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Why is Europe going to bat for Rusal

Publication Date: 30 Apr 2018 - By Market Mogul By Market Mogul
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Equity Fundamental Equity USA EU ex-UK Metals and Mining

Facing heavy headwinds from the European aluminium industry, German Chancellor Angela Merkel is visiting Washington this Friday to fight for securing exceptions from Trump’s sanctions against major Russian aluminium producer Rusal. The meeting follows hot on the heels of the Treasury’s announcement that it would consider easing the sanctions against the company if Oleg Deripaska, its main shareholder, divests. Responding to European worries that entire supply chains would be disrupted, and jobs would be shed, the US also extended the deadline for companies to wind down their business with Rusal by five months (until October 23).

Although a small victory for European leaders, Washington’s decision to extend the deadline may also have been done to appease domestic aluminium firms as well. Rocked by the same fears as the Europeans, Aluminum Association president Heidi Brock criticised that “A significant financial and labour impact could occur if [government] policies do not recognize the importance of mid- and downstream markets”.

In light of this, American industry analysts suggested that the extension signals the possibility of Rusal being eventually let off the hook altogether. Even so, the current respite will hardly assuage Europe’s broader concerns about the negative effects these sanctions could have on the EU’s economic engines, France and Germany. Their economic backbones are their vibrant SMEs, but Trump’s measures have thrown the global aluminium industry into disarray, seriously impacting many downstream industries dependent on the metal to function, such as aerospace and car manufacturing.

Sanctions vs Section 232

By any token, the move taken by the Treasury in early April is unprecedented both in scope – the first time a publically-listed, export-driven global company is targeted – and in the crude way that the U.S. implemented the sanctions. European partners and businesses were not consulted, leaving many feeling Washington relegated the Old Continent to the status of junior partner, thereby infringing on European sovereignty and values.

Unlike the Section 232 tariffs imposed earlier this year on American imports of foreign aluminium and steel, the Rusal sanctions are much wider in scope. Due to the extraterritoriality of American law, any entity that knowingly facilitates “significant transactions for or on behalf of” the targeted businesses and individuals may be sanctioned as well. The fear of such “secondary sanctions” bars companies from conducting business with Rusal, effectively tearing the metal producer and the 4m tons of aluminium it smelts every year from world markets.

As Gerd Götz, director-general of European Aluminium, cautioned, “If a cluster of this value chain is disrupted it has consequences for the whole value chain.”

Industry in Trouble

Understandably, this prospect has policy-makers in Paris and Berlin on their toes. France and Germany, with their export-oriented economies, are particularly vulnerable to external business disruptions. Berlin is especially exposed: the manufacturing sector accounts for 23% of the country’s GDP, most of it dominated by the famous Mittelstand – family-owned middle-sized firms that contribute 52% of total economic output. With so much on the line, it is no surprise that German industry and trade groups have come forward in pressuring Berlin and Brussels to persuade Washington to reconsider its approach.

WirtschaftsVereinigung Metalle, a German group representing 655 metals companies with over 100,000 employees, grimly warned that unless the sanctions are lifted, several European smelters may be forced to shut down. This would leave major aluminium consumers such as Airbus, BMW, Volkswagen and associated component suppliers struggling to keep up their production lines running.

Seeing how the automotive industry employs roughly 12.6 m people across the continent, accounting for 5.7 percent of the EU employed population in 2015, the economic fallout of supply shortages is potentially devastating. In Germany, 800,000 people worked in the car industry in 2016, and at a time when the sector is already beleaguered with allegations of emissions manipulations, a second blow to its economic sustainability will be hard to handle.

The Blast Heard Around the World

Beyond this, however, are the equally worrying effects that Washington’s sanctions regime has on the functioning of the EU. The extraterritorial nature of the sanctions is considered a major affront in the capitals across the European Union. Ahead of Merkel’s visit, a German government official is quoted by the Financial Times, saying Berlin is worried about the “extraterritorial effects” of Washington’s move, considering the indiscriminate impact on all companies “very problematic”.

Berlin, and Europe in general, is right to think this way about the extraterritorial effect of US sanctions, for they not only affect commercial relations with Moscow – they also risk undermining trade within the bloc. In one fell swoop, sanctions managed to curtail the free movement of goods and capital within the European Union, throwing into doubt the fundamental principles of the internal market.

With Europe thus looking down the barrel, aluminium makers have been frantically looking for ways to secure new supplies. But a quick look at the market makes obvious that finding new suppliers is easier said than done. In what was described as a “nightmarish scenario”, there is not sufficient raw material available for North Western manufacturers to plug the hole in supply chains left by Rusal. Establishing new trade connections and certifying alternative suppliers is a time-consuming process. Severed from the traditional supplier, new value chains can hardly be formed until October.

Indeed, several major aluminium producers are bracing for impact. Norsk Hydro, for example, predicted that sanctions will “impact trade flows and availability of metal and raw materials throughout the aluminium value chain”. And Australian-British Rio Tinto already warned shareholders that its forecast for aluminium production may be adjusted “as a consequence of the US sanctions” as the company struggles to keep its European operations running.

It is evident that European firms, big or small, are hoping for a gradual de-escalation in the tensions between the US and Russia to prevent the largest economic pains. In the meanwhile, European leaders must ensure that the remaining uncertainties of the sanctions are clarified, and Merkel will push hard to obtain exceptions for European companies. Because, as this experience shows, American sanctions are enough to potentially bring Europe’s industries to a stuttering halt.

This was first published on The Market Mogul.

 

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