Impact of challenging trading conditions on food & agri companies

04 September 2018

The global trade system is experiencing a period of uncertainty and volatility. The election of Donald Trump as President of the US in 2016 marked a pivotal moment in global trade relations, as his criticism of trade deals and evaluation of fair-trade practices signalled a more insular mindset and a preference for bilateral agreements.

Food and agri firms operating internationally should consider how more challenging trading conditions could impact their operations.

Tariff and non-tariff barriers can be imposed rapidly, posing significant supply chain risks. As a result, this article considers two flashpoints in global trade, and the potential impact on firms. Awareness of these risks can be the foundation for an integrated risk management approach.

THE RUMBLINGS OF A TRADE WAR?

The actions and rhetoric of the world’s two largest economies, China and the US, have driven concerns of an emerging trade war. Since early 2018, the two countries have been engaged in a tit-for-tat exchange of tariff and non-tariff barriers to trade. On 22 March 2018, Trump announced a proposed 25% tariff on Chinese imports worth USD 50 billion, citing the detrimental impact of Chinese policies on US businesses, such as intellectual property theft.

While US tariffs were not immediately effective, China responded with counter-tariffs on 128 products, including fruit, wine and pork. These measures took effect on 2 April 2018. The dispute reflects a longer history of trade tensions between the two powers. As US-China economic ties have rapidly expanded in recent decades, many in the US have raised concerns over Chinese state intervention in trade and investment.

A full trade war would wreak greater damage to the Chinese economy than the US, and both sides have political and economic incentives to negotiate a mutually agreeable resolution. Yet, as the situation currently stands, US agricultural firms are being caught in the middle of the dispute, exacerbating already challenging operating conditions generated by low crop prices and falling incomes.

On 18 April 2018, China made effective a 178.5 per cent deposit on the value of sorghum shipments into the country by US traders. A grain largely used in livestock feed, sorghum exports to China were worth USD 1.1 billion to the US in 2017. A higher than expected deposit, this measure effectively rendered US imports of the goods financially unviable. In the immediate aftermath of the announcement, reports emerged that at least five cargo ships carrying sorghum to China had changed route. Shipments were likely diverted to alternative Asian markets, generating additional costs for traders.

Worse is to come for US agricultural firms. On 4 April 2018, China announced plans for retaliatory tariffs on 106 US imports totalling USD 50 billion, which will be introduced in two phases from 6 July 2018. The first phase includes USD 34 billion in tariffs, which directly target US agricultural firms. Tariffs are planned for soybeans in 2018. In 2017, the US sold around 33 million tonnes of soybeans to China, representing around half of all US soybean exports and making it the country’s most valuable agricultural export to China. A soybean tariff will put the US mid-west in a precarious position, as sellers lose market share to Brazilian exporters, purchases are cancelled and shipments turned back. As with sorghum, sellers would be forced to sell product at a discounted rate in other markets.

PALM OIL POLITICS

In an era of apparent US isolationism, the EU has worked to protect and advance the status quo of trade liberalisation. As a result, an emerging dispute with Malaysia over palm oil imports is not being driven by an EU preoccupation with trade imbalances. Instead, environmental policy appears to be the source of the dispute.

In January 2018, the European Parliament approved draft measures to reduce energy consumption in order to meet climate goals. This included a proposed ban on the use of palm oil in biofuels from 2030, following reports that the product is linked to deforestation in producing countries. The proposals were met with an unsurprisingly negative response in Malaysia, the world’s second-largest palm oil producer. The EU is the third-largest market for Malaysian palm oil exports, and the country has significant concerns that the proposed regulations will damage the incomes of around 500,000 smallholders. There are also fears that the existing proposals will be the prelude to a total ban on palm oil in the EU.

The Malaysian government has condemned the proposals as ‘crop apartheid’, alleging discrimination against palm oil producing nations – imports of other vegetable oils will continue under the regulations. Following the move by the European Parliament, Malaysia announced its intention to review trade with the EU and threatened that the UK would lose out on GBP 5 billion in defence contracts, if it supported the palm oil ban.

While the dispute is largely rhetoric at the moment, given that EU measures are not effective until 2021, companies in food and agri industries may be affected by a full trade dispute in the coming years. Malaysia has claimed that the move is direct discrimination and a breach of the EU’s obligations under World Trade Organization (WTO) rules, and has stated that it will consider referring the issue to the WTO if it is not resolved through dialogue.

An escalation in the severity of the rhetoric or a decision by Malaysia to pre-empt the EU regulations with its own protectionist measures could pose a significant risk to food and agri firms trading in palm oil.

MANAGING RISKS

Strengthening trade protectionism will continue to impact international firms in the food and agri sector in the 12-month outlook. Soft commodity prices may be more volatile, as seen in the aftermath of sorghum deposits, while contracts may be cancelled following the sudden introduction of trade barriers. Although many economies remain committed to free trade, the withdrawal of the US from the current global framework will slow trade growth, limiting trading opportunities for companies. The breadth and complexity of global trade dynamics can make managing these risks daunting.

Our Credit, Political & Security Risks team highlights that, by measuring political risks, a robust insurance strategy can be constructed to allow food and agri companies to realise opportunity in changing risk environments.

As a result, we developed World Risk Review (WRR), a proprietary country risk rating platform. WRR provides risk ratings for 197 countries across nine insurable perils. The ratings deliver, quickly and easily, an understanding of political risk in any given country to help you build your risk management strategy, including insurance.

For more information on how World Risk Review can support your operations, please contact Eleanor Smith on +44 (0)121 626 7837