Vantage Points – The Changing Economics of War and Peace

The Changing Economics of War and Peace

If you head to room 18 in the National Gallery you will find a painting by Rubens: Minerva protects Pax from Mars. Painted in 1629, it is dominated by a female figure, Pax (Peace) surrounded by children.  She is shielded by Minerva, the goddess of wisdom, from the attack of Mars (War). In front of Peace is a satyr with a cornucopia or horn of plenty erupting with food. The painting offers an important parable on the bounty of peace versus the destructive power of war.

Every day we see the horrific effects of war, destroying and devasting lives. All other effects pale in comparison to the human impact, but war also wrecks economies and sets back the productive capacity of nations. Furthermore, war has the power to destroy long established assumptions and ideas. In the case of Russia’s brutal invasion of Ukraine, in just days the Western understanding of the world order has been torn to shreds. At its heart is the sudden expiration of Western complacency.

In defence of Defence

Defence spending in Europe, long regarded as an unnecessary irrelevance beyond the corridors of power in Paris and London, is now an imperative and a priority. Washington, which spent a decade attempting, and failing, to persuade each NATO member to spend at least 2% of their GDP on defence, now has Vladimir Putin to thank for accomplishing this goal. Last month, Olaf Scholz, Germany’s chancellor, announced plans to raise defence spending in Germany to $110 billion, increasing spending from 1.5% to 2% of GDP.

Germany isn’t alone. Quite what this means for defence as a sector is intriguing: it’s been increasingly regarded with distinct ambivalence bordering on hostility. For instance, in 2018 Norway’s $1 trillion sovereign wealth fund announced that it had sold out of BAE Systems because it regarded an arms manufacturer as being beyond the pale.

Now things are changing.  The FT reported in March that the Swedish bank SEB had reversed its former decision to exclude defence on the basis of sustainability; six of its funds will now be allowed to invest in the defence sector. ‘The bank, one of the biggest in the Nordic region, was not unique in shunning defence companies,’ noted the FT’s reporter. It will be interesting to see if the Norwegians follow suit.

The change in sentiment is evidenced by the share prices of important European defence companies: BAE Systems has risen from under 600p in late February to around 750p in late March. Thales, the major global French defence firm, rose from around €85 to over €110.  That’s not surprising, but this is: for the first time in decades, politicians and the public are starting to care about the sustainability of Europe’s defence sector. Can it deliver when it’s needed?

Well, we know it’s delivering advanced weapons such as NLAWs (Next-generation Anti-tank Weapons) to Ukraine in their thousands and employed with devastating effect. These are manufactured at Thales’ Belfast subsidiary, which employs 492 people directly but reckons it contributes to nearly 900 jobs in the province. As a result, Thales isn’t just helping to prop up democracy and sovereignty in Ukraine, it’s also an important source of employment in Northern Ireland, an area not without its own deprivation and political challenges.

So, can defence now be considered a sustainable investment? Is it ESG complaint? Before the invasion of Ukraine there would have been no valid case for it. Now, there’s a case to be made, particularly if the weapons systems in question can be considered defensive.

Who has the energy?

The Ukraine crisis has been a game changer here too, offering a lifeline to North Sea oil, now almost certainly regarded as a necessity, if only for the short term. Furthermore, the crisis seems to have ended any UK government hesitation over future nuclear power. You’ll have seen that it will be taking a 20% stake in the £20 billion Sizewell C plant (along with 20% by EDF), a considerably larger investment than the original £100 million that it had earmarked towards start-up costs. Moreover, ministers have asked regulators to look into Rolls-Royce’s plans to develop a new category of Small Modular Reactors. The Conservative government has also raised eyebrows in the shires by announcing plans to change the planning rules to make it easier to build onshore wind farms. The need for energy security has also put fracking back on the agenda, with ministers in the UK inviting a fresh assessment of the scientific evidence of its impact.

So Russian aggression in Ukraine has thrown the energy consensus into the air. As well as forcing governments and businesses to think harder about how they keep the lights on, the Ukraine crisis is also forcing the world to rethink food security: Russia is a major supplier of fertiliser and both countries are significant food exporters. Ukraine has long been known as the “breadbasket of Europe”.

How to lose friends and alienate people

Finally, among the many shifts brought by the war in Ukraine, there is the seismic hardening of attitudes toward autocratic regimes and a growing awareness that doing business with them poses potentially unjustifiable risk to corporates.

Whereas once upon a time it might have been frowned upon to do business with certain countries, now it can do much more than just reputational damage. Look at former FTSE 100 Russian exposed miners Polymetal and Evraz: with both their share prices down over 75% year on year they’re now in the FTSE 250’s middle order. Polymetal also saw its chairman and five other directors resign over its Russian business interests.

The Ukraine crisis places a question mark over autocratic regimes everywhere, including China, the world’s greatest autocracy. Put crudely, why run the risk of investing in a country where there are no reliable safeguards in place to protect your assets? There’s also the wider ESG question: why are investors seemingly more concerned about corporate governance than with the governance of the jurisdictions in which the corporates are operating?  The invasion of Ukraine would appear to answer that question in respect of Russia and Belarus at least. Russia certainly doesn’t fit into ESG ideology.

Death and taxes

Even before the Ukraine crisis blew up we knew that taxes were likely going to have to rise in the West to pay for the war against Covid and also meet the rising costs of our ageing societies. Now, by reprioritising defence spending, we must surely brace ourselves for additional increases in public spending. When aligned with pressures on living standards for those on the lowest incomes it’s hard to see governments not being obliged to ask the wealthiest in society to meet a greater share of these costs. Already we have seen Joe Biden announce plans for a tax on Americans with assets of $100 million or more. Here in the UK, the Labour party has also been talking about wealth taxes, and I’m sure such proposals will be revisited, with fresh justification. As with so much else, the crisis in Ukraine has led to a major change in the status quo.

So, the crisis has upended many of our assumptions – on emerging markets, defence, energy and food, forcing security of supply into the crosshairs of policymakers and business leaders. For wealth management, the crisis has demonstrated the importance of sound, economic fundamentals when it comes to portfolio construction and stock selection.

Perhaps even more fundamentally, the Russian invasion has shattered our implicit assumption of peace, and exposed the fallacious complacency of that assumption. The invasion also reminds us just what’s at stake: the horrors and devastation are on our television screens and in our newspapers daily. Yet it also makes us all realise, as Rubens illustrated all those years ago, that peace is worth fighting for. But as Minerva shows, to give peace a chance you have to be prepared for war, a slice of wisdom that many in the West are relearning.


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