War in Ukraine: Soaring Gas Prices and the Return of Stagflation?

With nothing left to lose, Russia’s invasion of Ukraine will likely intensify, roiling energy markets and raising questions about the future of globalization, says Davis Center Director Rawi Abdelal.

With the global economy still reeling from inflation and supply-chain disruptions, the Russian invasion of Ukraine threatens to further destabilize the world’s fragile recovery from COVID-19. The impact on multinational companies, investors, and consumers is just starting to play out, but people are already seeing higher prices at the pump, for one thing—and in some areas, those prices could spike even higher, says Harvard Business School Professor Rawi Abdelal.

Abdelal, HBS’s Herbert F. Johnson Professor of International Management, recently returned from a trip to Europe, where he was researching the Nord Stream 2 natural gas pipeline linking Russia and Germany. In an interconnected corporate world, he says, the pipeline project illustrates how inseparable politics and business are, especially at the edges of old Cold War battle lines smoldering anew.

In response to Russia’s attacks, multinational firms from IKEA to Netflix have curtailed or suspended operations in the country, and many airlines and shipping companies have severed links connecting people and goods, as western nations impose tough sanctions and companies rally in support of Ukraine.

“My own guess is we are nowhere near de-escalation. My personal assessment is that it is likely to get worse.”

Since the conflict seems poised to get worse before it gets better, what impacts should businesses and consumers expect to experience as a result? Abdelal shares some insights in the following interview, based on his extensive research of Russia, Ukraine, the politics of oil and gas, and sanctions. He has written case studies about the Russian government after the fall of the Soviet Union, energy politics in Europe, and modern-day Ukraine. This conversation has been edited for length and clarity.

Avery Forman: You were just in Europe. Can you give us a sense of your research and how it pertains to the crisis unfolding right now?

Rawi Abdelal: I’ve been working for many years on a project about Russian-European energy relations as an interesting business question, but also as a metaphor for some of the geopolitics of the moment.

The interesting thing about the energy sector is that it is always and everywhere inherently geopolitical, even when the decision-making by firms is utterly commercial in its rationale. These were fundamentally commercial logics that led to the building of Nord Stream 1 and 2, but the fact of their existence is inherently geopolitical because it ties countries together in very intimate ways and changes patterns of consumption and dependence.

Forman: What’s the impact for companies that have had to get out of Russia or for consumers of their products?

Abdelal: One way or another, the biggest effect of the sanctions will be experienced by Russian citizens. They are the ones who will experience the economic stagnation. They are the ones who don’t have access to some of their money. We want to be careful not to equate those difficulties with the genuine horror that Ukrainian citizens are experiencing.

“For Europeans, there will be huge price effects for both oil and natural gas.”

But on the business side, the effects are felt enormously by Russian citizens and relatively modestly by the multinational firms in question. Russia is really important in the world’s energy markets, but it is otherwise not an important market for most firms in the world, and certainly not for many American firms. It’s just because Russia is such a geopolitical player that it seems like Russia is a big part of the world economy, but it’s not. I don’t think for any of these companies, profits foregone in Russia are likely to have much of an effect at all.

Forman: Can you talk about the oil and gas impact of the conflict for firms and consumers?

Abdelal: For Europeans, there will be huge price effects for both oil and natural gas because Europe buys a huge amount of natural gas from Russia and a lot of oil from Russia. We in the United States don’t buy a lot natural gas from Russia because no pipeline infrastructure connects Russia and the United States, whereas a dense pipeline infrastructure connects Russia and Europe, and that’s still flowing.

Oil is a commodity that makes its way onto world markets, and supply and demand determine price. At the moment, there is not a supply shock that’s causing a spike in prices. Rather, higher prices are caused by fears of a supply shock connected to these events.

The Biden administration’s decision to ban the import of oil into the United States will create a price effect for Americans and for the world.

Forman: Where is this going from an economic and geopolitical perspective?

Abdelal: They’re connected in two ways. We should expect much larger price increases experienced by American consumers as a result of these foreign policy decisions.

So the question is, ‘What drives those policy decisions?’ Those will be driven by the geopolitics. If we want to make sense of what happens next with financial markets, energy markets, and sanctions, we need to be able to make educated guesses and plausible interpretations of scenarios with the geopolitics. Do we think we are on the verge of further escalation of tensions, in which case we should expect these indirect effects on consumers? Or do we think a solution to de-escalate is in sight? Then maybe we are living through the worst.

My own guess is we are nowhere near de-escalation. My personal assessment is that it is likely to get worse, and maybe much worse, in the coming days, weeks, and months.

Forman: What would trigger that?

Abdelal: The extraordinary intensity of the sanctions regime as a punishment for what Russian military forces have done inside Ukraine has served the purpose of punishing the country, but paradoxically perhaps has given the Russian government a lot less to lose by continuing down this path because it’s all stick and no carrot. So from the perspective of the Russian government, the sanctions have escalated the conflict.

“We should expect much larger price increases experienced by American consumers.”

The conflict in Ukraine is obviously partly about Ukraine, but it’s also part of a much messier, more complicated geopolitical conflict between Russia and the West about the European security architecture established in the 1990s and 2000s, and particularly about the expansion of NATO. We are at a genuine impasse, and I fear that a much more thorough and destructive military operation in Ukraine is ahead.

Forman: Will this conflict worsen COVID-19 supply chain disruptions?

Abdelal: Probably the biggest effects of this geopolitical risk to the global economy will not be felt through supply chain issues. Russia is not a critical component of these disaggregated global supply chains. I think the broader questions are about these even larger geopolitical challenges that are associated with this conflict. Among them, China’s modest but real support for Russia in this conflict, and obviously China is a major player in global supply chains. And so that is just introducing more geopolitical risk into multinational global business, broadly speaking.

Forman: How can smart business leaders hedge against geopolitical risk in this era?

Abdelal: I think it really depends on the industry and the exposure. I think a smart executive will spend considerable intellectual effort trying to first, make sense of these geopolitical risks and how they will unfold on the ground in Eastern Europe, Central Europe and the European Union more broadly. Then, industry by industry, firm by firm, they will derive the micro implications for their own businesses.

It’s huge for American and global multinational energy firms. Unavoidable. And then, there might be industries that don’t really touch the territories and countries most likely to be affected by the crisis.

In a way, the effects are for every firm in the world because we are talking about the future of globalization, and the potential fragmentation of lots of global markets and the potential for global stagflation of the 1970s variety.

This article originally appeared on Harvard Business School Working Knowledge on March 9, 2022.

Herbert F. Johnson Professor of International Management, Harvard Business School

Rawi Abdelal is the Herbert F. Johnson Professor of International Management at Harvard Business School.

Senior Associate Editor, Harvard Business School Working Knowledge