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Russia invasion heightens emerging markets risk

A fracturing of payments and financial systems could make more parts of the world uninvestable, economists warn
Russia invasion heightens emerging markets risk
  • Economists forecast further creation of finance silos as countries look to insulate themselves from future sanctions
  • This could limit emerging markets investing and hit current investments

The weaponisation of the finance system against Russia could lead to a fracturing of the global payments network, placing additional risk on investments in other countries, leading economists said.

The removal of Russian banks from the global Swift payments network and other actions taken to restrict access to global capital markets following the country's invasion of Ukraine could also lead China and other nations to develop their own networks, which could eventually lead to sanctions regimes broadening.

“Countries are thinking much harder now about little pipes that go around the dollar system,” said Mohamed El-Erian, chief economic advisor to insurer Allianz. 

"I do think that we have started something that will change the international order. It's not going to happen very quickly but it will result in a much more fragmented system going forward," El-Erian, who also previously ran the bond-focused firm Pimco, told the AIM Summit event in London this week.

`Some countries currently lean more towards the US for national security purposes but see China as a bigger trading partner. “Increasingly, both China and the US are going to tell countries ‘either you are with us or against us’,” said Nouriel Roubini, chairman of Roubini Macro Associates.

“You could see a situation where the US and the west is going to impose sanctions on a wider range of countries,” he added. 

Broader sanctions

Already, large parts of Asia, the Middle East, Africa and Latin America trade more with China than the US. The muted response outside of the US and Europe to Russia’s invasion of Ukraine suggests many emerging market nations could side with China and its allies, Roubini said.

“Yes, the west is solid [in its support for Ukraine] … but most of the developing world is not,” Roubini said.

“They do business and trade with China and with Russia, and they don’t care about the rule of law, they don’t care about human rights,” he said.

Bill Browder, chief executive of Hermitage Capital Management and head of the Global Magnitsky Justice Campaign which advocates for corrupt individuals' assets to be frozen, said the main obstacle that any alternative to the current global payments system would face is trust.

“There is no circumstance in which I would want the Russians to have the information about my money … to have the access to my money for a split second,” he said.

“I don’t think that, no matter how far flung you are in the world, that you’re going to want to subject yourself to the whims of an authoritarian regime who may decide to just grab your money.”

Russian shares have slumped in value since the invasion began on 24 February. This has led some private investors to seek exposure to them through global depository receipts or closed-end funds, which Browder said was “stupid”.

Many UK investors were burned by holding shares in Russian companies that were listed in London – even those registered outside Russia – yet were still included in sanctions and other trade blocks. 

In London, trading has continued in companies like Russian gold miners Polymetal (POLY) and Petropavlovsk (POG), despite uncertainty over their future prospects. Polymetal had been one of the most popular shares following the invasion with investors gambling on its dividend still being paid. It was not, although it could yet be brought back later in the year. 

“First of all, from a moral standpoint, it’s like saying ‘should we be buying German equities?’ at the beginning of Hitler’s war," Browder argued.

"There are some things that no matter how dispassionate an investor is, they shouldn’t get involved in.

“But also, from a risk-reward standpoint, if Putin is ready to tear up the rulebook when it comes to borders … when it comes to mass murder, why would anyone believe that he’s going to respect the rulebook when it comes to corporate governance or debt repayment?”

The outbreak of war has led many investors to seek refuge in the safety of the US dollar, which “is set to test multi-decade highs”, JP Morgan analysts said in a note this week. The bank downgraded its year-end forecast for the Chinese yuan by 4 per cent, to 6.95 against the dollar.