INSIGHT: Confusing re-stocking with recovery

26 January 2010 16:51  [Source: ICIS news]

By John Richardson

SINGAPORE (ICIS news)--Understanding the motives behind why people say certain things about the economic recovery could be crucial in drawing up a realistic assessment of the risks for 2010.

Western banks and other financial institutions seem to have made a tidy packet out of the free government money directed to them for bailouts.

Distortions such as the big increase in the US dollar carry trade - where free government money has been used to bet on simultaneous declines in the greenback and the rise in oil and other commodity prices - are making it very hard to assess real demand.

In other words, there appears to have been a strong profit motive for talking up recovery, as the longer the optimism remains the greater the returns.

When valid comparisons are made, meaning comparisons with chemicals consumption levels in 2007, there’s an awful long way to go, according to Paul Hodges, chairman of UK-based chemicals consultancy International e-Chem.

For example, in an ICIS news article last week, he talked about US auto sales now at 10m a year as against the pre-crisis 15-17m a year. Annual housing starts are at 600,000 compared with 2-2.5m during the economic boom, he added.

This is an enormous amount of lost demand as we still wait for the great petrochemicals capacity surge to arrive after 18 months of constant delays.

New polyolefin capacity will lead to serious re-structuring discussions among higher-cost producers in Japan and South Korea from either late in the third quarter or in the fourth quarter of this year, said Mazlan Razak, Kuala Lumpur-based petrochemicals consultant with DeWitt & Co.

The same will surely apply to those in the US and Europe.

“Time has been bought by the delays, but it has to happen,” he added.

While Razak sees the likely “continued global economic recovery” as mitigating the impact of the supply surge, it is again important to reflect on what this recovery will actually amount to.

An improvement on January-to-March 2009 is obvious (this wouldn’t exactly be difficult), but there will be no return within the next few years to the halcyon days of 2007.

New capacity in just about every industry - from chemicals to construction and autos - was built on the assumption that the golden era of easy credit would never end, added Hodges.

“This is why I believe we are in a deflationary environment rather than heading back to inflation in developed markets, which is the belief of some who are misreading the nature of the recovery,” he said.

Many in the financial community were confusing destocking/restocking with genuine recovery, Hodges added.

In the US, for example, a lot might be made of the release of initial fourth quarter GDP numbers on 29 January, according to an article in The Economist.

A strong rebound to 5.5% growth is expected, but this is likely to be a “one-quarter wonder because of inventory building”, the magazine added.

Countries such as the US, the UK, Spain and Ireland are also only just getting started on writing down the excess debt that created the economic boom, according to a new report by the McKinsey Global Institute.

While financial sector leverage has already fallen to average historic levels before the crisis, public debt has dramatically increased, the management consultancy added.

'Belt-tightening' occurred in roughly half of previous economic crises studied by McKinsey, with de-leveraging beginning two years after the start of these downturns and lasting for six-to-seven years.

“Several features of the crisis today, including its global nature and the large increases in government debt, could delay the start of de-leveraging and result in a longer period of debt reduction than in the past,” wrote the authors of the report entitled ‘Debt and de-leveraging: the global credit bubble and its economic consequences’.

In the past, significant increases in net exports helped some countries climb out of their debt holes, but on this occasion the global nature of the crisis made this difficult, McKinsey added.

China is much better-positioned to take advantage of a rise in global trade than during the 1990s' and 1980s' recessions.

This is a big problem for countries that compete head-on with China in sectors such as textiles, but a benefit for the resource producers such as Australia and Indonesia.

As protracted de-leveraging gathers steam we might well see the firm entrenchment of big shifts in consumer spending habits.

“There’s been a big change in how people spend their money in developed markets,” said a plastics processor.

“Take Australia as an example where cost-conscious shoppers are increasingly opting for supermarket own-brands of chocolate biscuits etc.

“This takes market share away from domestic processors who supply wrapping material to the local operations of multi-national confectionery manufacturers, as supermarket own-brands are often manufactured and wrapped in low-cost countries such as China.

“Once spending habits have changed it’s going to be hard to change them back again, even when the full recovery is here.”

Hodges concurred and added: “It’s now much more acceptable to drive around in a battered 10-year-old Volvo as the economic crisis has discredited conspicuous consumption in the west.

“And anyway, the money simply isn’t there anymore when you set aside the temporary distorting effects of government programmes such as ‘cash-for-clunkers’ in the US.”

This leaves the hope that China, and the growth in other developing world countries, can rescue the global chemicals industry.

Now that’s another subject altogether. 

Read John Richardson and Malini Hariharan's’s Asian Chemical Connections blog
Bookmark Paul Hodges’ Chemicals & the Economy blog
To discuss issues facing the chemical industry go to ICIS connect


By: John Richardson
+65 6780 4359



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