Beijing not immune from effects of Western sanctions on Moscow

China set to feel the pinch of economic aftermath of Russia’s invasion of Ukraine and possible changes in US monetary policy

“There are decades when nothing happens, and there are weeks when decades happen,” Vladimir Lenin is credited with writing of the Russian Revolution. Fast-forward to today and those words again resonate. Russia’s invasion of Ukraine is a humanitarian crisis that will have lasting, and consequential, economic and financial repercussions.

China is an economic titan, but it will not be insulated from these consequences. Soaring commodity prices are a case in point.

China imports vast amounts of energy, food and raw materials to power its economy, but prices are soaring in the wake of Russia’s invasion of Ukraine. That would not be great news for the Chinese economy at any time, and it is even worse when the latest gains in commodity prices started from already-high levels. A strong yuan provides something of a buffer against higher US dollar-denominated commodity prices, but it’s not a complete offset. China’s yuan-denominated commodity imports bill is going to rise and bring with it unwanted inflation.

But that is only one of the issues that policymakers in Beijing will need to consider. China has become embedded in the global economy in the 50 years since Mao Zedong met US president Richard Nixon. China’s economy is not an island, and the financial waves generated by Russia’s invasion will lap at China’s shores and could be accompanied by ripples generated by US monetary policy changes.

Having accepted that rising US consumer prices require a monetary policy response, the Federal Reserve is set to raise US interest rates but is doing so at a late stage of the economic cycle.

A 0.25-percentage-point rise later this month looks almost assured. Going forward, though, the risk is that the Fed ends up with a slowing pace of US economic growth and sticky inflation, a risk arguably only heightened by the global economic side effects of the war in Ukraine. That is not a healthy scenario for the US economy or China, given the importance of the US market as an export destination for Chinese goods.

Neither will Europe be in any position to take up the slack. European firms and financial institutions have spent decades growing operations and lending to the Russian economy. In solidarity with Ukraine and in adherence with sanctions, those decades are being unwound. That means big losses. This will crimp European economic growth prospects, but it is a price Europe’s policymakers have decided has to be paid.

What is not yet known is where the biggest losses will be felt and what that means for the solvency of affected firms. Lack of clarity breeds doubt. This can spark an institutional “dash for cash”, or rather a dash for dollars. That dash for dollar liquidity can underpin the currency’s strength on foreign exchanges, possibly even against the renminbi. Soaring dollar-denominated commodity prices then become more expensive in local-currency terms. Poor nations can be priced out of commodity markets. This can cause societal unrest and leave them unable to service external debts, such as under China’s Belt and Road Initiative.

Then there are the sanctions themselves. Among them is the exclusion of certain Russian banks from the Swift international payment system and restrictions on the types of business that can still be legally conducted with Russia. For example, the unwillingness of Western insurers and shipping firms to engage with Russia in light of sanctions will restrict Russia’s ability to export commodities by sea, adding pressure on commodity prices.

In theory, Chinese firms are not affected by such measures unless Beijing itself adopts similar sanctions. In practical terms, and given that the United States claims extraterritorial jurisdiction, Chinese companies and financial institutions that operate in both Russian and Western markets might choose to proceed cautiously.

Beijing may also conclude that, in the current circumstances, China’s own national interest is best served by not going too far beyond “normal” trade with Russia. Fifty years after

Mao met Nixon, and at a time when the world feels as if it is going through weeks when decades happen, China is at the epicentre of the global economy. China will not be insulated from the global economic and financial consequences of Russia’s invasion of Ukraine.

China’s economy is not an island, and the financial waves … will lap at China’s shores