Tuesday, March 3, 2015

Commodities explained: China’s new normal

February 23, 2015

By Henry Sanderson

Financial Times

As the Chinese return from their New Year celebrations, commodities traders and industry executives will be wondering what the year of the sheep holds for the sector.

Why is Chinese growth on the minds of commodities traders?

China has been the most important factor in commodities demand in the past decade.

The commodities “supercycle” that started in the early 2000s was largely driven by the country as investment in infrastructure, property, and factories producing exports for the globe required increasing imports of raw materials. Beijing’s 2009 stimulus further prolonged the demand, with loose credit encouraging the use of metal as collateral for loans.

China grew from consuming about 12 per cent of the world’s metals in 2000 to near 50 per cent today. In commodities like iron ore, between 1998 through 2008, China’s total demand rose more than five times. In steel, China grew to consume more than the US, Russia, India, Japan and Korea combined, and has also been a key driver of oil demand growth in the past decade.

But markets are having to come to terms with what President Xi Jinping has called the “new normal” Chinese economy. A sudden slowing or shift in commodities demand could ripple through global markets.

So what is happening now?
China’s demand patterns for commodities are changing. The question is whether these shifts are structural. Metals such as copper, which closely follow China’s economic data, have already been hit and are trading at their lowest levels in more than five years. Consumption of steel in China fell last year, the first time in 30 years it has recorded a drop.

Demand growth for oil is also slowing as the country’s energy consumption becomes increasingly efficient, according to the Oxford Institute for Energy Studies. China accounted for two-thirds of global oil demand growth between 2003 and 2012, yet 2014 saw the slowest growth in two decades. That is a harbinger of things to come, says the institute.



Which commodities will be affected as China transforms its economy?
Raw materials tied to construction and infrastructure, so called “early cycle” commodities such as steel, iron ore and coal, are the most likely to be affected. Many analysts believe copper demand will be hit this year and next as property construction slows.

In its analysis of a scenario where Chinese demand growth remains flat, Macquarie calculates that the copper market would have a 2m tonne surplus by 2019 rather than an expected deficit. For miners, that would erase the need for new capacity. Put another way: the boom days would definitely be over.

So far so negative. Are there any bright spots?
Do not panic yet. China’s overall commodity consumption is unlikely to have peaked at current levels of income per capita, says the International Monetary Fund. Instead it will shift gradually toward high-grade foods and metals.

The key drivers will be higher incomes and rising consumer power.

Some food commodities are expected to do well, with beef expected to become the fastest growing food import sector, increasing at a rate of 7 per cent a year, says the Food and Agriculture Organization. Dairy imports are also expected to increase sharply as a result of slower growth in domestic production.

Gold is also expected to benefit from rising disposable incomes and growing market infrastructure such as the Shanghai Gold Exchange.

Others, such as palladium, used in autocatalysis, nickel and zinc, ingredients for steel products could potentially benefit from a shift towards consumption via use in cars and household goods.

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