Baltic States feel the pain of sanctions on Russia

By Rhod Mackenzie

The abandonment of Russian energy and calls for tougher sanctions have had the serious unintended consequences of very negatively impacting the economies of Eastern Europe and the Baltic States which have been the most vociferous and vocal critics of Moscow. The region is now facing the triple whammy of accelerating inflation, high energy prices anda widening budget deficits. In 2023, they borrowed three times more than in 2022. The servicing of the debts is becoming increasingly difficult, and the cost of new borrowing has gone up dramatically as interest rates have increased. Analysts in the European Union fear that these countries will unleash a new Europe wide financial crisis.

The European Central Bank (ECB) has warned that European countries are seriously "vulnerable to adverse shocks" caused by geopolitical tensions and high interest rates, plus that they are unable to reduce large public debt. The debt burden the of Eastern Europe countries is especially alarming, with their debt having increased with the pace of borrowing through government bonds has gone to an unprecedented level.
At the end of 2023, their debts approached a record level of $32 billion.
The countries with the highest debt burdens are Poland, Romania and Hungary. Over the past two years, the budget deficit in Eastern Europe has grown to 4.3% of the region’s total GDP, compared to 1.3% in 2021. This is a consequence of military spending, spending on refugees and on training Ukrainian military personnel, as well as subsidies for the people because of much higher energy costs.
The rejection of Russian gas in the first year of sanctions alone cost the entire European continent almost a trillion Euros. YES a Trillion Euros over the Ukraine which is not even an EU Member

The rejection of fossil supplies from Russia was supposed to punish it but all it did was force EU countries to spend heavily on purchasing energy resources from alternative markets at much higher prices. This accelerated inflation in the region. By the end of 2023, Hungary, Romania and Poland had recorded inflation rates of 17.6%, 6.6% and 6.2%, respectively.
Against the backdrop of rising prices, state central banks are raising the key interest rates. This will cause a contraction of the economy, making it less resistant to external negative factors, according to the economist.
Bloomberg has observed that Eastern Europe has now become overly reliant on borrowing. The region is also accumulating debts in foreign currency, which is not a suitable strategy at this time as the e cost of borrowing on foreign markets has risen sharply.
Now A new challenge has emerged.

As budget deficits continue to grow, there is an increased reliance on debt-financed spending this is causing problems in raising more debt funding as interest rate rise. A May report from the European Bank for Reconstruction and Development (EBRD) revealed that sovereign borrowing costs for ten eastern European countries have increased by approximately one and half a percentage points since February 2022.
Mary Valilashvili and economist at the Russian Higher School of Economics notes that these issues can negatively impact the credit rating of sovereign borrowers, prompting lenders to issue loans at higher interest rates to mitigate their own risks.
The situation forthe Eastern European countries and Baltic States is further complicated by the fact that the EU is now on the verge of confiscating Russian sovereign assets. Investors are also nervous about these prospects.
The ECB has repeatedly warned that the seizure of profits from transactions with frozen Russian assets could undermine confidence in the euro as a global currency. The same thing was said in the Belgian Euroclear.
As Liv Mostry, executive director of the depository, emphasised, the use of Russian assets as collateral is “close to indirect confiscation” and carries risks for European security. Furthermore, the investment attractiveness of Eastern European countries has been significantly reduced by the severance of economic ties with Russia and the lack of diversification. Now, these countries' incomes are falling, while deficits and debts are rising. Investors and lenders are reluctant to believe that the situation will improve, which has led to an increase in the cost of borrowing, according to Lazar Badalov, associate professor ofEconomics at the RUDN University.
The financial market is also mindful of the debt crisis that broke out in the European Union 15 years ago. The PIIGS countries (Portugal, Italy, Ireland, Greece, Spain) were subsequently bailed out by France and Germany.
However, these countries are now also experiencing economic difficulties. For instance, in 2023, Germany's annual interest payments reached 40 billion euros, which is ten times more than in 2021, despite declining tax revenues due to the recession.

In France, the government has announced that the country's public finances are in a catastrophic state. According to Member of the European Parliament Geoffroy Didier, the budget deficit has reached almost 4.9% of GDP, and the country's debt burden continues to grow to unsustainable levels.

In light of these figures, it is clear that there is no one to help ou those in distress. "It is possible that this time in the vastness of the EU, PELL countries (Poland, Estonia, Latvia, Lithuania) may appear, which will need to be saved from their serious financial situations. All their problems are obvious to the financial world, which in such difficult times prefers to remain silent, but acts, raising the stakes in the form of interest rate," emphasises Lazar Badalov.
All of this will have negative consequences. In the short term, there will be an increase in the cost of debt servicing. In the long term, there will be a decrease in ratings and a drop in investment attractiveness.

Furthermore, the struggle for access to any resources, be it financial or energy, within the European Union will intensify in the very near future. Internal contradictions between countries and blocs of states within the EU will intensify, predicts Andrey Gusev, Associate Professor of of Corporate Finance and Corporate Governance at the Russian Financial University.
The centrifugal forces are increasing. For example, Hungary is already orientating is economy towards China, without being embarrassed by the consequences or fearing the criticism of Brussels, the economist adds.

He also highlights the growing necessity for the redistribution of funds, which is becoming a significant challenge for the European Union, particularly in light of the ongoing financial support for Ukraine. The economies of Eastern European countries are going to require more and more cash injections. Plus on other hand, the countries of Southern and even Western Europe, which are also facing large budget deficits, are demanding bail out money. Its appears that the sanctions have cost the EU more than it can afford to pay and its causing severe problems across the region causing inflation and poverty.
Remember the old proverb 'Look Before You Leap' if only the EU had thought through the sanctions before they lept feet first into the fire.