Tectonic shifts in trade

The outlook for Eastern Europe and Central Asia

The twin shocks to global trade – the pandemic and the war in Ukraine – have led banks and corporates alike to reconsider the way they do business in Eastern Europe and Central Asia. Cutting through the complexity of this fast-moving environment, a roundtable of Commerzbank’s experts share their insights on how trade has changed, and the outlook for the future.

At the table:

Ivica Langauer, Regional Head, Eastern Europe, Türkiye & Central Asia
Hans Krohn, Global Relationship Manager, ECA & Development Banks
Peter Koslinski, Senior Representative, Kyiv
Marco Graff, Senior Representative, Almaty
Ketevan Antidze, Senior Representative, Tashkent

When discussing Eastern Europe, Ukraine is currently rightfully at the centre of the conversation. Despite Russia’s invasion last year and a conflict that shows no signs of ending, the Ukrainian banking sector has proven fairly resilient. What is your outlook for the country’s banking sector as the war persists, and are banks well positioned to help the country eventually rebuild?

Peter Koslinski

Peter: Ukrainian banks were generally quite well prepared when the war started, owing to a series of wide-ranging structural reforms that were carried out before 2020. The National Bank of Ukraine oversaw an improvement in terms of transparency across the sector, and the banks were well capitalised as a result, maintaining reasonably high liquidity.

That being said, the ongoing conflict has obviously had a destructive impact on the whole country, and banks are not immune to it. Banks lost some of their branches, and a good deal of assets – not only in the eastern and south-eastern regions most directly affected by hostilities, but also as a knock-on effect of many Ukrainian businesses closing and not being able to repay their loans.

Ivica: When considering how well prepared Ukrainian banks are for the eventual rebuilding of the country, the crucial point is the strength of their balance sheets – about which we currently do not know enough. The unfortunate reality, though, is that as yet, there is no end in sight to the war. Clarity on the state of the country’s banks will have to wait until peacetime.

Economists have projected that the cost of rebuilding Ukraine will range from €300bn to €500bn. How can financial institutions (FIs) support the rebuilding process?

Hans Krohn

Hans: It’s hard to overstate the extent of the rebuilding that will be needed. Homes, schools, factories and infrastructure will all need to be repaired or rebuilt. In January, the Kyiv School of Economics reported that 149,300 residential buildings had been damaged, as well as 330 hospitals, 595 administrative buildings and over 3,000 schools and university buildings. Tragically, this number will now only have increased.

Estimates as to the total cost of a comprehensive rebuilding programme differ, but it will certainly amount to hundreds of billions – perhaps even reaching €1 trillion, according to the Ukrainian government. The international aid required to achieve this will dwarf the Marshall Plan aid Germany received after the Second World War.

Ivica: The good news is that Western support for rebuilding is strong. What is currently being discussed – in many different industry forums – is the exact form of this support. It’s likely that projects in Ukraine will be given long-term funding with the support of export credit agencies (ECAs), for example. There is also a role for international commercial banks to support with mid- and long-term funding, and a lot of the groundwork for this is currently being prepared.

Ukraine will certainly remain an extremely important market for international FIs, and having greater clarity about the state of local banks’ balance sheets will be crucial in helping us to understand and define how we can direct and provide support as effectively as possible.

An endeavour of this scale will require cross-border collaboration. How important are multinational development banks (MDBs) in supporting the rebuilding process? Is their role critical in terms of project financing?

Ivica Langauer

Hans: MDBs have already provided a lot of support. The World Bank, IMF, EBRD and others have committed billions of dollars to Ukraine, much of which has already been disbursed. Going forward, given the undeniable challenges Ivica has described, multilaterals will definitely have to be a part of the solution, working collaboratively with banks to optimise funding opportunities. Crucially, from a commercial bank perspective, while there is liquidity and funding available, many are restricted from a credit limit perspective. By serving as guarantors, MDBs can position banks to extend much-needed credit support. And many of them have already announced their support for the rebuilding.

Ivica: The crucial question here is what the mix will be between development aid – whether from Western governments or development banks – and support from commercial banks and international donors. The usual ECA cover scheme for European banks implies a five percent residual risk portion – which represents a significant challenge for commercial banks, in addition to the long-term limits which have to be approved. Obtaining credit approvals will be even more difficult for transactions to be closed or committed before the end of the war.

Peter: An interesting point to note is that stakeholders are keen to promote ESG principles in the projects they finance. There is a shared vision and will among Ukrainians and their global partners, acknowledging the opportunity to “build back better” in a sustainable way. The eastern and southern parts of Ukraine, where the bulk of the country’s industrial capacity is located, will benefit particularly from this.

Another consequence of the invasion of Ukraine and the resulting economic sanctions is the closure of several popular transit routes through Russia and Belarus. Are there opportunities for the countries of Central Asia to assume a greater role in trade between Europe and the Far East?

Marco Graff

Ivica: As we’ve seen in recent years, change is the only constant in global trade. The two major drivers of the current change – the pandemic and the war – are now interacting to create new trade corridors to replace those that have been disrupted.

Marco: There are definitely opportunities as Central Asia re-orients itself to the new sanctions environment. Kazakhstan, in particular, is becoming a logistic hub and a corridor for trade between Europe and Central Asia. Beyond simply serving as a transit route, it has also become an alternative manufacturing and production centre. Many companies have moved to Kazakhstan from Russia since the war began, bringing in know-how, connections and broad industry experience.

Kazakhstan is also becoming a much more interesting market for European countries as a substitute for Russia. For instance, the German Minister of Foreign Affairs visited the country last year on a trade and diplomatic mission. The European Commission also signed a memorandum of understanding with Kazakhstan in 2022, envisaging closer economic and industrial integration with the country on raw materials, batteries and renewable hydrogen. Kazakhstan has become one of Europe’s main providers of raw materials, especially copper and rare earth metals.

Ivica: It’s worth adding that the role of international banks active in these markets is not just to help regions like Central Asia take advantage of opportunities – but first and foremost to support the prevention of sanction circumvention. Replacing interrupted trade links will naturally require longer supply chains, but it is crucial that banks approach trade in the region with robust risk management procedures. With Russian banks no longer available as lenders to banks in Central Asia, credit risk in the region has increased too.

There are also opportunities for neighbouring regions. The South Caucasus region, owing to its strategic position, could serve as an important transit hub for trade between Europe and Asia. What are the current trends you are witnessing for trade development in this region?

Ketevan Antidze

Marco: The Caucasus has always been an important transit corridor for Europe. The Baku-Tbilisi-Ceyhan pipeline, for example, has brought oil from the Caspian Sea to the Mediterranean for over 15 years. The bottleneck in the region is, of course, the Caspian Sea, which has sanctioned countries both to its north (Russia) and south (Iran). Exports from Turkey or Greece to Central Asia therefore tend to be routed through the South Caucasus.

Ketevan: What is important to understand now is that the position of Georgia, Armenia and Azerbaijan lends them a strategic advantage – and trade opportunities for these countries are likely to only increase going forward. The EU is in discussion with the South Caucasus countries as well as Kazakhstan and Kyrgyzstan, not only to develop these transit routes, but also to install a system of fibre-optic cables in the future.

Amid ongoing sanctions against Russia, the Trans-Caspian International Transport Route passing through Georgia and Azerbaijan, and continuing on to Kazakhstan, has gained more importance to European corporates engaged in international trade with Central Asia. This is particularly relevant when it comes to dual-use goods, for instance, to avoid transit through Russia and any breach of international sanctions.

Due to their somewhat limited capacity, the ports of Poti in Georgia and Baku in Azerbaijan are facing some quite challenging times.

Hans: The South Caucasus region has undoubtedly seen an uptick in export and imports since the beginning of the war in Ukraine. Inevitably, a lot of this trade is conducted with the large neighbour to the north – Russia. Some of this trade covers an increased supply of agricultural goods to Russia since trade with Western counterparties has been severely reduced. On the other hand, there is mounting circumstantial evidence that some countries in the region may be offering a stage for the circumvention of sanctions. This would of course be an alarming development. It could hold the potential to severely limit the engagement of Western banks in those countries.

The pandemic and the war have also served to highlight vulnerabilities of long, global supply chains – and increased interest in strategies such as nearshoring. Could this bring opportunities to the region as manufacturing capabilities are relocated from further afield?

Ivica: Absolutely. With supply chain security now a major priority for corporates with global supply chains, nearshoring and “friend-shoring” have become means of helping to mitigate risk.

So far, Turkey is the market most benefitting from the relocation of manufacturing production from Asia to be closer to EU markets. The trend is currently most visible in the textile sector, with machinery being exported from Germany to Turkey a clear sign that companies are ramping up their manufacturing capabilities there.

Hans: Change within global trade is nothing new, but it’s the rapidity of change that has become the distinguishing feature of the current environment. There are new opportunities in Eastern Europe and Central Asia, but they must be approached with caution. We expect that sanctions against Russia will last for years to come.

For both banks and corporates, navigating and harnessing this reality will require caution and both will and ability to adapt. Commerzbank’s support for our clients’ export activities remains as strong as ever. By placing our international network and deep expertise at our clients’ disposal, we help mitigate risks and seize opportunities arising from this time of change.