Known unknown

Red Sea crisis will affect global trade

There is no sign of an end yet to the troubles faced by commercial shipping through the much-used Red Sea to and from the Suez Canal. Usage of this crucial link between the Mediterranean Sea and the Indo-Pacific has been thrown into uncertainty, thanks to the Israel-Hamas war in and around the Gaza strip. As a consequence of the war, the Iran-backed Houthi rebel alliance in Yemen has begun attacking ships in the Bab-el-Mandeb Strait, between Yemen and Djibouti. The rebel alliance is no longer a rag-tag group but is surprisingly well-armed. It has used anti-ship ballistic missiles — which have not been used in any significant numbers in any prior conflict — as well as regular cruise missiles, alongside drones and small manned boats to attack and intimidate shipping.

The Houthis have claimed that they are attacking boats bound for Israel, but this is clearly not the case — nor is it likely that they would even be able to tell which ship is headed where. As a consequence of these attacks, multiple major shipping companies have taken the decision to avoid the Red Sea and thus the Suez Canal altogether. These include Maersk, Hapag-Lloyd, and the Mediterranean Shipping Company as well as some oil majors. A few days ago, Maersk confirmed its tankers would avoid the region for the “foreseeable future”. There had been expectations that Maersk and others would resume close-to-normal service through the Red Sea after the United States announced a naval task force that would protect shipping in the region. But the practical failure of the task force to make an impact on the ground on an accelerated timeline meant that the shipping companies had to put caution over efficiency.

As a result of such decisions, the cost in time and money of shipping between the Mediterranean and the Indo-Pacific has skyrocketed. Ships are postponing travel or, if they have to travel, are taking the long way around the Cape of Good Hope in South Africa. Recent estimates by industry bodies in India are that the cost of shipping to Europe has increased by between 70 per cent and 200 per cent. For Indian exports in multiple major sectors, this may count as a serious hit to margins and competitiveness. Diesel and jet fuel cargo from one of India’s eastern ports has already been delayed and redirected. Other globally integrated sectors may now begin to feel the pinch.

For the global economy — as well as for India’s own unexpectedly robust growth in 2023-24 — the situation in the Red Sea remains the largest “known unknown” in the near term. A serious breakdown in shipping would drag global trade down and serve as a major headwind for economic recovery. It is also a major risk to the inflation outlook. In this context, it is worth noting that, just as the Suez becomes increasingly inaccessible, its twin canal in the Americas has been forced to take less shipping than it has in years or even decades. This is because of climate change-enhanced drought conditions that have rendered it difficult to navigate: The past year was the driest on record in Central America. With these two major arteries of world trade not performing to potential, there exist significant downside risks to trade and growth.