The red ink that flows from the Red Sea attacks

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Now there’s a geopolitical trade policy for you. Never mind Brussels earnestly setting AI regulations and hoping they osmose abroad through the Brussels Effect. The US and assorted allies, especially the UK, trying to smash trade routes open in the Red Sea by bombing the Houthi militants really does have some echoes of the gunboat diplomacy of earlier centuries. Later this week I’ll write about the security that underpins globalisation, which is about more than just patrolling shipping lanes. But today I’ll focus on the immediate effects on trade from the continued disruption, and how long till it gets really serious. It’s certainly going to add a bit of spice to the World Trade Organization meeting in Abu Dhabi next month. Charted waters is on expectations of falling global interest rates.

Hitting the Houthis

I don’t claim you exactly needed to be a strategic genius to spot this, but I said just before Christmas it was pretty obvious that there would be serious pushback to militants clogging up one of the world’s great trade arteries.

Together with the world’s other great shipping canal, Panama, being severely affected by drought, the supply shock to freight might finally have arrived. I say might because it seems unlikely the Houthi rebels will be able permanently to shut the Suez Canal to shipping without there being some fairly serious reaction.

Last week’s strikes from the US, UK, Australia, Bahrain, Canada and the Netherlands were pretty impressive. It’s also notable that, although the Houthis have tied their attacks to Israel’s bombing of Gaza, governments joining in don’t necessarily back the US stance on Israel.

So far, though, they haven’t deterred the Houthis or indeed made any noticeable impact on the rising prices of freight or insurance. As the FT reported over the weekend, reinsurers have been putting get-out clauses into contracts protecting them against having to pay out for damage during a full-scale Middle East conflict.

Freight rates for routes through the canal are currently four or five times higher, and journeys are taking 20-25 per cent longer by going round the southern tip of Africa, than before the Houthis started attacking ships. Because the global container system is so interconnected, prices are spiking elsewhere, such as the US west coast routes.

I’ll stick to my prediction that this isn’t a major crisis for globalisation, but it’s obviously a big deal. So what happens now? As is now traditional at Trade Secrets during times of supply chain turmoil, I went to the mountaintop to consult Ryan Petersen, chief executive of the freight forwarder and logistics company Flexport, who was one of the most incisive analysts of the snarl-ups in container traffic back in 2021-22. Here are the main points from that and other conversations:

Things are likely to get worse this year but then get better even if traffic through the Suez Canal remains blocked. Carriers ordered a lot of new vessels in recent years. Peterson says that between 2022 and 2025, the total capacity of container shipping is reckoned to go up by about 25 per cent. “There’s so much shipping capacity coming on stream that in the long run the increase in rates evens out. But you could see the rates remaining elevated for a couple of quarters, maybe a year.”

Freight demand is price inelastic in the short run and transport isn’t a big part of overall costs. Petersen says the average container holds about $100,000 worth of goods wholesale, which will be sold at destination for $300,000. So a price increase of $6,000 adds about 2 per cent — not negligible for inflation if it gets passed through to consumer prices, but not big enough for manufacturers of, say, high-value electronics to stop shipping product.

It’s not clear whether most customers are in that much of a hurry. There’s obviously a trade-off whereby the Red Sea journey is faster but has a higher risk than going the long way round. Petersen says: “I haven’t seen evidence that customers are asking to go through the canal rather than round Africa.”

Most will wait a few months before making big changes in production. Manufacturers in the Middle East, whose journey times to Europe have tripled by having to go round Africa, may already be pausing production. But Asian companies whose journey times have only increased by 20 per cent will wait at least a quarter or so to see how the situation develops before shifting location of factories or changing target markets.

The Suez Canal is uniquely vulnerable and uniquely valuable. It carries something like 30 per cent of all global container traffic — more than the Panama Canal, which is having its issues with low water levels at the moment. And while there are security concerns in other parts of the world, such as piracy off Somalia and in the Malacca Strait, dealing with pirates is relatively straightforward (you sink their boats) compared with fighting a land-based force such as the Houthis. The value of traffic suggests there will be rising diplomatic or military pressure for a solution to the blockages. Petersen says: “The whole world is pretty much lined up wanting to have smooth sailing through this region.”

Air and land freight can’t make up the difference. There has predictably been increased demand for air freight as a result of the Red Sea attacks, particularly from companies with high-value time-contingent goods. But as Petersen points out, a container ship holds 10,000 40-foot containers while a Boeing 747 holds seven. “If 1 per cent of ocean freight switched to air, it would more than fill all the capacity.”

Charted waters

Expected cuts in interest rates are good news for global growth and hence for trade. With underlying inflationary pressure coming down and inflation expectations well contained, the Red Sea disruptions might delay them but probably won’t put them into reverse.

Just as the rise in inflation and interest rates over the past two years was largely a global phenomenon, so is the expected loosening of monetary policy now.

Trade links

The Chinese carmaker BYD is expanding its global presence, looking to acquire a lithium producer in Brazil to supply its car plant there after also agreeing to set up in Hungary. This is a great FT profile of the company’s head, Wang Chuanfu.

On that note, the Economist boldly argues that Europe and the US should just relax and enjoy cheap Chinese EVs rather than trying to lock them out of their markets.

That’s going to hurt: the Dutch semiconductor equipment manufacturer ASML, which is subject to a US-led sanctions regime on exports to China, says the EU is not in the Champions League of economic security and statecraft.

The FT’s Swamp Notes newsletter looks at whether Joe Biden can outflank Donald Trump on trade.

The brave start to the self-styled libertarian Javier Milei’s presidency in Argentina, with the peso devalued and price-fixing agreements abandoned, has led to inflation shooting above 200 per cent in December.

Trade Secrets is edited by Jonathan Moules