2022 economic outlook: Spotlight on rising food prices and inflation
The year 2022 started with its fair share of optimism, as the global economy continued to recover after bouncing back by nearly 6% last year, and rising vaccination rates offered hope of an early exit from pandemic-induced lockdown. However, a surge in Omicron cases and the outbreak of the Russia-Ukraine war have since dampened confidence in the outlook. In particular, rising energy and commodity prices, and the threat of shortages in major manufacturing inputs are raising concerns about more supply shocks and higher inflation. While the potential consequences of recent events could be both far-reaching and wide-ranging, I would like to explore the impacts on food prices and inflation in this short note.
A primary concern now is rising food prices, as Ukraine and Russia collectively account for nearly 30% of global wheat exports and around 15% of the corn trade[1]. Ukraine is also the world’s largest producer and exporter of sunflower seeds and sunflower byproducts. Sunflower oil alone generated USD 5.7 billion in export revenue in 2021.[2] However, the threat of export bans and production disruptions have resulted in higher food prices globally. Reflecting this, the UN’s Food and Agriculture Organisation (FAO) Food Price Index rose to 140.7 points in February 2022[3], representing a new all-time high with significant increases in prices for vegetable oil, dairy, cereals and meat.
Figure 1. FAO Food Price Index
Source: Food and Agriculture Organization of the United Nations.
As illustrated in Figure 1, the recent increase in food prices is broad-based across different food categories. Apart from the fact that the Index has reached an all-time high, I think it is also worth noting that the current uptrend has been in place for almost two years, as pandemic-induced lockdowns and supply-chain disruptions pushed up production and transportation costs. Market jitters further heightened in early 2022 when war broke out between Russia and Ukraine.
To understand the impact of the Russia-Ukraine war on global food supply, it is essential to pinpoint where the shortage will come from. There are two channels[4] where global food prices will face further upward pressure. First, when production is reduced as a result of military conflicts. For example, Ukraine’s sunflower crop is reportedly planted in April/May with a September/October harvest. However, it now looks highly likely that this year, Ukraine’s crops, including wheat, corn and sunflower seeds, will not be fully planted, thus reducing the harvest later in the year. On the other hand, there are yet no indications that production in Russia will be reduced. Thus the overall supply deficit will be smaller than indicated by the production/export share of the two countries.
The second channel that could disrupt supply and push prices is export bans. Currently, Russia has imposed bans on exports to a group of markets that account for around 10% of its total wheat exports in 2021, and less than 1% of sunflower seed exports. It is expected that the shortfall in the global supply of crops from Russia, either due to reduced harvest or export bans, will be somewhat limited. Meanwhile, it is likely that whatever crops are produced in Ukraine will largely be retained for domestic use.[5] It remains to be seen whether Ukraine will also need to import some grains.
Considering all these factors, the reduction in global food supply will be significant, but smaller than implied by the export share of Ukraine and Russia.
This isn’t to say that the impact on individual markets will be negligible. Indeed, it is likely the effects could be felt unevenly across the globe, with developing markets most exposed as they typically rely heavily on imported food and energy. Rising food prices will represent a heavy burden to many emerging markets. According to the UN FAO, developing regions’ food import bills are expected to have increased by 20% last year due to higher food prices and a threefold increase in freight costs.[6] The outlook is grim given the further substantial rise in prices in early 2022 and that freight costs are still hovering at historic highs.
The impact will likely emerge only gradually over the next few months and quarters. Still, experiences from past events suggest that coordinated policy responses from the global community can help in mitigating the negative impacts. For example, efforts to ensure national food security by restricting food exports could be counter-productive. Instead, government programmes to better inform farmers could help steer production to mitigate shortages.
If food and energy prices rise, could that translate into higher inflation? The answer depends on two primary considerations. The first is the policy response of central banks, which in many markets have already taken a more cautious stance and hiked interest rates. Balancing to tame inflation without suffocating the nascent economic recovery will be a delicate task, but proactive central bank communication is sending a reassuring message.
The second factor is more nuisance in terms of different price increases. Higher food and energy prices mean higher input prices, but inflation, as we usually define it, means consumer price increases. The translation of the higher input prices (based on the producer price index, PPI) to higher consumer prices (based on the consumer price index, CPI) is not linear nor necessarily consistent. It depends on, for instance, manufacturers’ ability to absorb part of the input price increase in order to remain competitive. At the same time, government subsidies and other aid programs could also limit the hit on CPI.
An example is the diverging trend of consumer price index (CPI) and producer price index (PPI) in China. Since early 2021, PPI has risen fast to over 10% in China. Yet, consumer price inflation remained firmly anchored at around 1-2% (see Figure 2). The same pattern was observed in other key markets. In India, PPI inflation was high at 13.1% in February 2022, whilst CPI inflation was 6.1%.
Figure 2: China CPI and PPI, %
Source: CEIC. Core CPI means CPI excluding Food and Energy.
I hope this short note can help shed more light on some of the imminent threats we face in 2022/23. Food prices and food security will remain a key topic, particularly given FAO’s estimate that 8.9% of global population is undernourished.[7] Higher food, commodity and energy costs will filter through into higher consumer price inflation, though how this will be manifested in different countries will be contingent on many domestic and idiosyncratic factors.
[1] Source: The American Farm Bureau Federation.
[2] Source: The American Farm Bureau Federation.
[3] Source: Food and Agriculture Organization of the United Nations.
[4] There is a third channel through reduced supply of fertilizers, as Russia and Ukraine are also major exporters of fertilizers like nitrogen, phosphate and potassium. Furthermore, fertilizer production is energy-intensive, with 70-90% of the cost of nitrogen fertilizers coming from the use of natural gas. It is assumed that these will add to the global food price inflation but alternative sources should be available, given the market is more diversified.
[5] Source: “Ukraine Bans Exports of Wheat, Oats and Other Food Staples”, Times, 9 March 2022.
[6] Source: “World food import bill to reach record high in 2021”, UN News, United Nations.
[7] Source: Undernourishment by world region, Our World in Data. Data refer to 2018.
