Economic ties between the two are very significant, economic war would be very bad for both

Originally appeared at bne IntelliNews

Russian has so far reacted belligerently – though only verbally – to the downing of a Russian Su-24 fighter jet in Syria by Turkey, with President Vladimir Putin calling it a stab in the back and warning of serious consequences for Moscow-Ankara relations. “Today's loss is a stab in the back, carried out against us by accomplices of terrorists,” Putin said.

The Kremlin could retaliate by freezing key joint projects and scaling back economic links between the two countries, Russian Prime Minister Dmitry Medvedev warned on November 25: "This damage will be difficult to repair — its direct consequence may be the cessation of a number of important joint projects and the loss by Turkish companies of their positions on the Russian market," Medvedev said.

A visit by Turkish President Recep Tayyip Erdogan to Russia scheduled for December is now in doubt. It will depend on a number of factors, said the Russian president’s spokesman, Dmitry Peskov.

When Putin visited Turkey back in December 2014, Ankara and Moscow signed cooperation documents in the fields of energy, banking, industry, nuclear energy and trade. The leaders reiterated a commitment to increase bilateral trade volume to $100bn by 2020.

Turkey and Russia’s relations have been increasingly strained since Moscow began its airstrikes in September in support of its ally, Syria’s President Bashar al-Assad. Yet some analysts don’t think the tension will now escalate because both countries have an interest in minimising the fallout.

The immediate repercussions of the shooting down of the aircraft is likely to remain limited to a diplomatic crisis, Ege Seckin and Firas Abi Ali, analysists at IHS, said in an emailed comment on November 24. However, in the medium term, Russia and Turkey both have escalation options against one another, they said.

“Russia can increase the price of Russian gas, while Turkey can provide support to insurgents within Russian Caucasian republics and in Crimea. Russia is also likely to retaliate indirectly by increasing support for the Syrian-Kurdish Democratic Union Party (PYD) and its Turkey-based counterpart, the PKK.

Despite the gravity of this latest incident and the assertive rhetoric that will be employed by Turkish politicians in its wake, there is no incipient full blown crisis between Ankara and Moscow, according to Wolfango Piccoli from Teneo Intelligence.

“Moreover, despite the difficult current environment, Putin and his Turkish counterpart Erdogan have a good relationship and the growing commercial relationship between the two countries is important to both sides, although Russia enjoys the upper hand given Turkey’s dependency on Russian gas”.

Energy links

Turkey imports nearly all of its energy supplies, spending around $50bn a year. Russia is Turkey’s largest supplier of natural gas. Turkey imported 49.3bn cubic meters of natural gas in 2014 of which 27bn cubic meters came from Russia.

In December 2014, Turkey and Russia signed a memorandum of understanding for the construction of an offshore gas pipeline to Turkey after Moscow decided to abandon its South Stream project. With an estimated price tag of €11.4bn, the Turkish Stream project’s four-strand pipeline was due to carry a total of 63bn cubic metres of gas per year to Turkey and to southern Europe via Greece by 2020. According to the agreement, Turkey would receive 14bn cubic meters of that amount and the rest would be delivered to the Turkish-Greek border.

However, the project has already been struggling because of a dispute over the price of gas supplies to Turkey. In December 2014, Russia’s Gazprom announced a 6% discount and then raised its discount to 10.25%, as an incentive for Turkish participation in the project. But Turkey has called for a larger reduction. In October, Turkey’s state-run pipeline company Botas even appealed to the International Chamber of Commerce's (ICC) arbitration court over the price of natural gas from Russia.

Earlier this year, when Erdogan said he was negotiating gas and pipeline deals with Iran, Russia responded by cutting the planned volume of gas piped through Turkish Stream in half to 31bn cm.

Russia and Turkey would hold talks on the Turkish Stream construction in December this year, Chief Executive Officer of Russia’s gas giant Gazprom Alexey Miller had said, just a week ago, on November 16.

Russia is not considering cutting off its natural gas supply to Turkey, Russia's Deputy Energy Minister Anatoly Yanovsky said on November 24. However, The fate of Turkish Stream is now unclear with the downing of the Russian fighter jet.

Tense relations between Moscow and Ankara could also threaten the construction of Turkey’s first nuclear power plant. Russia and Turkey signed an agreement to construct and operate the Akkuyu plant in May 2010. Russia's nuclear concern Rosatom will build the nuclear power plant in Akkuyu at an estimated cost of $22bn. The first reactor of the plant is expected to come online by 2022.

Tuesday’s event raises questions as to how the nuclear project could proceed if the relations between the two countries remain strained.

Neverthless Berat Albayrak, Turkey’s newly appointed energy minister – who is also President Erdogan’s son-in-law - is confident that the downing of the plane will not cause problems. Turkey and Russia have had a strong relationship, which should not be clouded by the incident on the Syrian border, Albayrak said on November 24.

Ties that bind

The latest crisis has also put trade ties between Moscow and Ankara under the spotlight. Russia’s Interfax reported that Russia will ban poultry imports from Turkey as of December 1.

Bilateral trade between the two countries stood at around $15bn in 2005 and has remained above $25bn since 2010. Trade volume between the two countries was more than $30bn last year.

Russia’s share in Turkey’s total imports was 10%, while exports to Russia accounted for 3.8% of Turkey’s all exports. Russia was Turkey's seventh biggest export market and its largest import partner in 2014. Around 20% of Turkey's food industry and 15% of textile exports went to Russia last year, generating $1.1bn, and $910mn in revenue respectively.

Besides being an important trading partner, Russia is also a lucrative market for Turkish companies, especially for construction firms. Between 1989 and 2014, Turkish companies carried out more than 1,900 projects with a total value of more than $60bn, making Russia by far the most important market for Turkish construction services, according to the Turkish foreign ministry. In the first nine months of the year, Turkish construction companies have been awarded eight projects in Russia. The value of these projects is $2.3bn.

Enka, whose shares are traded on Bourse Istanbul, is one of the largest Turkish construction companies doing business in Russia. Russia accounts for 12% of Enka’s order book, or $270mn as of September 2015. Its retail portfolio in Russia includes 337,000 square metres of class A office space, 276,000 square metres of retail space, and a five-star hotel in Moscow. Shares in Enka fell more than 4% on November 24.

The other major Turkish investor is Anadolu Efes, which is Europe’s sixth largest brewer. Anadolu Efes’s market share in Russia was 19% as of September. Russia’s Interfax reported that a group of young people staged a protest outside the office of Anadolu Efes in the city of Ulyanovsk and tore down a Turkish flag. Anadolu Efes’ have plunged 7.6%.

Sisecam, one of the world’s largest glassmakers, has operations in Russia. Its listed glass packaging unit Anadolu Cam has five plants in Russia with an annual production of 1.3mn tonnes/year. Anadolu Cam shares fell by 5.2%.

Household appliances producer Vestel, whose shares are traded on the Turkish stock exchange, has a refrigerator production plant in Russia. This factory annually produces close to 90,000 units. Shares in Vestel were down 5.8%.

More than 30 Turkish retailers, including ready-wear, home textile, jewellery, and furniture companies, operate 700 stores across Russia, according to the Hurriyet newspaper.

Some Turkish banks, including private lenders Yapi Kredi, Garanti Bankasi, and state-owned Ziraat have subsidiaries in Russia. Fiba Group, owned by the Turkish businessman Husnu Ozyegin, also has a bank in Russia, namely Credit Europe.

In return, Russian companies’ investments in Turkey amounted to $8.4bn last year, according to data from the Turkish central bank. Among the major Russian investors are Sberbank and steelmaker Magnitogorsk. Sberbank acquired Denizbank for €2.8bn in 2012 and it currently controls a 99.85% stake in the Turkish lender. Magnitogorsk has invested close to $2.5bn in its Turkish unit MMK Metalurji, which produces 2.3mn tonnes of steel per year. MMK is poised to become the second largest flat steel producer in Turkey, according to a presentation on the company’s website.

Travelling target

Nikolay Levichev, a deputy speaker of the Russian State Duma lower house, has also asked the head of the Federal Aviation Agency to consider banning flights to Turkey following the downing of the Russian fighter jet.

Russia’s state tourism agency Rostourism is now recommending suspending sales of tour packages to Turkey after Russian Foreign Minister Sergei Lavrov advised Russians not to visit Turkey.

The threat of terrorism there was no less than in Egypt, said Lavrov, who cancelled his planned visit to Turkey scheduled for November 25. A Russian passenger plane was brought down in Egypt last month, killing all 224 on board.

According to media reports, Natali Tours and TEZ tour agency, two of Russia's largest tour operators, have suspended the sale of package holidays to Turkey.

Turkey is one of the favourite destinations for Russian tourists. In 2014, 4.5mn Russian tourists visited Turkey, representing a 12% share in total foreign tourist visits to the country, second to Germany. In the first nine months of 2015, the number of Russian tourists declined by 20% y/y to 3.3mn.

Tourism is one of Turkey’s main sources hard currency to finance its still large - but declining - current account deficit. According to the latest current balance data of the central bank, Turkey’s tourism revenues declined by 8% y/y to $21.1bn in January-September.

A decline in tourism activity, as a result of the crisis with Russia, will also hit Turkish Airlines (THY), one of the world’s fastest growing carriers. THY has tripled its global market share over the last decade.

The Turkish operator has increased Russian flights by more than 16% in 2015 as international rivals cut services as much as 43 percent, Bloomberg reported on November 11. As a result, Turkish Airlines has become the biggest foreign carrier serving Russia as competitors including former market Lufthansa drop flights amid a slump in demand. The carrier flies to 10 destinations in Russia, according to a presentation on THY’s official website. Shares in THY plunged 7.2% on November 24 on the news that Turkey shot down a Russian plane.

Russians also buy lots of real estate in Turkey. In the first 10 months of the year, a total of 18,567 houses have been sold to foreign citizens in Turkey, while Russians have purchased 1,750 units, representing a 9.4% share in total.

The ball is in Putin’s court now. Knowing that attacking Turkey means attacking Nato, Putin will probably resist the temptation to hit back and let the tension die away. He also knows the economic stakes are high and that’s why he will probably refrain from taking harsh measures that could lead to unrepairable damages to the Turkish-Russian relations.

“But just be mindful that President Erdogan is a tough character, and quite emotional, and if Russia pushes too far in terms of retaliatory action, I think there will inevitably be a counter reaction from Turkey, e.g. tit for tat trade sanctions, perhaps extending to things like the Russia nuclear deal”, says Tim Ash from Nomura Capital.