Structural Threats To 2012 China Rebound

By John Richardson

SERIOUS structural problems with China’s economy threaten another disappointing year for polymer demand following flat, or even negative, growth for many of the major synthetic resins during 2011.

Last week the blog visited Singapore and held discussions with several industry players and chemicals analysts. They agreed that polyethylene (PE), polypropylene (PP), polyvinyl chloride (PVC), polystyrene (PS) and acrylonitrile butadiene styrene (ABS) growth would on average be flat during this year.

“In some cases growth will be positive – for example, we expect PP to increase by 3-4 per cent, which will be offset by declines in demand for PVC and for PE,” said one Singapore-based chemicals analyst.

“We think that PE will fall by 3-4 per cent, reflecting an extremely bad second half of the year as first-half growth was either flat or only slightly negative.”

Reasons for the precipitous declines from double-digit growth during the credit binge of 2009-2010 include the battle against inflation, a consequence of which is greatly-reduced lending to the small and medium-sized enterprises (SMEs).

Sales and marketing executives of the major global polyolefin producers have written off the rest of this year while hoping that 2012 will see a strong rebound. The anxiety among these executives is particularly acute as they were set unrealistic sales targets in late 2010, which of course will not be achieved.

With the budget process now in full swing, the blog can see many reasons for caution in setting next year’s targets.

These include a failure, as yet, to win the struggle to bring inflation below the government’s target that had been set for 4 per cent for 2011, but was raised to 5 per cent.

We don’t know what next year’s annual target will be, but unless there is a drastic change in policy, the 6.1 per cent increase in the cost of living recorded for September suggests that the government has a long way to go. Although the September rate was lower than in July and August, food prices still rose by a worrying 13.4 per cent

The banking system is also in need of a major overhaul in order to provide cheaper, more reliable finance to the SMEs.

For a long time, the SMEs have struggled to source and afford financing – because the state-owned banks were set up primarily to lend to the state-owned enterprises (SOEs).

Credit tightening has made the problem worse, highlighting how few legitimate lending institutions there are in China – only about 100 licensed lenders, according to this article in China Briefing.

Private lenders are deeply ingrained in the Chinese financial system. More than per cent of people in the Chinese city of Wenzhou, for example, have invested in these lenders, reports the New York Times.

The government has announced plans to reform the banking system. But it is going to take considerable time to break the dependence on “loan sharks”, as they are clearly an important source of income for many people.

Encouraging the state-owned banks to lend more to the smaller, private companies might also meet with stiff resistance from the banks themselves – and from the SOEs. Both have done extremely well out of China’s current banking system, as we discuss in more detail in Chapter 6 of our e-book, Boom, Gloom & the New Normal, which is released later this month.

The positive news, which was released on Wednesday last week, was that the State Council has introduced short-term measures to ease the plight of the SMEs.

These are:

1.) Permitting low reserve requirements for smaller local banks lending to SMEs

2.)Permitting greater use of bonds and other financial instruments by SMEs to raise cash

3.) Raising VAT and business tax thresholds to SMEs

4.) Providing improved financial services to SMEs

But a new Credit Suisse report has raised the bank’s estimates of China’s non-performing loans (NPLs) from 4.5-5 per cent of total lending to 8-12 per cent.

The bank believes that as China struggles to deal with these NPLs (as it also, as we have said, tries to reform its entire banking system), lending conditions will not return to normal until 2015.

Providing short-term help to the SMEs – which make up the bulk of China’s chemicals and polymer buyers and account for more than 50 per cent of overall economic activity – is all well and good.

But ensuring that new lending to the SMEs doesn’t once again get misallocated, making the NPL crisis even worse, must surely be a major concern for Beijing.

Many of the smaller, private companies, including polymer producers and traders, have borrowed money to speculate in real estate – and are now bankrupt, or close to bankruptcy. Government policy appears to be targeted at reducing overall speculation through forcing speculative companies out of business.

And finally, of course, returning to our earlier point, as long as controlling inflation remains a priority, financing as a whole is likely to remain far harder to obtain than in 2009-2010.

Chemical companies, as we said, need to take all of this into account when planning their 2012 budgets.

They need to also come to terms with the fact that financial sector reform is just one part of major changes in China’s economy that are likely to mean lower growth for several years to come.

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