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Will Red Sea Trade Disruptions Be a Pandemic-Level Shipwreck?

The shipping upheaval in the Red Sea is an adverse supply shock that has ignited worries about inflation, oil price shocks and manufacturing delays—some of the same challenges that stifled the economy during the COVID-19 pandemic. Market participants are rightfully concerned; the Red Sea is home to major choke points for international trade, including the Suez Canal and the Bab el-Mandeb Strait (Figure 1). Still, we believe that the Red Sea conflict is not going to lead to anything close to pandemic-level supply chain challenges. 

Chief Economist

Figure 1: When ships transit through the Suez Canal, they usually navigate the waters of the Red Sea. The massive traffic passing through the Canal represents:

Source: Market Report, New Zealand Foreign Affairs and Trade, per the New Zealand Embassy in Cairo. April 18, 2021.
* Based on 2019 data.

While data shows that maritime shipping rates have leapt higher, disruptions are limited to select shipping portions of the global supply chain, greatly diminishing the ultimate inflationary impact at the global level.

Flashback: COVID Supply Chain Woes

Ongoing shipping disruptions in the Red Sea have triggered dire warnings of a repeat of the 2021-2022 soaring shipping costs and severe global supply chain problems. Those fears are exaggerated for two main reasons: (1) Shipping cost increases have been more moderate and localized this time around, and (2) most importantly, there has been no negative impact to global productive capacity in this episode.

Comparing the Rise in Shipping Costs 

First, while swift, the latest increases in shipping costs has been but a fraction of the COVID-era surge, largely because this is a localized crisis and alternative routes exist. Indeed, there are some tentative signs that a peak may have already been reached. Europe appears more vulnerable to both supply chain disruptions and related inflationary impulse compared to the US.

Since the Red Sea crisis began last November, maritime container traffic through Red Sea ports has collapsed by about 80% (Figure 2). These volumes have not simply vanished—they are being diverted to alternative routes, mostly around the Horn of Africa.

This rerouting, which extends the trip time from Europe to Asia by one to two weeks,1  comes with higher costs. According to the World Container Index by Drewry, between early December and early February, spot container freight rates for a 40-foot box have risen by 128%, 146%, and 230%, respectively, for the Shanghai to New York, Shanghai to Los Angeles, and Shanghai to Rotterdam routes (Figure 3). Benchmark rates for Rotterdam to New York have risen 31%.

At face value, these rate increases are concerning, but they pale in comparison to the magnitude of increases experienced during COVID. Admittedly, the surge has been somewhat swifter, but this makes sense given that this Red Sea shock occurred at a time when traffic was quite heavy, so exporters needed to act quickly to ensure goods reach their destinations as soon as possible. During COVID, the initial ramp up in costs was more gradual, because in the early stages of reopening there was ample idle shipping capacity available. Not so today. But, importantly, one should not understand the speed of change as indicative of the ultimate magnitude of change. In fact, the latest available weekly data suggest a tentative plateauing or even mild reversal in some of these rates.

Shipping Cost Increases May be Overstated in Some Metrics

There are also some question marks around the representativeness of Shanghai benchmark rates (shown in Figure 3) for global shipping costs. Evidently, not all trade routes are being impacted, as there has been almost no change to Europe-Americas routes. But there is also some disconnect between Shanghai and broader China freight rates, suggesting that the Shanghai numbers may exaggerate the actual increase in average shipping costs out of China (Figure 4). Indeed, according to these broader China metrics, there has been little visible increase in the cost of shipping services to either the East or West Coast in the United States (Figure 5). This underlying route data further supports the idea that the rise in shipping costs is not as much of a supply chain crisis as the one that occurred during the pandemic.

The Bottom Line

The current situation is a logistical headache but not a full-scale logistical crisis. Productive capacity is not impacted. Factories are producing and global supply chains are functioning, if adjusting to the delays associated with shifting to alternative shipping routes. The complexity of the task at hand pales in comparison to the pandemic challenge of entire sections of the global supply chain going dormant for weeks, or months, due to lockdowns. Figure 6 supports that the delays are not occurring across the entire global supply chain.

Shipping costs may have risen somewhat, but congestion has not (Figures 5 and 6). This is an exercise in redistribution and some loss of efficiency, not one of overtaxing the system as a whole. For all the reasons discussed above, the ultimate inflation impact is likely to be limited and, for many items—especially high value tech gadgets—even immaterial. Figure 7 illustrates the decline in prices since the pandemic.

Bulky items like grains may see a slight uptick in prices, but given the substantial price retrenchment experienced by broad commodity indexes since the 2022 peak, a modest upturn from here would not unravel the ongoing global disinflation narrative.

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