Schroders: Russia’s sanctions on Western food imports

The ban covers meat, fish, seafood, vegetables, fruit, milk and dairy products from the US, European Union (EU), Australia, Canada and Norway, and follows three rounds of Western sanctions. The retaliation also aligns with a policy of reducing economic dependence on Europe.

Impact on Europe

Given its proximity and that it is the largest exporter of agricultural produce to Russia, Europe is likely to feel the greatest effect from Russia’s embargo. However, the true impact on Europe is likely to be very small. 6.9% of total EU exports go to Russia, but when isolating agricultural goods and livestock, the share of total exports falls to just 0.5% - barely worth 0.1% of GDP. Moreover, the banning of these exports does not mean the goods will not be sold or consumed elsewhere. Agricultural EU exports to Russia are worth 4.5% of total EU agricultural production, and while not all of these will be banned, there will probably be enough to cause some excess supply in Europe, which would place some downward pressure on food prices. Farmers and food producers are likely to be hit, but the EU’s Common Agricultural Policy should help ease any losses. Meanwhile, households are likely to benefit from the fall in food prices, helping free up income for other spending. However, the lower food price inflation will exacerbate the already low rate of overall inflation the European Central Bank (ECB) is desperately fighting. The ECB is closely monitoring the situation, but is unlikely to take action at this stage.

Impact on Russia

Regardless of the move’s political costs and benefits, the embargo seems certain to have a set of economic costs for Russia. Domestic consumption exceeds production for a number of the banned items, so Russia will not be able to fill the gap domestically (plans to expand domestic production will take time to come to fruition given the natural production cycle for agricultural produce). Instead, they will have to seek out alternative providers. For some goods, Russia is particularly reliant on the sanctioned countries. Over 50% of imports of pork, poultry, and dairy products, for example, are now banned. Global production data suggests the rest of the world does not produce enough to immediately meet Russian demand. Sharp price rises consequently seem inevitable.

Inflation of course is already elevated in Russia, and the further inflationary impact from the import ban will add to pressure on the central bank to extend its hiking cycle. The uncertainty generated by the sanctions has also led to additional currency depreciation, adding to inflation pressures. At a time when sanctions from the West have already pushed up financing costs and forced banks to seek domestic financing, domestic interest rate hikes will have a greater impact than usual. Credit and economic growth will suffer.

Conclusions

Overall, Russia’s embargo on agricultural products is more likely to negatively impact the Russian economy than it is those it used to import from. The bigger danger for investors is whether the exchange of trade sanctions continues to escalate, and whether it leads to embargoes on trade in oil and natural gas. Russia and Europe are highly reliant on the crucial supply and sales of Russian energy. Without it, European production and consumption could be badly hit with skyrocketing prices, while Russia would see a collapse in its most important revenue stream. Neither side can afford to let the situation escalate that far, but then again, politicians do not always make rational economic choices. Putin’s latest move appears to be a case in point.