Red Sea Crisis could undermine global economic recovery

Some of the world’s top economists warned this weekend that a prolonged conflict in Red Sea and the escalating tensions throughout the Middle East could have devastating effects on global economic growth, rekindling inflation and disrupting the energy supply.

World Bank economists warn that the current crisis could lead to higher interest rates, slower growth, persistent inflation, and increased geopolitical insecurity.

Joe Biden, the US President, said after a second night’s strikes against Iranian-backed rebels based in Yemen that the US sent a message privately to Tehran saying that “we are confident that we are well prepared”. Biden refused to elaborate when he spoke to reporters at the White House on Saturday on his way to Camp David.

There is growing concern among government circles in London, Washington and other cities that events in the Middle East may have a negative impact on the prospects of economic recovery for Sunak and Biden as they fight for their reelection.

Sunak, who has broad support from all parties at Westminster for the airstrikes on Houthi targets in Yemen, will be asked by anxious MPs questions about the long-term plan to bring peace to the Middle East and a prolongation of the conflict. Keir starmer is expected to be pressed by some left-wing Labour MPs about why he supported the military strikes, after he said he wouldn’t support it unless parliament voted for it.

Biden also faced pushback from progressives in his own party, already deeply opposed to US Military Support for Israeli action against Gaza. California congressman Ro Kohna said that the president should consult Congress before striking against the Houthis and involving us into another Middle East conflict.
The World Bank’s report on global economic outlook says that the Middle East conflict, along with the war in Ukraine has created real risks. The World Bank warns that conflict escalation can lead to a surge in energy prices with wider implications for global economic activity and inflation.

Other risks include financial stress due to high real interest rates, persistent inflation and weaker than expected Chinese growth, as well as further trade fragmentation, climate change-related disasters, and lower than expected economic growth in China.

The report adds that recent attacks on commercial ships transiting the Red Sea are already disrupting key shipping routes. This is eroding supply networks, and increasing the probability of inflationary bottlenecks. Energy supplies could be disrupted in a conflict-ridden environment, resulting in a rise in energy prices. It would also have a significant impact on other commodity prices, and increase geopolitical uncertainty and economic instability. This could lead to further weakening in growth and investment.

John Llewellyn said that the Red Sea situation could spread to the strait and wider Middle East. He estimated the likelihood of major disruptions in world trade to be 30%. This is up from 10% a few weeks ago.

Ben Zaranko is an economist at the Institute for Fiscal Studies. He told the Observer that the crisis highlighted the dangers of the chancellor Jeremy Hunt using his limited fiscal headroom in order to promise tax reductions. Zaranko stated that “we have learned over the past few years that bad shocks do happen.” Spending every penny of his ‘headroom,’ or extra money for tax cuts, leaves him with no room to manoeuvre in the event that a nasty surprise occurs and the outlook worsens.

On Thursday, dozens of US and British strikes on Houthi targets in Yemen widened the conflict in the Middle East. The strikes were a retaliation to attacks on ships passing through the Red Sea that have paralysed the shipping in one the world’s major maritime channels.
The Houthis claim they only target Israel-affiliated vessels in order to support Palestinians on Gaza. However, many of their targets were not known to have any links with Israel. The Houthis have also launched missiles on Israel’s land.

The US attack on a radar in Yemen Friday night led to Houthi threats that they would “respond strongly and effectively” to any international attacks. It also fueled fears of regional escalation of the conflict, which is already playing out in multiple countries.

Mohammed Abdulsalam, a spokesperson for the Houthis, said that the strikes did not have a significant impact on their ability to stop vessels from crossing the Red Sea or the Arabian Sea.

Special envoy Hans Grundberg warned that “serious concern” was expressed about the fragile peace process and stability in Yemen. Yemen has been ravaged by civil war for years.

Houthis is just one of many Iran-aligned groups in the region including Syria, Iraq, and Lebanon that are attacking targets inside Israel or they claim are connected to Israel. Hezbollah is the greatest threat in Lebanon.

Farea Al-Muslimi from the Chatham House Middle East Programme said: “The Houthis have far greater savvy and are better prepared than most western commentators realize.” It is important to not underestimate their recklessness and willingness in the face a challenge.

William Bain is the British Chamber of Commerce trade expert. He said that in November, about 500,000 containers went through the Suez Canal. This had fallen 60% to 200,000 by December.

The cost of a container has increased from $1,500 to $4,000 since November.

He said that if things worsened, the global trade would be further disrupted, the price of containers would rise, and the container costs would increase.

Many economists who are attending the World Economic Forum in Davos for the first time this year have grown increasingly concerned that the major economies of the world may be heading into a recession. They worry that central banks may only make modest reductions in borrowing costs. This will add to the cost-of-living crisis facing millions of households.

The prospect of rising oil prices may convince central banks that they should maintain their high interest rates longer than expected.

Liam Byrne is the chair of Commons Business and Trade Select Committee. He said that there was a real danger that a Red Sea Battle would push prices up, just when inflation began to drop. World Bank warns that global supply chains once again are in danger. This is not least due to the fact that this new battle in Suez is occurring at a time when drought is affecting trade through Panama Canal. “Two of the five key trade routes in the world are now at real risk.”