Biggest Commodity Price Shock in 50 Years is Here

In addition to death and destruction in Ukraine, the Russian invasion brought several significant shocks to the global economy.

The geopolitical consequences of the war reinforce the downward trend in trade globalisation and financial integration, with fresh rounds of disruption in supply chains and economic growth projections.

Commodity prices stabilised in April, but intensifying trends that have been present since mid-2020 have led to significantly higher prices in 2022. They will remain there in the medium term, according to the World Bank’s Commodity Markets Outlook report.

Figure 1: Commodity Prices. Source: World Bank (2022). Commodity Markets Outlook, April.

The outlook for commodity markets will depend on the duration of the war in Ukraine, sanctions on Russia, and disruptions to commodity flows. The two countries are important suppliers of energy, fertilizers, some types of grains and metals. Russia is the world’s biggest exporter of natural gas, nickel, and wheat, while Ukraine is the biggest exporter of sunflower oil. These commodities experienced sharp price increases after the start of the war.

Several countries — the US, Canada, and the UK —have announced bans or the phasing-out Russian oil imports. Private buyers have also pledged to cut purchases. What about supply alternatives? One problem — observed in a study by the Federal Reserve of Dallas — notes that production capacity restrictions in OPEC+ member countries are preventing them from even fulfilling quotas.

The recent IMF World Economic Outlook report suggests that the anticipation of falling demand for fossil fuels has reduced global investment in oil and gas by about 20 percent in recent months. After spiking during the “shale revolution”, global upstream oil and gas investment peaked at 0.9 percent of global GDP in 2014, falling to less than 0.5 percent of global GDP in 2019, and further during the pandemic (Figure 2).

Figure 2: Oil and Gas Investment as Share of World GDP (%, US$ a barrel).

The price of Brent crude reached an average of $116 a barrel in March, something not seen since 2013. The World Bank forecasts oil prices to average $100 a barrel this year, before declining to $92 a barrel next year.

European natural gas prices have risen to almost seven times the level of one year before. Coal prices have tripled because of expected disruptions to Russian natural gas and coal exports. The new jumps made the increase in energy prices over the past two years the biggest since the oil shock in 1973 (Figure 3).

Figure 3: Energy Price Growth. Source: World Bank (2022). Commodity Markets Outlook, April.

The higher price levels will ensure, reinforced by two factors. As price hikes hit all fuels, there is not much scope to replace the most affected energy commodities with alternative fuels.

Secondly, energy commodities have a strong influence on other prices. Natural gas prices have pushed up fertilizer prices, putting pressure on agriculture.

In the case of food, trade disruptions and high input costs have had a significant impact. The UN food price index placed them at the highest level since the beginning of its tracking 60 years ago. It’s not just wheat prices because of the war. Frustration with wheat and soybean crops in South America has negatively affected their global availability.

Higher prices and risks of fertilizer shortages are a source of concern for the next year. Food security and possible social upheavals have become central issues in the poorest food-importing countries in Africa, the Middle East, and Asia.

Some metals reached unprecedented price levels in March due to supply disruption, with inventories at historically low levels. Ukraine and Russia are sources of palladium and platinum, both of which are used in the manufacture of catalytic converters for the automobile industry. Platinum, copper, and nickel are critical for EV batteries. Ukraine is also the source of 50 percent of the world’s neon gas, used for lasers in the manufacture of semiconductor chips.

The Ukraine war has been the main driver of aluminium and nickel price movements, while high energy prices have affected zinc. These metals are vital to renewable power technologies such as solar panels and wind turbines. More price increases or interruptions in the supply of these metals could make the energy transition more expensive.

In the short term, the macro-economic impacts of the commodity price shock will differ among emerging economies, depending on whether they are exporters or importers. In Latin America there is a new inflationary spike; exporters, GDPs, trade balances and public sector accounts stand to benefit. Brazil had its growth projection slightly increased by the IMF to 0.8 percent and 1.3 percent, respectively for 2022 and 2023.

The war in Ukraine and the shock of energy commodity prices have not been favourable to the energy transition. The pandemic is not yet over, with looming global consequences of the China lockdowns.

For the recent combination of pandemic, war, and death not to assume apocalyptical proportions, we must prevent further delays in the energy transition.

By Otaviano Canuto