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Gintarė Skaistė. The biggest EU challenge: steps needed to improve resilience

Date

2022 10 26

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Dr.  Gintarė Skaistė is the Minister of Finance of the Republic of Lithuania

Today, Europe faces numerous challenges – from dealing with the legacy of pandemic to climate change. But the biggest one is no doubt the Russia's unprovoked and brutal war against Ukraine.

Let’s go back in time a bit to that morning in late February – when we all woke up shocked by what had happened. Russia has brought war back to the European continent. And it is war not only against Ukraine, but against the collective West and the post-second world war rules-based world order. In other words, against the world as we know it.

As shown by history numerous times, for small countries in troubling regions – like Lithuania – a rules-based international order is the only security guarantee. Without it, we face existential threats. That is why it is so important to defend the system and the values it is based on.

Europe, which has not yet fully recovered from the Covid pandemic, is now facing the biggest geopolitical challenge since the end of the Second World War. We should state that clearly and loudly. It is not just a regional “conflict” somewhere in a distant corner of Europe. It is something that affects us all and requires our collective response.

Today in Europe and beyond we are dealing with the consequences of this war: slowing economic growth, persistently high inflation, caused by the shock of energy prices due to Russia’s manipulation of energy supply. The underlying reasons for these challenges are Putin’s war. It is not Western sanctions or policies of domestic Governments. It is a direct outcome of Russia’s war against everything we believe in.

Undoubtedly, the extraordinary challenge at hand requires an extraordinary and united response

So, Western democracies have delivered. We have responded immediately and with unprecedented unity and determination. The European Union has acted urgently and decisively. In a historically short period, 8 packages of sanctions against Russia and its accomplice Belarus were adopted.

As a result, more than one third of Russia's banking sector is cut from the international financial system. Sanctions also include asset freezes of those close to the regime and, importantly, Russian Central Bank reserves. The sanctions regime also covers a range of sectoral export and import sanctions, as well as individual ones. Also, nearly one thousand international companies have left Russia.

Sanctions are the most visible, direct and powerful response to Russia's attack on the sovereignty of Ukraine. And we can see – they are working. Even in the short term, we already see the impact on the Russian economy, which will inevitably contract this year. Russia is increasingly isolated, cut off from the global economic and financial system and vital technologies. But the effect of sanctions in the long term will be even more devastating than in the immediate term. By reducing Russia's capacity to function economically and rebuild militarily, we are diminishing its abilities to wage a larger scale war in Europe in the future.

Having in mind recent war escalation by Russia – including new missile strikes destroying essential infrastructure, fake referendums in occupied Ukrainian territories and ongoing military mobilization – we must ensure that we do not dwell into “war fatigue” and push forward with additional sanctions packages. We must also keep our resolve when it comes to maintaining the sanctions put in place – we cannot reduce the sanctions until the war is fully over and Russia pay’s for all the damage it has done to Ukraine and its people.

Apart from sanctions, another crucial thing is our all-out support for Ukraine: financial, humanitarian and military

What at first hardly seemed possible is now happening. Things what were out of the question, for instance, the supply of weapons and military equipment, is now a reality among NATO countries and even beyond. This has helped Ukraine to stop the advance of the Russian forces and even engage in successful counter-offensive. Work on this front has to continue, and military assistance is absolutely key.

In terms of financial support to Ukraine, a lot has been done at European and international levels. Team Europe has provided more than 19 billion euros in financial assistance to Ukraine. Currently, the EU is working on delivering its commitment to provide 9 billion euros in exceptional macro-financial assistance still this year. In this respect, we have recently reached an agreement at the EU Council on 5 billion euros in loans, in addition to 1 billion already disbursed to Ukraine during the summer. We are working hard on the modalities of the remaining committed 3 billion as soon as possible.

This European support – together with the funds provided by other Western allies, first and foremost G7 countries – will help Ukraine maintain the stability of its public finances in the short term. But is far from enough. We will soon enter the year 2023, which will bring additional financing challenges, as the war is ongoing. According to latest World Bank estimations, Ukraine’s budget financing gap will remain significant next year and will amount to around 37-38 billion EUR. This is a huge sum of money, and we need to take collective actions to mobilize it together with our Western allies, International financial institutions and Multilateral development banks. At the EU level, we may need to think outside the box and create new financial instruments, which would allow for resource mobilization beyond the EU budget and bilateral contributions of Member States.

From our side, Lithuania actively provides financial support to Ukraine. We have contributed bilaterally – for immediate reconstruction needs and internally displaced persons – and via international instruments, such as those of the World Bank, aimed at covering the country’ urgent financing needs of the central government. We are a small country, but we have already provided a considerable amount of support. For now, we have provided more than 625 million EUR of humanitarian, military and financial support to Ukraine, which constitutes 0.9 proc. of our GDP. Of course, we are willing to do more because this is our common fight.

Also, Lithuania has welcomed numerous Ukrainian refugees – around 65 thousand or 2.5 proc. of our population. We are providing these unfortunate people with support, social guarantees, housing and other types of support.

Collectively, we must do more in order to help restore and rebuild Ukraine

Closing the short-term financial gap is one challenge. But we must also look at the long-term perspective. According to the World Bank's estimates, the current cost of reconstruction and recovery in Ukraine amounts to 350 billion dollars. This figure is expected to grow in the coming months as the war continues. From this amount, according to World Bank’s assessments, demining and clearance of explosive remnants of war (ERW) in Ukraine soil alone will require about 80 billion euros.

It is clear that additional resources will need to be mobilized for the eventual reconstruction, and that we need to come up with a credible institutional model for this.

Also, right now, 17 billion euros are requested for immediate reconstruction needs alone. Lithuania contributed to the implementation of this request through the World Bank’s Ukraine Relief, Recovery, Reconstruction and Reform Trust Fund and delivered 5 million euros to immediate reconstruction of the country in the short term as well as 10 mln. EUR as direct bilateral support for urgent recovery needs to the National Bank of Ukraine (pledged at Ukraine Recovery Conference 2022 in Lugano). I believe that the European Union must take strategic leadership in the recovery phase. This is especially so having in mind Ukraine’s European aspirations and the EU candidate status. Ukraine’s future path is European, and the rebuilding and connected reform efforts should be closely connected to the EU perspective.

In order to mobilize massive resources for Ukraine’s reconstruction, we will have to look for various financial sources together with international partners. We should think about the joint EU platform, inviting other Western allies, international institutions and other actors to participate in this instrument.

This is needed to reduce the risk of fragmentation of various financial initiatives and ensure systemic approach towards Ukraine’s reconstruction and modernization. Of course, Ukraine’s domestic ownership of the whole process is critical – so the rebuilding plan has come primarily from the Ukrainian side.

Furthermore, when talking about potential financial sources for the reconstruction of Ukraine, we should not forget the frozen Russian assets – both private and public. We must find legally sound ways to use these resources as a source of funding the costs of the Russian aggression against Ukraine, as Russia should be held accountable for its crimes also in financial terms. In other words, we should find ways to reduce our own bill by using the funds – for instance frozen central bank reserves – which belong to the aggressor state, which is causing all the damage.

The issue of the effect of war on our economies and societies

In the first half of the year, the war created the threat of a global food crisis. However, after the partial restoration of Ukraine's grain exports, pressure on most vulnerable developing regions, looking at the dynamics of the international food market, has moderated. This is a positive development, at least for now.

Without doubt, the biggest headache right now is the shock of energy prices. The global impact of the war on economies comes primarily through chaos in the energy sector. We have to realize that this chaos has been largely created by Putin’s Russia. He uses energy as leverage and a weapon against us – there is no question in that anymore. All EU countries are facing this challenge. In this context, the main goal of the governments in the short term should be to ensure support for the most vulnerable members of our societies. The definition of most vulnerable groups is getting broader and broader as prices continue to rise, encompassing also other product groups and services, and it starts affecting also the middle class.

So, we need to constantly reflect on this while constructing our policy tools. Also, we as policymakers must take into account that our fiscal support measures should help alleviate the negative effect of the price shock, not create additional inflationary pressures by stimulating the demand too much. It is a delicate balance to strike.

Many countries have already introduced wide-ranging mitigating measures in effort to protect citizens’ purchasing power, support households and business. However, there is a great need for coordinated solutions at the European level. We should act in solidarity and help each other to withstand the energy shock. We need common tools to deal with the situation in the gas and electricity markets (good that they are proposed, but we need bolder decisions) and common financial instruments – for this the Recovery and Resilience Facility (RRF) and RepowerEU are essential.

Competition among EU Member States in terms of support packages for households and businesses is not a beneficial way forward. At the end of the day, such a strategy would leave us all worse off. So, we need to coordinate closely – especially when it comes to tax measures and business support. We must remember that we are a part of the single market and should maintain a level playing field even in difficult times.

The only sustainable way for Europe is to reduce dependence on imports of Russian fossil fuels

Cutting the energy links between the European Union and Russia, securing alternative energy sources and suppliers, is the only right strategy. Only this way will reduce Europe’s vulnerability to potential future shocks in the energy sector.

Lithuania is leading by example here. Since May, we have cut all imports of Russian gas, oil and electricity. This decision was enabled by strategic steps we have taken a decade ago, investing in the necessary infrastructure. Our experience shows that cutting energy ties with Russia is indeed possible.

It is important to work along with western partners from Norway to Canada and the USA as well with other exporters of energy sources such as Middle East countries – to get alternative and reliable energy supplies. This is specially so for natural gas and oil, much of which Europe has been buying from Russia up until recently. At the same time, the current situation highlights that we need to have adequate domestic energy generation capacities – especially when it comes to electricity. To achieve this, the only sustainable way forward is to invest more into alternative energy sources – solar, wind, hydro. We must further increase our ambition of the green transition. In this regard, in Lithuania we have set a target to meet 100 percent of domestic electricity demand by renewables by 2030, and we are taking concrete steps to reach this goal, making it a key priority at the national level.

Russian aggression against Ukraine has radically changed the security situation in Europe, and especially for frontline countries such as Lithuania. Hence, we took swift decisions to increase defence spending, aiming to accelerate capability reinforcement.

Already this year, after Russia’s invasion of Ukraine, we increased our defence spending from 2 to 2.5 percent of GDP. Looking at Russia’s war escalating actions, even greater defence financing will be necessary in the years to come.

This new reality should also be assessed from the perspective of the EU fiscal framework. It would be indeed appropriate to have more flexibility in the fiscal rules when it comes to foster green transition and defense aquisitions. We must see these issues not only from the economic perspective, but also the geopolitical one.

It is evident that we all in the EU have plenty of common challenges. Thus, we have to look for common solutions, which would create grounds for a prosperous common future. Despite current hardships, Europe always emerges from a crisis stronger and more united. This crisis should be no exception. I am hopeful that these difficult times will also serve as an opportunity to make the European Union more resilient to shocks and more able to deal with them.