Russia’s invasion of Ukraine has led to a barrage of unprecedented sanctions and global social unrest. These are strange times indeed – first the Covid19 pandemic, and now a 21st century war, all whilst receiving minute-by-minute updates on social media. In this article we will investigate the impact of the war on the South African economy, with specific focus on the commodity sector.
Russia and Ukraine are amongst the largest commodity producers in the world. Commodities, such as wheat, oil, natural gas, coal, and other precious metals, serve as vital raw materials in production processes. In the age of globalisation, the world has become an increasingly interconnected economic system. Disruptions, anywhere in the world, will lead to global economic effects.
Russia is being sanctioned, whilst Ukraine is under attack. This inevitably leads to a significantly lower global supply int he aforementioned commodities. The economics is simple: less supply, same demand, higher price. A supply shortage holds significant implications for our economy, as all countries are dependent on commodity imports. South Africa, however, is somewhat insulated, due to the strong presence of commodities in our export basket.
Palladium is a precious metal, mainly used in the production of vehicle catalytic converters in order to reduce emissions. Russia and South Africa are the world’s largest producers of palladium, with each country producing roughly 40%of the world’s supply. The opportunity here is obvious: If Russian suppliers are driven out of the market, it leaves a 40% global gap for South Africa and other suppliers to cover. This supply shock has resulted in a spike in the palladium markets, with a price increase of roughly 50% to over $3000 per ounce since the invasion began.
In times of significant price increases, economic participants will often look to viable, cheaper alternatives. Platinum offers such a solution for the palladium price spike, and it so happens thatSouth Africa is also a large producer of platinum. So not only does SouthAfrica supply the main ingredient, but also its best substitute. This putsSouth Africa in a prime position to take advantage of a supply shock and rising prices.
Russia is the world's third-biggest oil producer after the US and Saudi Arabia. It is responsible for about 12% of global oil production, or between 10 and 12 million barrels per day. Oil is the single most important commodity in the world, and unfortunately South Africa is heavily dependent on oil imports. Rising oil prices therefore hold serious implications, particularly with respect to fuel and fertiliser.
Fuel is used for all our transportation needs. This has both supply side and demand side implications for the economy.Without fuel, we cannot function, at least not in the short term. We can expect fuel prices to keep increasing, as well as all products that uses oil in its production. One such product is fertiliser.
Oil is an important ingredient in the manufacturing of fertiliser. The biggest obstacle, however, is not the oil used to make the fertiliser, but rather the fertiliser as a product itself. Russia is the world leading low-cost exporter of all kinds of crop nutrients. It’s hard to overstate the economic importance of fertiliser. The cycle is economically pernicious: higher fertiliser prices - higher food prices – higher inflation -less disposable income for households - less expenditure in the economy – ultimately leading to increasing economic hardships. It is imperative that countries, especially low-income countries like South Africa, keep food prices under control.
South Africa’s exchange rate is uniquely positioned in this war. We’re losing out due to high volume oil imports at high prices but we’re winning with our exports in most other commodity markets. At this stage, all these forces are sort of balancing each other out, with the USD/ZAR remaining fairly stable around the mid to low R15/$ range.
The spike in commodity prices will cause world inflation to increase. The normal reaction from central banks in the face of rising prices is to increase interest rates. But how should central banks react to the war being an external, supply side shock, rather than the usual demand-side factors? Whilst demand side often requires action from central banks, supply side is often passing. If central banks decide to increase interest rates, it will alleviate some inflation concerns, but put further pressure on an already fragile global economy.
The Russian invasion of Ukraine will disrupt trade flows, increase inflationary pressures, and increase volatility across a wide range of global markets. Whilst South Africa is at the mercy of its oil imports, it is well positioned to take advantage of various other commodity supply shortages.