-a highly unlikely scenario. Poland's agricultural exports to Russia account for only a tiny fraction of the country's GDP-0.2%. And one assumes that there are consumers outside of Russia willing to buy more Polish produce.

A blurred image

The crux of the issue is how a national economy's exposure to foreign markets is usually calculated. Typically, dependency on a given export market is measured by the total price of exports to that market as a share of a given sector's total exports and/or the country's GDP. However, using the price of an exported product can be quite misleading. If the product is a finished good, that price includes all value added in the prior steps of the value chain. If all the steps occurred in the country, the picture would be accurate. However, many of those steps may have occurred outside the country. For example, the value of a car assembled in Germany would be reported in trade statistics as the price the OEM sold it for. However, contributions of tier 1 and tier 2 suppliers outside Germany-such as a transmission-need to be factored out and attributed to their country of origin.

A much clearer picture of economic impact emerges when we only consider the economic value of the parts of a product produced within the country. We conducted precisely this analysis looking at key sectors in Germany, France, United Kingdom, Poland, Romania, and Hungary. Our analysis is based on IHS Trade Service commodity data and IO-model data from Eurostat's most recent IO tables.

A clear picture

As a benchmark, we analyzed exports to Russia in 2013, before the Ukrainian crisis and Russia's economic decline. Even without attributing the value of each step in the value chain to their country of origin, exports to Russia were a rather small percentage of total exports. For example, Germany's approximately €36 billion in exports to Russia accounted for only about 3.5% of the country's total exports. In Eastern Europe, exports to Russia from Poland, Romania, and Hungary were a surprisingly small percentage of the total-between 3% and 4.2%.

When the added value that occurs outside the country is factored into the equation, the numbers become even smaller (See figure). Germany's approximately €36 billion in exports drops to some €28 billion, which is about 1% of its GDP. In Poland, the share of potentially lost GDP declines from 0.6% to 0.3%. In the case of Romania and Hungary, the share of GDP is less than 0.1%.

The actual impact

Germany, which has an export/GDP ratio of more than 50% and has strong trade links with Russia, would be hit the hardest if the country suddenly banned all German imports. The resulting 1% decline in GDP could eliminate nearly 400,000 jobs across many sectors. Such as draconian scenario, however, is improbable. More likely, German exports to Russia might decline steadily by 10-20% over several years. The country's economy could certainly absorb that level of economic loss. There are, of course, other implications to consider such as Russia interrupting gas delivery.

The impact on the other countries we examined would be even less. Only Poland's share of GDP from exports to Russia is larger than Germany's-1.6% vs. 1%. However, even if Poland's Russian exports collapsed by half, the country would lose only 0.8% of its GDP. That loss could certainly be minimized by pricing and other marketing efforts to find new markets for the country's products. Although the Polish government has been vocal about Russian counter-sanctions directed at its agricultural sector, total agricultural and food exports to Russia account for a scant 0.2% of Poland's GDP and about 80,000 jobs.

The impact of Russia's economy and counter-sanctions may have a stronger impact on specific sectors within a country (see sidebar at the end of this story). In the case of Poland, the economy is well-diversified, and the impact of declining exports to Russia would be spread across several industries. For most other countries we examined, the impact would be stronger in sectors such as machinery, automotive, and chemicals. The impact would also be felt in utilities, construction, and services, since these sectors support the others.

Since the economic impact is different between sectors within a country, some would warrant specific support or protection. For example, Poland's export of computers to Russia accounts for more than a quarter of its total computer exports. Were that to be curtailed significantly, the damage would be felt within the sector and across the supply chain.

Despite the media hype, the impact of Russia's struggling economy and its counter-sanctions against European economies is far less than many pundits would have us believe-even under the most severe scenario of total import bans. However, the impact on some sectors could be greater than on others. As we have shown, the impact can be measured quite precisely to reveal which sectors are most at risk. Understanding the level of exposure is an important springboard for developing strategies to bolster sectors that may need support.

Ulrich Hendel is senior consultant, IHS Economics; and Ralf Wiegert is director, consulting, IHS Economics & Country Risk

Sidebar: A lens on specific sectors

Although the total impact of Russia's economic troubles and counter-sanctions on European economies is far less than many presume, the impact differs between sectors and countries.

The figure below shows the economic impact of a complete cessation of exports to Russia. In Germany, for example, the automotive sector, which accounts for €3.4 billion of exports to Russia, represents approximately 12% of the total potential impact. In the United Kingdom, the monetary loss in the automotive industry, €0.7 billion, is far less than in Germany, but also accounts for about 12% of the total impact. In France, the monetary impact is similar to that of the United Kingdom-€0.5 billion. However, it is only 5% of France's automotive industry, since that sector is much larger in France than it is in the United Kingdom.

In Hungary, chemicals and pharmaceuticals represent 20% of the impact. The actual amount, however, is only €.02 billion, because Hungary's economy is considerably smaller than that of Germany, France, or the United Kingdom.