A prolonged conflict in Middle East could trigger stagflation in Europe - Dombrovskis

RIGA - The impact of the conflict in the Middle East on the European economy will largely depend on how long and how widespread the conflict becomes; for instance, if it can be brought to an end relatively quickly, the impact will be less severe, but if the conflict continues, it could trigger stagflation in Europe, Valdis Dombrovskis (New Unity), Executive Vice-President of the European Commission for the Economy and Productivity, said in an interview with LETA.

He noted that both the blockade of the Strait of Hormuz and Iran’s intensive attacks on oil and gas production infrastructure in neighboring countries could have a significant negative impact on oil and gas prices.

"In such a scenario, the European Union (EU) also faces the threat of a stagflation shock, where, on the one hand, oil and gas prices rise, driving up inflation overall, and on the other hand, economic growth slows down due to these high prices, as well as the confidence effect, supply chain disruptions, as well as more difficult access to financing," said Dombrovskis.

At the same time, he emphasized that the current rise in energy prices is nowhere near as steep as it was in 2022, when Russia invaded Ukraine. However, the negative economic consequences could be serious enough, which is why it is crucial to de-escalate the conflict with Iran as quickly as possible.

He also noted that the European Commission is evaluating possible solutions for what should be done at this time. EU member states also have leverage at their disposal, such as the ability to reduce certain taxes on oil and gas products. At the same time, it remains unclear how severe and prolonged the economic shock caused by rising oil and gas prices will be.

When asked what the current situation might mean for Russia and its ability to continue the war in Ukraine, Dombrovskis acknowledged that, since Russia’s economy is largely dependent on fossil fuel exports, higher oil and gas prices mean higher revenues for the Russian budget. The U.S. decisions regarding concessions on Russian oil purchases are also viewed negatively.

"Regarding sanctions, we on the EU side have clearly conveyed to the U.S. administration that we consider it a serious mistake to begin easing sanctions against Russia now-or against Belarus, as we have recently heard. This only distances us from the goals we want to achieve in Ukraine-to bring about a stable and just peace for Ukraine, and ultimately also from the goals that the U.S. and Israel are striving to achieve in Iran, because, as we know, Russia also supports Iran in its war against the U.S. and Israel," Dombrovskis said.