Will a regional conflict re-tangle global supply chains?

This article is brought to you thanks to the collaboration of The European Sting with the World Economic Forum.

Author: John Letzing, Digital Editor, Strategic Intelligence, World Economic Forum

“Wars kill trade too.”

When the Federal Reserve Bank of San Francisco published a working paper about war’s impact on trade several years ago, it didn’t mince words. If enough trade is killed, the authors wrote, belligerent countries can wreak economic havoc “not just for themselves but also for everyone else.”

Our conflict-blighted era, whatever history may end up calling it, merits a reminder of the possible disruption to the flow of the things needed to keep people warm, employed and fed when war breaks out.

The pandemic snarled commerce so badly that supply chains seemed to break. Russia’s invasion of Ukraine proceeded to upend trade in energy and food, and in the wake of the Israel-Hamas conflict that erupted in October, a flurry of attacks on commercial ships in the Red Sea have rattled nerves.

“You can only have so many of these pressure points hit at once before something really gets damaged globally,” said Josh Lipsky, senior director of the Atlantic Council’s GeoEconomics Center in Washington, D.C.

An executive at a major shipping association recently called for more “military resources” to protect vessels transiting the Red Sea region. Around the same time, US President Joe Biden’s national security adviser announced that talks are underway to form an international “maritime task force” to ensure safe passage.

Lipsky doesn’t think the skirmishing on Middle East trade routes will send serious economic ripple effects around the world. Not on its own, anyway.

“There’s enough resilience in the system,” he said. “But you could add one more situation that’s unexpected, which, you know, that’s what happens in the world – and then we’re in real trouble.”

Supply chains are fragile. And they pull parts of the globalized world into closer commercial proximity than ever before. Lipsky said this adds an unnerving wrinkle to the millennia-old connection between war and trade: “it just makes it potentially more costly for the entire world when there are regional conflicts.”

Last month, Houthi rebels stormed a vehicle transport ship on the Red Sea by helicopter – then published jarring video of the incident. About two weeks later, three bulk carrier ships in the area were struck by missiles on the same day. Drone and missile attacks on commercial and military vessels have continued.

This is all happening in one of the world’s busiest trade chokepoints. The Suez Canal shuttles nearly a third of global container traffic between the Mediterranean and the northern Red Sea. The sea’s southern outlet, the Bab el-Mandeb (“Gate of Tears”) Strait, narrows to just 25 kilometers. The Strait of Hormuz, on the other side of the Arabian Peninsula, narrows to about 50 kilometres and serves as a funnel for nearly a third of global oil consumption.

‘It’s not just energy that’s at risk’

Napoleon, now cinematically reimagined as fed up with Britain’s “boats,” tried to cut off the resilient naval power from regional trade – a blockade that was ultimately self-defeating in multiple, disastrous ways.

Then, as now, people frequently fell short of the Enlightenment-era idea that the earthly benefits of keeping trade flowing are so enticing, nations surely won’t want to disrupt things too much by going to war.

“That belief, to the extent that it existed, was shattered when Russia invaded Ukraine,” Lipsky said.

Significant amounts of energy pass through the Red Sea region, including exports to Europe needed to replace Russia’s supplies following its invasion (and the sanctions levelled in response). In the first half of this year, the amount of northbound oil passing through the Suez Canal and a nearby pipeline in Europe’s direction was more than 60% higher than in 2020.

But then, just about every other type of good follows the same path. “So much goes through the Suez,” Lipsky said. “It’s not just energy that’s at risk if the conflict were to expand.”

And there aren’t many good alternative routes, he added.

The pivotal role of this transit point was underlined in early 2021, when a massive container ship ran aground in the Suez Canal and blocked traffic carrying nearly $10 billion-worth of goods every day that it sat there.

Lipsky noted that the Red Sea region is just one of the world’s sensitive trade bottlenecks.

“The one that keeps everyone in Washington up at night is the Taiwan Strait,” he said; interrupting that region’s flow of semiconductors, which power “everything we do from the time we wake up to the time we go to sleep,” could be particularly problematic.

https://open.spotify.com/embed/episode/1OJSvgIDK5sFIbJKmqtiBv

Before it ended, Napoleon’s wartime ban on trade with Britain managed to cause chaos. New hardships for British factory workers added momentum to a Luddite movement bent on preventing the replacement of human labour with machines (even if it meant smashing some in the process).

In an era impacted not just by conflict but also increasingly prevalent artificial intelligence, some people are now wondering if the Luddites may have had a point. In the case of both automation and war, every effort should probably be made to avoid repeating past mistakes.

The authors of the Federal Reserve Bank of San Francisco working paper on war and trade struggled to find a logic in pursuing conflict, when the collateral damage for so many can be so devastating. “Perhaps other mechanisms are needed to avert war,” they wrote, “such as multinational institutions.”

But Lipsky said our current institutions, formed after World War Two, may require an update.

“It’s probably a good idea for all of these institutions, as they turn 80, to think about their purpose, think about their place in the world, think about how they could do things differently,” he said. “Given the way global economy has changed.”

More reading on conflict, trade and supply chains

For more context, here are links to further reading from the World Economic Forum’s Strategic Intelligence platform:

• “Wars without gun smoke” – expanding global supply chains have created new weapons for competing powers, according to this article, but businesses can make it harder to use them. (Harvard Kennedy School)

• A perceived US military withdrawal from the Middle East means China can establish a foothold there, according to this piece, which details why Beijing may aim “to play a greater role in influencing regional security dynamics.” (Carnegie Endowment for International Peace)

• The US has far more exposure to foreign supply chains than previously estimated, according to this study, which predicts significant shocks to the system yet to come – resulting not just from geo-economic tension, but also climate change. (CEPR)

• Trade as a basis for mediating conflict; according to this analysis, Qatar emerged as a key Middle East arbiter not least due to its commercial profile. Some related stats: US exports to the country recently rose by more than 42%, and it’s the world’s second-biggest exporter of liquified natural gas. (The Conversation)

• As the Red Sea region grapples with security and political crises on multiple fronts, according to this analysis, one effort to secure a seaport through military force may add a new layer of complexity. (LSE)

• Cluttering trade routes can be costly. According to this recent analysis, 10% of the energy inflation endured in the EU last winter as it sought alternatives to Russian supply was caused by port congestion; should the weather this winter be worse than expected, people can anticipate similar price spikes. (The Conversation)

On the Strategic Intelligence platform, you can find feeds of expert analysis related to International Security and an extensive mapping of countries’ biggest exports and most prominent trade partners over the years. You’ll need to register to view.

Josh Lipsky is a member of the World Economic Forum’s Expert Network.