Biggest commodity price shock in 50 years

In addition to deaths and destruction in Ukraine, the Russian invasion brought several significant shocks to the global economy. In addition to the geopolitical consequences of the war, reinforcing the downward trend in trade globalization and financial integration, new rounds of disruptions in supply chains and higher commodity prices have already led to downward revisions in economic growth projections, accompanied by higher inflation.

Commodity prices stabilized in April. However, the previous commodity price shock, intensifying trends that have been present since mid-2020, have already led to significantly higher price levels in 2022, and should remain there in the medium term, according to the World Bank’s Commodity Markets Outlook report released on April 26 (Figure 1).

Figure 1 – Commodity Prices

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

The outlook for commodity markets will depend on the length of the war in Ukraine, sanctions on Russia and the severity of 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. Not coincidentally, these commodities experienced particularly sharp increases after the start of the war in Ukraine.

Several countries – including the United States, Canada, and the United Kingdom – have already announced bans or phasing out Russian oil imports, while private buyers have also pledged to cut purchases of Russian oil. What about supply alternatives? One problem is the fact observed in a study by the Federal Reserve of Dallas, according to which production capacity restrictions in OPEC+ member countries are preventing them from even fulfilling their quotas assigned by the organization.

A special feature of the IMF’s World Economic Outlook report, released on April 19, suggested that the anticipation of falling demand for fossil fuels – due among other things to the energy transition – has reduced global investment in oil and gas by about 20% in the last 3 or 4 months. After spiking during the “shale revolution”, global upstream oil and gas investment peaked at 0.9% of global GDP in 2014, falling to less than 0.5% of global GDP in 2019, and further down 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 average oil prices to average $100 a barrel this year, before declining smoothly to US$92 a barrel in 2023.

In March, European natural gas prices were almost seven times higher than one year before. Coal prices in several parts of the world have also tripled as a result of expected disruptions to Russian natural gas and coal exports. The post-pandemic demand recovery and restricted supply conditions were already having an upward effect, but the new jumps made the increase in energy prices in the last two years the biggest in the last fifty years, since the oil shock in 1973 (Figure 3).

Figure 3 – Energy Price Growth

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

The permanence of prices at higher levels will be reinforced by two factors. First, as price increases are occurring across all fuels, there is not much scope to replace the most affected energy commodities with other fossil fuels. Second, energy commodities have a strong influence on the prices of others. For example, natural gas prices have already pushed up fertilizer prices, putting pressure on agricultural prices.

In the case of food, trade disruptions and high input costs have also 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 also negatively affected their global availability.

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

Prices of some metals also reached unprecedented levels in March, due to risks of supply disruption, while inventories were at historically low levels. Ukraine and Russia are substantial 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 inputs for electric vehicle batteries. Ukraine is also the source of 50% of the world’s neon gas, used for lasers used to manufacture semiconductor chips.

The war in Ukraine has been the main driver of aluminum and nickel price movements, while high energy prices have in turn affected zinc. These metals are key inputs in renewable technologies such as solar panels and wind turbines. As a result, further price increases or interruptions in the supply of these metals could make the energy transition more expensive.

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

Strictly speaking, the war in Ukraine and the shock of energy commodity prices have not been favorable to the energy transition, as seen in the race for coal and new sources of oil. This after the pandemic, not yet over, as will be seen in the global consequences of the lockdowns in China, resulting from its quest for zero-Covid, in the coming weeks. For the recent combination of pandemic plague, war, and deaths not to assume apocalyptical proportions, we must prevent climate change brought about by further delays in the energy transition.