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The global trading system has been pushed to its limits since Russia’s invasion of Ukraine 7 months ago. Olesia Kryvetska, a counsel with Asters law firm and head of the Ukrainian Bar Association’s International Trade Law Committee, details the heaviest implications since the beginning of the war, namely soaring commodity and energy prices, food security crises, and supply chain disruptions.

 

By Olesia Kryvetska on September 26, 2022

August 24, 2022, the date Ukraine had its 31st Independence Day anniversary, marked 6 months since Russia launched a full-scale invasion of its neighbour. The war, waged in the centre of Europe—apart from its humanitarian, military, security, environmental, migration, and other spillovers—has severely affected the international trade system, preventing it from recovering from the shocks caused by the COVID-19 pandemic.

 

The war has severely affected the international trade system, preventing it from recovering from the shocks caused by the COVID-19 pandemic.

 

“Rising prices inflate international trade.” That’s what the United Nations Conference on Trade and Development (UNCTAD) said in its July Global Trade Update, and the observation very accurately describes current trends in global trade. The value of trade in the first quarter of 2022 rose to a record USD 7.7 trillion (an increase of about USD 1 trillion relative to the first quarter of 2021), with energy, metals, and chemicals as major drivers. This is largely due to commodity price increases, however, as trade volume itself grew at the substantially lower rate of 6%. UNCTAD experts expect the discrepancies between trade value and trade volume to deepen further, with the former continuing to rise and the latter falling. At the same time, World Trade Organization (WTO) economists forecast quite modest trade volume growth of 3% this year and 3.4% in 2023. Commodity and energy prices are soaring, and food insecurity and supply chain disruptions are among the darkest ghosts the war in Ukraine has produced.

First Red Flags

Back in early March, the media started to circulate disturbing messages from the Turkish market about the alleged exhaustion of sunflower oil stocks and price increases. This was followed by an almost 60% drop in Turkish sunflower oil imports that month compared to March 2021.

 

Soon afterwards, various news outlets warned about shortages of neon gas, used to produce semiconductors. Ukraine traditionally produced almost half of the world’s neon gas supply and shipped it through Odesa, its key “gate” to maritime export routes, which has been blocked due to Russian shelling, and Mariupol, besieged and destroyed by Russian missile strikes and now occupied. While the start of the war drove neon gas prices nine times higher in March, some commentators reported a 5,000% price increase by August. This threatens to affect the consumer electronics, auto, and auto parts industries, which have already been hurt by the ongoing chip shortage triggered by COVID-19 lockdowns in 2020.

 

Still, the most alarming calls came from the UN World Food Programme (WFP), which warned in its March report that the war had major implications for food security across the world as “44 million people in 38 countries were teetering on the edge of famine” when Russia invaded. This meant it would be particularly hard for vulnerable import-reliant economies to recover from the pandemic.

 

Food Security Crisis and a “Beacon of Hope” Toward its Mitigation

Ukraine is a key player in the world markets for corn, sunflower oil and seeds, barley, wheat, and colza seeds. The country was also one of the WFP’s top wheat suppliers before the war. Russia’s blockade of Ukraine’s Black Sea ports drove up food prices and created a bottleneck in food commodity supply chains that prevented Ukraine from fully exercising its export capacities. While one alternative was to use railway routes and other European seaports, this is not a perfect solution.

 

UNCTAD’s preliminary calculations indicated that price hikes on food resulting from the war would hit more than 5% of the import basket of the poorest countries. Against this background, the WFP reached 83 million people, or just 55% of its annual target, in the first quarter of 2022. As a result, the emergency response to food insecurity and the decision to exempt WFP purchases from trade restrictions and prohibitions formed part of the outcomes of the 12th WTO Ministerial Conference in June.

 

It is no surprise that a grain export deal (memorandum of understanding) signed in late July is perceived as a turning point that offers some signs of relief. The Sea Port Association of Ukraine reported that as of August 26, 44 vessels had left Ukraine’s Odesa, Pivdenny, and Chornomorsk ports carrying 1 million tonnes (Mt) of food commodities destined for 15 countries. These vessels also included the first maritime shipment run by the WFP, which left Pivdenny port with of 23,000 tonnes of wheat on board.

 

As of August 26, Ukraine’s 2022/2023 crop exports amounted to about 3.4 Mt, including 937,000 tonnes of wheat, 2.18 Mt of corn, and 274,000 tonnes of barley. Exports in August accounted for 50% of this amount, which constitutes 48.6% of the country’s grain exports compared to the same period in 2021/2022.

 

Unlocking Ukraine’s Black Sea ports alleviates the food security crisis but is only a partial solution. 

The grain export deal was also important because it created additional storage space for the new harvest. Despite war-related risks, Ukrainian farmers managed to sow 13.4 million hectares of crops. This was 79.2% of the usual total sown area—3.5 million hectares less than in the previous year, as Ukraine’s agricultural areas in Kherson and Zaporizhya oblasts are under Russian occupation, while part of the liberalized territories were at risk of having been mined by Russian troops before they were pushed back by Ukraine’s armed forces.

 

Ukraine’s Ministry of Agrarian Policy and Food announced on August 19 that the harvest to date amounted to 23.4 Mt of grain (including wheat, barley, peas, and millet).

 

Some commentators say unlocking Ukraine’s Black Sea ports alleviates the food security crisis but is only a partial solution. The FAO Cereal Price Index, which peaked in May at 173.5 points, was at 147.3 points in July, down 11.5% from June. Still, this value exceeded its July 2021 level by 16.6%. Experts apparently are reluctant to make optimistic forecasts because energy prices continue to soar and will drive the costs of transportation and running farm equipment higher—and have a spillover effect on fertilizer costs. WFP says fuel prices have boosted its monthly operational costs by USD 5.5 million. Adding to the problem are the consequences of agricultural protectionism policies across the globe and climate change, which create more food insecurity and shortages in world food supply chains.

Invasion Was a Catalyst for Soaring Energy and Fertilizer Prices

On the eve of its invasion of Ukraine, Russia banned ammonium nitrate exports outside the Eurasian Economic Union bloc. This move resonated with previous reactions to the COVID-19 outbreak, when Russia introduced an export quota on wheat and meslin, rye, barley, and maize despite the looming threat of the global food security crisis. Back in April 2020, Russia also abstained from signing a joint statement circulated in the WTO by the major agricultural and agrifood exporters that agreed to open and predictable trade in the face of the pandemic.

Fertilizer prices have more than doubled since the Ukraine war began, and energy prices are soaring. The World Bank says the current energy crisis differs from the energy price shock of the 1970s in that the space for substitution between different types of key energy commodities is limited because prices of all of them are rising. COVID-19 sparked high oil and coal prices, but the current energy crisis stems from the war, as Russia is the world’s largest exporter of natural gas and a leading supplier of crude oil and coal.

 

The World Bank estimates that the war-driven surge in energy prices could reduce global output by 0.8% in 2 years, with food, construction, petrochemicals, and transport likely to be among the most affected sectors.

 

Russia started increasing natural gas prices for the European Union (EU) in the second half of 2021, and prices will continue to rise as long as the war continues. In July, the European Commission circulated a Safe Gas for a Safe Winter plan urging EU members to reduce their gas demand by 15% over 8 months starting on August 1. The plan, which is not binding, triggered intra-EU debates on whether it would be enough for Europe to prepare for winter. Meanwhile, Gazprom has progressively cut natural gas deliveries to Europe via Nord Stream 1 and in mid-August announced plans to stop deliveries for 3 days, ostensibly for maintenance.

 

The impact of sanctions on Russia’s economy has been limited so far, particularly as the EU has not restricted imports of Russian natural gas. In fact, Russia has mainly benefited from the energy price surge.

The impact of sanctions on Russia’s economy has been limited so far, particularly as the EU has not restricted imports of Russian natural gas. 

As UNCTAD’s recent Global Trade Update shows, the value of Russia’s energy exports to the EU in March and April was 75% higher than the 2021 level. The value of natural gas exports rose 259%, crude oil advanced 48%, the value of refined oil exports increased 77%, and coal shipments climbed 130%. In terms of quantity, European purchases of Russian crude oil rose 4% in those two months, though volumes of refined oil, natural gas, and coal all dropped (by 5%, 29%, and 23%, respectively). Even as trade volumes fell, this was hardly enough to compensate for the overall revenue surplus from exports. This trend is expected to shift gradually, as an EU ban on Russian coal imports came into effect in August and, in particular, sanctions on maritime shipments of Russian oil and imports of refined oil products will enter into force in December 2022 and February 2023, respectively. Nevertheless, the EU remains the premium market for Russian energy exports as European sanctions do not cover Russian natural gas and oil.

 

Still, Russian imports and production, particularly in the machinery and defence sectors, appear to be slowing. This is due to the sanction-related ban on Russia’s access to certain technologies and financial restrictions. In the long term, this could reduce energy production. However, economists remain reserved in their forecasts. According to the Kyiv School of Economics, the “critical impact” of European sanctions on the Russian economy is “unlikely to materialize before the end of 2023, unless more sanctions are implemented.”

 

The question remains whether, how fast, and to what extent Russia will succeed in reorientating toward alternative markets such as China and India. Kyiv School of Economics experts predict that the shift from advanced economies to alternative markets would cost Russia USD 80 billion in annual exports as it would imply higher logistical, infrastructure, and entry costs as well as reduced skills and technology transfer.

 

The question remains whether, how fast, and to what extent Russia will succeed in reorientating toward alternative markets such as China and India. 

Russian exports to China rose 38% in March and April, though they declined in some areas: crude oil (-6%), coal (-22%), petroleum gases (-58%), and refined copper (-52%). The International Monetary Fund notes that both Russia and China faced an economic downturn in the second quarter. Bilateral trade will probably continue to fall as a result, and this trend will affect global trade growth.

 

As winter approaches, the EU is yet to test its determination about cutting its dependency on Russian natural gas. In early September, the EU said it had reached the targeted 80% level of gas storage. While the search for alternative suppliers and a further shift to renewable sources are being considered in the bloc, one might wonder whether opening the European market for charcoal could be a short-term solution for the coming winter. It would be ironic if this were to happen, as Chinese logging companies could take advantage of this market access opportunity by using Siberia’s forests.

What’s Next? 

The war in Ukraine has exposed all the vulnerabilities of the world economy and the global trade system that did not have enough time to recover from the pandemic.

 

The war in Ukraine has exposed all the vulnerabilities of the world economy and the global trade system that did not have enough time to recover from the pandemic. 

 

Energy price shocks continue to drive up prices on the world food and commodity markets and, along with supply chain disruptions, are leading to downturns in production and trade growth. This trend has prompted experts to warn about famine and stagflation. This will make the International Monetary Fund’s forecast of “doom and uncertain future” more tangible unless the world comes up with new approaches in the face of the new reality.

 

Note: After this article was submitted, Ukraine started a successful counteroffensive on Russian-occupied territory of Kharkiv oblast, while Russia, amid its continued nuclear threats, ordered a partial mobilization for the war in Ukraine, meaning an escalation on the frontline should be expected in the coming months.