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‘Russia to lose its top wheat exporter spot due to grain tax’

12 February 202122 min reading

Andrey Sizov

Andrey Sizov 
Managing Director of SovEcon

“We believe that if a new permanent grain export tax is approved, new crops could suffer. Many farmers would prefer to plant something else, not wheat. That would have a bullish effect on new crop. There's a very big question mark over the 2022 crop. I'm afraid we could see a substantial decrease in the planting area of winter wheat this autumn, and that is likely to imply a substantially lower crop in 2022. Russia will likely lose its number one spot in the world wheat export market in the medium term.”

World wheat prices soared to a six-year high as top exporter Russia announced a wheat export tax and a grain export quota that will limit shipments to 17.5 million tons to curb “food price inflation”. Black Sea wheat prices jumped to around $300/ton. While the global markets are trying to absorb these prices, the news that Russia would impose a floating wheat export tax made the markets more uneasy. The Russian government is considering that permanent tax starting from June 1.

world wheat pricesEarlier, Russia announced a 25 euros export tax would start from February 15, but it will impose a wheat export tax of 50 euros a ton from March 1 to June 30. Russia also set a barley and corn export tax.

Now the market speculates on the consequences of the implementation of those restrictive export measures and tries to understand what is going to happen next. We asked uncertainties around Russian wheat export policy to one of the most reliable experts on the Black Sea grain market: Andrey Sizov, the Managing Director of SovEcon, a leading agricultural markets consultancy focused on the Black Sea.

Sizov describes these measures taken by the Russian government as a big mistake. “Russian government did a lot to help the world prices to grow but beneficiaries from those prices would be not Russian farmers, but their direct competitors all over the world,” he says. Sizov predicts such moves will negatively affect the Russian farmer's desire to grow wheat. Predicting that the wheat area in Russia will decrease in the next season, “Russia will likely lose its number one spot in the world wheat export market in the medium term,” he added.

Andrey Sizov answered our questions on the Russian grain export tax and sheds light on what's happening in the Black Sea.

Before talking about the implications of Russian wheat taxes for thewheat export tax global market, could you tell us why Russia took these restrictive measures? And do you think will the measures serve this goal?
It started a few months ago when Russian domestic wheat market prices in ruble terms hit an all-time high. Obviously, they're very far from the highest in dollar terms. In 2007/08, it was $450/ton like that. Now it's around $300/ton. But ruble has been weakened fast in 2020. And as prices rose partly, ruble devalued substantially. It led to the fact that ruble prices hit all-time high in the domestic market. So domestic consumers began to become annoyed because of those prices, began to write letters to the Minister of Agriculture and Prime Minister asking to regulate the market. And at the end of the day, in December, President Putin held a meeting with the government and criticized the government heavily because of rising food inflation. After that, the government made many decisions in just two months, which are actually have almost ruined the crop-producing sector here in Russia.

So what has been done?
First, earlier it was approved grain quota. There is a grain quota of 17.5 million tons of wheat, barley, corn and rye combined. There are no individual quotas, just combined volume. Then they implemented the first export tax of 25 euros per ton for wheat. And then that tax was doubled from 25 euros to 50 euros per ton. So from February 15, we will have 25 euros/t tax and from March 1, we will have 50 euros/t tax till June 30. On top of that government also introduced export taxes for barley and corn, 10 euros for barley, 25 euros for corn.

grain export quota

And to make things even worse right now, the leak of the official draft about a new tax, which could become effective close to the end of the current season, or starting from the next season. And this so-called floating tax will be permanent contrary to those taxes, which were introduced till June 30, till the end of the current grain season. And it's very, very restrictive. It implies there is a threshold price. In this case, it's being proposed around $200/ton. And everything above that price is being taxed at 70%. For example, if the export price $300/ton, as it is now roughly, the tax will be $70.

All those factors have been driving the wheat market substantially higher, it's obviously not the only reason. I would say even bigger reason was the Chinese buying of corn, but still, Russia is big news. So why the Russian government acted that way?
The goverment wants to drive the inflation lower ahead of parlament election this year. Two things: grain prices have negligible impact on food CPI, and in reality it’s histrorically low. In 2020, it was 5.4%,excluding fruit and vegetables. So if we talk about 5.4, that's historically low inflation. For example, in 2014 and 2015, annual inflation was reaching in some months around 20%. Now it's 6.7% if we take everything into the account. So it's low and that's a very big mistake of the government with gloomy implications for the crop growing sector.

Do you think will these measures lower the inflation?
I think the inflation will be lower but not because of their actions. Their actions will have very limited effect on inflation because we know quite well and we have research that topic in the past that the correlation between food inflation and raw materials prices, like oilseeds, grain is very low. It's almost non-existent. The more important factor is, for example, disposable income, which has been fallen in Russia for many years, and that limits potential inflation… Central bank’s interest rate, which is also historical low, around 5%. Actually, food inflation is close to all other types of inflation here and a very important driver is the ruble/dollar exchange rate. As I mentioned, Ruble was devalued fast in 2020. And that was the biggest factor which drove the inflation higher. It also explains why food and vegetables were so high. Actually fruit and vegetable inflation were up 17% and they also badly reflect that issue.

Russian wheat export prices

After the restrictive measures, Russian wheat export prices have increased to historical levels. Can you tell us the short and long-term implications of new restrictions in terms of Russia and global markets?
I think the short-term effect is going to be bullish. I am talking about global prices because today February 1 and we will see many headlines about Russian restrictions and that will drive the market higher. And also we had a portion of bullish grain news last week. I'm not talking about Russia, this time talking about China and huge Chinese purchases of the US corn, just almost 6 million tons in four days. So that set up is pretty bullish and those news from Russia could be considered bullish in the short term. And I mean short term, it would be probably a few days, maybe a little more. But fundamentally, I don't think it's really big news for 2020/21 global S&D.

Because of the high possibility of floating tax, it implies that Russian farmers will be forced to sell their wheat during this season. Why?
Because they will lose the incentive to store that grain until the new season. Just let me explain: when those first taxes were introduced, we substantially lowered our forecast for wheat exports from 40.9 to 36.3, more than 10%. Because we understood and we analyzed those similar scenarios in the past that farmers would prefer to store their grain until the new season without the tax. And the new season starts in July. But as there was a very good chance that floating tax will be approved. They will lose that incentive to store that wheat until the new season and sell it in the current season. That will drive the domestic market lower and will boost Russian with exports. So, we were expecting those floating tax news and that's why we upped our export forecast from 36.3 to 37.8 million tons. Actually, it's bearish news for this season, but you know, it's not a game-changer, just a few million tons.

I think more importantly what effect it will have on the new crop, 2021?
We believe that if floating tax is approved, new crops could suffer. Because many farmers would prefer to plant something else, not wheat this spring because of those restrictions. Our most recent forecast for wheat crop and Russia this year is 77.7 million tons. It's already substantially below the previous year, but not because of the results of those restrictions but because of the weather. If the new floating tax is approved, I think we could produce 1.5 to 2 million less from that number, which is low already. And I think that would have a bullish effect on new crop first of all. There's a very huge, big question mark over the 2022 crop and autumn planting campaign this year. I think because it's not affecting the next crop because Russia and Ukraine mainly produce winter wheat. (It's around 60 70% in Ukraine). It has already been planted last autumn. But we have a question about that spring crop this year. And there's a very big question about the next crop in the next year. And we'll have an answer to that this autumn, but I'm afraid we could see a substantial decrease in the planting area of winter wheat this autumn, and that is likely to imply a substantially lower crop in 2022.

Russian wheat farmers complain about the taxes. How they will react? Do expect any strike?
Farmers are obviously angry. At this stage, I think the majority of them haven't understood what has happened. At this stage, their reaction is somewhat muted, because I think the majority hasn't understood what has happened. But so sooner or later, they will understand what is happening. Many of them are losing not 1 to 5% of their revenue, many of them are losing like 10%, 20%, or even 30% of their revenue because of those economic restrictions. I haven't seen anything like that and actually, it's not happening anywhere except Argentina and such big transfers from farmers' pocket to government and consumers. But strikes…farmers driving tractors to Kremlin... No, I don't think it's going to happen at least soon. I think the reaction will be kind of silent. Probably we'll see a few louds to the government.

Russian wheat export

The issue is a very serious issue for producers here, for crop growing farmers here. There is no proper lobby to protect the interests inside the country. Sugar guys have a good lobby, livestock guys are very influential. And livestock sector was the driving force behind that decision to limit exports. Vegetables also have a strong lobby, but not crops. Crop producers are unconsolidated, there is no good lobby. And that's why it's one of the reasons why such things can happen.

So strikes? No. They will react silently but they will start to cut the areas under wheat and try to switch to other crops. At the same time, the current environment is so toxic for farmers. It's not easy to switch to anything else. Because it's not only wheat, as I mentioned, it's also corn and barley. There are also exports restrictions on oilseeds. And they're also regulation of sugar market. So in many cases, it's very hard to choose where you are going to switch to from your wheat because everything now is being regulated. But if I were a farmer and actually we are advising our Russian clients to switch -at least for the next crop- from grains, particularly from wheat to oilseeds. It's still a better bet undergoing conditions. So reactions? No rally, no riots, at least at this stage no strikes because there was no lobby, no unions. There is no organization to drive that. But a decline of the area under grain and first of all under wheat as that has been happening mostly heavily regulated crop.

‘NUMBER ONE BENEFICIARY WOULD BE US’

After Russia’s announcement, some big importers postponed purchases. For example, Egypt canceled a tender. Turkey booked just only 95 thousand tons of wheat while it was seeking 400 thousand tons. Where could the biggest Russian wheat buyers get their wheat? There is a strong demand from these countries as they want to ensure food security. Which exporting countries will benefit from this decision?
This is a very tough season for Russian wheat buyers and large wheat importers, like Turkey and Egypt, MENA countries. As I mentioned, Russia still will export wheat despite all the restrictions. So markets will have to absorb that. It has absorbed the 25 Euros tax. It's already here. I think it will be absorbed and exports will continue. So it's not like zero from March. There will be exports from March. However, because of that time, which is needed to the market to absorb those taxes, volumes through the season will be lower. As I said, we were estimating wheat exports at 40.8 MMT before all taxes news. Now we are 37.8 MMT.

Ukraine is running out of wheat, their export program is almost done. The EU also has very tight wheat S&D. So it means that those wheat importing countries will have to start to buy more from more distant regions. Potentially the US is the biggest beneficiary. I think the US has good stocks, and they can sell part of them this season at a very good price. So, the number one beneficiary would be the US.

We could see even Australian wheat come into that region as well. Obviously, Australia will be serving Southeast Asia, first of all, but take into account that demand is there and supply is not there, Australian wheat could go there. And Argentina… Sometimes in the past it supplied Egypt. But they have a very bad crop this year. And again, they will be serving more traditional buyers like Brazil this year. And also their export program is almost done already.

So probably the number one beneficiary would be the US. But globally, all countries except Russia. So that means the Russian government did a lot to help the world prices to grow but beneficiaries from those prices would be not Russian farmers, but their direct competitors all over the world.

RUSSIAN WHEAT PLANTING AREA TO DECREASE

Can we say that these measures will undermine the competitiveness of the Russian wheat on the international market and also a blow to Russian credibility as a reliable supplier?
Russia is very likely to produce less wheat in forthcoming years, if that's floating tax stays, because Russian farmers will be in a very challenging conditions as Argentinian farmers, because all agricultural inputs are already rising like seeds, crop protection, fertilizer, and machinery. Everything's going up following higher crop prices, and it is already happening. So if you're a farmer, your input prices are going up, while your prices are being regulated. So obviously, your margins are just collapsing, and you're either going out of the business or you try to produce something else if you can, or you just turn part of your land for example, into fallow land.

So I think we're very likely to see a decreased area in the medium term if that tax stayed there and we're very likely to see a smaller production. Smaller investments in a hectare mean that farmers would be caring for all his costs and applying less fertilizer, cheaper crop protection. And that implies that country will depend more on the weather. So that implies that Russia will likely lose its number one spot in the world wheat export market in the medium term. Depending on the season, it could be the EU or the US, or Canada. So yes, that's a very sad story for Russian farmers and the Russian crop growing industry. And yes, obviously Russia doesn’t look good being a supplier to many markets to which rely heavily on Russian wheat like Egypt, Turkey, Bangladesh, like many other buys. But I think a substantial possibility is that some of the Russian buyers would go to World Trade Organization (WTO) and ask Russia to explain itself because it violates Russia's WTO obligations.

Could there be a WTO sanction due to these restrictions?
WTO is not a sanctioner. WTO is not deciding anything itself. WTO is not global trade poliçe. You need someone to go to WTO and tell that WTO to look into this matter… Someone who feels that he's losing money and not doing well because of those actions. For example, if a large Russian wheat buyer wants to do that, he goes to the WTO, he proves that prices are going up or it can’t buy enough wheat because of Russia actions, WTO starts a case where it's listening to different sides of this story and makes the decision. But typically, it takes not months, it takes several years. For example, China and Australia trade war, which has started probably almost a year ago but Australia just appealed to WTO just recently. I think at least half a year has passed. And we could see a decision probably in a few years earlier. So it takes time. But I think we could see such appeals from Russian wheat buyers to WTO. And that makes sense. Because in my view that measures clearly violates Russia’s obligations, Russia’s commitments. You can limit exports when there is an emergency like war, flooding, or other things that destroyed all the crops. In an emergency, the government can impose different measures, different restrictions on exports. But in this case, definitely there was no emergency. It's almost a record wheat crop. There's plenty of stocks inside the country and Russia started to regulate to restrict exports very badly. And that's why it in my view, violates WTO rules. And that's why there was a good chance that someone of Russian wheat importers will go to WTO.

We all know that Russia has set its agricultural products export target for 2030 as 45 billion dollars. Given such kind of though export restriction decisions, do you think does Russia abandon its ambition to become a world agricultural export powerhouse?
Probably I would agree. It has been not fully abandoned but became less important than it used to be. Russia was supposed to reach that target by 2024. And it was just postponed several months ago. That target was moved to 2030, by six years, and it hasn't been upped. But it's the same number plus six years. Obviously, it means that it's not as important as it used to be. I think the importance of that story is becoming less important for Russian authorities than it used to be, despite President Putin personally loved the story of Russian grain exports. He likes to mention how Russia is the number one world wheat exporter. But it looks like he won't be able to say that in a few years.

Russian winter crops suffered from dry weather. Can you give us the latest growing conditions in Russia? And what can you say about the next crop planting campaign?
As I mentioned, our most recent forecast is 77.7 million tons. That's substantially below the previous year when it was 85.9 million tons. Russia planted another record winter wheat area during previous autumn. There is no data on wheat specifically but the total grain area was more than 1 million hectares, above the previous season and last season was the previous record. But it was another very dry autumn, even drier than the previous one. And that dry autumn came after a very dry summer. And as a result, crop up entered that winter in the worst shape in a decade. According to the Russian Meteorology and Hydrology Center, they assess crops condition every late autumn, the share of in poor shape was 22%, compared to around 4% in the previous year. That's why that increase in production area will likely be fully offset by the very bad shape of plants in autumn. And actually, we had an even lower estimate, it was 76.8 million tons. We upped it a little bit in January because winter so far has been relatively favorable for Russian crops. December was average a bit dry, but January looks quite good. So there's a lot of snow in January, above the norm, and that was very timely because it likely helps to boost moisture reserves later. And it also insulated plants from a cold snap which arrived to rush around mid-January. So we upped a little bit of Russian wheat production. But now we have another thing to think about and we'll update our crop forecast when this happens. That is the new floating permanent tax. And again, if that tax is approved, I think we will cut our wheat number from the current 77.7 million tons by around 1.5-2 million tons. So if this happens, that implies 76 million tons crop, 10 million tons below the previous year. And that's again bullish for the new crop prices.

IMPORTANT FACTORS TO WATCH FOR GRAIN MARKETS

If you remember our first meeting about two years ago, you said that the margins for the big commodity traders are going down. The Covid-19 pandemic seems to reverse this trend. Would you agree with this?
Yes, it reversed and prices are going up. The market is pretty volatile and volatile environment where traders should make money or they just should go out of the business. So, we've seen good numbers from large multinationals recently. But still, if we look not into the just recent years, but bigger picture, like 10-20 years, the market has become way more transparent. Farmers have more power, more bargaining power, access to information, which is relatively cheap. He understands what's happening in the world the way better than before. And traders in many cases are just doing technical stuff. Yet, they're not speculating. They're just doing technical stuff… shipping the grain, booking the trade, doing the insurance, sending the grain. That's it, and that's why their margins are low. This year was exempt, relatively good because of high prices, because of volatility. But it doesn't change the global picture, long term picture in my view.

Last question…What are the other factors we should watch in terms of global wheat markets, except Russian restrictions?
Russian restriction is a big story. We talked about this a lot. Probably there are three or four most important things to watch. For the global grain market, we don't watch only wheat, corn is also very important. They're very closely related. For global supply-demand, global prices for this year, the next biggest thing is the South American crop. I'm talking about the corn crop. That's a very big question. Crop in Argentine, first crop in Brazil… We still don't understand what's happened to the second crop in Brazil. And that is overlapping with huge Chinese imports. Chinese imports are the second factor to watch because there was a lot of debate about how those big imports are going to be. The US says that is 17.5 million tons. Local foreign agriculture service says 22 million tons. Someone says 25 million tons in this season. That's changes global Supply & Demand a lot. And corn S&D is becoming tight almost every week with those Chinese purchases. And the big question is if they will continue to buy in next season as well. So Chinese buying number one topic. One idea is that they will become a big importer for a few years at least. 20 million tonnes, 15 million tons…That’s a very big volume. And another possibility that they'll just restock their stocks now and stop such aggressive buying.

So Chinese buying, South American crop, regulations in Russia and obviously, the market will soon start to trading the weather conditions and crop conditions in Northern Hemisphere for the next wheat crop. Russia is not looking good because of the weather. Ukraine is looking not bad. It's not a disaster. Actually, we expect an increase in production in Ukraine to 27.2 million tons of wheat, compared to 25 million tons in the previous season. The EU looks relatively good. Substantial increase in production is projected for the next year, around plus 14-15 million tons compared to the previous year. US crop is not looking good because they also had some weather issues, because of La Nina which affected major winter wheat regions. So again, the weather for Northern Hemisphere in March, April, late February also should be an important factor to watch.

Thank you so much for your comments and answers. Do you want to add anything else?
I encourage you to have a look at our main service called Sizov Report. You can easily check our website at sizov.report. We are making the global grain market more efficient and transparent by shedding light on what's happening in the Black Sea, by helping farmers, funds, traders and miller to trade better or manage their risk better by getting reliable, neutral and accurate information from the region, which often drives the global markets. I encourage you to go there and have a look at our service and get a free trial which is available on our website.

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