Currently, one of the big issues facing Brazilian box board market participants is the impact of floods in Rio Grande do Sul on demand in the country. Although it is difficult to estimate, especially given the downward revision of the GDP forecast, we still see a limited impact of the floods on paper product demand in 2024, as the negative impact should be offset by a positive outcome.

The industry consensus is that Brazil's 2% GDP growth forecast is likely to be revised down by 0.3-0.4 percentage points, as the state of Rio Grande do Sul accounts for about 6.5% of the country's GDP, but has a higher share of industrial production (about 8%) and agriculture (about 13%). The state has a population of 10.8 million and will need about $10 billion to rebuild, according to federal estimates. Several pulp and paper mills were directly or indirectly affected by the tragedy.

It is worth noting that after other similar disasters around the world, the average GDP of the affected countries fell by about 1.5 percentage points, according to estimates by economists at the Valor Media Group.

So what does this mean for paper consumption? For the sake of explanation, we will discuss it in two time periods: the short term (next 1-3 months) and the medium term (next 4-12 months).

Short-term impact: Harder to assess

In the short term, the operating rate of existing plants in the state is expected to decline, thereby reducing production and raw material consumption. However, other paper mills across Brazil may be able to temporarily increase their operating rates to offset the production losses at the Rio Grande do Sul mill.

The state is home to CMPC's Guaiba plant, which can produce 2.3 million tons of pulp per year, or about 7.9 percent of the country's total pulp capacity. There are also at least seven household paper producers there, with an annual output of 90,000 tons, accounting for 3.7 percent of Brazil's household paper capacity; The annual production of printing and writing paper is about 77,000 tons, accounting for about 3% of Brazil's total production capacity; The capacity of box board paper is about 107,000 tons, and the capacity of other industrial wrapping paper is about 24,000 tons, accounting for 1.7% and 0.9% of the country's production capacity, respectively.

So, at first glance, whatever the paper, the tragedy should have little impact on production. However, as manufacturers partially or completely stop production in the disaster, the consumption of paper products by local industries will decline.

The main impact on wrapping paper consumption will come from box board paper, although this is mostly produced out-of-state, and the animal protein and food industries, which have reported double-digit losses and lost production due to the rationing of animal ingredients in the major beef and food industries. Exports are also expected to decline in the short term, reducing the consumption of wrapping paper.

However, the consumption of cardboard is also expected to increase significantly in the short term, as people across the country need to use cardboard boxes to send donations to the affected areas, thus increasing the demand for goods transportation. Given the two opposing forces, it is difficult to assess how the net impact on corrugated box consumption and shipments will change in May and June.

Medium-term impact: Demand growth will be above average

Looking ahead to the next 4-12 months, although GDP is expected to decline during that period, it is easier to expect demand for paper products to grow faster than average.

First, we can assume that a significant portion of the packaging and paper stocks held by local industries will be lost due to flooding. Thus, the simple fact that economic life will return to normal is enough to foresee an exceptional one-time increase in demand for these products, which, given Rio Grande do Sul's low share of capacity, are likely to be supplied by states not affected by the tragedy. This should apply to all industries and business activities, not just major packaging and paper consumers.

Second, we can also assume that many businesses and individuals will have to replace some of their assets - goods, machinery, furniture and even appliances - as a result of the floods. The increased demand for these durable goods should support the production of these items elsewhere in the country, thus stimulating the consumption of paper products, especially packaging, to transport them to Rio Grande do Sul.

Third, from a political perspective, government spending should be high in 2024, with municipal elections taking place as scheduled. Usually, election years are characterized by increased spending on advertising, flyers and even promotional items to increase public recognition. Although government spending is constrained by austerity laws, tragedies like these often justify declaring emergencies and overspending government budgets. So, given the tragedy and the election, the incentive for governments to increase spending is higher than normal.

However, the income loss for many will be negative as they may rely on credit to rehabilitate their homes and replace durable goods, which could limit normal daily demand over the medium term due to rising debt levels.

Bottom line: Opposing forces cancel each other out

Our initial conclusion about the demand consequences of the Rio Grande do Sul tragedy in Brazil is that opposing forces - forces of increased demand and forces of reduced demand - should come together in the short term to cancel each other out, making this essentially a zero-sum situation. Any one-time gains from rebuilding could be immediately offset by a sharp drop in demand caused by rising levels of consumer debt.

From an industry perspective, we believe the gains from replacing damaged paper product inventories in the short to medium term will be offset by short-term production losses, a force offset. As a result, we have not revised the demand forecast for Brazil shown in the latest Latin America Pulp and Paper Forecast 2024, which is a 1.7% increase in box board paper, a 1.5% increase in other industrial packaging grades, a 2.7% increase in household paper, but a 2.1% decline in printing and writing paper. For the total shipments of corrugated boxes and paperboard evaluated by Empapel, growth is still forecast at 4.2%.

The risks we analyze are primarily related to the inflationary impact of crop losses in the state of Rio Grande do Sul. The state is Brazil's largest rice producer and an important grower of fresh food. These goods are often very sensitive to supply shocks and have a significant place in consumer budgets. As a result, a sudden increase in food prices could lead to a reduction in purchasing power across the country, limiting consumption of paper products elsewhere in Brazil.

Shandong Luzheng Paper Technology Co., LTD.,

Focusing on pulp and paper engineering design and engineering consulting.