To kick off 2023, Chris Gilmour delves into arguably the most important geopolitical situation in the world today.

The Russia – Ukraine war has reached the type of impasse that is unlikely to change until at least the northern hemisphere spring.

Ukraine is a small country (relative to Russia), but it has serious backing in the form of NATO and/or the US. That backing is likely to be sustained provided a) the resolve of the Europeans remains largely intact and b) President Joe Biden’s US administration manages to keep getting large aid packages to Ukraine passed by the US Congress.

If these two factors remain in place, Ukraine should continue to punch well above its weight, as its people are highly motivated and cannot be intimidated by Russia’s terrorist tactics.

Conversely, the Russian troops really don’t want to be in Ukraine. They are fighting a war that their political masters have set for them and they don’t have anything like the motivation of the Ukrainians. Many of the troops are part of Yevgeny Prigozhin’s Wagner Group, a shadowy paramilitary force. It is widely believed that Prigozhin recruits soldiers for the Wagner Group from Russian prisons, offering inmates reduced sentences or even freedom in return for fighting in Ukraine and elsewhere.  

Common sense tells a rational fighter when to give up and surrender. But Russia is not following a rational process in Ukraine. As mentioned in this column some time ago, Vladimir Putin is attempting to plug another “gap” in Russia’s natural defences. He will not be satisfied until Ukraine is wiped off the map and re-incorporated into a greater Russia.

But he has badly miscalculated a number of factors in this war, the end result being a gradual emasculation of the Russian state.

Sanctions: slow and steady

The first point to note is that sanctions are working, albeit extremely slowly, and the Russian economy is being very slowly strangled. That process will continue, provided the resolve of the Europeans in particular doesn’t falter in 2023 and beyond. However, as demonstrated by London sanctions watchdog Moral Ratings Agency (MRA), a large number of very high profile international sanctions busting firms are still doing business with Russia.

The worst offender, according to MRA is US drugs and healthcare giant J&J, but the list also includes HSBC, Goldman Sachs, Unilever and Procter and Gamble. If past history is anything to go by, most if not all of these companies will eventually be forced to pull out properly, unable to resist the welter of moral outrage against their continued presence in Russia.

But there’s a long way to go, as demonstrated in MRA’s graphic below:

It’s perfectly understandable from a narrow, purely profit-motivated perspective why many of these companies persist with their Russian presence. Doing business for western firms in Russia has always been immensely profitable and a lot of companies are loathe to give this up. But the same argument could have been applied in the case of western companies operating in apartheid South Africa up until the 1980s, when most companies eventually cut ties.

If the war in Ukraine carries on long enough, a parallel commercial war of attrition will eventually force most if not all western companies out of Russia.

Military performance: poor

The second point to note is Russia’s pathetic performance on the battlefield.

At the start of this conflict, western military commanders could scarcely conceal their excitement when it became clear that the Russian army was seriously bogged down logistically in its initial attempts to take the Ukrainian capital city Kyiv. That excitement quickly turned to cautious re-evaluation, however, when they realised that a humiliating conventional defeat for Putin in Ukraine could quite easily degenerate into some sort of nuclear conflict.

There is no doubt that if properly armed with long-range rockets for their HIMARS MLRS, the Ukrainians could wipe out any Russian positions in Crimea and elsewhere. And the Ukrainians are champing at the bit for such an outcome. But the Americans are being typically cautious about supplying such long-range ordnance for fear of some degree of nuclear reprisal. Just to dimension this, if the Ukrainians possessed rockets that had even a slightly greater range, they could completely destroy the Kerch Bridge that links Crimea to Russia. By then cutting off Crimea’s water supply from near the recently re-captured city of Kherson, the Ukrainians could effectively turn Crimea into semi-desert and there’s nothing the Russians could do about it.

Where will the gas go?

Lastly, there’s the question of Russian oil and gas supplies to Europe this year and beyond. Europe currently has plenty of gas in storage to see it through this winter, but if no Russian energy makes its way to Europe this year, next winter could be problematic.

But of course, it must be remembered that Russian gas in particular is not going anywhere if it doesn’t go to Europe.

Constructing very long gas pipelines to China and India will take many years and enhanced shipments of liquefied natural gas (LNG) to these countries require port facilities in Russia that don’t currently exist. And all the while, Russia is losing valuable billions of dollars (or roubles) worth of exports that aren’t going to be made up any other way.

Outcome: a protracted negotiation?

Putin realises that he’s in a hole and would love an escape route, an offramp.

The West mustn’t lose its nerve and attempt to persuade Ukraine to accept a badly-negotiated deal with Russia. To date, the Ukrainians have recaptured 54% of the land occupied by Russia since the invasion almost a year ago. Ukrainian president Volodymyr Zelenskyy has made it abundantly clear that any peace deal will, of necessity, require a return to pre-2014 boundaries. In other words, Russia must vacate Crimea and the Luhansk region of east Ukraine. The Russians will likely stick to an old-style Soviet script of negotiation that involved demands and threats but little in the way of actual substance. Just when their opponents have been worn down mentally and psychologically, the Russians will offer a meaningless morsel that will be grabbed by a desperate West.

That type of scenario must be avoided at all costs.

However, what this means in practical terms is that the conflict will likely drag on for years until the Russian economy can no longer prosecute such an expensive exercise and will have to accept unconditional surrender, with all that this entails.

At this point, the humiliation of Russia will be complete.

This article reflects the independent views and opinions of Chris Gilmour, which are not necessarily the same as The Finance Ghost’s opinions on these stocks. For equity research on South African retail and other stocks, go to www.gilmour-research.co.za.