INSIGHT: Have China polyolefin prices already risen too much?

25 July 2011 13:41  [Source: ICIS news]

By John Richardson

PERTH (ICIS)--How much more might be too much for China’s polyolefin buyers? Have prices already risen by too much?

These were the questions dominating the thoughts of some producers and traders late last week as concerns persisted over the sustainability of a modest rally in pricing.

Such worries were nevertheless insufficient to prevent polyethylene (PE) and polypropylene (PP) increasing for the third week in a row. PE was up by a further $20–40/tonne (€14–28/tonne) and PP by an additional $30–50/tonne, according to ICIS pricing.

Markets have been buoyed by the belief that pricing bottomed out in early July and that supply is set to become considerably tighter.

Turnarounds at Asian crackers are forecast to take considerable volumes out of the market during August and September.

“There is also around 1.1m tonne of PP capacity on an annualised basis out of action in Saudi Arabia because of mechanical problems,” said a Middle East-based chemicals analyst.

Availability of several grades of PE from the Middle East was also tight, said a Singapore-based trader.

“I have seen no evidence of increased Saudi production on more availability of associated gas,” he added, contradicting earlier comments from a plastics processor.

But reports continue that most of the recently purchased volumes remain in the hands of the traders, who are still waiting for a significant improvement in purchasing by end-users.

“If buyers suddenly come back in big numbers then whoosh – pricing could really take off,” added the Singapore-based trader.

This could happen at the end of July when end-users may be forced to replenish stocks ahead of China’s peak manufacturing season, which begins in August, added ICIS pricing in its 22 July Asian PE report.

Alternative scenarios of downwards pressure on pricing, as traders seek to offload volumes, are very easy to imagine – because of the number one issue right now: affordability.

“The majority of the resin buyers in China are small and medium-sized enterprises [SMEs],” said a senior source with a global polyolefin producer.

“Increases in interest rates and bank reserve requirements have badly hurt these companies as they can no longer access credit through the formal banking system.”

Interest rates have been increased on five occasions since last year in an effort to tackle inflation.

China has raised its bank reserve requirements – the money that the banks have to set aside against lending – on 10 occasions since the beginning of 2010. The requirement now stands at 21.5% – an all-time high.

"Some of the end-users I know are being forced to pay interest rates as high as 15% from finance companies outside the official banking system," added the source with the global polyolefin producer.

This compares with the official lending rate of only 6.56%.

“The Chinese government is aware of the problem and there are rumours that further measures will soon be taken to ease the strain on the SMEs,” he said.

State-owned banks are already reported to have been given the freedom not to have to count all of their loans to SMEs against the record-high bank reserve requirement.

But recent comments by government officials indicate that the trade finance environment might get worse before it gets better.

China had to raise borrowing costs even further in order to correct negative real interest rates, He Keng – vice-chairman of the financial and economic affairs committee of the National People’s Congress – is reported to have said.  

One-year bank deposit rates are only 3.5% against the official lending rate of 6.54%.

This continues to encourage speculation in red-hot sectors such as real estate, in which the returns have been better, while reducing the amount of money in deposit accounts.

Less money on deposit places a further strain on the volume of money that the banks can lend as they struggle to meet the bank reserve requirement.

Xia Bin, an adviser to the Central Bank, is reported to have said that consumer prices would remain a “significant issue”, and that efforts to cool the property market had not been effective.

“You are not likely to see very strong polyolefin demand growth in China this year, in fact you are more likely to see negative growth, unless the government achieves its target of getting inflation below 4%,” added the source with the global producer.

“Only then would you see a big improvement in monetary conditions.”

The government has set itself an annual inflation target of no more than 4% for 2011, but in June the rise in the cost of living was 6.4% – the highest monthly increase for three years.

International Monetary Fund (IMF) economists expect inflation to decline in the second half of this year as the impact of higher food prices eases.

“Barring further food price shocks, and assuming the ongoing tightening of monetary policy is maintained, there was general agreement that inflation should soon peak,” the IMF said in a new report on China.

But will the inflation rate moderate rapidly enough to allow the government to ease lending conditions before the end of this year?  

Doubts such as this are unlikely to improve the confidence of polyolefin end-users, even though the peak manufacturing season is just around the corner.

The excellent news for every chemicals and polymers sector in every country is last week’s progress towards resolving the European sovereign debt crisis.

But what happens if US politicians fail to reach an agreement on raising the debt ceiling by 2 August?

Will the global economy grind to such a shuddering halt that there will be no peak manufacturing season in China?

($1 = €0.70)

For more on PE and PP visit ICIS chemical intelligence
Read John Richardson and Malini Hariharan’s blog – Asian Chemical Connections

By: John Richardson
+65 6780 4359

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