The impact on the EBRD region of Russia’s food ban

By Bojan Markovic, Jakov Milatovic, Marcin Tomaszewski and Olga Ponomarenko

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Russia imposed a ban on food imports from the West, including 11 EBRD countries where the EBRD invests, in early August. The one-year import ban on fruits, vegetables, meat, fish, milk and dairy products from the EU, the US, Australia, Canada and Norway was part of its reaction to the West’s own sanctions imposed as a response to Russia’s involvement in the conflict in Ukraine.

The overall negative impact of the food ban may be limited and temporary for most of the sanctioned countries. But it may have a noticeable effect on exports and GDP in the three Baltic states, Norway, Poland and Hungary, as their food exports to Russia make a substantial contribution to their GDP, and may even cause a temporary reduction in prices of affected foodstuffs. But even there, the impact on GDP may be somewhat muted in that food is actually re-exported through some of these countries. In Russia the ban is likely to push up inflation and somewhat trim GDP. The ban can benefit non-sanctioned food exporters, but can hurt non-sanctioned food importers.

Exports from the Central and South East Europe (CSEE) region to Ukraine and Russia have been already dropping so far in 2014, driven predominantly by their declining domestic demand as well as hryvnia and ruble depreciation. Russia’s food ban will reinforce this trend. The export data indicates that the most affected country will likely be Lithuania, where food exports to Russia amount to 2.7 per cent of GDP. The vegetables/fruits export sector appears particularly vulnerable as three quarters of these exports are shipped to Russia. The overall GDP effect appears to be less potent in other sanctioned economies where shares of food export to Russia are less than half a percentage point of GDP.

When export figures from the most affected CSEE countries to Russia are collated with imports of the same products from other EU-28 countries, it emerges that substantial portions of the exported foodstuffs may be imported from other EU countries, indicating the red ink may be shared with other producing countries within the EU.

Even in Lithuania, food exports to Russia are a mere 53 per cent of the country’s total imports of the same foodstuffs from the EU. Some analysts claim that food exports from Lithuania to Russia may consist of a substantial share of re-exports (up to 80 per cent) from other Western economies, although a large portion of these imports may still come from other affected CSEE countries, including Latvia and Estonia. To the extent re-exports rather than domestic production will suffer, the effect on Lithuanian GDP will be less than 2.7 per cent, with agricultural sector less affected, but firms servicing exports to Russia, e.g. transport sector firms, more affected. Nevertheless, the effect on Latvia and Estonia may thus be somewhat larger.

If Russia’s ban persists, it may nudge upwards world prices of affected goods, though it may temporarily reduce prices of goods supplied by the EU. As of July world agricultural prices were mostly on a downward path with the exception of meat. This trend may change as food sanctions interfere with already established optimal channels of international food trade, which may push on global food prices of affected products in the short term.

Within the EU, however, the ban may lead to a temporary oversupply of affected goods, thus possibly creating some downward pressure on their prices and inflation. The effect will differ amongst member states depending on the consumption basket shares the affected goods account for. According to the Eurostat methodology, banned types of food and non-alcoholic beverages account for about 13 per cent of the average EU-28 HICP (inflation) basket, but the share is higher for the new EU member states. It is the highest in Romania at 25 per cent, followed by Lithuania (20 per cent), Latvia (19.6), Croatia and Bulgaria (both at 19), Estonia (17.7), Hungary (17.5) and Poland (16.5).

The effect on CSEE’s GDP and inflation may be mitigated depending on the ability of domestic markets to absorb excess supply and their ability to quickly find alternative export markets. The chart above indicates that foodstuffs exported to Russia are at the same time imported from other countries, within and outside EU.

It thus indicates that domestic market may have some limited capacity to absorb an additional supply of temporarily cheaper affected food to the extent that now-cheaper domestic foodstuffs can partially substitute imports of the same type of food, both from within and outside EU. But it is unlikely that the absorption capacity will be large due to only partial substitutability of the same foodstuffs, as well as limits to storage abilities and capacities.

Another way to mitigate the impact of sanctions would be to seek alternative export destinations, e.g. in Middle East, Africa or Asia, including Eurasian Union members such as Belarus and Kazakhstan. For some foodstuffs this is however likely to take time, and involve transport costs and challenges.

Although not subject to the latest ban, Ukraine and Moldova are affected by the previous Russian food embargo. This ban was imposed on Ukraine and Moldova gradually over the past several months and justified by quality and safety concerns.

The list of sanctioned products from Ukraine has been continuously modified, and it currently includes beer, vodka, sweets from the producer Roshen, founded by President Petro Poroshenko, milk and dairy products and juices. The rough estimate suggests that the banned food products may add up to 0.6 per cent of Ukraine’s GDP. In Moldova, one of the poorest countries in Europe, the ban currently includes fruits, canned fruits, some processed meat and wine. With agricultural sector accounting for about 40 per cent of GDP, and Russia representing 80 per cent of total fruits export consumption, the rough estimate suggests that the Russian ban effect may cut GDP by anything up to 0.9 per cent, but a portion of this figure has already been reflected in past GDP figures.

As for Russia, the ban will disrupt well-established food import channels, pushing up its import prices and inflation. Food imports make up around 10 per cent of overall Russian imports. Food is primarily imported from the EU (one third), Latin America (16 per cent), Belarus (10 per cent), Ukraine and China (5 per cent each). Sanctions-affected food makes up around 40 per cent of food imports (and almost half with Ukraine included), or 15 per cent of food consumption. Imported foodstuffs are also used as an input in food processing industries, which contributes 2 per cent to Russian GDP. Fish processing firms import 37 per cent of raw materials, while food processing in general imports 15 per cent.

Given the weight of food in inflation is one third, a possible 10 per cent increase in prices of affected foodstuffs (meat, poultry, fish, and dairy), which constitutes 60 per cent of all foodstuffs, would push overall CPI inflation in Russia by up to 2 percentage points, adding to the already high inflation of 7.5 per cent recorded in July.

The effect of sanctions on Russian GDP is likely to be negative overall. Some initial positive GDP effect may come from increased domestic food production in the short term, as capacity utilisation in food processing industries remains about 4 percentage points lower than for the economy as a whole. But, a 4 per cent increase in domestic food production can only make up for around 15 per cent of food imports. It would thus be likely overwhelmed by the increasing production cost in food processing industries as the price of food imports shoots up, and by a fall in real disposable income, as food is a large part of consumption basket.

The negative effects may be partly mitigated in the short term through use of inventories and if alternative suppliers are found quickly. As of April 2014, food inventories stood at 9 months of food producers’ revenue and at 5 months of revenue of food wholesale and retail companies, therefore providing some potential for adjustment in the short term. The adverse effect of the adjustment will also depend on the ability to identify and establish alternative supply routes quickly. As the chart below shows, finding alternative suppliers promptly may be more challenging in case of some foodstuffs, such as non-bovine meat or cheese, especially since these may require delicate transport procedures

Impact on non-sanctioned countries

The restrictions may benefit food exporters, which are not subject to sanctions and can replace the sanctioned suppliers quickly. This seems to apply primarily to Brazil (meat), Turkey (fruits and vegetables), Belarus (milk and dairy), possibly Serbia and China. That said, the ability of those countries to benefit from sanctions will depend on additional factors such as transport costs, and transport challenges related to foodstuffs, as well as production capacity of these economies to accommodate large Russian market. Non-sanctioned food importers are likely to suffer from rising world food prices, unless the vicinity to the EU allows them easy access to temporarily cheaper EU foodstuffs supply.

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