Even as tourists are trickling in amid peace talks between Russia and Ukraine, the ongoing war and ensuing energy bills risk derailing the Kingdom’s recovery plans

‘Such an act of aggression is unacceptable for Cambodia,” said Prime Minister Hun Sen over the Ukraine invasion, in what has become an issue he has repeatedly talked about in the past few weeks.

He said the Kingdom “cannot remain neutral” for the mere reason that in future, if “any country acts the same way with Cambodia, who can Cambodia depend on?”

But his concerns do not end there. Given the implications and impact of the war on Cambodia, Hun Sen is afraid the economy would be hit hard by these external headwinds.

With reduced determination by Russia, the world’s third largest oil producer, and the expanded OPEC+ (Organisation of the Petroleum Exporting Countries), which it is part of, to further increase oil output, prices are likely to stay bullish.

Although at press time, Brent crude came in at $106.85 per barrel while the West Texas Intermediate stood at $101.68 per barrel, slipping about six per cent on the prospects of US relieving the market with 180 million barrels of oil, Bloomberg wrote.

However, earlier that day, Hun Sen proposed to raise the oil inventory to “hedge against future risks”, given the market volatility, online portal Fresh News reported.

Oil prices have pushed up the cost of commodities and services, evidenced on the ground in Cambodia where fuel subsidies by the government have risen year-on-year in the first two months to control the situation.

Last year, about $57 million was spent as fuel subsidy, said Ministry of Economy and Finance spokesman Meas Soksensan. In January and February of 2022, the subsidy - four US cents per litre - accounted for $31 million, which is nearly 60 per cent of the total subsidy in 2021.

Accordingly, MEF would intervene by way of subsidies, fiscal incentives, and other forms of more favourable credit access that are aimed at correcting “market failures” which put pressure on price level that “directly affect the overall living condition of the citizens”.

Soksensan was referring to the new mechanism that was implemented by the government to stabilise the fuel price to reflect international prices, apart from extending the value-added tax exemption on basic food items till 2024.

The new mechanism essentially stipulates that the government would absorb more of the difference between global oil pricing and retail prices.

Imported oil will now be taxed using a fixed tax base, for example the tax rate for EA92 gasoline is $588 per tonne, instead of the previous calculation, which was based on the invoice price or ad valorem tax (according to the value), regardless of the changes in prices on the international markets.

“Thus, as the price of oil goes up, automatically the [pump] prices [will be] gradually subsidised by the government,” Soksensan.

The mechanism, which kicks off in April, is to ensure fairness and balance in the business, and protect importers from losing money or ceasing business. It is also to assure the availability of fuel for sale and to keep the price fair and reasonable for consumers.

Until the end of March, the retail price of fuel was set at 5,300 riel ($1.32) per litre, for EA92 petrol and diesel, having progressively inched up six fortnights in a row.

For now, the MEF will closely monitor the ongoing Ukraine and Russia war, though Soksensan said it is too early to assess its impact.

“No country or international financial institutions have done so [assess the impact] as the event is fast evolving. The extent of the impact depends on the length and scope of the tension between the two conflicting states, and other major sanctions imposed on Russia by the US, EU, and the world,” he told The Post. “Because Cambodia’s economic ties with Ukraine and Russia is small, there are not significant direct impacts on Cambodia.”

However, rising prices of key commodities and the disruption of trading activities could impact global economic growth and indirectly impact economies in the region.

“The war is [also] causing a major shift in development policy in many countries while Covid-19 continues to pose risks. We will continue monitoring the Ukraine-Russia events closely as well as changes to relevant policies, including fiscal, monetary, structural and security, of other advanced economies such as China and the US, that could have negative and positive impacts on the regional economy including Cambodia,” he said.

Recover, only gradually

Having been one of the earliest countries in the region to fully open up its borders with no pre-departure Covid-19 tests and quarantine, Cambodia has been able to reel in visitors, resuscitating the tourism sector.

Growth in passenger movements at all three international airports in the first two months of 2022 shot up 140 per cent year-on-year to 110,753 passengers, a majority of that being international passengers. In that time, aircraft movements increased 54 per cent to 2,462 compared to the corresponding period last year, data by the State Secretariat of Civil Aviation showed.

Sea freight costs have risen, especially for China to US and Europe routes, following US’ outright ban and Europe’s plan to cut two thirds of Russian oil imports in a year. SOURCE: ECONOMIC AND SECTOR RISK OVERVIEW 2022 (COFACE)

While it is no where close to the 2019 figures, which saw passenger movements hit record high – 11.6 million – with tourist receipts contributing 18.7 per cent to gross domestic product (GDP) that year, there is some optimism among analysts that Cambodia would be able to make up the numbers in the coming years.

But this is hinged upon the return of Chinese tourists, which make up the largest source market for most of the Southeast Asian countries.

In Cambodia, Chinese visitors represented 32.6 per cent of the total 6.6 million tourists in 2019, a figure that was increasing before the coronavirus blight, while the ASEAN market accounted for 76 per cent of the international tourist pie.

Despite ongoing promotions, the ramifications of the war and China’s zero Covid-19 policy will likely influence travel plans especially with fuel prices that could augment ticket fares, seeing that several airlines have started implementing fuel surcharges. To be sure, fuel constitutes 30 per cet of airlines operating cost.

Economists Bernard Aw and Eve Barre of Compagnie Française d’Assurance pour le Commerce Extérieur (Coface), a global credit insurer, said although tourist arrivals have “sharply increased”, the number of international tourists in January only represented eight per cent of the figure recorded in January 2019.

They expect the tourism sector to rebound this year but it will not recover from its pre-pandemic level, especially since China still maintained restrictions on outbound travel.

Moody’s Analytics associate economist Dave Chia shared the sentiment, noting that while tourism growth would boost Cambodia’s consumption and service-driven economy, the immediate economic effects would likely be moderate because tourism would “recover gradually only”.

“It could take several years before pre-pandemic arrivals are achieved. Also, rising oil prices will weigh on tourism in the near term as high and volatile prices force airlines to hedge costs and raise fares,” he added.

In the meantime, flight routes across Europe are being redrawn to avoid flying over Russian and Ukrainian airspace, which means many flights are now longer and use more fuel, Asian travel economics and consumer trends analyst Gary Bowerman said.

This, despite the dismissal of Ukraine’s “no-fly zone” appeal by the US and interstate military alliance NATO, on account that it would exacerbate the situation.

“It is a particularly large extra cost burden for long-haul carriers. Implementing a no-fly zone would be effectively a declaration of war by NATO on Russia, and the implications for the global economy would be dramatic.

“Even now, the invasion looks like it will be long and destructive, and Russia will incur ever tighter sanctions and economic penalties. Russia is also issuing its own retaliatory sanctions. The economic impacts of these sanctions will have a destabilising effect on global markets,” he said.

Commodity and wheat prices are rising fast, and these will impact the costs of production and transportation of all kinds of products, from foods to computers.

“The longer this situation continues, and the worse it gets, consumer and travel sentiment will be heavily weakened. Cancellations for forward bookings are inevitable.

“Unless a peace agreement can be brokered and upheld, the next few weeks and months will be damaging for economies worldwide, most of which are only starting to slowly recover from the pandemic,” said Bowerman, director of Check-in Asia, a travel and consumer intelligence and strategic marketing firm.

Current account deficit

Against this backdrop, inflation has expanded in advanced economies, particularly in the US and Eurozone where inflation stands at multi-decade high, Aw said recently in a web overview of the economic and sector risks flowing from the war.

A further intensification of the energy prices pressure will continue to play an important role in monetary policy decisions over the next coming months.

“The US Federal Reserve just began its rate hike cycle by deciding on a 25 basis point rate increase. They also signalled from the Federal Open Market Committee meeting that there could potentially be six more rate hikes for the rest of this year in hopes of containing the high inflationary rates in the US which has hit 40-year highs,” he said.

As a consequence, the strengthening of the greenback and oil prices are expected to push up inflation and lower GDP growth here, though it is not yet known to what level and how it would be addressed.

The consumer price index, an inflation measure, rose to 3.79 per cent last November before marginally easing to 3.70 per cent by end-December. This year, National Bank of Cambodia (NBC) forecast inflation to be 2.7 per cent, a projection it made in January.

As a major oil importer, Cambodia’s current account could worsen in the near term as rising oil prices drive up the country’s import bill, said Chia of Moody’s Analytics, a subsidiary of Moody’s Investors Service Inc, a credit rating firm.

Asked if the stronger dollar could trigger a foreign capital outflow, he replied that it would likely be “minimal” because of Cambodia’s “strong economic fundamentals, notwithstanding near-term challenges”.

He added that the NBC would be able to stabilise the riel exchange rate in case of a temporary outflow of funds.

NBC assistant governor Chea Serey did not respond to questions.

Echoing Chia in view of a widening current account, Coface economists Aw and Barre shared that in 2019, fuel trade deficit stood at 8.7 per cent of GDP.

They warned that rising prices could impact foreign exchange reserves and add downward pressures on the riel in the context of the federal reserve tightening, which is also a potential source of depreciation for the local currency.

Additionally, the growth in inflation due to the oil spike might create “uncertainty and halter business and consumer sentiment’. “If inflation remains high for a prolonged period of time, such a situation would constrain private consumption and investment, weighing on Cambodia’s economic growth,” they said, adding that worldwide inflation can also have a possible impact on foreign investment to Cambodia.

Rising freight costs

In the past 50 years, the world experienced five recessions, three of were preceded by spikes in energy costs. SOURCE: ECONOMIC AND SECTOR RISK OVERVIEW 2022 (COFACE)

Globally, the Ukraine-Russia conflict is leading to downside risks on GDP growth and because of its dependence on Russian oil and gas, the negative impact is expected to be particularly significant in Europe, Aw and Barre said.

This constitutes a risk for Cambodia since the region represents a high proportion of Cambodian total good exports at 33.6 per cent of GDP in 2019.

“A slowdown – or worse a recession – in Europe would certainly weigh on Cambodia’s export performance. In addition, the conflicts could disrupt airfreight – which has been rising at Cambodian airports by a monthly average of 40 per cent year-on-year during the January to November period,” Aw and Barre said.

Russia has banned airlines from numerous countries, including the EU, to enter its airspace, which would disturb air routes between Europe and Asia.

“The tensions could impact rail and ocean freight as well, increasing already present bottlenecks and pressures on transportations costs,” they added.

Global stagflation?

In the last few days, several events have taken place, from China’s lockdown in Shanghai with the possibility of similar restrictions in other cities, to peace talks between Ukraine and Russia, and the likelihood of payment mechanisms with Russia shifting to rouble that could reduce the US dollar dominance and value.

Good or bad, these turn of events are highly expected to impact Cambodia. Nonetheless, the pervading view is that Cambodia would be able to ride through this, assuming a recession does not happen.

Much of this opinion is driven by its strong fundamentals and its response to Covid-19 via an effective vaccination programme as well as its open door policy.

Chia attested to this, saying that consumption and services will recover “strongly” in the next two years, which would support economic growth.

He noted that Cambodia’s trade prospects in the longer term remain “solid” with the ratification of the Regional Comprehensive Economic Partnership and the China-Cambodia Free Trade Agreement. Both agreements give Cambodia preferential market access and facilitate the transfer of production technology.

“The average GDP growth rate in the past decade before the pandemic

struck was around seven per cent. [Thus] brightening economic prospects mean a GDP growth rate of 5.6 per cent this year is achievable,” Chia said.

The economy would benefit from the anticipated rebound in tourism and a resilient external demand, which would underpin exports, Aw and Barre said. However, their forecast is subject to “downside risks” linked to the evolution of the pandemic, as well as the ongoing conflict in Ukraine.

“The latter is set to lead to a further increase in inflation, which could pressure purchasing power and private consumption in Cambodia. Moreover, a more than expected slowdown in European economic growth would weigh on Cambodian exports, which was about 60 per cent of GDP in 2019,” they said.

Added to this, is the risk of a global stagflation, a case of high inflation and unemployment but low economic growth. Should this global scenario materialise, the impact on Southeast Asia will be two-fold.

“First, inflation rate will be higher, which will constrain consumption. Being a net importer for energy and agricultural products, Cambodia is vulnerable to such a situation, especially when the economy greatly relies on private demand [70 per cent of GDP] to drive business activity,” they explained.

Moreover, a rapid rise in food and fuel inflation increases popular dissatisfaction which would “intensify social pressures” and raise the risk of “social unrest”.

“Second, is weak global demand, which will hurt export growth. With tourism still yet to see a strong recovery, weak exports will worsen the current account deficit,” they said.

Though they maintained that global economy would grow at 3.6 per cent as predicted earlier, they cautioned that negative effects from persisting high commodity prices and supply chain disruption can be transferred to real economy and deepen the risk of stagflation.

For Cambodia, this could mean a reduction of around 0.5 basis points in GDP growth this year.