Asian Chemical Connections

The failure, and quite possibly the death, of the Doha round of trade negotiations earlier this week could create a very confusing and erratic regulatory landscape for the chemicals industry.

This excellent entry in the New Scientist environment blog by Fred Pearce, senior environment correspondent, makes the point that if the world cannot agree on further trade liberalisation, what hope for global climate-change legislation?

As Fred points out, John McCain, if elected, has made it clear that he won't accepted emissions caps if China and India do not follow suit.

Obama. however, is prepared to let the US take the lead ahead of the Asian giants. He warns, though, that if they don't agree to fall in line at some point, import tariffs could be imposed equivalent to the energy content of finished goods.

The European Union is also understood to be considering the same safeguards as it looks to extend its cap-and-trade system. Industry, including at least one of the oil-to-chemicals majors, is lobbying hard for safeguard provisions of taxes on imports if no global agreement is reached.

Chemicals and other producers would obviously shut up shop in the EU and move to countries where there was no price set on emissions or if there was no effective import-tax system or some other kind of economic disincentive.

Despite the few remaining climate-change scepticis - quite rightly derided in the same New Scientist blog - climate change as a result of human acitvity is accepted by most scientists and governments as a reality.

A global agreement on a price mechanism for carbon - whether its a cap-and-trade system and/or a tax - would be the best outcome for the chemicals industry. It would enable producers everywhere to accurately assess the cost of investment in better processes and new technologies.

They could also make reliable and predictable income through trading credits globally and from operating and licensing new technologies.

Piecemeal legislation wouldn't provide the same degree of clarity, leading to equally piecemeal strategies from company to company and region to region.

The lawyers might also make a lot of money out of disputes over carbon import taxes.

And, of course, companies might still look to move their investments elsewhere by searching for loopholes in US and EU carbon import-tariff rules.

Just look at the money being made out of "splash and dash" in the US as an example of how rules can be exploited.

As the effects of climate change accelerate, you could also see knee-jerk nonsensical regulations introduced by governments out of sheer panic. This could make life very difficult, if not impossible, for chemical producers in certain countries.

So let's hope the Doha round can be rescued - and that it serves as a confidence builder towards the much bigger job of a new global agreement on emissions.

In my previous post, I talked about the collapse of the Doha round of trade negotiations and how this didn't auger well for a new global agreement for setting greenhouse gas-emission limits and a worldwide price on carbon.

The chemicals industry needs clarity. A global price for carbon would enable companies to plan R&D investments over the long term.

I also discussed how it seems more than likely that if no global agreement on carbon prices was reached, countries and regions with pricing mechanisms already in place would have to impose import tariffs based on carbon content. The tariffs would be levied on intermediate and finished goods from places where there were no carbon-pricing mechanisms.

But in this thoroughly globalised world, who should bear the blame for CO2 and other emissions?

Christopher L Weber from the Carnegie Mellon University in Pittsburg, Pennsylvania and his colleagues have concluded that one-third of China's CO2 emissions are the result of exports. This is up from only 12% in 1987 and 21% in 2002.

Could proof of collective blame for emissions made through the WTO or other international bodies result in icarbon mport tariffs becoming unworkable?

You could spend fruitless years and millions of dollars in lawyers' fees trying to determine what percentage of tariffs to levy on companies at different points of production and logistics chains.

Shouldn't anyone who exports to China - whether for re-export or domestic use - carry the can for the country's emissions?

Might unworkable import tariffs force the EU to scrap or limit its cap-and-trade system out of fear of an investment drift?

The next US president could also be deterred from introducing a price on carbon, especially if the economic crisis drags on. Protectionist sentiment has risen since the slump began.

It is very easy assume that Asia ex-Japan will eventually catch up with the West and become as good at "solution" chemicals as the West. I am excluding Japan because it has long been a major speciality player.

All the money that China, for example, is pouring into its state-run research institutes would seem to suggest that eventually, the country will produce a BASF - or at least a collection of companies that come close to matching the German giant's innovation.

But this report from Deutsche Bank - in a theme I will be touching on a lot over the next few weeks - points out that despite the great drift east, Europe has has held its own.World_chemicals_market_Asia_gaining_ground.pdf">

I've created a new category "Analysts' Reports" which you will hopefully find useful.

The Deutsche Bank report concludes that the West has a great opportunity - and has already made an excellent start - in the green chemistry race.

"In 2007, Europe accounted for 31% of global chemicals turnover; in 1997 the share was 32%." write its authors.

Here's another important statistic from the study: BASF's turnover in 2007 was Euro60bn - the same as the entire Indian chemicals industry.

Knowledge retention, which I talked about yesterday, will be crucial for the West if it is to maintain this lead.

Constant innovation through a willingness to fail many times before succeeding might also be important. As Winston Churchill said: "Sucess is the ability to go from failure to failure without losing your enthusiasm."

It's going to be fascinating to see how the new Dow and Rohm & Haas entity raises its game to meet the challenge of responding to the need for clever new products that must also be sustainable.

Finally, here are a couple of examples of Western innovation, the credibility of which I cannot vouch for.

Ford claims to have developed a way of sequestering VOCs from paints for conversion into fuel for fuel cells.

The clever Germans say they have found a way of producing self-healing nanotech anti-corrosion coatings as an alternative to the toxic chromium.

These serve to illustrate one of the other points I made yesterday - the need to navigate all the information out there to keep up-to-speed with a rapidly changing chemicals world.

I'm bewildered. I don't know about you

China and the environment might not be only about rivers changing colour several times a day and factories belching out air pollution that kills hundreds of thousands of people prematurely every year.

Elizabeth Economy outlined the extent of China's environmental problems in her book, The River Runs Black.

In what could turn out to be the ultimate irony of ironies, the very economic system which has caused the crisis in the first place could end up resulting in China becoming the world's leader in clean technologies.

Ample evidence already exists to this effect, according to the Climate Group - a London-based non-profit organisation, the members of which include BP and Dow Chemical.

The group's latest report - China's Clean Revolution - claims that China's transition to a low carbon economy is already well underway. This is the result of supportive government policies which are driving innovation in low carbon technologies and diverting billions of dollars into energy efficiency and renewable technologies.

The huge energy that was poured into industrialisation, once Deng Xiaoping declared that getting rich was glorious, seems to have now been turned to wind, solar and other forms of renewable energy - along with conservation.

China now ranks fifth behind Germany, the US, Spain and India with six gigawatts of wind turbine capacity, says the Climate Group. Some experts believe that this could climb to 100 gigawatts by 2020.

As was the case with industrialisation, State backing might overcome that nasty burden of capitalism - the need to return short-term profits, or even any kind of profits at all.

Lending from China's big banks is still largely directed by the government and the banking system is awash with liquidity - a drastic contrast with the Western credit blight.

Incentives are in place to boost wind power, but have yet to be introduced for solar energy. China. however, is second only to Japan in the global solar photovaltaic market.

Research is taking place in to carbon capture and storage and integrated gasification combined cycle technology.

China is also introducing fuel efficiency standards for cars which are 40 per cent higher than those in the US. Twenty one million electric bicycles and 1.64 million energy efficient compact cars were sold in 2007, the report adds. Clearly, the Chinese are doing a great deal more than just praying for lower gasoline prices.

This all sounds fantastic, but the old story about China is that what works at a central government level might not necessarily be implemented evenly across the country.

Arthur Kroeber of the China Economic Quarterly, however, believes that this old tale about China is total nonsense when the central government decides to take something seriously. The environment is one problem that Beijing is taking exceptionally seriously as it tries to build a more "harmonious society", he says.

But the task remains huge. According to The New Scientist magazine, if China's emissions continue to increase at 8 per cent per year, its per capita CO2 emissions will be double those of the European Union by 2020. While China's emissions keep on rising, EU member countries are making big reductions. For example, Germany reduced its greenhouse gas output by more than 19% between 1990 and 2003.

The problem for China is that it still has to create lots of new jobs of a rapidly urbanising society, whereas many of the rich people in the EU are desperate to return to the rural life.

But, of course, the Europeans are hardly likely to return serfdom. Instead it's all about four-wheel drive gas guzzlers, centrally-heated converted barns, and conveniently located supermarkets stocked with food and booze from the four corners of the Earth.

What planet are we all really on? We rich-world people are all desperately trying to get rid of that tiresome leftover venison as we insist on Afghan melon, to quote the Big Yin.

When I looked in the fridge the other day, my wife had bought Sicilian lemon juice. For pity's sake...

A very interesting report by McKinsey (you can sign up free for their online newsletter which only takes a minute) expands on the theme of reverse globalisation which I talked about last week.

The cost of shipping a standard 40-foot container has tripled since 2000 and labour cost increases have risen by average of 19% per year in China compared with just 3% in the US.

The consultancy makes the point that you have to do very thorough input-by-input calculations for each product and grade of product before making any decisions. And, of course, you need some reliable forecasts of where the economics of offshoring versus onshoring are heading - including predictions on crude-oil prices. Predicting crude, as I discussed earlier on today, is where I fall short.

You also need to take a view on the direction of environmental legislation - i.e. will there by carbon taxes and/or cap and trade systems introduced globally that penalise producers for extended global supply chains?

If history is anything to go by, McKinsey has worked out that manufacturing a "midrange" product in Asia will cost you an extra $16 today compared with the US when all landed costs are included. In 2003, Asia had a $46 advantage.

Add to this the likelihood that more petrochemical feedstock will become available in the US thanks to declining gasoline demand and perhaps, as again I talked about last week, the industry in the states might be set for a revival. It has been comparatively higher feedstock costs and the drift of downstrean customers overseas that has caused so much damage to the US industry.

For anyone who subscribes to ICIS news, you might find this artice of interest. Allen Kirkley of Shell discusses some of the new emerging feedstock options and converging economics between the West and the Middle East.

Back in the heady days of 2006, I asked a group of five like-minded nerds what their favourite business book was.

They unanimously voted for The World Is Flat: A Brief History of the 21st Century by Thomas Friedman.

I rushed out and bought a copy. It has sold by the truck load and was quoted by Mohamed Al-Mady of SABIC during his speech at the Asia Petrochemical Industry Conference in Thailand in 2006.

Back then everybody was talking about a new paradigm of growth, driven by the relentless rise of emerging market consumption. Nobody mentioned that other book, The Limits To Growth, published in 1972 by the Club of Rome, during those heady days of the economic boom.

I ploughed my way through most of The World Is Flat (it is overwritten - all the points worth making could have been made in considerably less than 488 pages) and was profoundly irritated by Friedman's relentless enthusiasm for globalisation.

At that time I must confess I hadn't heard of the Club of Rome book, nor did I give any consideration to the idea that Friedman might be dead wrong for any reason other than a gut reaction to his seemingly boundless optimism.

Now he has woken up to the fact, 36 years after The Limits To Growth was published, that indeed this might be the case with his new book Hot, Flat And Crowded.

In a review in the Financial Times, Rahul Jacob makes the point that we should have all seen the weaknesses behind Friedman's flat earth theory.

Friedman was entranced in his earlier tome by the rise of India, particularly the booming IT hub of Bangalore.

"I have lost count of the times friends or relatives in India have forwarded by email Mr Friedman's comment that, while his parents told him to finish his dinner because there were people starving in India and China, he told his daughters to finish their homework because there were people there eager and willing to take their jobs," writes Jacob in his review.

As Jacob points out, the very roads that Friedman travelled along to get to the headquarters of the IT giants point to the limits to India's particular form of middle class, elitist growth; they are pockmarked and hugely congested with ancient patched-up vehicles pumping all sorts of foul fumes into the air.

India suffers from a self-inflicted limit to how far it can grow without creating unsustainable social and environment pressures - because of a political system that has created virtual development paralysis.

How can a country with terrible infrastructure, poor irrigation and very low literacy rates ever hope to create sustainable economic growth?

According to the CIA Factbook, India's female literacy rate was only 47.8% in 2001. This compares with 86.5% in China, based on the country's 2000 census, adds the Factbook.

The speed limit on Indian and, of course, also global growth is resources - so presciently highlighted by the Club of Rome back in the 1970s.

I've only just woken up to this reality. Back in the dim and distant 2006, all I cared about was riding the global property and share boom while consuming immense amounts of carbon in pursuit of my career. This involved writing my own much-shorter tomes that encouraged others to do likewise.

Many of us became so enamoured by globalisation that we ignored the fact that there are simply not enough resources available to allow all of us to consume as much as the typical Texan, or more latterly a middle class Indian in Mumbai.

Friedman gets excited in his new book, according to Jacob, about China's potential to lead the way in solving the environment crisis.

I agree that China has potential, but some huge challenges lie ahead.

Idealistic enthusiasm (the ungenerous might use the phrase "gormless enthusiasm", which has applied to many of us over the last few years) might have its place in generating the individual energy to make a difference: Each of us need to find new ways of individual and corporate behaviour if we are to prosper in a world threatened by Peak Oil and catastrophic climate change.

This type of enthusiasm needs to result in more than just further consumption of trees through higher book sales (and when do we have the time to read books like The World is Flat? When we're flying, that well-known environmentally friendly form of travel).

We need to radically change the way we lead our lives.

The smarty pants at BASF seem to have got it right again with their $6.1bn bid for Ciba Specialty Chemicals and rumours that they might also be after Clariant.

Talking about counter-cyclical investment is one thing, but doing it is quite another. You need to have built up the cash reserves to execute the obvious - and, of course, need the right product portfolio already in place to earn the money in the first instance.

BASF has made and continues to make a packet from its oil and gas business. It's oft-repeated focus on integration and on getting out of the more cyclical commodities is also paying dividends. It was walking the talk about reducing exposure to such commodities long before a certain US-headquartered company jumped on the bandwagon.

Talking about stating the obvious of buying low and selling high, McKinsey does this - but with some useful numbers - in its report, M&A Strategies In A Down Market. Again this is from the consultancy's excellent monthly newsletter, which is free once you have signed up.

The report's authors have also written a book, The Granularity of Growth. It includes a database of 200 global companies that decomposes the most important sources of growth (market momentum, mergers and share gains). Sectors that suffered big upturns or downturns were then analysed in order to rank the importance of these growth sources - with the study also extending to individual companies strategies.

"Two sets of results stuck out," write the authors.

"First, (I wish consultants would learn to write shorter sentences - my comments in italics) of the potential strategic moves companies can take to grow in a downturn - divest acquire, invest to gain a share - an effective acquisition strategy (defined as growth through M&A at a rate higher than 75 percent of a company's pears) created significant value for shareholders (you can pause for breath now).

"During an upturn, on the other hand (surprise, surpirse), divestments created slightly more value that acquisitions did (this presupposes you can find some mug to buy your business at some ridiculously inflated price on the belief that the economic boom will last forever).

"Second, companies often behave in counterproductive ways. Fewer than half as many companies in the segments we studied made acquisitions in downturns rather than in periods of economic growth. Significantly more divested businesses in those market segments in downturns than in upturns."

The global credit crisis and volatility in stock markets "could temporarily disrupt M&A activity and add risk to existing deals," said Scott Anderson, senior economist at Wells Fargo - the US financial services company. He was speaking at the ICIS Chemical Purchasing Summit, which is taking place in Boston, Massachussets.

He added, however, that conditions were right for further consolidation in the chemicals industry as manufacturing customers become larger.

The Middle East has the cash, of course - as do the Chinese if they can be bothered. Sovereign wealth funds could be the vehicles, as well as the petrochemical companies themselves, for a wholesale shake-up of industry ownership.

And as I've already said, those clever people at BASF look likely to be involved. Being right and having senior executives with brains the size of a small planets is very annoying for those of less able (especially if they are also nice to children and animals, actively care about the environment, give a large proportion of their incomes to charity and are good at football when World Cups come round).

As delegates gather for this year's European Petrochemical Association meeting in the unreal world of Monaco (unreal for the 99.9 per cent recurring of us who don't own Ferraris), I thought it was worth summarising some of the issues discussed on this blog over the last few months.

We've dealt with:

*Oil-price volatility and the likelihood that high and volatile crude is here to stay. Crude at or around $100 a barrel seems to be a new long-term level with the strong possibility that geopolitical shocks could send costs much higher. Supply and demand balances remain tight and as soon as global economic growth recovers we will see much higher prices - meaning that the recovery could be nipped in the bud. Are we heading for a new economic climate where recoveries are constantly set back by rising energy costs? For every one barrel we are discovering, we are consuming three.

*The new credit environment that might well emerge from tougher banking regulations. No longer will it be possible for a truck driver from Iowa earning $20,000 a year to borrow at ridiculous multiples of his salary and at "teaser" interest rates. How these regulations will effect emerging markets his harder to read as Asian governments and consumers are in far better financial shape than those in the West. Many of the banks in Asia have been more prudent. But the events in the US will surely lower the appetite for risk globally - and there is no guarantee that the financial-rescue package will work. Ask your consultants or inhouse researchers you use whether their demand-growth predictions factor in the possiblility of lower growth because consumers no longer have access to as much credit.

*Innovation will be the key as the environment becomes a bigger and bigger issue for the chemicals industry. You need right technologies and the right kind of staff. As there is a possibility of a global carbon tax or carbon cap-and-trade system, do estimates of what this might cost need to be factored into feasibility studies? How feasible will it therefore be - given both high energy costs and the possibility of a price on emissions - to continue building plants long distances from major consumption markets?

*One of the big areas of innovation will be attempts to break the link between the refinery and petrochemical industries. BASF is claiming it could be as little as five years away from breakthroughs in catalyst technology that could change the industry forever, enabling highly competitive petchems to be produced from biogass, natural gas or coal.

And finally, other theme I haven't blogged on yet but will do are plant and energy efficiency. Some very interesting research projects are taking place at the National University of Singapore chemical engineering department into monitoring the exact output of plants in differennt climate conditions and a model that might enable producers to much more accurately predict changes in yields from switching feedstocks. Much more later...

Meanwhile, have a great meeting - and let's hope the economic conditions improve.

I grew up in a small town called Bingley in West Yorkshire in the UK, where there are two major employers - the head offices of a building society (or what was once a building society, but became a failed bank - see picture above) and a clothing business.

My late parents worked most of their working lives for the B&B and I worked there during the summer when I was student, to pay off debts built up through excessive drinking (I was an arts student, thank goodness - none of this obsessive "grow old too young" nonsense of MBAs and other business degrees that are serving very little purpose at the moment. You'd be better staying at home and writing poetry).

In the financial maelstrom, you might have noticed that the B&B has been partially nationalised by the British government.

This used to be a dull but worthy lender that became more aggressive and, like most of the rest of us, didn't believe that there was a down as well an upside when we were all caught up in the economic supercycle.

Before the nationalisation occurred 370 jobs were axed last week - which will greatly affect Bingley's economy, from the direct job losses, of course, to the shops and the restaurants. More jobs are at risk among the remaining 3,000 employees.

My dad worked down a coal mine, fought in the Second World War in North Africa and Italy in an artillery regiment, returned from the war to work on the railways and then spent the rest of his working life as a caretaker (or a janitor as the Americans have it) at the building society. If he had been still around, he could have been out of work - but exactly what portion of the blame for the crisis would you have apportioned to him, Mr Paulson?

Multiply the impact of job losses around the world as other banks and businesses fail and this means much less chemicals demand - from the plastic packaging used in restaurants to cancelled bigger ticket purchases such as automobiles and TVs. Again, we need to be looking hard at demand-growth numbers in an attempt to contemplate what this will mean for all our businesses - whether we work directly in the chemicals industry or as service providers.

But the bigger tragedy is that real people, not those with fantastic salaries and parachute payments who are responsible for this financial mess, will suffer greatly.

These are real people who deserve protecting because they had no idea, and had no chance of gaining any kind of idea, of the potential scale of the crisis we are now confronting.

Yes, indeed, with all the talk of the collapse of capitalism and with liberal economists running for cover, dear old Karl might once again be the flavour of the month.

Oh how I remember those dewy-eyed days, standing on the picket lines in the pouring rain during the 1984-1985 Miner's Strike in the UK, believing passionately in the noble cause of the downtrodden working man as he (and she, of course - sorry sisters for putting you second) fought against the evil forces of Thatcherism.

Oh how I remember on one such occasion, a miner asking me what I did, to which I replied "a student in English Literature", to which he replied "what do you produce? Essays? You useless............(followed by two unmentionably rude words).

And how I remember when the forces of Thatcherism won and the miners were forced to march back to work I waited for some noble and great workers' song as they marched, some stirring ditty speaking of the struggle against the oppressor and the honour and dignity of honest toil as opposed to the grubby and slimy pursuit of evil money.

Instead all I heard coming out of the TV during the Look North programme was a rendition of that great brain-dead football chant, "here we go, here we go, here we go".

How our illusions can be shattered and how the illusion that pure capitalism works is also now in ruins.

This is still not The End of History as history never ends.

So why not a sensible compromise between socialism and capitalism - a workable system of regulations versus freedom to innovate? How about the Japanese model, may be, or that which is pursued in Singapore?

Mr Obscenely Rich Got Out In Tiime Banker, please look into these eyes, see the pain from the last Great Depression and maybe you will give some of your obscenely huge bonus towards poverty relief.

And perhaps also you'll be willing to pay for all the counselling that the children of this new Great Depression will need when they grow up into adults. As a rich an educated breed, you should be aware that the first few years of a child's life, how secure and encouraged they feel, determines their entire future.

Anyway, see below for my take on the state of the crisis and its implication for chemicals, written for a good friend and contact.

Chemicals demand is being affected by frozen credit markets and the fall in export trade of finished goods to the West.

The credit markets are showing signs of easing thanks to all the government intervention.

But as you can see from this article, the feedback effect on the consumer, and therefore, manufacturing companies, could get a great deal worse before it gets better. Bad corporate results caused the declines in stock markets yesterday (Wednesday 23 October) and as more consumer loans turn soar and unemployment rises globally, corporate earnings will deteriorate even further - at least for the 12 months, I think.

The good news from the financial is that the much-feared credit-default crisis may not be severe as people had expected.

However, the chemicals industry will remain under severe strain for at least the next year, even if the credit crisis eases enabling letters of credit to be more easily obtained (a global shortage of LC's has left commodity shipments, including chemicals, stranded).

The reasons are:

1.) The export dependency of some economies. China's GDP growth will be around 9% this year compared with 11.9% last year, for example, largely due to the slowdown in export trade. Delegates at the APPEC conference in Singapore this week were talking about very quiet demand for fuel products and chemicals at a time when China should be ramping up manufacturing for exports to the West in time for Christmas. Economies such as Singapore are even more vulnerable
2.) The volatility in energy and chemicals pricing. You could probably produce a graph these days linking crude-oil price movements with the equity markets. So until everyone reaches a consensus that the bottom has been reached, we are going to see constant dramatic day-to-day fluctuations in equities and therefore crude. OPEC might cut production at its next meeting, but this will just mean the volatility is within a higher band ($70-90 a barrel is the prediction instead of the current $60-80 a barrel. You cannot rule out the possibility, even if OPEC does make cuts, of a lower range than today - $40-60 a barrel. This would indicate that the real economy has become a great deal worse). Volatility creates the danger of being caught on the wrong side of the deal for sellers, buyers and traders (e.g. high cost raw materials purchased one day that cannot be passed on in higher-cost finished product because of a sudden fall in crude). For resin buying patterns, the uncertainty over the direction of crude is a crucial factor - in a bull market they stock up and in a bear market they de-stock. Crude is in no-man's land and so, combined with LC issues, worries about the overall economy and cancelled orders from customers buyers are remaining firmly on the sidelines.
3.) Last but certainly not least, is the huge wave of new capacity. Polypropylene was supposed to lead the downturn this year but didn't because of start-up delays. Equipment-delivery problems are being blamed, but market reasons seem likely to be another factor. The problem is that with markets showing no signs of turning, producers with heavy debt commitments can only hold back for so long and so will have to commission capacity soon - even if at operating rates lower than planned. For the Middle East producers, now that there is no immediate sign of markets turning, start-ups might as well take place because at the very least on a cash-cost basis contributions will still be achieved on a cash-cost basis (because of low and fixed feedstock costs), just about no matter how low crude goes - and with it petrochemical pricing.

Conditions could get dramatically worse very quickly. One factor not included above is the run on Asian currencies, and possibly even some banking systems, because of the dollar ironically being used as a "safe haven investment".

In the medium term, (the next 12-18 months) the only upside I can see is short-term recoveries in chemicals buying on signs that government interventions are working (with more likely to happen). But these recoveries, as I said, could be short-lived as more evidence emerges of the delayed effect on the real economy (e.g. further falls in corporate earnings).

To be frank, all bets are off on demand-growth forecasts - (so I am sorry this is not going to help you much in coming up with firm numbers!).

Everyone has been wrong and so it's best to err on the side of extreme caution and with a bit of luck we might be pleasantly surprised.

To give you an example of how quickly things can change, a Chinese PTA producer had been forecasting overall polyester growth in China at 12% are recently as July; now it thinks the market will be lucky to get away with zero.

I'd suggest looking at your forecast numbers, going back to those who have supplied the numbers, and asking them if these take into account their worst-case scenarios. Any forecast that predates September cannot be trusted at all.

Hope this helps!

Best Regards
John

Chemicals demand still exists, believe it or not, but the new economic order -one that could last as long as six years - requires new approaches.

Purchasing managers need to start acting locally as well as globally.

Who would want to be a financial controller if you work for a big company or the jack-of-all-trades managing directors of a small or medium-sized enterprise? Every purchase order and every invoice, literally every single transaction, needs to be reviewed by whoever understands overall credit availability.

One small step out of line, one tiny error by an over-enthusiastic purchasing manager or sales executive and bang, you've exceeded your credit limit. Even if you have a sound business model, your bank might have no option but to say "sorry, but that's it - we are withdrawing all your credit". But is there really such a thing as a sound business model these days?

This new economic order could have major implications for how chemical pricing behaves. Old understandings on how to read the direction of markets might need to be revised.

"There have always been two kinds of demand in the confectionary industry - long and short term," said a plastics-wrapping manufacturer on the sidelines of the ICIS World Polymers Conference, which took place in Bangkok, Thailand, earlier this week.

For the next few paragraphs, the confectionary industry and upstream to polyolefins will be used as an example of how purchasing managers need to act differently. The same rules could also apply to other product chains.

"Nothing has changed when it comes to your big 1b bar of chocolates. You can still ship large volumes of packaging material economically from, say, China to the US as these slow-moving items will sit on the shelf for months," the manufacturer added.

But for your fast-moving confectionary - for example, discounted big bags of miniature chocolate bars placed in toddler-reach on shelves near supermarket checkouts - shipping wrapping material from China no longer makes sense.

"A big percentage of a confectionary manufacturers' revenue comes from fast-moving and short-term promotional offers. The trouble is that these promotional offers are no longer as fast-moving because consumers are cutting back on spending."

Much smaller quantities of wrapping material are needed and so for logistics reasons, buying locally adds up. If you make chocolate in a developed markets, these small suppliers might have previously been ruled out because of their high labour costs and low capacity.

"It's not economic to half-fill a container and ship it all the way from China. Local suppliers can also much more quickly respond to small day-by-day changes in demand," the manufacturer added.

There are other reasons to buy in small quantities (and therefore locally).

Oil prices move in an almost perfect relationship with equity markets these days. Stock markets rebound as investors clutch on to some fleeting good news and crude rallies by a few dollars a barrel, only for the reverse to occur the following day.

So nobody at any point in any product chain wants to sell or buy big in case they end up on the wrong side of a shift in highly erratic energy prices. For example, why buy a big quantity of resin today only to see the WTI price tumble the next?

Your equally hard-pressed customers, even the ones you've worked with for years, will not be able to do you any favours if you plead that you made a mistake on crude.

Shortage of credit is a further reason to keep orders at a minimum.

"My MD is signing off every purchase order. You need to make your credit stretch. The other problem is that you need to very carefully monitor the credit situation of your suppliers and your customers. Make sure you have enough of each in every region where you operate in case some of them go bust," said the manufacturer.

Buying locally also extends up this chain to polyolefins.

"Polyethylene (PE) and polypropylene (PP) exports from the States have declined because of the weaker dollar and the collapse in pricing that closed-off arbitrage," said a polyolefins producer on the sidelines of the same conference.

"Another factor is that end-users prefer to buy local because retailers are placing smaller orders."

A further reason to keep inventories low is the huge economic uncertainty out there. Nobody knows how deep this recession will be and how long-lasting.

"We keep looking further and further back into history for parallels," said Matthew Sullivan, Director of Energy Structuring and Origination for Standard Chartered Bank, in a speech during the conference.

First it was the dot-com bubble crash of 2001, then the Asian financial crisis and next the global economy downturn of 1980-82. Now all the talk is of the Great Depression.

"Vehicle sales in the US, on a population-adjusted basis, have fallen to their lowest level since World War II," he added.

"I hate to give you the bad news, but I think it could take 5-6 years to get through this. Most of the iceberg is still beneath the water."

The dreaded consumer confidence feedback mechanism may have only just begun.

Banks might, theoretically, be in a better position to lend thanks to all the rescue packages - but at ground level in the chemicals industry trade finance remains desperately hard to obtain.

Inventory write downs are huge because of raw materials bought before the crash in demand and pricing. This will affect financial results in Q1 next year.

This will in turn lead to more job cuts in chemical and other companies. When you are worried about losing your job, if you haven't lost is already, you don't spend; and as Japan found out during the 1990s, consumers are even less likely to spend if they think that prices will be lower tomorrow.

As consumers make even deeper cuts into their spending, this leads to even worse corporate results, more business failures and more job losses and so on and so on....

"People are reviewing their retirement plans (because of the collapse in equity markets). They feel a lot poorer, which is another disincentive to spend - and they will have to add 5-6 years to their working horizons," Sullivan added.

The next big banking scare just around the corner might be further write downs on credit-card losses

In the midst of economic calamity and the resulting shift in buying patterns, what does this mean for how chemical pricing will behave?

Chinese buyers used to periodically withdraw from markets en-masse, in the case of polyolefins.

This would lead to big price declines because the volume of lost trade was big.

The guessing game would then begin over inventory levels and demand - meaning when they would need to re-stock.

When they did return, of course, volumes on the positive side were equally big, resulting in big price rallies.

Bu increments are these days as low as $20 or $30 a tonne a time because of small-volume sales. Prices then quickly fall back.

When prices retreat, even more ground can be lost than had been gained because of worsening economic news.

Nobody can be sure when chemical-pricing markets will bottom out for good in this current cycle - just as nobody has any clue when the economic recovery will arrive.

Yes, that's my target for the truck above, which is actually for 4-11 year olds and my son is only 22 months - but what the hell, don't we all deserve a second or, in my case probably a tenth or perpetual, childhood? And I am trying to teach him the value of recycling (the above picture is of a recycling truck) - even more bad news for the conventional chemicals industry.

The truck was S$249 (Singapore dollars) two weeks ago, has fallen to S$199 and surely has much further to go as the deflationary spiral begins to bite. My target is S$100, provided, of course, it hits this level before Santa sets off with his reindeer and his elves etc (poor old reindeer - less carrots this year, and I imagine Santa will be laying off some of his little helpers and moving those he retains to flexible short-term contracts with less healthcare and other benefits. Do the elves have a union, though? Not sure...answers, please).

But the serious point is that the deflationary vicious spiral - delayed purchases and higher savings rates leading to worsening corporate results, more unemployment and further delayed purchases - may have only just begun.

I remember reading an article in The Economist a few months ago which concluded that the US would not suffer a Japan-style decade-long slump because it had inflation. Not now.

Down every product chain, in the case of lego from crude oil to the plastic (acrylonitrile butadiene styrene) to the finished goods, inventory has been manufactured using high- cost raw materials. Remember when crude was above US$100/bbl? It seems almost a distant memory.

So this means everyone - from the retailer in Singapore selling my boy's truck right up to the ABS producer and the cracker, aromatics and refinery operators - will have to endure lots of hair cuts in this first circle of the deflationay spiral.

Volker Trautz of LyondellBasell is right to say that destocking of this nature is a big cause of weak demand at the moment - and that the true nature of underlying demand might not emerge until Q1 next year (see below for interview).

But by the time the first quarter comes around, we could be into the second loop of a deflationary spiral that might push is into something as bad as the Great Depression, or a global version of Japan's long and painful economic paralysis.

What's your strategy to survive this?

18 November 2008 17:45 [Source: ICIS news]

HOUSTON (ICIS news)--Petrochemical customers have cut purchases as they expect prices to continue falling - a trend that has masked the true level of demand during the global economic slowdown, the CEO of LyondellBasell said on Tuesday.

Starting in the third quarter, customers reduced purchases on the expectations that prices would fall in upcoming weeks, said Volker Trautz, LyondellBasell CEO, during a conference call.

Such destocking accelerated in the fourth quarter, Trautz said.

At the same time, demand has dropped because of the global economic slowdown, he said. "The economy has clearly slowed."

LyondellBasell will not have a clear picture of underlying demand until the first quarter, he said.

As it is, LyondellBasell has idled an olefins plant and reduced operating rates as a result of the slowdown, Trautz said. The company has also shut down polymer plants.

The company has reduced its 2009 capital expenditures programme to $800m (€632m), the minimum deemed necessary to meet safety and environmental standards, Trautz said. LyondellBasell has also adopted a cost-cutting programme.

In the upcoming months, LyondellBasell may consider selling off noncore assets, such as real estate, the company said.

In all, the company should generate cash in the fourth quarter, which should allow it to reduce its net debt, Trautz said.

In other news, LyondellBasell expects to remain in compliance with its covenants in the fourth quarter and in 2009, the company said.

($1 = €0.79)

By: Al Greenwood
+1 713 525 2653

It's all about hoarding cash over the next few years, but survival might not even be possible for even the best managed of companies if Martin Wolf's worst-case scenario comes true. The Financial Times columnist writes of the unravelling of globalisation into the protectionism that characterised the Great Depression years if the Obama stimulus package fails.

There is a good chance it will fail, fears the Federal Reserve in the notes released from its December meeting.

At a chemicals company level, leverage is obviously out and the private equity model thoroughly discredited - perhaps for good.

You can argue that the biggest mistake of the biggest casualty so far, LyondellBasell, was timing as the acquisition of Lyondell Chemicals took place in December 2007. Asset prices were then at their peak with many believing that the boom would continue forever, despite the already rapidly deflating US housing bubble. As recently as March last year, The Economist was talking of Asia's decoupling as the potential saviour of the global economy.

But leverage is itself the problem because of how the extraordinary multiples over tangibe, realisable assets were generated through the shadow banking system, creating the climate for deals such as the Basell takeover of Lyondell to occur. It is this badly regulated, free-for-all system that's brought the global economy down.

Maybe we will never again see the break up chemical companies for sale to private, or public, companies burdened by enormous amounts of debt.

Perhaps the well-integrated chemicals company with sufficient diversification to provide compensating cash flows when a particular subsidiary is struggling is the way forward. Is this yet another case of back to the future?

In an even better position are the state-owned giants in the Middle East and China. They are in the enviable position of cash in hand, and government ownership structures that guarantee funding if that cash was to ever run scarce. These are the only companies I can see able to make the acquisitions the industry now needs.

I am reading Charles R Morris's The Triillion Dollar Meltdown at the moment, having also recently cheered myself up with Paul Krugman's update of his classic, The Return Of Depression Economics.

As the private equity model implodes, Morris's following words ring so wonderfully true:

"The leveraged-buyout business, after a highbrow restyling as private equity, came roaring back. A typical deal: Put up $1 billion, borrow $4 billiion more, snap up a healthy company for $5 billion (after making a rich deal with its executives), vote yourselves a "special dividend" of $1 billion, all the while taking no risk. 'People talk about a wall of money,' one banker said. Private equity funds didn't have to raise capital; it was chasing them."

I am sure, of course, that such unscrupulous and whollly dishonourable practices have never, ever applied to any private equity deal involving our great and wonderful, wise and so superbly well-run chemicals industry that has always taken a long term and measured view of how to run its operations in the most financially-optimal way and for the benefit of humanity as a whole in its caring and compassionate pursuit of higher and principled ideas for a sustainable, warm and cuddly future where everyone sits around the campfire and sings "Well be coming round the mountain" (enough waffle, stop - please!).

As a very wise man once said, everything goes in and out of fashion like long skirts and short skirts.

Hence, my very capable colleague Malini Hariharan has offered some analysis of South Korea. Its companies, having being brutally hammered by the West post Asian Financial Crisis (which I had pointed out at the time ignored their strengths) are now at the front of the proverbial cat walk because they have low levels of debt.

Of course they have significant competitive disadvantages, but they might at least survive the crisis.

At the moment, a shell-shocked chemicals industry is still recovering from the impact of destocking following the huge inventory write downs in Q4.

The next step will be to measure the state of genuine, end-user demand and how this compares with the fantastic growth we saw in 2003 right through until the end of H1 2008.

Comparisons will inevitably look bad, even if, as some hope, recovery arrives in the second half of this year. This is bound to have a pyschologically dampening effect on markets.

Plus, chemicals and plastics markets are about to be roiled by large amounts of new capacity.

Recent price rises in the aromatics and olefins chains might, therefore, be reversed.

And so cost will remain King in the second of 2009, and perhaps for several more years.

The rise of private equity in chemicals, which I examined in a previous post, resulted in claims that the sector's more efficient management techniques would result in money being made "even at the bottom of the cycle".

But key to survival may no be longer innovative financial engineering and cutting costs social and bureaucracy costs incurred by previously much bigger, listed companies.

It might instead be all about chemical engineers getting every last cent of value out of production processes through optimising "every pipe and every valve," says my colleague Nigel Davis - editor of the Insight section of ICIS news.

It will be fascinating to watch how this plays out - and what becomes of chief financial officers.

Herein begins an occasional series where I offer advice on how to make a little cash.

By the way, is it me or do I get the sense that a lot companies haven't woken up to the severity of the crisis we are in? A recovery this, and I think quite probably next year, is out of the question. We need to find new sources of growth to replace the US consumer who isn't going to start spending money again in the same volumes as before for a good many years.

Anyway, here is my handy tip: purely by coincidence discover one day that quite fortuitously you have priced your local product so high - way above international levels - that this has attracted competitively priced imports. Take advantage of this wonderful, joyouous happenstance, this glorious instance of serendipity and lodge an antidumping petition.

A recent briefing by The Economist Intelligence Unit warned that because of the mess the West has made of the world economy, managers in Asia might face unrealistic targets.

Does this sound familiar? All answers will be treated in the strictest of confidence.

This excellent article from The Economist about vertical integration got me thinking that if, say, auto makers start buying up parts suppliers in developed markets (in developing markets the plastics processing industry is too fragmented) we could end up facing a whole new set of industry dynamics.

Buying up your supplier, or at least offering them strategic advice and financing in the way that Toyota does, could end the days of the poor and relatively small converter squeezed between the big petrochemical producers and the giant finished-goods manufacturers. Resin producers might suddenly find themselves facing heavy rather than lightweight opponents.

Petrochemical markets, as is the case with stock markets, are I believe in the midst of a bear-market rally.

As chemicals consultant Paul Hodges predicted on his blog last year, restocking in Q1 was inevitable after the great inventory run-down of the fourth quarter.

Paul has consistently made the right calls on the economic crisis and on its implications for the chemicals industry. His accuracy in predicting the major events - from crude-oil pricing to the collapse of Bear Stearns - can be demonstrated by visiting his blog.

Read his post today which provides are summary of how we got we are and where the global chemicals industry appears to be heading.

Petrochemicals benefited from the Q1 restocking, of course.

We have also seen an across-the-board price rally sustained by a lot of speculation in China made possible by ample availability of credit. The question now is whether credit will be restricted as China becomes concerned over inflation.

Petrochemicals pricing has also been supported by stronger naphtha due to firmer crude, first of all because of refinery rate cuts when the Q4 crisis occurred and more latterly a huge programme of refinery turnarounds in Asia. According to oil and gas consultancy Purvin & Gertz, this turnaround programme is due to come to an end around June.

Naphtha supply will increase in H2 on more exports from India, higher production from one condensate splitter in the Middle East and the start-up of another splitter. Supply could increase in Asia by 20-30%.

I think crude is likely to trade around the $50/bbl mark for the rest of this year so this will set a floor for liquid-feedstock costs.

However,I don't believe that petrochemical producers will be able to use tight naphtha as a justification for maintaining current price levels because of the increased supply.

Petrochemicals supply will also lengthen when Asias' big cracker turnaround season ends after June.

Middle East project delays are likely to continue, but some further extra supply in polyolefins, MEG, aromatics and propylene oxide (PetroRabigh is in the process of starting up the region's first PO plant) can be expected in H2.

The second half of the year could also see the start-up of lots of capacity in China. But how much volume actually hits the markets will have to be closely tracked.

Demand will be better this year than in 2008, but hey, so what?

Last year was exceptional bad because of the destocking, and all the economic uncertainties will not be compensated for by the boost from government stimulus packages.

So, in short, expect feedstock-price support to weaken and for petrochemical supply to lengthen in a persistently weak demand-growth environment.

The big unanswered question is to what extent the recent price prices were also the result of speculation in China. In methanol, an incredible two-thirds of Q1 imports were for speculation on futures markets.

As Paul again points out on his blog, the volume of contracts being traded on the Dalian Commodity Exchange is nothing short of staggering (an average of 1Om tonnes a day during the first quarter!).

Has this contributed to LLDPE prices trading above LDPE over the last few weeks for the first time in two years?

How much of the chemicals and polymers that have been imported into China recently, or purchased locally, and are being held in inventory for speculation purposes? To what extent has this speculation been made easier by increased credit?

With as many as 30m migrant workers laid off in China and export-focused factories operating at only 50% of capacity, how can all this increased chemicals trade be justified by an improvement in the final demand for finished goods?

China's economic stimulus package is kicking in. Over the last few days I hear of improved sentiment in China that the worst might be over.

But given that 10-30% of China's economy (depending on who you believe) is dependent on exports, it would take a heck of an effective stimulus package to boost domestic growth sufficiently to replace all the lost export trade in the second half of this year.

We've also picked up anecdotal reports that factories are being kept running by soft loans from banks for social stability reasons.
It's unlikely that the total extra production will replace all the volumes lost through factory closures.

But at the end of certain product chains you could see China exporting deflation in H2 to relieve inventory - another reason to believe that chemicals pricing will decline in the second half.

However, it might not be in China's interests to flood oveseas markets with goods at bargain-basement prices if this triggers international tensions and a further rise in protectionism.

Overseas chemicals players seem to have benefited from the relative strength of China's market with volumes of benzene and polystyrene, for exampe, being shipped from Europe.

Large increases in polyolefin shipments from the US to China are also being reported, in the case of PE the result perhaps of comparatively cheaper ethane versus naphtha.

The word on the street, from our price-reporting team, is that nobody can really say for certain whether the recent price rises are the result of improved demand or speculation.

But add all the above factors together and it seems a sharp correction from June onwards remains very likely.

And the more uncertain that price direction remains the closer the correlation might be between oil and naphtha and chemicals pricing on a daily, weekly or perhaps even a longer-term basis.

In the absence of clear direction, crude and equities might end up as the only guides available (or perhaps chemicals might even move in the opposite direction to equities in China as a lot of traders traditionally move their money between the two - and also property - depending on where they think the next gains can be made).

For the traders in China and those who know know how to play the domestic markets extremely well, it's also a question of maximising returns from micro-price movements.

On a weekly basis, one trader estimates that domestic polyolefin prices have fluctuated by $50-100/tonne in 2009 compared with $40-50/tonne in 2007. Last year can be discounted as an exceptional year because of the inventory building and the H2 collapse so, hence the comparison with 2007.

The Dalian exchange must also be adding to this volatility.

Bear-market rallies are better than no rallies at all, of course, and we could several more rises and sudden dips in chemicals pricing before this crisis is over.

Could the chemicals industry be in danger of wanting to believe something so much that ignores overwhelming evidence to the contrary?

The widespread perception is that China's economy has reached a turning point.

"The worst of the crisis is over and the world is entering the time when things will gradually get better," wrote former US presidential adviser John Rutledge in an article on the Chinese news service, Xinhua.

According to The Economist, it wasn't the collapse in exports that triggered slower growth in China.

It traces the origins of the downturn to tightening of credit in 2007 that led to a collapse in property prices in China's first-tier cities and a decline in construction.

"If the collapse in domestic demand led China's economy down, it can also help lead it up again. Not only is China's fiscal stimulus one of the biggest in the world this year, but the government's ability to 'ask' state-owned banks to spend and state banks to lend more means that the government's measures are being implemented more rapidly than elsewhere," writes the magazine.

The huge spending on infrastructure will hugely benefit rural communities as two-fifths of villages lack a paved road to the nearest market, it adds.

A large increase bank lending also appears to be behind a 36% rise in housing sales by value in the year to March after sharp falls in 2008.

If construction picks up this should help reduce unemployment as half the job losses among migrant workers have been in the building industry, the magazine continues.

But The Economist concedes that a misallocation of capital is a concern.

However, the article continues: "China is one of the few countries in the world where bank credit has fallen relative to GDP over the past five years. Banks have an average loan-to-deposit ratio of only 67%, low by international standards, and less than 5% of banks' loans are non-performing, down from 40% in 1998."

So in other words because the Chinese banks are awash with cash a major Western-style financial crisis seems unlikely, no matter how much money is wasted.

But if money is being misallocated, the boost to growth might be less than some people are forecasting.

There are strong rumours that easy bank loans have fuelled speculation.

"When we are selling to a trader in China they have no interest in our letters of credit because they can borrow so cheaply and so easily from their local banks. They are even prepared to pay 20% up front by telegraphic transfer," said a Singapore-based polyolefins trader.

"I used to sell 80% to end-users and 20% to other traders in China, but now those percentages have been reversed.

"I think a lot of traders in China have taken risky long positions because lending terms were so easy."

Money has even been borrowed and then made or lost on domestic stock markets, some sources claim.

The same might apply to the Dalian Commodity Exchange, which has seen a huge increase in trading in linear-low density polyethylene (LLDPE) over the last few weeks.

Large of inventories of steel, aluminium and concrete are being built as a result of speculation and perhaps an anticipation that demand will get better in H2. The same might apply to chemicals and polymers.

But Michael Pettis, a professor at Peking University's Guanghau School of Management, makes some worrying observations about the economy in his blog.

It is worth reading the lengthy posts for 20 April and 13 April.

In summary, he talks about:

*Private companies - the main engine of economic growth - struggling to get financing as the state-owned enterprises receive a flood of loans

*A poor return on money spent versus jobs creation - for example, CNY1trillion which is being spent in Henan province to create 650,000 jobs. He has calculated that if this same sum had been spent on giving workers salaries of CNY3,000 a month (more than twice the average salary of migrant workers) this would have been enough to pay the wages of 650,000 people for 43 years

*A boost in industrial production, "leaving the unresolved question of who is going to absorb the excess capacity if the US is no longer willing to play the role"

*Signs that China is trying to export its way out of oversupply. The trade surplus was $62.6bbn in Q1 this year, up from $41.7bn for the same period in 2008. "Although lower than the astonishing heights of January and late last year, the trade surplus is still much higher than this time last year. That means China's export of overcapacity is increasing," he writes

*A much larger vulnerability of GDP (gross domestic product) to exports than some economists have calculated. He quotes a Wall Street Journal article, quoting a working paper prepared for the International Monetary Fund. The paper estimates that for every 10% fall in exports, GDP will decline by 2.5%. Exports fell by 20% in the first quarter

*Government subsidies and tax distorting demand - for example, state-owned enterprises bringing forward vehicle purchases which was of the major reasons why auto sales rose by 10% in March. JD Power, the car consultancy, is forecasting flat Chinese passenger car sales in 2009

It would be nice to start the weekend with a little cheer, but I'm afraid no amount of gormless optimism would work.

DuPont, as you can see from this excellent piece from my colleague Nigel Davis at ICIS, has revised its forecast for 2009 global growth down to minus 2.5% from minus 0.6%.

Every chemicals end-use segment you can think off from automobiles to construction to electronics looks a lot weaker than in H1 2008.

We need a new way of thinking to get through this, but as I head for a weekend with my family where the plan is to avoid reading any financial news, I am short of any ideas - other than maybe working for an NGO and accepting a much-reduced standard of material liviing.

Making money in this climate remains extremely hard - although from a business journalist's perspective, it is of course a fascinating time.

The first stage of the 105th Canton Trade Fair - which involves electronic and electrical appliances, hardware and tools, machinery, vehicles and spare parts, building materials, lighting equipment and chemical products - concluded this week. Sales totalled $13.03bn - a 20.8% fall on the same stage last year.

I also read this other report about a surge in job creation in China's cities in Q1 over the the fourth quarter last year. What are all these extra workers doing?

Are they building dangerously high inventories of semi-finished and finished goods?

China's economy is showing signs of recovery, but not enough to replace the 20% fall in exports during the first quarter.

......all the right reasons than to be wrong altogether?

Sounds a dumb question, perhaps - unless you take particular pride in being one of those know-it-alls.

The point I am trying to make (and assuming that chemicals pricing doesn't collapse beforehand on a broader retreat in crude and equites on maybe panic over swine flu or the realisation that a global economic recovery is a long way off) is that I have thought for a while that the fundamentals point to a major price correction from June-July onwards because of:

*New supply from the Middle East. Surely, yes surely, there will be more capacity hitting the market in H2 as PetroRabigh ramps up output - even if YanSab, Sharq and perhaps even the new cracker in Qatar - are effectively pushed into next year

*A lot of new supply in China. My colleagues at CBI Research & Consulting are working on an update of the subtantial amount of additional capacity due on stream in H2, including Fujian Petrochemical & Refining (the latest world on the start-up of which is July)

*The end of the May-June petrochemical turnaround season in Asia

*An increase in naphtha supply (as much as 20-30% in Asia, according to Purvin & Gertz) as a result of higher production from two new condensate splittlers in the Middle East and greater naphtha exports from India

*A I said, my belief that everyone will have to wake up to the fact that the global economy, including China, will not enter recovery in 2009 or perhaps even in 2010. I remain worried about the quality of China's growth (is it too production rather consumption-driven?), how much stimulus-package money has been wasted on speculation, including in building chemicals inventory, and the possiblity that China - directly or indirectly - might start exporting deflation

But today I spoke to some goods contacts and friends at a leading petrochemicals trading company who gave the following additional reasons for their long-held view that prices would tank in July:

*US and European producers upping operating rates in response to strong arbitrage opportunities. The Europeans have already raised rates, apparently, and the US more recently. In the case of propylene, though, stronger demand for refinery-based C3s from several derivative producers might, perhaps, make further US PP shipments unworkable

*Strong interest in shipping petrochemicals from the US and Europe to Asia for arrival after May (all May business was concluded around 20 April). Cargoes could be at sea and uncommitted just as the shift in fundamentals listed earlier starts to take effect. Big quantities have already been shipped from the West to East during Q1, including very large amounts of BTX and polyolefins. Around 200,000 tonnes of US and European benzene is heading for Asia for March and April arrival, according to DeWitt & Co. China imported 114,000 tonnes of benzene in March alone, which compares with just 328,000 tonnes for the whole of 2008 - an average of 2,733 tonnes per month. The surge in toluene shipments from the West to China is equally dramatic: China received 66,000 tonnes in January, 77,000 tonnes in February and 94,000 tonnes in March compared with a 2008 total of 273,000 tonnes.

Inventory pressures in the West have been relieved and some of the big losses suffered in Q4 have been recouped (and some of the traders seem to have done very well indeed).

So batten down the hatches once again.

Any excuse to make a reference to the late, great and wonderful Ian Dury.

I sent the following email to my friend in response to the stock market rallies and the green shoots of optimism seemingly turning into beautiful May flowers:

"I take it nothing can has fundamentally changed? The confidence couldn't possibly be so self-fulfilling that all the consumer and corporate debt somehow vanishes into a great big black hole?"

His response, justifiably caustic, was:

"Of course, that's the answer. We wake up on May 1, and its all been a nightmare.

"Suddenly houses are still worth what they were there years ago, and are still increasing in price on a monthly basis.

"None of the banks have been nationalised, and the shadow banking systems is still the same size as the normal banking system.

All is fine with the world, and neither Chrysler nor GM are close to bankruptcy."

Quite. Enjoy it while it lasts.

"Nobody can see until the end of the month - never mind into the third quarter," commented an olefins trader recently.

"The reason is that very senior managers are too busy micro-managing everything, from getting involved in trying to track commodity chemical price direction to insisting on signing off every expenditure over a few hundred dollars.

"The problem with these senior guys when they track markets is that they are so out-of-the-loop - assuming that they have ever actually been in the loop - that they don't know what they are doing."

I heard of one big company where the CEO has even insisted on signing off travel authorisation to next week's APIC conference in South Korea.

In these days of tight credit and collapsed sales, it's understandable that much tighter control on spending is essential.

And during the boom years, can we all honestly say that every single trip we made was entirely commercially justified - and that we were always sufficiently foused on the bottom line to get maximum value out of each trip? Look back at your old expenses forms and count up the number of genuine "drinks with Mr Kim" entries.

It will be interesting to see how the lessons being learnt today will be remembered when the economy has fully recovered.

But from a HR perspective, a tough sign-off regime needs to be well-communicated.

So does the senior guys tracking shifts in chemicals pricing - whether competently or incompetently - otherwise the workers on the ground are likely to become demoralised.

They are unlikely to be able to leave in this current climate, but will surely perform far worse if they feel their opinions are being ignored for no good and well-explained reasons.

Off-the-record, of course, how does your company measure up?

And did you fiddle your expenses during the good times?

One of the new skills being learnt in this current crisis is how to run plants efficiently at low operating rates.

"It's funny that for years now, we've worried about how to scale up profitably. Now industry is faced with just the opposite, how to scale down profitably," says Mark Matzopoulos, chief operating officer at UK-based Process Systems Enterprise in this article in ICIS Chemical Business.

A friend of mine has just graduated from university with a very good degree in chemicals engineering and has managed to land a job with an engineering company. His fellow graduates have not been as lucky in their search for jobs with chemical companies.

At least somebody is making money out of this crisis

It's easy to get caught up in the excitement over the rebound in the Chinese economy and miss underlying weaknesses which point to some major problems ahead.

To some extent, in a desperate effort to compensate for collapsing export trade, China might have borrowed from the future in order to achieve a swift recovery.

"The (Chinese government's economic) stimulus programme borrows from a future investment cycle," writes the online research publication, the China Economic Quarterly (CEQ), in its Q2 report.

"Since 1978 China has run relatively regular five-year investment cycles followed by five years of retrenchment."

Spending by the State on infrastructure and industry boomed in 2003-07 and so the following five years were supposed to involve the reductions in expenditure necessary to repair a big hole in the national balance sheet.

But, of course, the reverse has happened with infrastructure and industrial projects scheduled for the next 5-10 years now set to be completed over the next 3-4 years. This includes speeding up investments in the refinery and petrochemical industries.

"China could be in for some rough times after the stimulus money runs out in 2011," the CEQ adds.

Repair work to the national budget might not be the only reason why longer-term prospects could be a lot bleaker than many expect.

China might also fail to boost domestic demand sufficiently to compensate for export trade which might take many years to recover.

"For the first time in the 30-year reform era, China faces an extended period - five years or perhaps longer - in which exports will provide no significant contribution to growth," says the CEQ.

The reason is the well-documented collapse in the West's debt-financed consumption binge.

On the surface, it looks as if China is making great headway towards realising more of its enormous domestic-growth potential: retail sales grew by 16% in Q1 this year, up from 15% in the first quarter of 2008.

If you dig deeper, though, as the CEQ again does, you discover that retail sales include many "institutional" purchases, meaning those by state-owned enterprises (SOEs).

The government has increased military salaries by 50% and is providing rebates of 13% and 10% respectively off rural purchases of household appliances and automobiles.

Despite all this cash sloshing about, however, when you take away the institutional purchases from the retail sales figures, the CEQ concludes that there is little evidence of a pick-up in consumption.

Longer term, this can be fixed if efforts to create much better pension and healthcare systems lead to more spending and lower savings levels.

Compared with the West, and particularly the US, the Chinese keep an awful lot more of their money bank deposits.

But here's another potential pitfall: all that money sloshing around (the CEQ estimates the total stimulus will be worth Yuan5-6 trillion, or 15-18% - much bigger than the originally announced Yuan4 trillion) could end up creating another non-performing loans crisis similar to that of the early 1990s.

This could force China's banks to lower interest rates on deposits in order to repair their balance sheets, warns Peking University finance professor Michael Pettis on his blog, China Financial Markets.As bank deposits are such an important method of saving money in China, lower interest rates could lead to more money being saved as compensation, leading to damaged consumer growth, he adds.

Numerous economists are also warning that too much of the stimulus is in the form of loans to the SOEs, which can be less efficient in boosting the economy than private companies.

The private sector, hammered by the collapse in export trade, is in contrast reported to be struggling for finance.

An inevitable slow down in bank lending, the result of the huge rise in loan growth during Q1, could also be put yet another brake on the economy.

"RMB (Yuan) net lending fell sharply to YuanB592bn in April from YuanMB1.9tn in March, broadly consistent with our expectation," writes Jun Ma, Chief Economist Greater China for Deutsche Bank, in a report.

"We believe this reflects the success of the window guidance by the PBOC (People's Bank of China) and the CBRC (China Banking Regulatory Commission) that advised banks to "appropriately control loan growth"; the decline in new project approvals; as well as the slower pace of equity capital injections from the central government budget.

"Going forward, the continuation of these factors will likely lead to a further decline in net lending to about Yuan300-400bn per month in the remainder of this year."

A further worry remains the potential global deflationary effect in H2 of China stockpiling raw materials, including perhaps chemicals and polymers.

Imports of polyethylene (PE) and polypropylene (PP) have, for example, been at record levels in Q1.

However, it's impossible at this stage to say whether this involves major stockpiling or is more the result of better demand and big production cutbacks by Sinopec and PetroChina earlier this year.

In the case of iron ore and copper, though, the steep rise in Q1 imports (iron ore was up by 33% and copper by 62%) are being widely attributed to state-backed inventory building and strong investment demand.

"China is stock piling commodities - everything from metals to oil," said a chemicals industry source.

"The argument is that it's better to store financial reserves in commodities rather than US dollars."

"There has also been some stock piling of gasoline and diesel in anticipation of price increases by the government."

Gasoline and diesel prices were indeed increased from early June - the first time since March.

But if you put five economists in a room, goes the old adapted saying, you are likely to get at least ten different opinions.

It can be just easy to interpret some of the recent data in a much more positive way, and it might just be possible that the current euphoria will create a self-fulfilling prophecy of a sustained recovery.

It's worth being aware, though, that a 50% rise in the local stock markets since the start of the year and lots of positive macro-economic news might not tell the full story.

Cartoon: Peter Brookes, The Times

Yes, this blog has gone staggeringly quiet over the last few weeks as I gained a life: I went home to the UK and mixed with some people who had no interest in or desire to know anything about polypropylene. Do you realise that there are some people out there who have never even heard of catalytic reformers? Amazing....

Anyway, before I return to my sad little petrochemicals bubble, here are some reflections on the political chaos gripping good old Blighty caused by MPs' expenses.

The pleasure the Brits are deriving from their fuming indignation over some upper-class twit claiming the cost of cleaning out his moat, and other such extraordinary fiddles, almost makes up for the misery inflicted by collapsing house prices.

But as I kept saying over many a pint of wonderful British real ale during my leave: "Corruption? Call this corruption. If you want real, decent corrupt politicians then go to India or the Philippines, to name but two Asian countries affected by this problem.

"The good people there would be delighted if all that their political leaders did was claim the odd household plant or a bit or mortgage tax relief off the State."

It's good fun to have a go at politicians, though - God knows they all deserve it.

And there is never any excuse to fiddle your expenses and quite obviously, all the journalists enjoying the hunt have never, ever over claimed or falsely claimed for anything (you can be probably tell, except if you are American that is, that this is intended to be sarcastic).

I had a friend many years ago who worked on a national newspaper who received a major telling off for not claiming enough fraudulent lunches, dinners and gallons of alcohol, the reason being that if the accountants saw one person managing on less everyone else might have been forced to follow suit.

Most national newspaper journalists, certainly in the 1990s anyway and so this may have changed, could double their salaries by being on the fiddle.

But in the row over MPs' expenses perhaps not enough focus is being placed on a much bigger issue. This is how Britain is going to repair its government finances without creating major inflation problems or interest-rate hikes that will limit inflation but nip the recovery in the bud. The same applies, of course, to the US.

I don't pretend to understand Bond yields etc.

Perhaps nobody understands, nobody has control, nobody has a flipping clue and so in the absence of any clarity the only debate worth having is over why the former Home Secretary's husband, working as a government-paid political assistant, claimed porn movies on his expenses (still my favourite of all the scandals).

Toodle pip. I promise you in my next post that I'll write about polypropylene for all you fellow sad people out there.

As I've been warning on this blog for some time, the explosion of credit in China has created a great deal of paper-bottomed optimism over the recovery.

Fitch, the ratings agency, has just raised its macro-prudential risk indicator ffor China from category 1 (safe) to category 3 (Iceland et al) because of the lending surge and public debt.

China's Banking Regulatory Commission warned last week: "The top priority at the moment is to stop explosive lending. Banks should carefully monitor the process of credit approval and allocation, and make sure that loans flow into the real economy."

And Andy Xie, the often-quoted Sino-bear, says in the same article I've linked to above from The Daily Telegraph: "Commodity speculators have been using cheap credit to play the arbitrage spread between futures and spot on the oil markets. They have even found ways to trade lumber to iron ore by sheer scale of leverage. "They've made everything open to speculation."

This is probably one of the main factors behind the boom in speculation in linear-low density polyethylene (LLDPE) futures on the Dalian Commodity Exchange. PVC futures were also recently launched on the exchange.

As my fellow blogger Paul Hodges points out on his blog, Chemicals & The Economy, China is at risk of repeating the mistakes of the West: an unsustainable rise in credit.

The obvious danger, as has been flagged up before, is a sudden collapse in chemicals demand and pricing as inventories are unwound (built up with too-easy) as tougher lending conditions are imposed. This could be an even more dramatic bursting of the current equities and commodity price bubbles if it occurs at the same time as sharp fall in crude (which seems likely if equities are hammered.

Source of picture: gilesbowkett.blogspot.com

The excellent daily energy and shipping report, The Schork Report said today that the bottom had "fallen out of the entire (energy) complex."

With the Bulls on the defensive, the authors believe that crude could retreat towards $60/bbl.

Natural gas markets are so oversupplied that prices in the region of $2/mBTU are possible, it adds.

Back in March, the report offered what I think is the best summary of the denial of fundamentals that's taken over equity and commodity markets recently:

Our concern is this: with each passing session it appears more traders are encouraged to "participate", hence, the market keeps moving higher. That happens enough times and soon you have $100 oil and Matt Simmons all over the tube alleging the Saudis are doctoring their books and that Petrobras and ExxonMobil didn't just find all of that oil in Brazil. Then, just like we saw last spring, when the price path of the market decouples from the fundamentals, perception trumps reality and high prices become the justification for higher prices. All because the
smart money [sic] doesn't want to "miss out".

Since March, August WTI prices on the NYMEX have rallied from $58.07/bbl to a $73.48/bbl high (+26½%).

Despite some recent headlines pointing to tighter oil supply (for example, more civil unrest in Nigeria and US dollar weakness) the energy-market mood has changed.

Until last week greed seemed to be chasing greed. "The market was going higher...and they (the speculators) went on a buying spree because once again, high prices justified high prices," wrote Schork on July 6.

So what began as a bear-market rally ended up as a growing consensus - which perhaps too few dared challenge - that the recovery would be V-shaped. Doesn't this sound an awful lot like the consensus views of decoupling and ever-rising energy costs which prevailed during H1 last year?

What changed last week was a fall in June US consumer confidence and a sharper-than-expected rise in unemployment. The employment-to-population ratio also fell to its worst level since 1984 and average hourly earnings have remained stagnant in two out of the last three months.

An indication of just how far we are away from a consumer-led US recovery is that US gasoline prices fell last week - for the second week in a row. This was the first consecutive weekly decline this year and occurred even though this is the peak driving season.

Chemicals pricing has increased in line with energy costs - as this chart from ICIS pricing shows. Naphtha, ethylene and polyethylene (PE) have been chosen as examples.

View image

Global production cutbacks and delays to Middle East start-ups have also helped sustain a chemicals price rally which began in February.

Efforts are being made to push through further prices rises. European PE and polypropylene producers are, for example, bidding for 10% July increments. These are aimed at recovering higher upstream costs and improving margins.

But the new capacity won't be delayed forever. China's import demand has already started to weaken on anticipation by buyers of extra volumes in H2 and resistance to price hikes.

This is bad news for the US and European producers. They have enjoyed strong exports to Asia in Q1 and during some of the second quarter, which has helped them keep domestic markets tight.

As I said last week, chemicals companies that have continued to manage inventories well during this paper-bottomed boom will be in a better position than those who have been taken in by the markets.

Picture: The China Daily

"I've given up trying to read the polyolefin market in China. I just can't figure out what's going on," said a senior source with a major North American producer late last week.

"I keep returning to the fundamentals and cannot understand why prices have risen so steeply since mid-February."

Him and me both; we are perplexed by statistics which show a rise in domestic polyethylene (PE) production and imports, despite, as my colleague Paul Hodges points out, a sharp in exports of finished goods.

Where is all this stuff going? Into inventories of finished goods, perhaps, as factories are kept running for social reasons?

Paul, on his blog Chemicals & The Economy, says today that there has been a strong correlation between stockmarket strength and rising crude .

Oil is another reason why chemicals pricing in general has gone up by so much.

Now it looks as if equity and oil markets are heading in the other direction.

But as a second source told me by email this morning: "I've stopped worrying about this; I am just making money while it lasts."

Quite, but to return to the North American producer and his theories for these weird numbers, he added the following:

(Anybody else out there - your views as always are more than welcome).

"Dalian (the LLDPE commodity exchange) is now leading the market - i.e. people are pricing off it.

"The Chinese government has apparently also tightened up regulations on scrap imports after concerns were raised over health risks."

The scrap factor could be important as over the past 2-3 years, the steep rise in recycled material has taken around 4-5 percentage points a year off virgin polymer growth.

Also, once polymer prices go past $1,000-1,200/tonne it becomes economic to ship in scrap polymer and convert, according to one source.

Take away this automatic price-capping mechanism and you could have another reason why prices have risen by so much since mid-February - and why production and imports are both up.

Source of Picture : purchasing.com

In his own words, here is how one contact describes the current situation with a couple of extra points added by yours truly (with links)

"We've seen arbitrage close from Europe on polyolefins with no new business since April-May. Some material was delivered in June but this was merely May deals.

"The reason is delays to new capacity and re-stocking. We haven't seen a new PE plant in China for over a year with the next ond due on stream in July-August - Fujian.

There has also been substantial China petrochemical turnaround programme in April-June as our re-launched World Ethylene Plant Report illustrates.

In addition, deep cutbacks were made earlier in the year for market reasons.

"I think the reasons for the project delays have been that EPC (engineering, procurement and construction) resources have been severely overstretched.

"The fall in crude by $10/bbl is clearly also going to have an effect and buying patterns will change as everyone holds back rather than brings forward purchases."

Chemical companies as a whole displayed "dangerously complacent" views about second-half 2009 prospects when they released their Q2 results late last week, argues chemicals analyst Paul Satchell in his blog.

"They believe that demand has bottomed. Although they can't see the upturn yet they believe the worst is definitely behind us," writes Satchell.

"This blog sees this as dangerously complacent, particularly as analysts and investors have returned to a positive stance on the sector."

When you look at the results themselves, the numbers look better but only on a sequential basis (and watch out for some misleading year-on-year numbers in H2 when performances are very likely to be better than the disastrous second half of 2008. A more useful comparison might be with H2 2007).

Most companies reported year-on-year volume declines in the low 20% range - better than reductions of more than 30% in the first quarter of 2009.

Margins were again lower than in the same quarter last year but up on Q1 2009.

In the case of basic upstream petrochemicals, producers have largely been playing catch up with higher crude prices in this year's second quarter.

The overall margin improvements are likely to be the result of stronger returns further down the product chains.

These relatively better downstream performance could well be the result of extraordinary increases in apparent demand for polymers and other commodity chemicals. These have occurred at a time of tight global supply (the result of market-driven deep production cutbacks after the Q4 2008 price collapses and turnarounds).

The true nature of the demand increases is at the heart of the complacency Paul is worried about.

Numbers emerging from China remain counter-intuitive.

In January-May over the same period last year high-density PE (HDPE) general trading was up by more than 130%, even though re-exports were down by 16%.

To repeat yet again, how can this happen while China remains so heavily dependent on exports and the global economy remains weak?

BASF, when it disclosed its Q2 results, said that it expected global chemicals output to fall by 8% this year.

This would mean that by the end of this year, production would be back to 2005 levels.

In other words, the global chemicals industry will have lost three years of growth.

The broad-based chemicals giant is signalled out by Satchell as one of the few companies that has acknowledged the risk of another downturn caused by overcapacities, bankruptcies and growing unemployment.

The end of the bubble in oil and oil-product prices might cause severe problems in H2 this year. This could be before new petrochemical capacities and/or a winding down of speculation in China start directing markets.

"The risk from a potential fall in oil is only being thought about in terms of raw materials pricing. People seem to have already forgotten what triggered the de-stocking from last summer," adds Paul Satchell.

How will this one run?

Source of Picture: chemicals-technology.com

In the 12 years I've been covering the chemicals industry I don't think I have come across a time of such exceptional market muddle.

The traders love it. As a wise man said to me the other day, "When I was a trader I only cared about the price today if I was cashing in and not tomorrow."

But for the producers and buyers there are so many more factors that will shape the outcome of the second half, requiring fortunately for me hopefully some more business for ICIS training (one should always live in hope)

Here is Part 1 of what I plan to try and piece together over the next few months. Let's try and keep cooperating on data and analysis - but at the outset, does this make sense to you?

The Impact of Operating Rates, Plant Closures and New Petrochemical Capacities

Production from existing plants

This will be determined by overconfidence versus realistic confidence in the economy. This comes down to your view on the sustainability of the rebound.

To what extent have operating rate and inventory-management lessons been learnt from the oil collapse of H2 last year?

How are imminent new capacities affecting the behaviour of producers and buyers? In the first half, the tightness in some markets (for example, PP and PE) was partly the result of producers and buyers maintaining low stock levels because they expected new-capacity start-ups that didn't happen. To what degree has this experience made them less cautious?

It might be helpful to analyse Q2 chemical company results to get a feel for what production levels might be for the rest of this year.

Do the numbers add up and do the content and tone of what's been said sufficiently take into account all the risks? (Note: there are some individual company numbers on plans for overall average operating rates in H2).

The pace of permanent shutdowns in the West to reduce domestic oversupply and weaker exports positions also needs to be tracked.

Last year sudden decisions to temporarily or permanently close whole complexes - which were not necessarily entirely loss making - were forced on companies.

This was the result of the collapse in oil, the credit crisis and steep falls in demand.

To use PP as an example again, 500,000 tonne/year of US capacity-closure announcements were made in 2008 to take effect in the first half of this year.

Oversupply is still big: US PP consumption totalled just above 7m tonnes in 2008, 8% lower than the previous year with capacity still at 9.4m tonnes. So far this year (as of July) there have been no further announcements of closures.

Further factors affecting the pace of permanent closures could be divestments.

Trade buyers for distressed Western assets now seem much more likely than further private equity players and so attitudes to running marginal, or clearly uneconomic, plants might be different.

You also have to take into account environmental clean-up costs and regulations - and contractual and labour commitments.

And next: How will petchem operating rates be affected by refinery economics?

Dealing with the US refineries first:

How will refinery economics affect availability of PP and aromatics in H2? In the first half we saw a big increase in shipments from the US to Asia due to the global rate cuts, production problems in the Middle East, the peak of the Asian refinery and petrochemical turnaround seasons between April-June and the unexpectedly strong Chinese demand.

But since May/June, PP arbitrage from the US has closed on lower refinery operating rates resulting from weak gasoline demand. Benzene trade flows seem to have also reversed - in July we have heard of cargoes moving from Asia to the US, whereas in H1 there were record-high shipments the other way.

What's the outlook for gasoline, middle distillate etc demand for the rest of the year? (gasoline and middle distillate stocks are high on speculation and weak demand)

Some of the same questions need to be asked about Europe with a few
important differences, which are:

*Europe is a major exporter of gasoline to the US and so the price and availability of naphtha, and therefore petchem economics, will also be affected by US demand for the fuel

*Fuel demand in Europe is heavily weighted towards diesel and how will the European economies perform in H2 and what affect will this have on demand for gasoline, more importantly diesel, and how the refineries run? (Note: most propylene in Europe is produced from steam crackers because of the lower gasoline demand. But there is still a big link as naphtha is the main steam cracking feedstock in Europe).

I don't follow currency or shipping and other logistics markets, but these are obviously also critical factors.

Next question: How will the new petrochemical capacities run?

It's worth considering that there could be many more start-up delays, and
problems with operating new plants already on-stream, because resources were so stretched when these projects were planned and they remain stretched.

There is a shortage of engineers with the right levels of experience. Many of the projects were also planned when raw material, equipment and other costs were sky-high.

Budgets were stretched and so choices had to be made - for example, "Do I focus on my PE debottlenecking using ethylene from my new cracker or do I prioritise starting up the cracker and its new plants on time?"

Another problem is "project bunching". There seem to have been attempts to start up too many projects at the same time, further stretching already-scarce resources (a few years ago there was a lot of fevered excitement over the global economy. There was a rush to take advantage of financing while it was available in order to cash in on this growth and to maintain economies of scale).

There is, reportedly, a lack of the right kind of experience. Even companies with long track records in petrochemicals are confronting start-ups of projects bigger in scale and more complex than ever before.

Source of picture: oxo.typepad.com

Leaving China aside for a change - where the speculative frenzy continues apace -Paul Satchell, chemicals analyst, has a four-step measure for assessing whether the US and Europe are really out of the woods.

"Purchasing behaviour is strongly influenced by a customer's confidence, and, in the current context, four distinct phases could usefully be examined," he writes on his blog.

These are:

1. Normal buying patterns - annual/quarterly indications and regular (say, weekly) off-takes
2. De-stocking by customers - sharp reduction of off-takes, well below indications
3. 'Hand-to-mouth' purchasing - small quantities to satisfy immediate needs (indicator of low stock levels and weak confidence)
4. Gradual return to normal buying patterns as in 1.

"We expect that many chemicals manufacturers have experienced at least stages 1, 2 and possibly 3 since mid-2008. A move by major customers into stage 4 would give producers confidence to return capacity from idling.

Only when normal purchasing behaviour becomes commonplace, accompanied by reasonable volume trends, will we be confident that a recovery is soundly-based."

Who is going to be the first to put his or her head above the parapet?

If you are a chief financial officer who has just spent months explaining away how you lost your company so much money in Q4, do you really want to take that risk?

It seems ironic that in the crazy scramble to protect itself from the consequences of the US collapse of the US debt-growth model, China has headed down the same path.

As my fellow blogger Paul Hodges pointed out last Friday, official concerns over the bubbles in equity and property markets are increasing.

Zhang Jianguo, president of the 2nd largest bank, China Construction, has announced a 70% cut in H2 lending to Rmb 200bn ($29bn), "to avert a surge in bad debt".

What's also alarming is that the government is getting increasingly alarmed that too much lending has gone into speculation rather than where it's supposed to go - investment in infrastructure.

This again raises the danger that chemical companies have made unrealistic assumptions about underlying demand.

And this article, by Chen Changhua writing in the Chinese newspaper, Cajing, includes the following point:

"How quickly a country can recover from an economic slump is determined by the productivity of the country. Japan has not been able to recover from the 1990s slump mainly because there are not enough competitive new-generation enterprises to replace old enterprises. "

He warns the same fate could befall China unless the state-owned enterprises, the beneficiaries of much of the huge amounts of new lending, face tougher competition from the private sector.

Never underestimate the power of vested interests.

What would would the great man have thought?

Source of picture: Newham Council, the UK

Four of the things my dear late father taught me were:

*Never vote for the British Conservative Party

*Keep believing in the common good of humanity in the face of all the evidence to the contrary

I plan to teach my son the same.

These words came back to me when a friend described the excitement of his colleagues when their company was unionised.

"It's great, isn't it? Think of the shopping benefits."

Take it way, Billy.

Go find the young men never to fight again
Bring up the banners from the days gone by
Sweet moderation
Heart of this nation
Desert us not, we are
Between the wars."

Confidence along all the chemicals value chains is always a key issue because of the ability to aggressively manage inventories, according to the London-based chemicals analyst Paul Satchell.

So there's the ever-present risk of sudden and very disruptive de-stocking. The longer the current rallies in commodity prices and stock markets continue, the greater might be the risk that confidence becomes excessive and mistakes made last year are repeated.

If the events of last year have taught is anything it's that markets don't behave rationally.

Those who arrive late for the party just as the punch bowl is taken away might suffer the most - along with those who've been there for a while but don't make an exit before the bar closes.

Inventory rebuilding
There's plenty of evidence of inventory building in Asia which might not always in response to strong underlying demand. For example:

*Polyethylene (PE) inventories in China at the second and third distributor levels were at very high levels in June, according to one industry report. Polypropylene (PP) inventories were, however, at normal levels.

*Benzene, toluene and monoethylene glycol (MEG) inventories were said by several sources to be also very high in July. Hydro-dealkylation (HDA) and toluene disproportionation (TDP) operating rates were also reported to have been raised - a long with benzene production from coal-based steel plants. Strong overall reformer economics, up until the end of the first half of August, could have lead wrong decisions on production levels

Polyester operating rates were said to be on the rise from H2 July as producers tapped into ample bank lending in order to increase rates. This was on the assumption that the September buying season for textiles and garments would be strong, leading to a big improvement in exports. The next Canton Trade Fair will also be a major indicator (the textile and garments phase of the fair takes place between 31 October-4 November). But there are already signs of improvement: The textile and garment industry exported $14bn goods in June, up 13% from the previous month, said the National Development and Reform Commission. But this was still 10% down on a year ago.

A big influence on confidence will be whether China can be successful in taking the air out of its current real-estate and stock market bubbles.

Supply of new loans in July dropped to $52bn from $197.5b in June - a 77% reduction.

(China might not want to do anything more to spoil the mood of the party before the 60th anniversary of the Revolution, which takes place on the 1 October).

But this bubble has yet to reach the scale of the last one which went pop in October 2007.

At its peak so far this year the Shanghai Composite Index has traded at 3.8 times its book value, barely half the 7.2 book multiple in October 2007, according to the Financial Times newspaper.

There's also plenty of caution
The inventory building we talked about earlier only applies to China and traders in just about every commodity everywhere in the world.

Chemicals companies outside China seem to be exercising extreme caution because of the huge inventory losses incurred in Q4 last year.

"Inventories are being kept low because there is very little visibility down the value chains," said a UK-based chemicals consultant.

"The credit crunch means that it remains difficult to finance inventories.

"Chief financial officers have just spent months explaining away large inventory losses from the fourth quarter. They are unwilling from a career point of view to risk having to go through the same performance again. "

The focus is cost control with market share taking second place.

As one Asian industry source put it: "Sixty per cent of our focus used to be winning on business in a broad range of markets and 40% on cost efficiency; now these percentages have been reversed and we would rather lose sales than break our tighter budgets."

The same applies to operating rates. US and Europe have maintained deep operating rate cuts - and have idled or permanently closed many plants - with the Northeast Asians also said to be showing very good discipline at the cracker level.

Middle Eastern players were in contrast reported to be running flat out in August following production problems in H1. These prevented them from taking full advantage of strong Chinese import demand.

The main focus in polyolefins is on selecting which grades to be produced based on pure economics rather than, again, on winning or maintaining market share.

But will this type of caution be enough to prevent a sudden reversal in petrochemical pricing?

The Oil Factor
The big danger is that any retreat could be driven by an unwinding of heavy speculation in crude.

At the moment the market remains in full-carry contango, meaning the combined cost of storage and borrowing (the full-carry cost) is below the futures price.

If this changes - or quite simply storage space runs out - there could be a sudden stampede for the exit.

What seemed counter-intuitive is that oil prices were at mid-August levels when estimates of demand kept falling.

This is unless you accepted that the oil market was again being speculator-driven.
Petroleum demand would be 1.8m barrels of oil per day lower than it had forecast in June, said oil, gas and refining consultancy Purvin & Gertz.
OPEC said in a report in August that the "market remains fundamentally weak". And it noted that US consumption is "still showing a massive reduction."

Could it all happen at the same?
This big worry is that Chinese growth could fall on less economic stimulus as oil prices collapse and much-delayed new Middle East petrochemical capacity hits the markets.

China is also due to start-up several major cracker projects in the second half of this year.

But the first half of this year was far better than anyone dared to expect. There was a strong recovery in petrochemical pricing with some reasonable spreads at the polyethylene end of the chain as this chart shows (the same applied to PP)

View image

Let's just hope that the traders in all the commodities, including chemicals, don't spoil the recovery before real demand has the chance to catch up with the improved confidence.

Garbage out, garbage in

Source of Picture: The Daily Telegraph

Here goes for the second part of this series.

Is there anybody out there who can help?

How will the ongoing availability of recycled material affect the pricing power of virgin resins? (We have the data to show that imports of scrap polyethylene (PE) and polypropylene (PP) fell in Nov-Feb, but have since heard anecdotal evidence that they have increased again. If so why?

Questions worth asking on recycling:
a.) Has there been a recovery in availability of recycled material? If so why? Is this because of stronger demand in the West for durable consumer goods wrapped in plastics, which are recycled and sent back to China?
b.) And/or is this the result of the rise in virgin resins since March. Has this resulted in a much harder global search for and new sourcing of the scrap material that is available?
c.) And/or has there been a relaxation in the govt regulations covering recycled material that's made imports easier?
d.) If recycled material is now more readily available, has this set a new pricing cap on virgin resins? At what price is it now economic for converters to switch to recycled material?
e.) Has the rise in virgin resins also led to more fillers being used again?
f.) What's the current state of distribution networks for recycled material? We have heard that lots of traders in recycled material went bust during the big price collapse last year as they were left holding high stocks of material that was more expensive than virgin resin. We also understand that remaining traders in recycled material were interested in trading in virgin plastics in Jan-May because the profits were greater. A further factor to consider might be that the Dalian Commodity Exchange (where linear-low density PE and polyvinyl chloride futures are traded - see later notes) is a lot quicker and less risky way of making money than trading in scrap. This might have also hampered the rebuilding of the scrap-supplier network
g.) We have focused on China. Is recycling also a major issue outside China?

All the questions above could equally apply to some of the other polymers. PS is hard to recycle, but what about the impact on, say, PET resin water bottles? We are not sure if this has even been economic, but could this be a factor behind the lack of an automatic recycling price cap down the fibres chain - or any other chains for that matter?

Source of Picture: ChinaMonthlyReview.Org

Polyester operating rates in China have started to rise on anticipation that the global economic recovery has arrived, according to Leonard DeGuzman, chemicals consultant with DeWitt & Co.

Is this another example of a dangerous price bubble or further proof that we are really emerging from the woods?

"The impact of more plentiful lending only started to affect polyester markets from the second half of July when the synthetic fibre makers started tapping into extra credit lines," he said.

"It's the result of greater confidence that textile and garment exports to the West will rise because the economic recovery is really here."

Polyolefin resin converters have been taking advantage of the huge increase in bank loans since as early as the first quarter.

But their polyester counterparts have displayed more caution because of the textile and garment industry's bigger export dependence.

"You have to realise that it's not just clothing exports that have been affected. Non-apparel going into automobiles and housing have also been hit hard," said DeGuzman.

He warned that the poly-condensation players have yet to see any actual improvement in demand.

"They are just making the assumption that the next big order season from the West for textiles and garments, which begins in September, will be much better than in the spring season."

Another key measure will be the third phase of the next Canton Trade Fair, which includes textiles and garments. This takes place between 31 October and 4 November.

The recovery in pricing and confidence in upstream markets arrived a long time ago.

Benzene was trading at or below naphtha on several occasions late last year.

But prices soared to a ten-week high of $900/tonne FOB (free on board) Korea for the week ending 7 August, according to ICIS pricing - a $55/tonne increase. Naphtha was at $651-652/tonne CFR (cost and freight) Japan.

Overall, reformer margins looked very healthy with toluene at $905-915/tonne FOB Korea and mixed xylenes (MX) at $835-837/tonne FOB Korea.

"Target spreads are $150-180 and so this is a very good position," said DeGuzman.

"This is generally true when crude remains under $100/bbl. When WTI surpassed the $100/bbl mark, reformers expanded their target spreads to $200-220/tonne. They grew as high as $250-270/tonne when oil was above $130/bbl."

The rebound goes back to the deep refinery operating rate cutbacks in China in the fourth quarter of last year, which left the country short of benzene.

Imports, as a result, soared to approximately 507,933 tonnes in January-June compared with 327,982 tonnes for the whole of 2008, according to DeWitt.

Where is it all going? Could a substantial amount have gone into speculation and inventories given that the styrenics and phenol chains have been weak?

The phenol chain had improved in early August, however, although later fell back again on weaker crude prices, said DeGuzman.

"Total benzene inventories in China were at 43,500 tonnes in July which is considered extremely high," he said.

"At above 38,000 tonnes local producers started discounting ex-factory prices in order to move material. Prices start increasing when stocks are at 15,000-23,000 tonnes."

But as of the week starting 10 August, DeGuzman said that inventories had fallen to a "snug" level of 25,000 tonnes."

This is another example of persistently high levels of volatility and uncertainty, making operating rate and inventory mistakes all too easy.

A clear sign that confidence in benzene is high is that pricing is closely tracking crude, he said.

Hydrodealkylation and toluene disproportion units are running flat out in Asia, DeGuzman added.

China's economic recovery has also led to a big rise in coal-based benzene output - a co-product of steel production.

"Operating rates at the coal-based plants were 50-70% in March, but in May rose to 80-85%.

"Logistics have also improved because it's the summer season, making benzene buyers more willing to off-take from the steel producers."

Toluene inventories totalled around 95,000-100,000 tonnes in May and in June were at 90-95,000 tonnes.

At the beginning of August, however, they had fallen to 65,000 tonnes and last week to 53,000 tonnes. Normal inventories are 40,000 tonnes.

The drawdown could be because China's refineries are running harder on the July increases in domestic gasoline and diesel prices.

Moving back down the chain, the overall spreads between mixed MX and paraxylene (PX) look healthy

PX supply has also been tight on several delayed start-ups in China.

Japanese producers have been reluctant to raise PX rates on what they say are poor economics with availability from Japan further constrained by outages, said DeGuzman.

Purified terephthalic acid (PTA) producers seem to have had little trouble absorbing the cost push from PX.

PTA prices were $1,120-1,130/tonne CFR (cost and freight) China on 7 August, a $10/tonne increase over the previous week. Four weeks earlier they were at $1,085-1,095//tonne CFR China.

But, to repeat - what is the extent of the actual improvement in synthetic fibres demand?

There are genuine reasons to be a lot more cheerful than a few months ago.

Chinese manufacturers in general are seeing stronger orders from the West as global oil prices and stock markets remain infused with optimism.

But export improvements are on month-on-month bases.

The textile and garment industry, for example, exported $14bn goods in June, up 13% from the previous month but 10% down on a year ago, said the National Development and Reform Commission.

Positive comparisons are also being drawn with 2006.

This was before capacity in many product chains was ramped up in expectation that 2007 to first half 2008 demand-growth levels would be maintained; synthetic fibres were no exception to this.

The longer the commodity-price rallies continue the harder the potential hard landing.

Source of Picture: www.autospies.com

Not an easy answer and not one much suited to a few paragraphs of blogging.

But here's one thought as the competitive environment becomes a great deal more difficult due to new Middle East capacity and the potential for China to move towards self-sufficiency in polyethylene and polypropylene: Have a chat with one of those poor old European refiners facing big naphtha surpluses.

Perhaps the refiners will be willing to do deals on long-term offtake deals at very preferential rates in order to keep operating. While gasoline might be falling in value in Europe for both local consumption and exports, diesel certainly isn't.

The Canton Trade Fair

Source of picture: Blawg.lehman.com

This interesting article from Bloomberg says that while petrochemical output in China rose in August, textile production actually contracted.

We don't as yet have any breakdown for specific petrochemicals.

If the overall increase includes higher aromatics-to-synthetic fibres output then the gamble that the chain has taken on improved sales of textiles and garments will have so far failed to pay off.

As we discussed earlier on this blog, there is evidence of higher output down the entire synthetic fibres chain.

A key measure of improvement in exports to the West of textiles and garments will be the next Canton Trade Fair which takes place in October-November.

Deep in the heart of the great wealth gap

Source of picture: Blogmlive.com

....the more convincing seems to be the argument that financial and commodity markets have got way ahead of the recovery in the real economy.

Take a recent Credit Suisse report, for instance.

Its analysis of monthly apparent demand in China, up until June, for a few key commodities such as polyethylene (PE), asphalt, copper and iron ore show that they were above underlying real demand.

Are we about to be undone by what has undone is so often before, and as recently of course as Q4 last year?

By this I mean the banks and the speculators. Public money, used to bail out the banks, is being poured into oil and gas speculation, creating dangerous bubbles.

And to repeat yet again, there's all the hot money deceiving us over China. In this case its through state-owned banks which have been instructed to attempt to compensate for the mess made by Western lenders.

China, and indeed the rest of Asia, is busy trying to remake much of its economy in order to be less reliant on export trade which saw unsustainable growth.

The problem for the average worker in the US and Europe is that salaries have been stagnating, or even declining, in inflation-adjusted terms due to the great drift of manufacturing east.

Combine this with the loss of perceived wealth caused by recent harmful financial "innovation" (I'd say that's too flattering a word to use. How about manipulation or fraud now being paid for by the tax payer?), and real demand could take many years to recover to 2004-07 levels.

This article from the UK's Guardian newspaper asks whether we have learned anything from the financial crisis.

A new report from the United Nations Conference on Trade and Development (Unctad), referred to in the same article, concludes that we haven't.

"All these rises in markets are said to reflect economic recovery but it is just another bubble," Heiner Flassbeck, Unctad's chief economist, told the Guardian. "These markets are reflecting a recovery that is not there. Wage deflation is a huge danger everywhere and this is not being recognised.

"Banks have been rescued by the taxpayer and are just returning to casino-style speculation that brought us trouble in the first place. We need to focus banking on supporting investment in productive businesses."

This reminds me of a trip through rural Texas I made in March last year. No luxury condos, country-club memberships and multi-million dollar bonuses were evident there.

The US back-to-school buying season

Source of Picture: theglobeandmail.com

As regular readers will remember, last Friday I linked through to this article from the New York Times on the likelihood of a disappointing back-to-school sales season in the US.

I had promised some more thoughts on this article and so here goes....

......This is a sign of the belt-tightening in the US and Europe resulting from the long-term shift in consumer behaviour - as discussed before on this blog - which will lead to:

*Greater dominance of low-priced retailers such as Wal-Mart, which has started selling a Toshiba laptop for just $348. More outsourcing to the developing world seems inevitable as cost pressures increase. The squeeze will work its way up to marginally cost-efficient chemical and polymer producers

*A rise in protectionism: Western manufacturers are likely to respond with more anti-dumping petitions - and perhaps an increase in ex-WTO measures such as complaints over labour and environmental standards. If a cap-and-trade bill is passed in the US we could also see carbon-import taxes for imports from those countries with no comparable systems. Such measures can be politically popular

And what does a 17-inch laptop for $348 mean for innovation in the chemicals industry? Are companies going to bother with expensive R&D?

But to cut back on R&D would show a lack of vision by any company that cannot compete in pure commodities.

More rather than less differentiation is likely to be the key for survival as chemicals and polymers with marginal "added value" will face tougher scrutiny from buyers.

Source of picture: rateyourmusic.com

...steal a lot and they make you a King," wrote the great Bob Dylan in A Sweetheart Like You on his great 1980s album, Infidels.

This seems appropriatea as we commemorate exactly 12 months to the day since the West's financial system imploded.

Obama is talking tough on new regulations - and I am sure he sincerely means it - but Wall Street seems to control the overall Washington agenda.

Why does it matter for the chemicals industry? Because the distortions in energy, other commodity and equity markets are creating a false impression for the industry.

As the president says: "It is neither right nor responsible after you've recovered with the help of your government to shirk your obligation to the goal of wider recovery, a more stable system and a more broadly-shared prosperity."

Hear, hear.

Source of picture: millermmccune.com

How quickly is China shifting its economy away from exports towards stronger domestic consumption?

The answer to this question is, of course, critical to the global chemicals industry.

On the surface it looks good: Retail sales grew by 16.6% in the first half of 2009 and by a slightly more modest 15.4% in the year-to-date.

The problem is how retail sales are calculated as they include government purchases and shipments to retailers before any sales to actual consumers (could these healthy figures include, therefore, lots of unsold washing machines, fridges etc? China's government has introduced a huge subsidy scheme aimed at encouraging rural residents to buy more white goods, but is unsure of its success).

Michael Pettis - on his always-pessimistic China Financial Markets blog - believes this leaves retail sales as a poor proxy for overall consumption.

He quotes Jim Walker's 14 September issue of Asianonomics, where Walker points out that retail sales have grown at 13-24% over the last six years - well in excess of the increases in GDP (gross domestic product).

Real consumption has, in fact, being growing at only 8-9% over the past few years, concludes Pettis.

This would mean consumption as an arithmetical share of GDP has fallen as GDP has been expanding by 10-12% per year.

A lot of money is going into investment in more surplus capacity, much of which might be inefficient because of the low cost of capital, he warns.

Consumers are subsidising lending costs through low-wage growth and low deposit rates, he adds.

Low-wage growth is obviously no good for encouraging greater, genuine domestic spending.

But low deposit rates versus better returns on local equities and the property market have been partly behind the recent booms in both.

Pettis is gloomy about the long-term ability of China's government to re-balance growth.

The Chinese Economic Quartely's view, however, is "worry - but don't kill yourself" over the pace of and extent to which re-balancing will occur.

Temporary setbacks are possible, but the CEQ believes the government has the financial muscle to get there.

China never gets any easier.

Forget supply and demand, just record the index cards....

Source of picture: Heatusa.com

This amateur pundit is beginning to think he got it very wrong.

"I've been thinking the same thing - I was as gloomy as you a few months ago," said an oil-and-gas consultant friend of mine this morning.

"The Singapore property market is close to its all-time highs of 1997.

"The consumer-confidence indices have seen a complete about-turn from 12 months ago.

"Could the improved sentiment itself result in this being a U rather than a W-shaped recovery?"

"Maybe the Chinese government will continue spending as much as it can to stimulate the economy as a hedge against the US dollars.

"Why buy more Treasuries when dollar weakness seems to be a long-term factor with the risk that the dollar might also be replaced as the reserve currency?

"It could well be in China's longer-term interests to keep investing heavily in moving the economy from an export to a domestic focus.

"This will need to involve winding down policies that have provided temporary relief from the global crisis (i.e. huge increases in bank lending and other stimulus policies) in favour of reforms that will boost the pace of genuine, underlying consumption growth.

"These need to include better healthcare and pension systems, financial sector liberalisation and deregulation of distribution and logistics."

"It seems amazing that only a year ago we were talking about something as bad the Great Depression of the 1930s.

"Perhaps the problem is that we've been looking too much at fundamentals - at supply and demand from oil down to finished goods.

"The focus instead should perhaps have been on international capital flows.

"We need to more carefully study how money flows between borders and between different equitiy markets, commodity futures markets and over-the-counter (OTC) trading,"

Here are my views...

Electronic trading systems have revolutionised the speed of capital flows.

The IntercontinentalExchange website, for example, says that transactions on its wide and ever-expanding range of markets each take only two milliseconds.

You have dollar and oil markets sitting on the same exchange. Movements in both markets are presented in real time.

Has this contributed to the correlation between a weaker dollar and higher crude prices -along with the rise of index funds linking the two?

Energy prices have been virtually divorced from stock levels since 2003 and so recent historic-high storage of oil, refined products and natural gas is nothing new.

The current bull-run in crude might well last until real demand catches up.

It seems unlikely that interest rates will rise before then. The US government will want to avoid banks - which are benefiting from public fundingand less competition - in trouble again.

Ironic, isn't it? Bail-out money is being used to make more bets. The bigger the bets the less the risk for a financial institution.

And maybe even the speculators have done us a favour by pricing in future tight supply now.

An issue for chemicals companies is controlling their production and stock levels to reflect the genuine needs of their customers.

The task of separating market froth real and immediate demand would surely benefit from some harder thinking.

MOVING IN THE RIGHT DIRECTION (SORRY, OUCH....!)

Source of Picture: www.autospies.com

The automobile industry in the West has been bought more time by economic stimulus, as this article in The Economist points out.

But some of the discussions at the Frankfurt International Motor Show, which takes place on 15-27 September, will be about the future of the industry over the next few decades.

Producers face big economic, demographic and fuel-efficiency challenges - and capacity is way ahead of current and projected demand. (separate leader from The Economist with some more useful numbers).

So what might this mean for the polymer industry? Here are a few thoughts:

*Demand for smaller cars will increase. Automakers will need to focus on either ferocious cost cutting and/or adding more sophisticated features if they want to achieve anywhere near the same returns for these smaller vehicles compared with big, luxury lines

*This creates a big opportunity for innovation through both lighter plastics (with stricter fuel-efficiency regulations another motive) and plastics which deliver other design benefits. Added value will no longer be defined by a little bit of extra customer service and the odd clever additive. Breakthrough products will be needed

*Feedstock-advantaged producers will be in an even stronger position to meet what commodity-polymer demand remains

*The Western polymer industry's own cost-cutting will have to be accelerated in the search for higher R&D funding, and as auto plants close down (since this recession started, there have been no closures in Europe, according to The Economist). Those with their own advantaged-feedstock positions in the Middle East and/or strong footholds in China will be in a better position to generate enough revenues

*The decline in US and European gasoline demand might lead to short-term feedstock advantages as the value of light-ends declines. Longer term, though, refineries will be shut down - potentially pulling the proverbial rug from beneath even those polymer producers with the right technologies (Note: Western gasoline demand is expected to keep falling after the economic crisis is over on tougher fuel-efficiency regulations and ageing populations, etc)

Source of picture: zerohedge.blogspot.com

It might seem a little melodramatic (and it's a wonderfully melodramatic name), but what kind of threat do dark pools - and other off-exchange trading mechanisms - present to all our livelihoods?

You can see that the World Federation of Exchanges might have a financial motive in making their complaint to the G20 over the threat these mechanisms represent to their "macro-economic role".

But after the role that the shadow banking system played in the financial crisis you have to be worried.

The $64,000 dollar question has to be how you regulate dark pools etc.

And for the sake of melodrama: Unseen forces, unaccountable and anonymous, might start determining all our livelihoods.

Sudden and entirely unpredictable shifts in global commodity markets could push countries into financial ruin and even wars.

At least in the case of the exchanges, because pricing is transparent, you can challenge the logic of say the futures price of oil being way out of step with supply and demand fundamentals.

But the problem with these dark pools etc is that you won't have a clue on what might happen until it hits you.

SWIMMING IN OIL?

Source of Picture: fashionfunky.com

The threat posed by Iran test-firing its Shahab-3 missiles and a rally in US equities on increased M& activity in the drug and technology industries pushed crude slightly higher yesterday after last week's steep declines.

This is yet further evidence that the oil market is why out of sync with real demand for the black stuff and just about all its derivatives.

"July's Vehicle Miles Travelled (VMT) figures were released last week, with total miles driven clocking in at 263.4 billion miles, up 2.3% from July 2008," writes today's Schork Report, the daily online data and analysis service for energy and shipping markets.

"That is a solid increase but keep in mind: Gasoline prices have decreased by 38% since last year.

"Further, July 2008's VMT figure was 3.5% lower than July 2007. Therefore, this year's 'increase' was 1.3% below 2007 and 0.5% below the 2003-07 time-step, thereby continuing a steady VMT decline."

This is more evidence that we are miles away (excuse the pun) from the credit-fuelled demand levels of 2003-07 for everything from barrels of oil and gigajoules of natural gas to synthetic dog coats.

Chemicals demand in the UK might not return to pre-recession levels until as late as 2020, Oxford Economics has warned.

But don't bet against speculators pushing crude prices back up again, especially if conflict breaks out with Iran over the missile testing and the alleged development of nuclear-weapons capability.

This is despite weak demand, as the Schork Report has pointed out, and deeply oversupplied crude and crude products markets.

Such is the oversupply that even a disruption in Iranian production (Iran is the world's fourth-largest producer) might not make much of a difference, assuming that the conflict doesn't spread to elsewhere in the Middle East.

"Saudi Arabia was running just about flat out in 2007. Now it has 6m barrels a day of spare capacity," said an oil industry observer last week. 

Recent falls in gasoline mean that its pricing could be close to "meltdown", according to this report from Bloomberg.

And as my fellow blogger Paul Hodges pointed out last week, the historically high amount of oil in floating storage is now being delivered to refiners due to a narrowing of the contango.

So I am with those who believe we are heading for $45 a barrel before the end of this year. 

Still, a two-way bet might be advisable - just in case there is another rally.

.....said Mervyn King, governor of the Bank of England

Source of picture: northbriton45blogspot.com

ANY excitement over US house-price figures for July - which showed the biggest monthly gain for years when they were released yesterday - has to be put into the kind of context that undermines a lot of recent positive economic numbers.

The price recovery is partly the result of the $8,000 tax credit for first-time buyers and the Federal Reserve buying mortgage-backed securities. The tax credit expires at the end of November.

Inventory of unsold homes is at its lowest level in more than two years, according to The National Association of Realtors.

But there's a "shadow inventory" of delinquent or foreclosed mortgages of some 7m houses, according to Amherst Securities.

This matters to the global chemicals industry because of the large amount of chemicals and polymers which go into your average US home.

More importantly, without the return of some kind of "wealth effect" (this still seems a long way off in real-estate as the S&P Case Shiller Index is still 30% below its 2006 peak) it's hard to see a sustained rebound in US consumer spending.

"It's the level, stupid - it's not the growth rates. It's the levels that matter here," Mervyn King, governor of the Bank of England, was quoted as saying last month.

Levels to be concerned about include western consumer indebtedness that is still too-high relative to income expectations and credit availability, wrote Mohamed El-Erian in the FT yesterday. He is chief executive and co-chief investment officer of Pimco.

Bank balance sheets are also still too geared for the comfort of regulators and the managers of the banks, he added.

As my colleague Nigel Davis saidthis Insight article from ICIS news, real levels of lending to businesses, especially the small -and medium-sized ones, remain constrained.

Unemployment has also risen well beyond expectations and it will take years for the jobless rate in the US to return to its natural rate, El-Erian continued.

Yesterday I quoted the excellent Schork Report which put into context some more supposedly encouraging statistics: July's Vehicle Miles Travelled (VMT) figures were released last week, showing a 2.3% increase from July 2008.

But as the authors pointed out: "The July number was still down by 3.5% compared with July 2007."

This was a year when demand for just about everything under the sun was at historic highs.

Further - the modest improvement in July 2009 happened after a 38% year-on-year fall in gasoline prices.

Growth in urban VMT was less than that for rural travel, according to the latest statistics.

Urban driving is seen a stronger indicator of overall economic health as it includes travel work.

Unemployment was therefore a threat to the "nascent recovery", added the Schork Report.

The US Conference Board's latest index of consumer confidence, which was also released yesterday, seemed to support the Schork view: The index slid to 53.1 in September from 54.5% in August.

How should chemical companies respond to these challenges?

There will be more on this, and the implications for Asia, over the coming days and weeks.

Source of picture: Time.com

Yesterday I talked about lack of willingness by western banks to lend money because their focus was on rebuilding reserves.

But Steven Major, Global Head of HSBC's Fixed Income Strategy Team, puts a different spin on the problem.

In the Fragile Recovery video from the Financial Times' View From The Markets section, he said banks would dearly love to be earning 8-10% from loans rather than the paltry interest rates on leaving cash in reserves or on low-yield government bonds.

The demand for loans simply wasn't there because the "real economy" had yet to recover to the extent of financial markets, he added.

Stock markets have long been lead indicators, pricing in recoveries before they reach consumers and companies. The same has also become the case with energy markets where price discovery is now driven by futures contracts.

Equities had already priced in strong growth in consumption and company profitability in 2010-11, Major said.

Neither, of course, is guaranteed - meaning that investors entering markets now "are not being paid for the risk", he continued.

The same is true for oil, but fundamentals are set to catch up very soon with a dip to $45 a barrel on the cards before the end of the year.

Here are a couple of questions anybody attending this weekend's European Petrochemical Industry Association (EPCA) meeting in Berlin might want to put to chief executive and chief financial officers etc:

*How much of your recovery over the last few months has been the result of cost-cutting and restocking?

*When both come to an end (and this may well have already happened for restocking) how confident are you on a scale of 1-10 that you'll be able to continue delivering quarter-on-quarter improvements in 2010-11? In other words, can you grow volumes?

The answers could be very telling.

Britain's last generational shift: The 1980s Miners Strike:

Source of picture: www.wsws.org

My late parents hated even the concept of debt - let alone the insanely irresponsible error of actually borrowing money.

This is not surprising as my father could remember, when he was a boy, queuing for free food handouts during the Great Depression.

My mother was slightly less poor when she was a child (but still poor by any normal Western modern-day standards), but believed in thrift just as fervently.

Their attitudes were shaped both by the Great Depression and the deprivations of Great Britain during and immediately after the Second World War.

So when I ran up an overdraft of few hundred pounds Sterling when I was student they were less-than-impressed - especially as the bank manager phoned to ask for my cheque book and cheque-guarantee card back!

Their approach to debt, aside from an expensive passion for beer when I was a student, is ingrained.

Despite my fascination with commodity and financial markets, I would rather observe from the sidelines.

The question now - as the West still struggles to cope with high levels of personal debt left over from the current crisis - is whether we have undergone another generational shift.

Quite possibly, thinks Paul Hodges of International eChem.

A whole generation has grown up with easy and cheap money being the norm and markets and assets only heading, on the whole, in one direction - that's up, of course.

In Britain, the last big shift in attitudes to debt and spending began back in the 1980s with the Thatcher revolution.

Millions of council tenants started buying homes for the first time and dabbling in shares, as the very nature of British society moved away from collectivism towards a greater "me" culture.

Financial deregulation also took place on both sides of the Atlantic and bubbles were kept inflated by central banks.

The rest, as we know, is very painful recent history.

How will the children of parents now facing foreclosures, personal bankruptcies and long-term unemployment respond over the coming decades? Will they start keeping their money beneath the proverbial mattress?

Can we also expect a permanent shift to more prudent forms of banking?

What will this mean for growth in chemicals demand?

"THIS IS RIDICULOUS. I WAS SITTING AROUND UNSOLD FOR MONTHS AND THEN WAS FORCED TO JOIN A SANTA FLEET-HIRE SCHEME. HOW HUMILIATING"

Source of picture: www.diytrade.com

BEWARE the prophets of recovery in exports of Chinese manufactured goods during the current Christmas buying season.

Labour markets in the key export-processing provinces, such as Guangdong, are reported to be tight as production of everything from I-Pods to Barbie Dolls is ramped up.

It would be easy to misinterpret this as a recovery in Western demand, but how can this be when the real economic news remains bleak?

On a month-on-month basis there is bound to be an improvement because, of course, this is the Christmas buying season for the big retailers.

And any comparison with sales to the retailers in October-November is bound to look pretty stellar compared with the exceptionally bad same two months in 2008.

But will the retailers overstock only to find Western shoppers less-than-eager to empty the shelves? (Is this is a bigger-than-usual incentive to wait for the traditional January sales?).

And/or will too gung-ho manufactures in China be left with high inventories?

There have been plenty of extra incentives to import raw materials, including polymers and chemicals, to make finished goods in 2009 - from easy credit to increases in export-tax rebates.

This has contributed to the very high import volumes we've seen across a broad range of chemicals and polymers for the last 7-8 months.

China is in danger of only growing one export, therefore: Deflation.

Offsetting the risk of being over-optimistic?

Source of picture: thetradingpit.net

MAYBE there should futures contracts in realism versus recklessness. That way any senior company executive who wants to take a punt on next year being better than 2009 can offset the risk by going "realistic" on the futures markets - and, of course, vice versa.

How on earth you would design futures contracts around such abstract and subjective concepts as realism and recklessness is a challenge I feel only able to deal with this weekend - over a few beers.

This post is not all nonsense. Stories posted by my colleagues from ICIS news  indicated chemical industry leaders were going long on realism in physical markets during this week's European Petrochemical Industry (EPCA) conference in Berlin.

Margins will not be back to 2007-08 levels until 2011, said Tom Crotty, INEOS Olefins and Polymers CEO.

Europe has yet to feel the full impact of new Middle East capacity, much of which has so far been sucked into China, he added.

The capacity down cycle will hit very soon as China's broad-ranged overstocking leads to more of these Middle East volumes heading to Europe.

"Anyone who says that the industry is going to be in great shape in the middle of next year is fooling themselves," said Shell Chemicals vice president Graham van't Hoff.

"We're still waiting for the major impact of excess capacity from the Middle East that we have to be braced for and ready to manage."

Demand wouldn't return to earlier levels for 2-5 years, he added. 

Now that's what I call wide-ranging scenario planning.

ExxonMobil, as they often do, talked about feedstock innovation and cost savings; hardly surprising as they are rather good at both.

And Albert Heuser, president of petrochemicals for BASF, expects overcapacity in the market in 2010-11.

If only this realism had been around in sufficient quantities during the boom years.

Will the experience and knowledge gained from this recession be retained to prevent another down cycle of recklessness?

Flying the flag for Q3...

Source of picture: etftrends.com

Yes, Q3 earnings season is almost upon us with the usual headline-grabbing improvements in carefully selected reported numbers.

What this season might tell us about the overall direction of everything is, to start the week on yet another pessimistic note, hardly uplifting.

John Authers is once again worth quoting from his Long View column in this weekend's Financial Times.

The S&P 500 enjoyed bounces of 2-3% in 2000-2008 immediately after the first - to third quarter results were announced, according to a study by Andrew Lapthorne of Societe Generale in London.

But the index, when you take these increases out of the calculations, fell on an average annualised basis of 1.2% - suggesting some economy with the truth in company reporting.

This year's Q3 season might help to support equity markets until the end of the year if, again, the clever bean counters have been at work - and companies follow their usual practice of under-promising and therefore appearing to over-deliver.

Next year is the problem.

Price/earnings ratios on an operating profit basis are way ahead of where they were in any previous economic recovery since the Second World War, said David Rosenberg of Gluskin Sheff in Toronto.

In other words, companies will have to deliver spectacular profit and/or revenue growth next year to justify current valuations.

The mood in bond markets - where yields indicate expectation of a slow and non-inflationary recovery - is very different.

As we've said before on this blog, commodity and equity markets have priced in a recovery which might well not happen in 2010 or even 2011.

Companies across many industries, including chemicals, have made improvements mainly on re-stocking and cost-cutting this year.

It's hard to see how they can make similar gains in 2010 - particularly in commodity chemicals where we are only just beginning to reach the bottom of a prolonged supply-driven down cycle.

And when equities go in the New Year so could crude, potentially creating another mini de-stocking crisis. This will be nowhere the near the scale of Q4 2008, though, due to much-tighter inventory management policies.

Company performances might get worse never mind better, making current valuations seem far to premature.

"Take it from me, peripheral vision isn't all it's cracked up to be, especially if you want to get a decent annual bonus...."

Source of picture: www.whipnspurs.co.nz

Here's a rant for Tuesday - with thanks to Paul Hodges for informing some of the thinking (I'd like to lay credit to certain parts of this...)

Purchasing managers are professionally required to wear blinkers. All they care about is making sure that they are ahead of the game because of the way their performances are measured.

So up until Q4 2008 they ignored headlines such as "US auto demand slumps on surging gasoline costs and slowing economy" and "western house prices plummet on sub-prime mortgage crisis."

Oil prices seemed to be on the forever-up and liquidity was abundant. The result was purchasing in big volumes ahead of anticipated further price rises until the great unravelling post-Lehman Brothers.

Senior strategists - whose job it was to worry about the big picture - were also wearing blinkers, deluded in the belief that 2006-07 demand levels would go on forever.

Cracker operating rates were going to remain comfortably above 80% during the coming down cycle, was the consensus view in the first half of last year.

Now the industry is going to have to live with global averages of between 60-70% over the next few years.

The chemicals industry has lost three years of demand growth as global production is now back to early 2006 levels. It is unlikely to budge much in a favourable direction until at least 2011.

The reason is that real western growth, minus all the froth of commodity and equity markets, is going to remain weak on unemployment and high personal debt problems.

Another concern is unwinding government subsidies.

Too many people might have been misled by Chinese imports over the last 7-8 months.

The strength of these imports wasn't sustainable and was due to temporary factors that have now come to an end.

Banking on China as the leader of a global recovery is utter nonsense when you look at the country's low per capita chemicals consumption and its heavy export dependency.

Any Northeast or Southeast Asian producer high on the cost curve is likely to find it harder to penetrate western markets in 2010.

How can these producers - when they import crude oil - export, say, PE to Europe at fair market prices in the face of much-stronger Middle East competition?

Trade lawyers should do very well from anti-dumping cases in 2010.

This is a protracted supply-driven U-shaped downturn, and we are only just getting towards the bottom of the U.

Lots of Middle East capacity has been delayed - and the next big wave of Chinese start-ups is only just beginning.

Studying the tone of Q3 results statements will be a good indication to what extent senior execs have taken on board this new reality (actually it's not that new - we've been waffling on about this on this blog for months).

Source of picture: www.textually.org

The political sensitivity surrounding Iran is so great that US-based companies are not even allowed to attend presentations by Iranian officials at conferences, a source said.

"I witnessed a recent walk-out during a presentation by the National Iranian Oil & Distribution Company (NIODC)," he said.

But a European office of a US company is able to do business with the Middle Eastern country, provided an entire technology and project is developed by that office.

"If as much as one email passes Europe and the US headquarters, that's enough for an investment to become technically in breach of sanctions," the source continued.

These nightmarishly difficult restrictions come as Iran attempts to build no less than seven grassroots refineries in a attempt to rectify deficits in fuel products - one each at Shahriar, Anahita, Caspian, Khuzestan and Pars and two at Hormuz.

Numerous other expansions at existing refineries are being planned with the likely investment costs running into many billions of Euros.

Scepticism is easy following big delays in previous natural grass processing, refining and petrochemical investments due to sanctions that limit financing and technology and skills transfer.

Doubts have also been raised over the level of investment in maintaining output from the oil fields that would supply this new refinery capacity.

In the case of the two crackers finally brought on-stream at Assaluyeh, the slow pace of growth in gas-processing means that they suffer operating rate cuts and even shutdowns during the winter.  

All the gas being processed during the winter months has to be diverted to domestic use because of a big shortfall in supply.

Honest and hardworking company officials on both sides of the political divide deserve solutions.

"YES, I HEAR YOU - I'M LISTENING...."

Source of picture: New York Daily News

How ridiculous does crude-oil pricing have to become before regulatory reforms occur that limit the role of financial speculation in a helpful way?

This was the question being asked by a refining industry source today after he had read this story from the Financial Times.

Call options are about to kick in which could drive the price of oil even higher even though the fundamentals are "mildly bearish", according to the FT.

Put options, when they take effect in significant numbers, have the opposite effect.

Real demand is still a long way from catching up with oil markets so heavily influenced by the financial or non-commercial players.

"Whatever too ridiculous is, and I'd argue last year was a stupid as it can get, the Saudis are likely to get on the Bat Phone to the White House at some point and demand some changes. The US government will be obliged to listen," added the source.

Inability to plan an economy because oil is so out-of-sync with the fundamentals is playing havoc with the Saudi budget-planning process, he continued.

The same applies to every government. If the other major oil producers backed Saudi Arabia, we might seem some useful changes.

This year is a positive for the world's biggest crude producer - as we discussed on Monday. The Saudi government had budgeted for an average oil price in 2009 of $40 a barrel, but this is likely to be closer to $70 a barrel, giving more leeway for infrastructure spending.

But the unpredictability of a market skewed by short-term financial sector interests could just as easily work against the Saudis.

They are pursuing a hugely important economic and social agenda which requires constant and steady funding.

At a chemicals industry level, tracking activity on the Nymex, the International Continental Exchange and the Dubai Mercantile Exchange is critically important if you want to make meaningful financial forecasts.

These forecasts should influence chemicals pricing decisions. Why push for an increase that isn't in line with the fundamentals in your markets if you believe that a spike is entirely paper-trade driven and won't last?

The danger is that if you ignore what might be underlying weaknesses in your markets, you will suffer on the downslide as customers attempt to recover their losses.

I am still thinking, as we've also mentioned before, that this rally will continue until the New Year at least - when all the fund managers' bonuses will be in the bank.

Profit taking could take place in Q1. Positions could then be rebuilt when another bottom has been reached in crude and equities ahead of the 2010 bonus payouts!

Source of picture: www.msnbc.msn.com/id/23512037/

CHINA is making export gains at the expense of other higher-cost competitors that might not be sustainable because of reasons including rising trade protectionism and economic rebalancing.

Chemical companies need to factor in this risk - and take into account how overall demand might merely be shifting location rather than increasing.

Knit apparel is a good example where, according to this article by David Barboza in the New York Times, American imports from China jumped by 10% in July this year compared with the same months in 2008.

This was as US imports from Mexico, Honduras, Guatemala and El Salvador fell by 19-24%. Barboza was quoting data from Global Trade Information Services.

It is not just emerging markets that are suffering as a result of China's increasing dominance in textiles.

The beleaguered European industries are also in the firing line with the EU evaluating extending antidumping duties on imports of shoes from China and Vietnam.

"Reductions in raw-material import tariffs and increases in export-tax rebates have helped Chinese apparel producers push their prices down," said said Ying Min Ye, president of Beijing-based Chem1 Consulting at the Downstream Asia Roundtable Asia oil and gas event in Kuala Lumpur. Malaysia.

The conference, organised by the World Refining Association, took place earlier this month.

You can add to these advantages a Yuan which is now being pegged to the US dollar, resulting in steep depreciations against other Asian currencies. Between March and September, the Yuan had fallen in value by 10% against a basket of Asian currencies, said Barclays Capital.

A further huge advantage is, according to Nicholas Lardy of the Peterson Institute for International Economics (quoted in the same Barboza article), flexibility in labour markets.

This means the ability to cut wages without worrying about troublesome trade unions or restrictive employment legislation.

The biggest comparative boost of all might well be the flood of cheap lending. China has pump-primed its economy through a huge increase in bank loans.

The US removed safeguard duties against imports of several categories of Chinese clothing last December, according to a new report from Textiles Intelligence, providing China with another edge.

The EU removed similar safeguard duties in December 2007.

Both sets of duties were the result of damage caused to local industries when The Agreement on Textiles and Clothing (ATC) came into effect on 1 January 2005

Here, therefore, could end some of the head-scratching over steep increases in fibre-intermediate pricing in 2009.

Restocking and crude oil have been important factors.

What might have also benefited the market are China's gains at the expense of others.

The country's yarn output grew by 9% in the six months to June 2009 over the same period last year, Yin added at the same event.

Fibre output rose by 10% and polyester production by 13%. Click here for a copy of his full presentation - .5 Yingmin Ye 1.pdf

It's not just in low-end clothing where China is making gains, but also in electronic goods - at the expense largely of the Japanese.

Japan has seen its share of electronic-good exports to the US fall by 18% in 1999 to 7%, added Barboza.

In the last year alone, China's market share of the US electronics goods market has doubled from 10% to 20%.

Sales of electronic materials to China were up by 15% in Q3 over the second quarter, said Andrew Liveris, CEO of Dow Chemical, when the company's third-quarter results were released last week.

Coatings and infrastructure sales rose by 16%, polyethylene (PE) 10% by and the automatic sector 5%, he added.

From a Dow perspective, if it's taking sales away from Japanese electronic chemicals companies all well and good.

But displaced demand doesn't necessarily add up to greater overall demand.

Another important point is that when all is said and done, China's exports as a whole are still down on the first half of 2008.

China exported $521 billion worth of clothes, toys, electronics, grains and other commodities in H1 2009, according Barboza.

Although lower than declines suffered by other exporters such as Japan and Germany, this figure still represented a 22% fall over the first half of last year.

Returning to the theme of winners and losers from China's boom, Australia - despite seeing its currency rise in value by 40% against the Yuan in March-September - has made big net gains through a surge in commodity exports.

It's the same story for Indonesia.

"Commodities and high-tech goods have gained [because of the recovery in China]. But anything in between, China can often produce itself, so countries in these areas are under more pressure," said Tai Hui, an economist at Standard Chartered in Singapore in this article from the Financial Times.

Malaysia and the Philippines were losing out because they competed directly with China in many export markets, he added.

"Market stability has improved, but we continue to remain cautious about the ability of some economies to sustain growth," continued Liveris when the Q3 results came out.

"This is especially true of the US and Europe, and until these economies return to 'normal', we believe global growth will be muted."

This is also especially true of China.

Last week we discussed how domestic consumption was much less than investment as a driver of January-September GDP (gross domestic product) growth.

The relatively high investment component of GDP points to several risks and concerns:

*An increase in export-based industrial capacity. Now that it's on the ground, China will be tempted and able to keep this capacity running, even in very weak market conditions

*At the moment the US seems to be more worried over China's willingness to keep on funding its huge deficits than damage to jobs caused by aggressively cheap imports. But how long will this last as unemployment climbs towards 10%? Could we see a big increase in trade protectionism?

*Bubbles in real estate and equities. Real-estate prices have risen by 73% so far this year. Confusing signals are emerging from the government over whether or not monetary tightening will occur in 2010. Leave it too late and these bubbles could get more out of hand; act too hastily and the economic rebound will be set back

*Assuming that the investment number reported for Q1-Q3 also includes money spent on stockpiling oil and other commodities, will the high levels of imports continue? Monetary tightening is a threat along with sudden dips in import demand as China starts running off inventories

*Meagre underlying growth in domestic consumption. Nominal GDP only increased by 4.7% in the first nine months of this year, indicating that deflation was behind the higher headline number of 7.7% Although a lot of people might have made theoretical and real money out of real estate and equities, this doesn't suggest a healthy state of affairs for the average worker.

A weaker currency, import tariff rebates, increases in export taxes and soft and plentiful bank loans for new capacity hardly suggest rapid economic rebalancing towards domestic growth.

Has China put in place the right policies to move quickly enough towards this rebalancing to keep the rest of the world happy?

Can it move any quicker given the country's social and economic pressures?

Source of picture: Businesweek

More evidence is emerging of the big rebound in Chinese exports resulting from government subsidies, including a Yuan now pegged to the dollar, soft and plentiful bank loans and export-tax rebates.

More than 9,000 quality control inspections of goods set for overseas shipment took place in Q3 this year - a 32% increase over the same quarter last year, said AsiaInspection, which carries out monitors these inspections.

Book and stationery inspections were up by 24%, toys 32%, shoes and fashion accessories 58% and textile apparel 63%, according to this news report on the latest AsiaInspection findings.

A further boost to China's textiles industry was the EU's removal of restrictions requiring companies to source a percentage of their textile business from within the EU in January 2009, the report added
.
But Q3 2008 saw the collapse of Lehman Bros and the virtual grinding to a halt of the global economy, so comparisons with the third quarter of this year were always likely to appear good.

Export trade has bounced back from its low point. It is widely recognised, though, that it could be a very long time before shipments to Western markets return to 2007 levels.

Still, the October Canton Trade Fair reported a 20% increase in electronics, hardware, tools, transport vehicle and building material exports orders from overseas buyers as against the April Canton Fair.

Together, these products account for around 60% of China's total exports.

And the damage done to China by the crisis is far less than elsewhere.

For example, the country's semiconductor market is expected to fall 6.5% by value to $68bn in 2009, down from $72.9bn last year, according to this report, quoting iSuppli.

This compares with a forecast 16.5% fall in the global chip industry.

Consumer electronics exports by volume are, however, expected to be down by 10% to 30% in all categories except LCD-TVs and Set-Top Boxes, where growth is expected.

What on earth does this all add up to then?

Here's what I think:

*China's exports have rebounded from their low points more quickly than other countries due to all the government support.

*Because of its ability to aggressively discount, China is gaining bigger market shares from other countries in certain export sectors - most notably textiles and garments.

*China is likely to be able to grow market share even further as it can cut costs by even more, notwithstanding a big increase in trade protectionism

But, as we have already said, demand in the West is unlikely to return to 2007 levels for a very long time and so China is only gaining bigger slices of a much smaller overall pie.

The country's export trade has also been boosted by cheaper raw materials as result of import tax cuts and lower pricing.

The dramatic increase in chemical import volumes is partly due to both the above factors - and, of course, stronger domestic demand.

Take methyl methacrylate (MMA) and polymethly methacrylate (PMMA) as examples. Pricing remains way down on its July 2008 peak, as this graph MMAPPMAPricing200809.ppt from ICIS pricing shows.

MMA imports have risen by 293% in January-September over the same month last year, according to China customs. In September, overseas shipments increased by 87% to 16,309 tonnes.

PMMA imports were up by 67% in January-September with September cargoes totalling 20,829 tonnes - a 22% increase.

By Malini Hariharan (Malini is now joint blogger for Asian Chemical Connections)

The Indian government has announced 17 November as the date for a public hearing to discuss the provisional anti dumping duties that it had imposed in June on imports of polypropylene (PP) from Saudi Arabia, Singapore and Oman.

The hearing will give a chance to all affected parties to present their case. Such hearings are usually a formality and do affect the end result which is a confirmation of the provisional duties.

But I have been told that it may be different this time as the Saudis, led by Sabic, are likely to put up a spirited defense. The Saudis have been busy pulling lots of government strings for the duties to be revoked.

Sabic and Advanced Polypropylene were hit the hardest - duties on their PP exports range from $440-$820/tonne. I was told that one of the reasons for the high level of duties was 'the lack of cooperation in sharing data' when the Indian government had sent its questionnaire earlier in the year. However, this attitude appears to have changed.

There's a lot at stake here and this is why the 17 November hearing is crucial. India is already in surplus and looks likely to be in this position for the next couple of years. So there's every reason for Indian PP producers, Reliance Industries and Haldia Petrochemicals, to check competition. On the other hand, many Indian processors are unhappy as the duties would force them to rely on local supply.

For the Saudis, and also other Middle Eastern producers, India is not such a big market for PP. But the ADD threat is a worrying global trend that they want to ensure does not take off.

Besides India, China is investigating methanol and 1,4-butanediol (BDO) imports from Saudi Arabia. And the European Union (EU) is investigating on polyethylene terephthalate (PET) imports from United Arab Emirates (UAE) and Iran.

The growing protectionist measures have provoked a long chain of protests with the most recent one being in October by the Gulf Petrochemicals and Chemicals Association (GPCA).
The GPCA Secretary General Dr. Abdulwahab Al-Sadoun has said that the association will strengthen coordination with Gulf Cooperation Council (GCC) Governments to ensure that exports of petrochemicals and chemicals from the Gulf region are not restricted by anti-dumping regulations and other trade restrictions
"The GCC industry and our governments will not accept the application of anti-dumping regulations against exports of petrochemicals and chemicals from the Gulf. We have seen a surge in protectionist actions brought by countries to block imports. These cases are baseless and violate international rules," he said.
The investigations may not sound fair to GCC producers but they face an uphill task in convincing the Indian and Chinese governments to ease protection to local producers. A lot will depend on what the GCC governments can offer or withhold.

It seems as if Lex of the Financial Times is finally catching up with this blog by questioning the validity of some of the official data coming out of China. We take this as a compliment.

In today's column it talks about how the total for first-half Gross Domestic Product (GDP) growth numbers for China's 31 provinces was almost 10% higher than the overall figure put out by the National Bureau of Statistics.

This suggests that provincial officials are being encouraged to report high numbers to help create the impression that everything is coming up roses. How can we trust micro numbers, on chemicals production and consumption, for example, if distortions in big headline numbers are taking place?

Retail sales growth of 16.2% in October was also questioned by Lex. These numbers are not a good proxy for real consumption growth because they include shipments to retailers and various types of corporate and government spending.

Strong year-on-year petrochemical production growth recorded for September might be believable because in the same month last year the world economy came to a halt as Lehman Bros folded. Ethylene output grew by 29.4% and polyester production by 33.9%.

The polyester sector might have benefited from market-share gains made in export markets as a result of the 2009 depreciation of the Yuan against other developing-world currencies.

This is the result of a re-pegging of the Yuan to the US dollar, which on Wednesday hit a 15-month low against a basket of trade-weighted currencies.

But China's Central Bank, ahead of a visit to China by President Obama, yesterday acknowledged there was a case for a stronger Yuan.

As if often the chase with the Chinese government, though, only a few days earlier commerce minister Chen Deming had called for the creation of currency stability in order to protect exports.

So it's far from clear if and when China will let the Yuan rise in value, which would likely reduce the volume of chemical imported to be re-exported as finished goods.

As we've said before, lack of clarity on real over apparent domestic demand-growth continues to prompt a nagging suspicion that re-exports are more important than some people think in the recovery story.

The International Monetary Fund (IMF) said at the weekend that the Yuan had become "significantly undervalued" since it was linked again to the dollar.

If insufficient ground isn't given on the Yuan to satisfy the West, how long before politicians start targeting other "unfair" advantages such as this year's reductions in raw-material import tariffs and increases in export-tax rebates?

On an individual industry level, pressure for anti-dumping and other trade measures is likely to only grow - a long with measures outside the control of the World Trade Organisation (WTO) such as safety and environmental standards - if developed economies don't achieve sustained recoveries.

Source of picture: www.walletpop.com

By John Richardson

In his own words Paul Hodges of International e-Chem - and also a fellow blogger - puts in a nutshell some of the dangers confronting the chemicals industry as we approach the New Year, with a few interspersed further thoughts from this blog:

"If crude were to fall back to $40 a barrel - where based on fundamentals it should be - this would further cloud visibility about the real state of end-user demand. It would become hard to distinguish between a fall in demand down the chain because of de-stocking and greater caution, and a fall in the final consumption of chemicals.

"Oil at its current price is hindering rather than helping the recovery because we are seeing demand destruction again. This is because we are already seeing greater caution on the part of those companies that recognise the risks of lower demand for chemicals. "For example, as the gasoline price has gone up, people are driving less to the shopping malls in order to buy stuff made from plastics - i.e. discretionary spending."

There are even reports of this happening in China as a result of higher crude and fuel-price liberalisation.

"In Our Feedstocks for Profit Study, and I think this still holds, we saw a green light for growth was $25 a barrel, an amber light $50 a barrel and red at $75-80 a barrel.

"It's generally accepted that demand destruction occurs at $80-100 a barrel."

The last US recession began in December 2007 when crude touched $100 a barrel. This came at the same time as the sub-prime crisis. An important question now is with real wages in the West in decline and unemployment rising are we talking about demand destruction much closer to the $80 a barrel level?

"The crude price is being driven by irresponsible bankers, who are simply focused on generating maximum short-term trading profits (and personal bonuses for themselves). The money to support these trading activities is effectively being provided by taxpayers, as a result of the bailouts that have taken place," continued Hodges.

"The strength in crude oil is directly correlated to movements in the value of the US$, often on a minute by minute basis. This is not about free markets. It is about bankers using the low interest rates now on offer in the US, caused by their earlier greed and reckless lending, to once again bite the hand that feeds them.

"Bankers need to behave more responsibly, especially at a time of crisis such as today. If they are not prepared to do so of their own will, we need effective legislation.

"When this unwinds you could see a big return to dollars, strengthening the currency significantly," Hodges continued.

"This is hardly going to help progress in the US government's effort to make the economy more export-based - part of the global rebalancing efforts."

"Today's oil prices are not the fault of chemicals companies, but they will suffer as a result."

The risk is that the unwinding of these trades causes further disruption. As oil prices fall, so will chemical volumes as everyone de-stocks.

"This is why chemicals companies need good hedging strategies," said Hodges.

"Another problem is the cost in terms of working capital. This will lead to a further problem as demand recovers. When demand is really weak, it's possible to conserve working capital by cutting operating rates and other costs - hunkering down until the recovery arrives.

"But when the recovery does arrive, the difficulty is estimating how much to ramp up rates at the expense of working-capital preservation.

"Demand visibility - even without as yet a collapse in crude - is already extremely poor, making planning very difficult. "

"More companies go bust in an upturn than a downturn, because of the inevitable increase in working capital. This is a major risk in 2010, given the fragile state of the financial system, and banks' unwillingness to lend."

 "They are so cheap, I might even buy one as a hedge against global warming"
Source of picture: www.formalwilderness.blogspot.com

This blog has spent a lot of time tormenting itself over the sustainability of China's extraordinary economic rebound during 2009.

"Just where are all those imports of chemicals and polymers (polymers up 50% year-to-date) going?" we keep on asking.

Perhaps we've got completely the wrong end of the stick, a source politely suggests.

"There's no real need to worry about where this stuff goes because as long as the government is solvent - and it still has massive cash reserves - it will keep GDP (gross domestic product) growth at a minimum of 8-9% per year. The reason is the need to create enough jobs to maintain social stability.

"Quite frankly, if they had to they had to bury polymers and unsold washing machines, fridges and autos etc in landfills, they would do it to keep industrial production moving along at the right level.

"And quicker than you imagine, they will wean the country off too much depedence on industrial production and exports towards better local consumption."

But in the meantime, he has heard of Chinese refrigerators, which contain polymers including polycarbonate (PC), acrylonitrile butadiene styrene (ABS) and polypropylene (PP), flooding export markets.

"It seems that some refrigerators were manufactured for domestic sales and so benefited from government subsidies - but still found their way on to container ships."

Reliance Industries has made an offer for LyondellBasell says an official statement released yesterday on the LyondellBasell website:

"LyondellBasell has received a preliminary non-binding offer from Reliance Industries Limited to acquire for cash a controlling interest in the company contemporaneously with the company's emergence from Chapter 11 reorganization.

"This offer is in addition to the previous non-binding equity financing proposals received by the company and represents a potential alternative to the initial plan of reorganization previously filed by the company."

This confirms months of rumours to this effect. According to an unnamed merchant banker quoted by the Times of India, Reliance would have to pay at least $12bn - double an earlier estimate by the Economic Times.

India could be playing a major role in the shift of basis chemicals ownership from West to East - along with the Middle East

After failing in its efforts to capture Innovene and then Dow Chemical's commodity petchems unit, this is Reliance's fresh attempt to move into the global top league. The ICIS top 100 places LyondellBasell at the No 4 slot of top chemical companies globally.

A marriage of the two companies would result in a formidable giant with an annual turnover in excess of $75bn, including Reliance's earnings from its growing oil, gas and refining portfolio. It would also create the largest PP producer and also a top player in PE and give Reliance access to LyondellBasell's profitable technology portfolio.

Reliance's offer is subject to due diligence and sufficient credit support. The company issued a very cautious statement: "This review is ongoing and there can be assurance of the outcome with respect to any of the opportunities under review."

Reliance, it appears, is evaluating other opportunities too in its core businesses.

LyondellBasell's statement confirms that Reliance had earlier placed non-binding equity financial proposals and the latest offer represented was a 'potential alternative to the initial plan of reorganization'.

LyondellBasell was the first petrochemical giant to stumble at the start of the crisis last year. And it looks like it could well be the first big ticket M&A deal in what promises to be a busy season ahead.

We have already heard of IPIC on the prowl for European and US chemical assets and then Mitsubishi Chemical confirmed that it is looking to acquire Mitsubishi Rayon for $2.5bn.

An investment banker said last week that it was only in the last few months that he has seen an interest in boards and ceos. Capital market conditions have improved substantially and money will not be a deterrent, especially for companies like Reliance which are already sitting on huge piles of cash.

Relaince's biggest problem in the past has been its conservative valuations which have seen the company lose out to other global bidders, except in a few instances (Trevira and Hualon). There are already reports of rival bids emerging for LyondellBasell from Chinese companies and private equity investors. And ICIS news reported last week that analysts believe that LyondellBasell would also be a good fit for IPIC.

So will Reliance change its mindset and be bolder this time?

Reliance Industries - which is attempting to buy LyondellBasell - is offering $10-12bn, according to this report from Reuters quoting two sources with direct knowledge of the deal. 

This would be one of the biggest-ever acquisitions by an Indian company. In 2007, Tata Steel bought Corus for $13bn.

Reliance raised $660m through a share sale in September.

It has $4bn in cash, $8bn in treasury stock that can be sold and if it doubles its current net debt-to-equity of 0.35x it can borrow another $10bn, the Reuters report adds - quoting a recent Macquarie research note.

Will growth spread quickly enough?

Source of picture: www.oraclemarketplace.co.uk

By John Richardson

Global chemicals production had returned to 2006 levels by October of this year, according to this slide ACCProduction09Versus06.ppt from the American Chemistry Council (ACC).

Worldwide chemicals growth rates might not return to 2008 levels until 2012, Jurgen Hambrecht, CEO of BASF, warned on the release of the company's Q3 results.

The overall picture is being made to look bad by structural overcapacities and deep-seated economic problems in Europe and the US.

Booming emerging markets, particularly China, matter more than ever to Western chemicals producers.

So the big question being asked as we approach the New Year is whether China's almost hard-to-believe growth in chemicals demand in 2009 - reflected in a big surge in imports - can be maintained.

High-density polyethylene (HPDPE imports rose by 73% with low-density (LDPE) imports up by 85% in January-September, according to Shanghai-based commodities information service CBI.

Total PE imports in 2008 were 4.5m tonnes, but had China imported 3.75m tonnes by the end of H1 of this year alone, added CBI.

"China will enter a long period of slower and more volatile growth in probably 2-3 years when fiscal stimulus runs out", warned Michael Pettis, former Wall Street trader and professor at Peking University's Guanghua School of Management

This would force the country to make adjustments it had so far tried to avoid, added Pettis on his blog, China Financial Markets.

These adjustments, accordinng to a Shanghai-based expatriate, involve a major shift away from export and industrial investment-led growth to a more broad-based rise in consumer spending.

"What's holding back consumption is the lack of a decent welfare system, forcing people to maintain high savings levels to cover education and health costs," he added.

A lot of the wealth generated by China's growth was concentrated in the hands of the state-owned enterprises, Pettis added.

Higher dividend payments to company shareholders (sometimes no dividends are paid at all) and broader financial sector liberalisation were needed, said the professor.

China's critics argue that the response to the global economic crisis has so far been mainly more of the same: Providing a huge increase in funding for a big build-up industrial capacity and infrastructure.

The infrastructure, including 120,000 kilometres in high-speed rail lines, has the potential to accelerate urbanisation.

"There is little doubt that China's hope for prosperity in the long run lies in transferring the majority of farmers into higher-productivity jobs in the cities," wrote the well-respected Beijing-based economic research publication, the China Economic Quarterly, in an article earlier this year

"But simply moving a farmer into a city does not make him an economically significant consumer."

Chinese households with annual expenditure of below $5,000 - i.e. about 90% of the population - spent most of their money on housing, food and clothing, the CEQ added.

Those with income levels high enough to be able to spend more than $5,000 per year, the so-called "consumption households", mainly live in three regions - the Yangtze River Delta, The Pearl River Delta and the Beijing-Tianjin corridor, the article continued.

Each of these regions surrounds megacities, whereas other "consumption households" are more thinly scattered across the rest of China.

"Although there are a growing number of these households dispersed across the rest of the country, they are not concentrated enough to justify a sales and distribution presence for many products and services," the research publication added.

"Research my MasterCard suggests that multinational consumer-goods companies require a concentration of at least 20,000 consumption households to establish a viable market."

Distribution costs remain a barrier for setting up in the hinterland, despite big improvements in transportation over the last decade, said the CEQ.

"Logistics costs account for 20% of average goods prices in China compared to 10% in the US, according to the US Department of Commerce," the CEQ added.

Plenty of reasons, perhaps, for chemicals companies to be a little cautious over their forecasted growth rates in China over the next few years.

By John Richardson

ExxonMobil's purchase of XTO Energy for US$41bn seems to support the widely-held view that natural gas is the fuel for the future.

XTO specialises in the technology necessary to exploit shale gas and other hard-to-get-at unconventional gas reserves, including the large amounts of shale gas in the US - one of the reasons why the States has gone from natural gas feast to famine.

ExxonMobil will establish a separate division to manage production of both oil and gas from unconventional reserves.

This suggests, perhaps, that the focus and incentives created by setting up such a division will lead to XTO Energy and other breakthrough technologies being employed throughout the world.

Europe has unconventional reserves, which perhaps if successfully exploited could provide an alternative - a long with liquefied natural gas (LNG) - to sometimes politically-fraught pipeline reserves.

Easy-to-get-at gas in the Gulf Cooperation Council region of the Middle East is also becoming increasingly scarce, leading to evaluation of exploiting shale and tight gas.

The energy of the future argument rests both on concerns over Peak Oil and gas's lower carbon footprint.

The International Energy Authority (IEA), in its World Energy Outlook 2009 report launched last month, described natural gas as a "bridging fuel" until even greener alternatives become viable.

Still too crowded...

Source of picture:www.tripadvisor.com

By John Richardson

Dear Readers - Welcome Back.

Having spent the last two weeks lying on Western Australian beaches, drinking beer and reading books on European history - while also building sand castles etc with my three-year-old son - I have given little thought to chemicals.

But here's to another year and another dollar - or quite possibly a lot less dollars if the forecasts of excess petrochemicals supply prove to be correct.

On the big-picture macroeconomic front these area few of the things we should also be worrying about:

*Global demand being too tied to government economic stimulus packages (Western governments will have to at some point ease back on stimulus to cut back on deficits in order to avoid credit downgrades leading to higher borrowing costs, or perhaps even defaults on debt; China has dollops more cash to spend on boosting the economy, but needs to worry about inflation)

*Consumer debt levels and unemployment in the developed world will remain high and so a big recovery in consumer spending seems very unlikely

*Restocking has come to an end across many industries including chemicals

The question is whether we will see a sustained V-shaped global recovery or a long period where global demand for everything, including chemicals, will remain much-below 2007 levels for many years to come.

My betting is firmly on the latter scenario.

Cash won't be as tight as early 2009, but some of the hype of H2 last year needs to be put into the context of all that restocking - plus the fact that numerous project delays have postponed the inevitable impact of a flood of new capacity. Even though more delays are likely, the amount of new volumes suggests a tough second half of 2010

The emerging markets story remains exciting, but demand growth in China, India and Indonesia (Indonesia being probably a much under-rated source of demand last year) won't be enough to return us to 2007.

Commodity chemicals companies that have made big-enough shifts to developing markets and/or to where the cheap feedstock is located should be OK - as long as tight inventory management, and therefore cash preservation, continues.

By Malini Hariharan

The Wednesday post on this blog highlighted some of the unexpected turns that the Asian polyolefins market has been taking.

There have been more developments over the last two days that are likely to influence markets in the short term.

• ICIS news reports that Sabic will significantly cut its January and February polyethylene (PE) allocations to China and Southeast Asia due to some production problems. The company's buyers have confirmed this. One Chinese buyer said that his allocation has been cut by as much as 60-70%. PE prices had not reacted to this news today and were still weighed down by Thursday's sharp fall in lldPE futures on the Dalian Commodity Exchange, said traders.
• Ineos was forced to shut its 320,000 tonnes/year lldPE plant in the UK due to problems caused by cold weather. This could further tighten the European market.
• An explosion in a naphtha storage tank at Lanzhou Petrochemical killed five people. The company, a subsidiary of PetroChina, has shut down a 240,000 tonnes/year cracker and associated PE and PP plants at the site as a precautionary measure. Its other 460,000 tonnes/year cracker, in the same area but at another site, has not been affected.

Pic Source: Xinhuanet

• And petrochemical production at Texas in the US could be affected by unusually cold weather. Temperatures in the region have hit a 14-year low and are expected to remain at current level for the next three days. Companies have started taking precautionary measures but some traders fear the weather could trigger outages.

By John Richardson

THE BIG gap in credit growth between China and the developed world has been thrown into further relief by recently released data - raising inflationary concerns in the world's most important economy, while emphasising how rich-world countries remain on government life-support systems.

Broad money supply growth was a huge 30% in China in the ten months to November 2009, according to The Economist.

This compares with a fall in money in supply in the Euro area over the past year with US money supply only increasing by 1.2% in the six months to November last year.

In Australia, lending to the business sector declined by 8.2% in November 2009 year-on-year, said the Reserve Bank of Australia (RBS).

A strong indication of the importance of government life-support is that thanks to low interest rates and Canberra's tax credits for first-time buyers, credit to the real-estate sector grew by 8.2% in November over the same month in 2008, the RBS added.

This supports the anecdotal stories I keep picking up of credit remaining very tight in the developed world, particularly for small -to medium-sized chemicals companies, end-users and traders. While banking systems might have been rescued from financial collapse, the surviving banks are too busy rebuilding capital to take the risk of increasing lending to businesses - and perhaps also because they fear another bust could be around the corner.

It also seems likely that even where banks are more relaxed about credit, rich-world companies in certain sectors - certainly including chemicals - are maintaining very tight cash-management policies because of this same fear of another bust.

"In this financial environment no-one is holding more than 2-3 weeks inventory cover," said an Australian plastics processor.

"Who could finance it and take the risk in (such) a volatile market?"

Some converters have, according to one Singapore-based polyolefins trader, been constantly caught out by new supply that hasn't arrived due to all the project delays -and now most recently production problems in Saudi Arabia.

This forced them to restock when low inventory levels became quickly depleted during several supply-side shocks in 2009 and into the first weeks of this year. This has made an awful lot of money for the traders.

The converters - and also many of their suppliers who also continue to exercise careful cash-management - appear to be aware of the risk of a sudden collapse in crude and other commodity prices.

The danger of a mini-repeat of H2 2008 lingers. Everyone down all the chemicals chains could again be left with big inventory losses if the bull-runs in crude, commodity and equity markets suddenly come to an end at a time when stocks are high.

But as Paul Hodges, chemicals consultant with International eChem has pointed out, rising crude and chemicals prices automatically increase potential losses - no matter how strict your inventory management.

Watch out for much more on all these themes (and a great deal more) throughout this week.

Sky-high living costs?

Source of picture: www.shanghaiist.com

By John Richardson

CHINA'S imports surged by 55.9 per cent last December, raising concerns among chemicals traders and producers that this points to increasing inflationary pressure and a possible interest-rate hike later this year.

The country's current official borrowing rate stands at 5.31%.

"The government has indicated in several official statements that it's concerned about inflation. If borrowing costs go up we would very likely see a dip in activity in sectors such as real estate that hugely buoyed chemicals and polymers demand in 2009," said a Singapore-based source with a leading global polyolefin producer.

"Pro-active" fiscal policies and "moderately loose" monetary policies would, however, be maintained in the near-term said China's president Hu Jintao at the weekend.

Real-estate construction is nevertheless up by more than 50% from a year ago, according to the same article from the Sydney Morning Herald which we quoted in our blog post earlier today.

Property prices have surged over the last 12 months, raising apparent government concerns over an asset bubble and affordability for average earners.

The same article, quoting the Beijing-based Institute of Population and Labour Market Economics at the Chinese Academy of Social Sciences, said that the labour markets were now once again tight after the big migrant-worker layoffs in 2008 and early 2009.

So is inflation really that much of a threat?

Expectations of inflation matter a lot as these drive consumer behaviour, leading to pre-buying of everything from oil and chemicals to food.

Prices of garlic and dried chili peppers have already been driven up in China by speculators anticipating price rises, said Alaistair Chan, Sydney-based associate economist for Moody's Economy.com, in this Los Angeles Times blog piece.

The price of food is vital for social stability in China. The wider threat of rising food prices across Asia - because of poor harvests and increasing energy costs - is a subject we will revisit in more detail in later posts on this blog.

The same LA Times blog posting - and again the article in the Herald - point out that The People's Bank of China began selling its three-month bills at a slightly higher interest rate last Thursday for the first time since August.

This was aimed at mopping up excess liquidity brought on by the $1.35 trillion in new loans issued between January and November last year - and could indicate less new loan-growth in 2010 as part of efforts to tackle inflation, the blog added.

"There is good reason to view the rise (in the sale price for the three-month bills) as a precursor to further tightening," said Ben Simpfendorfer, chief China economist for the Royal Bank of Scotland in the same posting.

Consumer price index inflation (CPI) reversed from a 2.0% drop year-on-year to a 0.5% increase during the first three quarters of last year, he added.

But Morgan Stanley argues in this article in Finance Asia that while the CPI and the production price index are likely to rise early in 2010, China's year's average inflation rate will only be 2.5%.

Inflationary pressure will not be as great as some market participants expect because the growth in money supply - which we referred to earlier today as proxy for credit and spending growth - is to some extent misleading, the bank added.

Strong M2 growth failed to take into account the change in M2 caused by the shift in asset allocation by households between cash and stocks, said Morgan Stanley.

As equities or so unstable, therefore, a rise in share prices won't necessarily mean a big jump in consumer spending.

The other reason given by Morgan Stanley for inflation remaining under control as current conditions stand - meaning a low risk of an interest rate hike later this year - is what it forecasts will be a weak export market in 2010.

In the same set of official government data that indicated the steep rise in December 2009 imports, a 17.7% rise in exports was reported for the same month.

This was the first time in 14 months that China's exports had increased, according to this piece from the Financial Times.

If a strong export recovery is sustained during the next few months, this might raise pressure on the Chinese government to return to its policy of gradual Yuan appreciation, said Andy Rothman, CLSA's chief China economist, in the same article. CLSA is a Hong Kong-headquartered investment and brokerage firm

He believes a sustained recovery would give China's government the political cover to raise the value of the Yuan against the dollar by 3% in 2010.

A real recovery in exports would be a return to the volumes China enjoyed in 2007 and the first half of 2008.

(A return to dollar values wouldn't be necessary as China's exporters have received boosts from tax rebates and the fall the value of the Yuan against currencies other than the dollar because its been re-pegged to the greenback)

I am with Morgan Stanley on this as I cannot see how China's exports can recover to pre-crisis levels in 2010 because of deep-seated problems with Western economies.

So the odds seem to be long on a rate rise.

But if loan growth is reduced this year, this will still have a negative effect on chemicals demand.

What's hard to gauge is the impact on chemicals of a widespread belief that Yuan appreciation will not take place this year - the result of exports failing to rebound sufficiently. 

(The more that exports recover the greater the pressure from the West on China to raise the value of the Yuan. Higher interest rates - the result of the inflation we've been talking about - might also be accompanied by a stronger local currency) 

As we've written about before, the prospect of a 2010 appreciation led to lots of strange speculative trading in chemicals in 2009.

This added to the optimistic mood, but didn't always necessarily represent real (whatever "real" means!) demand growth.

Yuan appreciation will have to resume at some point.

So those in for the long term would continue to maximise their local currency revenues, while those with a shorter horizon would cut back on their exposure.

By John Richardson

CHINA'S decision yesterday to increase the amount banks must set aside as reserves and two interbank interest rate rises in the space of a week are designed to tighten monetary conditions as worries grow over overheating and inflation.

Lending reached Yuan 600bn ($88bn) in the first week of this year, not far short of the full-month average last year.

The New Year fresh-loans surge was noted by a Singapore-based source with a North American polyolefin producer earlier this week, when he commented that recent price rises were partly the result of "an even greater ability by traders to speculate".

We pointed out last year that easy credit appeared to be enabling China's many thousands of traders and distributors to buy, hold and sell stock - distorting the true demand picture.

This could have been a significant factor behind the big increases in polyolefin imports, despite an overall demand picture that should have been weaker when you took into account the decline in re-exports.

The credit surge has made it easier to trade not only in chemicals and polymers but also in other commodities, real estate and equities during a period when maximising Yuan revenue has been the focus - ahead of a possible revaluation of the currency at some point this year.

"There's a lot of talk about hot money flowing in from overseas, but most of this is locally-held money being shifted from dollars into Yuan," said a Shanghai-based US expat.

"Because bank deposit rates are negative in real terms and financial markets are undeveloped, the only ways to make money are in real estate, equities and commodities."

And amazingly, we also discovered that the same trader can switch between chemicals, polymers, real estate and equities with such carefree abandon that the underlying motive for a purchase can be obscured.

Sometimes buying a chemicals cargo is all about getting the 90 days' credit to gamble and make money somewhere else, for example, in the stock market. If the resulting profits are big enough a trader can be quite happy to dump a chemicals cargo at a loss.

The easy credit might well have also encouraged overproduction of finished goods with reports that textile mills were told to keep operating via soft loans in order to keep people in jobs.

True, growth in retail sales seemed spectacular. But a Singapore-based oil and gas consultant told me this today: "What's going on? I still don't get. Despite the record-high auto sales in China last year gasoline and diesel demand only increased slightly and so are a lot of new vehicles that have been recorded as sales actually sitting in showrooms somewhere?"

This would be consistent with the analysis of one of the China sceptics, Michael Pettis - and also the China Economic Quarterly which tends to take a more positive view.

Both told this blog last September that retail sales were a bad proxy for real consumption growth because China's retail sales figures include government purchases and shipments to shopkeepers.

If the steps taken by the government to reduce credit are successful, chemicals demand will therefore go down as speculation abates and surplus industrial production is reduced.

But these measures might not be enough to take the air out of frighteningly big asset bubbles.

"The average real-estate price in Beijing is Yuan 20,000/sq metre. That is a 30% increase in one year," said a Beijing-based chemicals consultant.

"But if you look at salaries, a fresh graduate gets Rmb2000-3000/month. This is causing a social problem. 

"Shenzhen (in southern China) has seen a 90% increase house prices."

And the Shanghai- based US expat added: "It doesn't feel right - it still feels like a bubble economy.

"I have an apartment on the outer ring road of Beijing which is 130 square metres and is right on the flight path from the airport and yet it's more expensive than downtown loft apartments in many US cities.

"With property so expensive here average salaries are still only a quarter of US levels in major wealthy cities such as Shanghai, and even less elsewhere as you move further inland.

"A lot is made of the fact that the average price of an auto is only $17,000 here compared with $30,000 in the US, but direct comparisons are not valued because very cheap local cars - some of which might come with brakes as optional extras - drag the average price down. Foreign-branded autos in China cost 50% more than in the US.

"Gasoline prices are now only $3.71 a gallon as against $2.54 a gallon because of fuel-price liberalisation and there are other signs of inflation. This place is getting expensive."

The danger is that if further measures are taken to deflate the economy, the end-result could be the same as in December 2007 - a housing slump with an overall severe economic decline.

Such is the delicate state of the world's recovery with the rest of Asia increasingly dependent on trade with China ("the second decoupling"), that decisions taken in Beijing over the next few months are going to be of huge importance.

Or, perhaps, the momentum generated by policy steps already taken means that bubbles will keep on inflating and inflating - making the disaster, when it comes, of even greater magnitude 

As famous investor James Chanos, who is shorting China, is quoted as saying: "This could be "Dubai 1,000 times over".

By John Richardson

IT is always useful to make a note of both what economists are saying and where they are coming from.

To give you an example, I was at a conference last year when I heard a ridiculously rosy outlook for both emerging and developed economies, delivered by an economist working for a certain bank.

This bullishness remains in stark contrast with a refinery industry grappling with overcapacity in the US, for example, resulting in the need to close operations down.

The same will eventually have to happen in petrochemicals in higher-cost countries such as Japan and South Korea when big volumes of much-delayed polyolefin capacity finally hits the market, according to Mazlan Razak, Kuala Lumpur-based petrochemicals consultant with DeWitt & Co.

True, returns from petrochemicals - a very real industry that makes stuff that is tangible and worthwhile (quite often a perquisite in recent times for actually losing money) - were much better in 2009 than anyone had expected.

How good margins exactly were on a genuinely-valid comparative basis (with 2007 during the economic boom) is something we will look at on this blog a little later.

What we can say for certain right now, though, is that volumes on a global basis were way down as Western companies kept overall operating rates at very low levels. I suspect that those who made the best returns were the chemicals traders who guessed the right way during an unexpectedly strong rebound.

Back to my original point, the banks and other financial institutions have a vested interest in talking up this recovery, potentially creating false and harmful optimism among chemicals and other manufacturing companies.

The weight of evidence remains overwhelming to support the view that in the developed world, recovery is anaemic and far from complete.

China is another story which we have dealt with many times before on this blog. It emerged more clearly last week that inflation followed by interest-rate rises are big threats to China maintaining the sort of growth we saw in 2009.

Back the developed world and a new report from the McKinsey Global Institute (see chart below) - Debt and De-leveraging: The Global Credit Bubble and its Economic Consequences.

Most rich countries have seen huge increases in their ratios of debt to GDP (gross domestic product) over the last ten year, according to a summary of the report in The Economist.

Britain and France are the most extreme with increases in their ratios by more than 150 percentage points each, to 465% and 365% respectively.

Financial sector debt increased hugely, in line with the big rise in household debt (it was all the exotic financial instruments which caused the economic crisis that enabled household debt to increase so sharply).

In America middle-income families built up most of the debt whereas in Spain it was poorer families, an example of a lack of uniformity in how household debt was built up across the developed world.

Deleveraging has barely started.

The composition of debt has shifted, however, from the private sector to governments with the financial sector cutting back the most.

Half of the ten rich countries in the survey have one or more sectors that are "highly" vulnerable to debt reduction.

These include households in America, Britain and Spain and to a lesser degree, Canada and South Korea - as well as commercial property in America, Britain and Spain.

The survey looked at 32 examples of sustained deleveraging in the past where the debt/GDP ratios have fallen by at least 10% after financial crises.

Typically, deleveraging began two years after the beginning of a financial crisis and lasted six-to-seven years.

In almost every case, output shrank for the first two or three years of the process.

McKinsey identified reasons why this current period of deleveraging could be more protracted than in the past, which include:

*The scale of indebtedness is higher. The highest previous ratio was Britain at 286% after the Second World War, but on this occasion more than half the countries in the McKinsey survey have debt totalling more than 300% of GDP

*The number of countries afflicted simultaneously is a lot greater, meaning that rapid expansions of output through exports is not easy on this occasion (plus, the export competition from China has increased enormously since the 1980s and 1990s recessions)

*Big increases in public debt, while cushioning the declines in demand in the short term, increase the overall debt reduction that will eventually have to take place. Once private sector deleveraging is done then the public-sector wind-down will have to begin

A further problem is that investors might worry about public-sector debt levels before the private sector deleveraging has been completed, pushing up bond yields - for example, the recent concerns over Greece.

The result could be a cut back in public debt before the private sector has completed its own reduction, damaging growth by far more than if an orderly wind-down takes place.

"Any Old Iron?"

Source of picture: http://www.investorfsbo.com/refinery.html

By John Richardson

A LONG-TERM shift in refinery economics is posing a major threat to petrochemical margins - along with the delayed supply crisis that's likely to hit the industry at some point over the next year.

"Refiners, when the global economy was booming and particularly after the Hurricane Katrina gasoline supply shock, were pushing out naphtha to achieve balance across the barrel," said Paul Hodges, chemicals consultant with the UK-based International eChem.

"But now you have worldwide oversupply in refining with US gasoline demand peaking in 2007.

"You have ethanol as a percentage of total fuel consumption in the States already having doubled from 5% to around 10% and likely to go to 15%.

"The new auto fuel-efficiency regulations, announced last year, require big improvements in vehicle efficiency - another drag on demand."

And then there is the US economy, which, as we've said before on this blog, faces deep-seated long-term problems, including a far-from-complete deleveraging process.

US refineries ran at 78.4% of capacity in the week ended 22 January, steady with the prior week but down from 82.5% a year earlier, according to data from the Energy Information Administration (EIA), which was reported by ICIS news yesterday.

In the US, naphtha supply is unlikely to be the main issue for petrochemical producers as the big natural gas advantage over naphtha has led to a heavy switch to gas cracking. Instead, it's the availability of propylene from Fluid Catalytic Crackers (FCC) that's the big issue

Proof of this pudding came yesterday when US propylene producers nominated increases of up to 14% for February contracts on lack of availability from refineries, according to the same report already linked to above from ICIS news.

"In Asia, where gasoline demand growth is stronger, refiners outside China are being squeezed by the Chinese who have added so much capacity that they have swung into a gasoline export position," continued Hodges - a fellow blogger.

N Ravivenkatesh, Singapore-based consultant with Purvin & Gertz, agrees.

Low refinery operating rates on poor gasoline and middle distillate markets - along with high Asian cracker operating rates - were likely to increase the East of Suez naphtha deficit in March and April, he recently predicted.

"A couple of recent, seemingly incongruous, headlines caught our eye," wrote the authors of the daily energy and shipping report, The Schork Report, yesterday.

They were referring to the Bloomberg story on January 24 - headlined "Morgan Stanley Expects Oil to Rise to $95 (in 2010) on Demand" and one the next day on the same wire service, which was titled: "Refining Profit Stays Weak on Overcapacity, Ernst & Young says".

"Ninety-five dollars on 'strong demand'....huh? Did anyone on Wall Street see Valero's earnings yesterday," continued yesterday's Schork Report.

But as we pointed earlier this week, you have to be aware of why someone might be making bullish growth forecasts.

"Ernst & Young is telling us about overcapacity in the refining sector. We suppose that is why 446mbbl/d of European and North American refining capacity was closed permanently in the fourth quarter (2009) and why another 663m bbl/d was shut down indefinitely and 560m bb/d partially shut down," the report added.

This amounted to lost oil demand of 1.7m bbl/d by the end of last year, the Schork Report calculates.

But this doesn't mean it's ruling out the possibility of $95/bbl by the end of this year.

If the financial speculators continue to spin their "sustained global economy recovery" story successfully while credit remains cheap and plentiful on continued strong worldwide government stimulus and China doesn't come off the rails, conceivably, yes. Why not?

But this would mean more pressure on refiners margins because even crude around $70/bbl is too expensive given the current economic fundamentals, never mind $95/bbl.

Petrochemicals would be squeezed from both ends of the product chain as refiners cut back even further, thereby reducing feedstock availability - with the firmer crude setting a higher floor for raw material costs.

Producers could also soon face, as we've already said, the long-awaited petrochemicals supply surge and damage to economic growth caused by the higher crude.

I am often accused of being overly pessimistic, but I really do believe petrochemical and chemical companies in general need to plan for a very difficult few years. It would be in everyone's best interests to plan prudently. 

We should have originally written 'integrated low-density polyethylene (LDPE) in paragraphsix, but instead wrote linear-low density PE (LLDPE). It's now been corrected and apologies for the error - we will be buying some better glasses (less of this "we" - it's actually "me"!)

By John Richardson

The rise in ethylene prices to what ICIS pricing says is a 17-month-high has created the widest spread between naphtha and ethylene since 2007.

As of last Friday (29 January), the spread was $620/tonne, based on ethylene at $1,310/tonne FOB Korea -and naphtha at $690/tonne CFR Japan. This compares with a spread of $627/tonne on 17 August 2007 and a tremendous $667/tonne on 5 January of the same year.

In 2007, the world was vastly different as it was in the midst of the highest economic growth in a generation.

Interestingly, despite the inevitable complaints of squeezed margins by PE producers - and anecdotal reports of market-driven rate cuts and plant-idling - the latest weekly ICIS pricing margin reports tell a more nuanced story.

"Naphtha-based ethylene margins in Northeast Asia rose by $37/tonne due to weaker naphtha prices," said The Ethylene Asia Margin report for 29 January.

Naphtha costs had fallen by 4.8%, offsetting a 4.6% dip in co-product values, the report continued.

Integrated low density PE (LDPE) and high-density PE (HDPE) margins also increased - by $30/tonne and $39/tonne respectively - said The Weekly Margin - PE Asia report.

And so the incentive for integrated producers to increase ethylene sales at the expense of PE didn't seem to be that strong as of last week, despite reports to the contrary.

On a non-integrated basis, however, standalone LDPE margins fell to their lowest level since July 2008, the report continued.

Average January HDPE margins were the worst since way back in September 2004, it added.

I would strongly suspect that converters, who, like the standalone PE producers, lack market muscle because of their scale, are also being squeezed; the few who I have spoken to since the start of the year certainly claim this.

Ethylene-PE margins have been strong because of temporary supply issues.

"Some ethylene traders have a sense that C2 prices will decline from March because of increased supply," said an industry source today.

"For example, a large amount of ethylene is expected to hit the market when the 800,000 tonne/year Shell cracker in Singapore starts up."

Shell is expected to have 180,000-200,000 tonne/year of ethylene to export when its cracker is commissioned in Q1.

The remaining surplus from its cracker (it's only associated plant is the 750,000 tonne/year Shell monoethylene glycol plant which came on-stream late last year) will be sold to other producers on Jurong Island, say market sources. How this will affect the market's net balance is uncertain.

"Another factor to consider is that Shell has actually been buying ethylene in order to run its MEG plant. So you have a buyer who helped tighten the market becoming a significant seller of ethylene," the source continued.

A further reason for the ethylene rally has apparently been tight supply from Iran as a result of unconfirmed cracker outages.

 Polyolefin supply has also been immensely tight since December on a host of production problems.

 Recent supply issues seem likely to be resolved over the next few months with a great deal of new capacity yet to come on-stream.

 The other reason to be bearish is the potential for weaker economic growth in China, concerns over which have led to a sharp correction in oil and other commodity prices during the past few weeks (higher crude has, of course, also underpinned the olefin-polyolefin price rallies).

 "The big factor to assess post-Chinese New Year will be the influence of China's tightening of lending conditions," the source continued.

 "The big monster in the room is China's property market and whether that might collapse. This is very worrying, indeed."

 As we said before, this is a very different world economy than in 2007.

 China's huge - and now apparently inflationary - economic stimulus has perhaps provided temporary protection from a great deal of lost export trade to the West.

 Because of deep-seated economic problems in the West, this trade is unlikely to be regained anytime soon.

"Hello everybody - welcome to the island of Sodor. Time to flip your positions'

Source of picture: www.dragoart.com

By John Richardson

MY three-year-old son has, quite rightly, an incredibly short attention span. A child of that age should be overwhelmed with the excitement of lots of wonderful experiences and possibilities.

But I would argue that some of those who write about and analyse financial and commodity markets should be able to retain a consistent thread of thought for slightly longer than it takes my son to switch from wanting to play Thomas The Tank Engine train tracks to screaming, stamping his foot and demanding a splash-around in the swimming pool.

There's a lot more money riding on effectively playing the deception game these days, though - for example, $20bn was invested in the oil futures markets in the first half of last year compared with $8bn in H1 2008, according to a commodities consultant.

So the motive to talk up good news or amplify bad news from one day to the next is incredibly strong, thanks to a ludicrous waste of government money that should have gone into creating real jobs in real and worthwhile industries.

To give you an example, the world was all doom and gloom late last week on tightening credit in China, poor economic news out of the US and the wider implications of Greece's government-debt crisis. Commodities prices across-the-board had been softening for several weeks.

And then on Tuesday of this week, whoosh - we had been saved by bullish global manufacturing data and manufacturers' sentiment indices.

Oil prices, as a result, had bounced back by earlier today to $76-77/bbl from around $73/bbl late last week.

Benzene bids for March loading were at $965/tonne FOB Korea and offers for April material at $980/tonne FOB Korea at noon today, according to ICIS news.

Benzene had been assessed at $910-935/tonne FOB Korea by ICIS pricing on 29 January, $115/tonne lower than the week before.

This is not a criticism, by the way, of my colleagues at ICIS pricing as their job - and it's a very difficult one - is to reflect the day-to-day shifts in sentiment in highly liquid markets such as benzene.

Short-term benzene price direction is increasingly being driven by erratic intra-day movements in crude - reflecting the huge capacity to gamble in oil futures. Every scrap of contradictory macroeconomic news and trade data is being seized upon to make a fast buck.

Perspective is what's needed and a big, deep proverbial breath, provided by journalists such as those who write the excellent Lex column in the Financial Times.

In Tuesday's column - on the release of all that bullish trade data etc - Lex wrote: "Surveys can be disconnected from reality. In the US, for example, the Institute of Supply Manager's survey (the latest figures from which were very strong) excludes small companies and therefore half the workforce."

If only all the front-page headlines on that same day had read something like "Surveys Can Be Disconnected From Reality".

One can but dream....

A Ring of Truth?

Source of picture: http://web.pdx.edu/~nathanh/benzene/benzene2.gif

By John Richardson

TUMBLING Asian benzene prices are being blamed on weaker crude, itself a reflection of macro-economic worries over higher-than-expected US jobless figures, government debt problems in the Euro zone and tighter credit in China.

"It's not a question of whether, but when the secon dip in this duuble-dip recession occurs. We are going through a transition period of lower global growth but the financial markets don't reflect this," said a lawyer friend of mine this morning.

"So you have crude overvalued thanks to all the free government money being used for speculation, along with other unrealistic pricing of other commodities and equities."

Hear, hear.

But as we said on Wednesday, financial-market players have big incentives to feed gullible journalists with constantly shifting economic outlooks. 

The muddle in newspaper headlines is quite extraordinary at the moment as only on Tuesday of this week, crude rallied on strong manufacturing data and rising manufacturers' sentiment indices.

So benzene could be back up again by Monday lunchtime.

But while the benzene traders are blaming the collapse of C6s on crude, overproduction on over-confidence in downstream chemicals demand that might not be there post-Chinese New Year has to also be a factor.

This suggest that there is a lot more to do this can merely volatile crude.

The fantastic spreads between naphtha and benzene of late must have also been a factor in higher operating rates.(click on link below with data from ICIS pricing ). Spreads were boosted in late December and early January on naphtha-delivery issues and benzene plant operating problems which tightened supply.

Naphtha-benzenespreads.xls

A separate point is that the benzene traders might have been playing their usual games - a further reason for the price declines.

"One particular trader recently sold large quantities of benzene in order to drive down the price of paraxylene (PX), as it needed to cover short positions on PX," alleged a source earlier this week.

A benzene cargo can change hands as much as six times before it's even loaded, and so it's devilishly difficult to separate the underlying fundamentals from the speculative claims.

But this gets away from the main point: The recent declines in benzene might just be an indication of the begining of the double-dip in this recession.

Mind you, I have said this many times before over the last 12 months 

By John Richardson

The start of the next dip in what this blog has long thought would be a double-dip economic crisis looks as if it could have begun.

If not now, it's going to happen at some point because of major global imbalances.

What's worrying right now is the combination of:

*Potentially weaker demand from Chinas as credit is tightened due to inflation concerns

*Government debt crises in Europe

*More negative than positive news on employment from the US

Further evidence of China's inflation challenge has emerged with the announcement that Jiangsu province, in eastern China, is to raise its minimum wage by at least 12% . Other major exporting and manufacturing provinces are expected to follow.

Concerns over Greece's ability to fund its budget deficit - along with other Euro zone countries such as Spain and Portugal - has been the main reason for the sharp fall in global equity and commodity markets over the last two weeks, according to the Financial Times.

Darius Kowalcyk, chief investment strategist at SJC Markets in Hong Kong, was quoted in the FT as saying that contagion thinking was behind the sell-off as concerns grew over a new global downturn.

"Asia continues to be so dependent on exports to the developed world, that if these developed market governments cannot fund their stimulus spending, then they will not grow and Asian exports will suffer," he added.

The across-the-broad collapse in markets is being partly blamed on exchange-traded funds - for example, the US dollar/crude funds. These operate via highly complex super-fast computer programmes that can move hundreds of millions of dollars within a fraction of a second.

The greenback has rallied as a shelter in the new economic storm, forcing crude down - revealing the lie that the rebound in oil was mainly due to stronger macroeconomic fundamentals.

Last year was a story of huge global economic stimulus with little or no focus on when this spending would have to be reduced.

"It seems the market (now) wants to accelerate an issue (winding down this spending) that the authorities were hoping that time would heal," Jim Reid, strategist at Deutsche Bank was quoted as saying in the FT.

A McKinsey report on Western debt - released last month - warned that investors might worry about public debt before private sector deleveraging had been completed.

The result could be a cut back in public debt before the private sector had completed its own reduction, damaging growth by far more than if an orderly wind-down took place, the report added.

Even with an orderly wind-down it could take a further six-to-seven years for the West to bring debt down to sustainable levels, said the study.

Worries over public debt in the Euro zone has caused a sharp fall in the shares of European banks with big exposure to weaker economies such as Greece, Spain, Portugal - and also Ireland and the UK (see table below from the European Commission, via The Economist, of the world's biggest national debtors measured as percentage of GDP).

 The full article in The Economist where this table was drawn from is well worth a read.

Logically, therefore these European banks might have to tighten lending - stifling finance to companies, particularly the medium and small-sized.

As for US unemployment, the overall jobless rate had fallen to 9.7% from 10% in January, with the retail and manufacturing sectors gaining 42,000 and 11,000 new jobs respectively.

But 8.4m jobs have been lost since the crisis began, 1m higher than previously estimated.

And most disturbingly of all, long-term unemployment - those without a job for 27 weeks - jumped to 6.3m from 2.7m a year earlier in January!!!

We'll be looking at the effect that these macro issues will have on chemicals over the next week or so.

Source of picture: http://www.twelveatthetop.uku.co.uk/page18.htm

...I see from this news report - - that you have denied claims of your interest in buying Liverpool Football Club.

If, perhaps, you do have any interest in buying an English football club may I turn your attention slightly eastward to the wonderful city of Leeds - home to the greatest football club on Earth?

Leeds Utd has a huge fan-base, which is passionate and loyal, and we'd be a lot cheaper. You would be, in effect, buying a Premiership club of the future as we are currently in the English third-tier of football - League One.

Should you be interested, please let me know and I can send you photocopies of my match-day programmes from the 1972-73 season.

Best Regards
John Richardson

By John Richardson

MORE evidence that China will not remain as easy a sink for surplus polyolefin volumes - especially in the case of the higher-cost importers - is emerging.

"There are plans to open a bonded warehouse in Guangdong province to sell RMB material converted into US dollar product," a Singapore-based polyolefin trader told me yesterday.

Those who want to buy polyolefins for re-export as finished goods always prefer to buy overseas material priced in US dollars, as this is exempt from the full 17.5% rate of value-added tax (VAT).

The importers deliver this stuff into bonded warehouses ahead of collection for processing and re-export.

"If the manufacturers involved in the re-export trade were to buy RMB material they would only be exempt from 13 percentage points of the VAT," the trader added.

"As a result, it's always more expensive to buy local material for this purpose."

But if there are now plans to deliver Sinopec and PetroChina-sourced product into a bonded warehouse, the competitive landscape might have started to shift.

"How it works is once you have converted RMB-priced product into resin priced in US dollars, which has to involve the use of a bonded warehouse, it becomes exempt from the full rate of VAT - the same as the imports," continued the trader.

"The only drawback is that you cannot then re-price the polymer back into RMB."

China is rapidly increasing its polyolefin capacity, therefore making the option to supply into this re-export market more viable as it is no longer as dependent on overseas suppliers.

The country's polyethylene (PE) capacity is due to increase by 1.99m tonne/year in 2010 to 11.1m tonne/year, while its ability to produce polypropylene (PP) is to set to rise by 2.74m tonne/year to 12.7m tonne/year, according to Shanghai-based commodity information service, CBI.

It's easy to imagine much more local volume being delivered into bonded warehouses as China's capability to produce polyolefins continues to improve.

China's producers are able to minimise costs in ways not open to some of the higher-cost importers, such as those in South Korea and Japan who operate sub-world-scale naphtha-based cracker and derivative complexes.

Some exporters from Europe would also be vulnerable, while the US ethane gas advantage might be able to buy a number of its PE players a little more time.

The commodity-grade end of the business could end up even more firmly in the hands of the local Chinese producers and the Middle East players.

A post-Chinese New Year dream....

Source of picture: http://www.scsa.net.au/

By John Richardson

The large amount of polyolefins delivered to China over the past few months is causing further head-scratching and anxiety among producers and traders.

One view, well rehearsed previously on this blog, is that this is further evidence of a speculative bubble that will pop as a result of tighter bank lending in China.

There might be even more pressure on this "bubble" following China's 12 February decision to raise bank-reserve requirements for the second time in a month.

However, some economists argue that was only to be expected, and is a regular tightening exercise that takes place post Chinese New Year (CNY) to even-out lending. There is traditionally a surge in lending ahead of the CNY.

The big anti-inflationary step, which has yet to happen, would be to raise deposit and/or lending rates, they argue.

Returning to polyolefin markets, the optimistic view is that widely reported high inventory levels will be quickly absorbed when CNY comes to an end (the official holidays in China run from 14-19 February).

High stocks are being reported both in bonded warehouses (for imported US dollar-priced material) and in other warehouses (for locally, yuan-priced product).

"Around 1.3m-1.4m tonnes of polyolefins were delivered to China in December and a further 1.3m-1.4m tonnes in January, according to our analysis," said a Singapore-based trader, who is among the optimists.

"Although China's imports of many products are generally high in December, prior to a slowdown for the [Lunar New Year holidays] in January/February, the volumes this December were exceptionally high," said Jean Sudol, president of US-based trade-data analysis service, International Trader Publications.

This suggests that there might be inventory pressures in China in more than just polyolefins, given that January is always a quiet time for demand across the board.

So what drove reports of in the context of what is already going to be a stellar year for shipments to China?

"In early November, linear low density polyethylene (LLDPE) prices for physical cargoes were below those on [the] Dalian for the settlement month of May 2010 and beyond," said the trader.

(China's Dalian Commodity Exchange offers monthly futures contracts in LLDPE film up to a year ahead. The contracts have become an important indicator of sentiment and therefore physical price direction).

"The stronger futures pricing in early November reflected crude increasing to around $82/bbl and forecasts from banks that it would reach $95-100/tonne in 2010," he added.

"It was also down to confidence that Chinese growth would remain very robust in 2010.

"[The] Dalian is used as a proxy for the direction of all physical polyolefin pricing, and so we saw a lot of interest from traders in acquiring all grades of PE and polypropylene (PP) to ship to China, after this early November turning point."

Low density PE (LDPE) was also buoyed by very tight supply due to outages, he said.

This analysis of what drove increased imports and prices in November-January was supported by a source with a major global polyolefin producer.

"It's easy to assume high inventories in China indicate a bubble, but I am not that sure," said the source.

"On the growth side, yes, measures have already been taken to cool the property sector. There might also be a little less easy money available to fund speculation and discretionary spending on consumer goods.

"But I think this will be replaced by further strong consumption growth in less-developed regions, and huge government infrastructure spending throughout China.

"Infrastructure projects launched last year have yet to be completed with more spending on roads, railways etc still to come."

The Singapore-based trader and the source with the producer both point to the absence of panic among the Chinese traders and distributors holding high stocks.

"Nobody is in a rush to liquidate. The reason is that despite the credit tightening, possible US restrictions on proprietary trading by banks and more anxiety over European government debt problems, polyolefin pricing has only edged down since late January," said the trader.

Prices for several grades of PE in Asia fell by $10-50/tonne for the week ending 5 February, according to ICIS pricing. PP remained either stable or increased by $20-30/tonne, depending on the grade.

Both PE and PP pricing were reported to be stable for the week ending 12 February as the Asian market was closed for the Lunar New Year holidays.

One might well ask what on earth the connection is between a possible US clampdown on investment banks, sovereign debt issues in southern Europe and polyolefin pricing.

"The link is that on a day-to-day basis at least, sentiment in wider commodity and equity markets is playing an increasing role in what people are prepared to pay for polyolefins," said the producer.

Low producer inventories outside China are a big factor behind why pricing has only eased slightly since the gloomy macroeconomic news broke, said the trader.

"Producers have managed their stocks so well that they can afford not to budge on what is pretty much theoretical pricing at the moment, as the market is so quiet ahead of the [Lunar New Year]."

Concurring with the producer's view on continued strong economic growth in China during 2010, the trader added: "As early as the first week of March, we should begin to see the strength of demand after the New Year.

"I think we will see these high polyolefin inventories easily absorbed as Chinese buying picks up ahead of the peak season for manufacturing finished goods, which occurs during the summer months."

Let's hope for everyone's sake that he proves to be right, as further strong support from China is crucial for the survival of this tentative, very nervy and very patchy recovery.

By John Richardson

"IF YOU want to develop a good memory, you should learn to stop xxxxxxx forgetting, you brain-dead idiot" a former editor of mine often said, in his charming Glaswegian accent, after I had made the same mistake yet again.

The same might apply to petrochemicals where maybe, just maybe, shutting down capacity with so few new projects being planned post-2011 could end up being the wrong decision - prompted by the mistaken belief that history won't repeat itself.

This chart, drawn up by my colleague and fellow Asian Chemicals Connection blogger Malini Hariharan, lists the paucity of announced investments in the Middle East. (It's hard to think of that many projects elsewhere.)

The chart shows announced new ethylene additions for the region: 

Source: ICIS

"I noticed that 2015 was the date identified by KPMG by which time 14 of the 43 crackers in Europe should have shut down," said a senior industry source yesterday - referring to a recent study by the management consultancy.

"But by 2015-16 I think we could be in the midst of the next up-cycle and so anybody who exits this business, no matter how uncompetitive they seem to look right now, might end up regretting it."

I wasn't entirely sure, having only met this particular source once before, whether he was having a little fun with a gullible journalist by suggesting that old European crackers really have a future in a world dominated by the Chinese and the Middle East.

His broader point, though, was as old as the hills and might still have validity: Companies overbuild when they have money and markets are tight, suffer when supply lengthens and so hardly invest at all; they once again find themselves in very tight markets and so on and so on.

In the midst of all the talk of a new and permanently-changed competitive landscape, this reminds me of how the Japanese government back in the early 2000s warned that around 2m tonne/year of the country's uncompetitive ethylene capacity would have to close dow within a couple of years.

All of that capacity is still running and has made good money from the China boom.

The above scenario - of an upswing by 2015-16 - presupposes, though, that the world economy won't suffer any further cataclysmic setbacks.

Put yourself in the position of a European cracker operator with all the above uncertaintie. Unless you are absolutely forced to shut down why bother?

It would be pretty damned annoying to be the first to shutter your plant - only to later find out that you were also the last due to a strong market recovery!

By Malini Hariharan

Just when Asian propylene prices started easing comes news of disruptions in production and price hikes in the West.

Propylene availability in Europe was hit after a strike by Total's refinery workers early in the week resulted in the closure of 36% of France's C3 capacity. This forced Total to declare force majeure on propylene supplies. Then Shell Chemicals declared force majeure on ethylene and propylene supplies from its Moerdijk cracker in the Netherlands due to reduced operating rates.

The strike at Total has been called off and production at the refineries will be restarting soon but the developments helped tighten an already short European market and supported an increase in the March propylene contract price, reports ICIS news.

The US too is expected to see increases in propylene prices with one producer nominating a $110 increase for March.

Asian propylene prices have yet to react strongly to these developments although sellers are trying to raise prices. They will of course be supported in this endeavour by upcoming cracker turnarounds.

"Some traders are also trying to take Asian propylene to the West; we had an offer. But the arbitrage window is not big. Asia appears to be adequately supplied," says a source from a major Asian cracker operator.

Meanwhile, the propylene situation has started to impact PP markets. European buyers are bracing for PP price hikes in March while offers in the Middle East have already risen by $30/tonne, reports ICIS news. Availability from this region is likely to be constrained in March as Oman Polypropylene and Advanced Polypropylene will be carrying out maintenance shutdowns in March.

"Polymer markets opened with a bang after the Lunar New Year; prices went up yesterday. There are the Asian turnarounds and people are still struggling with new plants," the source points out. This is certainly creating room for optimism, he adds.

Source of picture: http://www.referenceforbusiness.com/

By John Richardson

GROWTH in Europe isn't going to return to 2008 levels before 2012, said BASF CEO Jurgen Hambrecht on the release of the German diversified chemical giant's financial results for last year."

Overall, there are no signs of a self-sustaining, long-term recovery. We are still significantly below the capacity utilisation rates that were seen ahead of the crisis," he added.

"(We expect) the majority of growth to come from the emerging economies in Asia, especially China, and from South America.

Stimulus programmes are being wound down, credit is becoming tighter, excessive national debt is leading to austerity measures, the number of jobs is falling and overcapacities still exist.

"There are further risks associated with geopolitical tensions and a trend towards protectionism."

Whenever anybody tries to talk-up the recovery story over the next year, these words will be worth returning to as a crucial reality check.

By John Richardson

THE whinging is getting almost unbearable in Southeast Asia over the Asean-China Free-Trade Agreement (ACFTA).

The deal was under discussion for EIGHT years and yet chemicals and polymer producers and customers seem to have left it until after-the-fact to start raising objections.

Indonesian industry association representatives have gone as far as to suggest that 7.5m out of the country's total of 30m manufacturing jobs are under the threat as a result of ACTFA.

And at a conference in Singapore today I had to endure polymer producers from Southeast Asia moaning about not being able to compete with big bad China.

"There's no point in complaining now. What needed to happen was for industry representatives to take an active interest in negotiations for these free-trade deals right from when they first began," said a well-informed source.

"But instead this was pushed to the back of the collective mind. Clearly, China's competitive position has improved greatly since the talks started eight years ago, which is exactly why producers should have been constantly engaged in the debate.

"It will be very, very difficult to change the terms of ACTFA now because of the level of politics involved."

The approach of the Southeast Asian industry players was in stark contrast to that of their counterparts in India who managed to get petrochemicals excluded from an India-South Korea free-trade deal a few years ago, he added.

Have the lessons being learnt? Let's hope so as discussions take place for Singapore-European Union (EU), Thailand-EU, Vietnam-EU, Indonesia-EU and Malaysia-EU free-trade deals.

More on these negotiations later on.

Source of picture: www.turkeytravel.com

By John Richardson

THE economic crisis continues to force the global chemicals industry to think on its feet due to, among many other things, persistently tight credit in some regions.

China has also become even more of an important market with every rumour and counter-rumour about levels of demand there influencing sentiment throughout the world - including, as we'll talk about in a moment, Turkey.

This almost obsessive focus on in China is a reflection, I think, of weak growth fundamentals in the US and Western Europe. The flawed hope remains that China and other emerging markets can return the chemicals industry to the same level of health it enjoyed in 2003-07 without a developed world recovery.

"Banks in Turkey are less willing to lend to the basic plastics business because of the experience of Q4 2008 when prices collapsed and many producers were left with large inventory losses," said a Turkish polyolefin trader who I spoke to earlier this week.

"The good news is that because our mortgage sector is less developed than in some other places, our banks are not burdened with large debt.

"But they are still cautious and this caution means that as a trader, you have to marshal credit very carefully and, wherever possible, help your customers. The distributors we deal with are now keeping around 5-10% of their annual revenues as stocks compared with 10-15% before the crisis."

The oversupplied container-shipping industry has also rationalised vessel availability, resulting in a steep rise in freight costs from Asia to Turkey, he added.

"This has forced us to look elsewhere for supplies and so now we are sourcing more from Turkmenistan and Bulgaria."

Ten years ago if you had asked anyone in the Turkish chemicals industry about the state of demand in China, you might have been asked why on earth you thought this was relevant.

But in the same interview, the Turkish trader gave me a full run-down of post Chinese New Year demand conditions in China, thanks to his discussions that same day with contacts in Shanghai and Beijing.

Given what he agrees are weak long-term fundamentals in Western Europe, he is as anxious as anyone over whether recent polyethylene (PE) and polypropylene (PP) price declines in China will persist.

He forecasts that overall polymer demand-growth in Turkey, which averaged 17% per annum in 2001-07, will return to double-digit levels by 2011. Growth was minus 6% in 2008 and only 3% positive last year.

But is it realistic to expect this to happen without a recovery in the developed world which seems unlikey to occur until after next year?

By Malini Hariharan

Many Asian aromatics producers are optimistic that the worst is over and a gradual improvement in global demand coupled with firm Chinese demand will help them through 2009.

There is also the expectation that a pressure on refining margins will lead to more plant closures which would also help the aromatics business.

A source at an integrated refinery and aromatics producer points out that nearly 2m bbls/day of refining capacity addition took place last year and another 800,000 bbls/day of capacity is due by next year.

"This will be offset by reduction in capacity in Europe and the US. We have seen reports that suggest that nearly 7m bbls/day of capacity will have to close," he says.

"In the future the refining industry needs more investment to meet environmental regulations. Investment at old plants this investment is not justified and they will have to close," he adds.

An industry analyst says that every refiner talks of closures but wants another company to implement them.

Refiners with high cost facilities in the West are the ones under greatest pressure but pushing through a capacity reduction programme is not always easy as Total's experience in France shows.

The company confirmed on 8 March that it would permanently shut down its Dunkirk operations due to a collapse in demand. The refinery had been idled in September last year.

Despite assurances of zero job losses unions were quick to call for a new strike.

The first source says that some refineries may limp along for a year or two. But eventually poor profitability will force a shutdown although governments may have to step in to help companies close plants.

A high chance of more showers

Source of picture: www.stuff.co.zn

By John Richardson

A closer look at last year's polyolefin trade flows illustrates just how vulnerable European producers will be over the next few years to rising pressure from Middle East imports.

"The volume of trade in Western Europe (intra-regional plus imports) for all the grades of polyolefins and polyvinyl chloride (PVC) fell by between 3% and 18%  in 2009," said Jean Sudol, president of International Trader, the New York-based trade-data analysis service.

"But at the same time imports from the Middle East actually increased."

A slowdown of imports into China seems inevitable this year after the staggering increases seen in 2009. For example, low-density polyethylene (LDPE) imports rose by 90% over the previous year to 1.34m tonnes and polypropylene shipments were up by 49% at 4.2m tonnes.

"A reduction in government stimulus, new capacity in China and the difficulty in repeating the sheer size of imports in 2009 points to a slowdown in 2010," added Sudol.

"My guess is that imports won't fall back to 2007/2008 levels and will still be high in 2010, but not as high as in 2009."

So the Middle East producers, as they ramp-up capacity this year and in 2011, will be searching for other destinations to compensate for a dip in demand from China. Europe is an obvious port of call.

ICIS pricing's Worldwide ethylene plant report shows that in the five years from 2008 to 2012, around 29m tonnes/year of new ethylene capacity will be added.

Nearly 16m tonnes/year will be added in the Middle East and around 14m tonnes/year in Asia, of which China accounts for nearly 7m tonnes/year, says the report.

This has partly been offset by the 2m tonnes/year that has closed in North America.

However, some 16m tonnes/year of this capacity growth was still to become operational as of the end of February 2010, the report adds.

"Ethylene demand actually fell in 2008, as economies crashed and extensive de-stocking took place throughout the value chains," wrote my colleagues Paul Ray and Peter Taffe in a recent article on our magazine, ICIS Chemical Business.

"In 2009, demand recovery has been weak. In normal market conditions, a rule of thumb indicates that ethylene demand globally grows at 5m tonnes/year. "

Paul Hodges, UK-based consultant with International e-Chem, added: "These new Middle East plants are going to run at close to the optimum rate of 93%, regardless of market conditions, because of their feedstock advantages,"

A painful reckoning is clearly at hand with restructuring likely to be given some extra impetus by problems in the European refinery industry.

By John Richardson

The chairman of China Construction Bank has spoken about the dangers created by China's GDP (gross domestic product) expanding by more than 9.5% in 2010, which, according to many analysts, seems highly likely: GDP is estimated to have risen by 11-12% in Q1.

"It (too-rapid growth) will mean more duplication of construction, more excess capacity and higher waste of capital," the bank's chairman, Guo Shuqing, is reported to have added.

Oversupply of money and increased liquidity leading to inflation and asset-price bubbles were further problems he identified.

New bank lending amounted to one-third of China's GDP in 2009 - and at Yuan9,600bn ($1,400bn) was double the amount leant the previous year.

This latest official warning about overheating - a concern long-expressed by this blog - might indicate that further economic tightening measures are being considered.

Basic chemicals and plastics exporters to China, as we also keep repeating, are therefore going to need to budget for the possibility of a sharp dip in business during the rest of 2010.

We keep saying these things because we continue to be fed the same bland public-relations speak from chemical company officials.

They keep insisting that China will continue to deliver stellar growth, both in the short and long-term (we'll revisit the longer-term issues later this week).

If this vacuous nonsense is just for the consumption of the odd gullible journalist perhaps that's fine, as maybe beyond our view some sensible scenario planning is taking place.

But at the very least what journalists write about is being read by investors, meaning over-expectations could be followed by a sharp drop in share prices.

Source of picture: www.destination360.com

Dear Reader

Please click here - ChinaChems2009AndOutlook.doc for my review of what happened in China last year and Q1 2010 and for some pointers for the rest of this year.

All the best
John Richardson

Flagging Recovery

Source of picture: www.guardian.co.uk

By John Richardson

THE latest US Institute of Supply Management survey signalled a buoyant manufacturing sector, in line with likely Q1 GDP (gross domestic product) growth of 5%, says the latest Weekly Chemistry and Economic Trends report from the American Chemistry Council.

"Consumer spending is expanding and this continued into March as evidenced by light vehicle sales. Moreover, consumers appear to be regaining some degree of confidence," continued the report.

Light vehicle sales rose from an annualised 10.4m units in the year to February to 11.8m in March with the Conference Board's latest consumer confidence index showing a strong increase.

But as fellow blogger Paul Hodges points out light vehicle sales were 15-17m per year in 1995-2007.

"With each auto using $2973 of chemicals, according to the ACC, this means the market is currently worth just $35bn versus its peak of over $50bn," writes Hodges.

And the 162,000 improvement in non-farm payrolls - announced late last week which has contributed to this week's rallies in equity and crude prices - was placed into context by the excellent Lex Column in the Financial Times over the weekend.

"Recruiting for the census and a rebound from snow-hit February boosted the count, but clearly more people were hired than fired," writes Lex.

"The problem, however, is that the job market is unlikely to stick to the recovery script from here.

"Natural workforce growth is one impediment, as is return of the discouraged. The broadest measure of unemployment, capturing those who give up or take part-time work, stands at 18 per cent. Moderate economic growth will keep headline unemployment frustratingly close to double digits.

"From where will a strong rebound in demand for US goods and services come? China is tightening and Europe is moribund. US states must rein in spending. Inventory restocking is largely complete, so businesses need higher sales to generate activity.

"Ample spare capacity means industry can survive with little investment. Small businesses, responsible for almost half of recession job losses, need to seek credit from regional banks feeling nervous about commercial real estate exposure."

Hear, hear. From a chemicals-industry perspective, there's clearly a risk of mistaking restocking from historically-low inventory levels for a solid recovery.

Source of picture: www.thewecc.com

By John Richardson

Confusing messages continue to emerge from Beijing over whether a revaluation of the Yuan is imminent, a debate that has major implications for the chemicals industry.

The Financial Times reported this morning that senior government economist Ba Shusong had said that China could widen the currency's daily trading band and allow it to resume its gradual appreciation that was halted in July 2008 due to the credit crisis.

But Bloomberg quoted Jiang Yu, spokeswoman for China's foreign ministry, yesterday as saying that a rise in the value of the Yuan would not help correct China's trade imbalance with the US. This perhaps suggests that the Chinese government will argue the case for no revaluation during important meetings in Washington later this month.

Nevertheless, the same article quotes Stephen Roach - Morgan Stanley Asia chairman - as predicting that a US decision to delay a verdict on whether or not Beijing is a "currency manipulator" has eased tensions and made it more likely that a managed float will be resumed. The Treasury's verdict had been due on 15 April.

As we pointed out in late March and yesterday, the irony of the extraordinary rise in exports to China of chemicals and plastics during 2009 was that these volumes probably helped to further undermine the domestic consumption base of the US and European exporters. A lot of the increased volumes went into filling the inventories of new partly export-focused manufacturing plants built as a result of China's huge economic stimulus.

If the value of the Yuan does rise then how hard will some of these new manufacturing plants run - particularly the ones making low-value products where the current currency advantage is crucial for maintaining thin margins?

If their operating rates are forced lower as these factories lose competitive advantage, this might contribute to lower chemicals and plastics import volumes.

But the bigger deal for the chemicals industry would be an easing of trade tensions between the US and China, thanks to the resumption of a manged float and a clear policy for gradual appreciation. Increased trade tensions and resulting sanctions could otherwise severely damage the fragile and uncertain economic recovery.

US chemicals producers might also benefit if their local customers enjoy an improved competitive position as a result of a stronger Yuan.

But this will only occur if other lower-cost manufacturers don't step in to gain any market share lost by the Chinese!

By John Richardson

Polypropylene (PP) appears to have become very tight in China over the last week as a result of a reduction in import availability and a resurgence in buying activity.

"PP is incredibly tight right now because the supply from North America is no longer available for delivery to China," said a Singapore-based trader.

There's been a sharp decline in availability from North America as a result of rising propylene costs.

C3s have risen by 53% since November 2009, according to my Houston-based ICIS pricing colleague, William Lemos. Contract pricing for April settled on Tuesday at 7 cents/lb higher ($154/tonne).

The surge in US propylene has been driven by reduced refinery operating rates on the dismal state of the refining industry globally.

PP producers have become more heavily dependent on feedstock supply from FCCs over the last 12 months due to crackers switching to lighter feedstocks.

"US Gulf Coast crackers are running on 82% ethane and only 18% naphtha compared with 65% ethane and 35% naphtha a year ago," a North American industry source told the blog earlier this week.

The switch to lighter feeds is the result of tumbling US natural gas prices relative to crude, a response to the big rise in local gas supply.

"I haven't seen virtually any US material arriving in China so far this year and the Middle East producers, for whatever reason, don't seem to be able to fill the gap right now," the Singapore trader continued.

But the lack of US dollar material has only tightened the China market over the last week as before then buyers were largely on the sidelines, the trader added.

"What happened about a week ago was the sudden re-entrance of the baxially oriented (BOPP) finished-film producers who hadn't been buying raw-material resins for several months," he said. 

"These finished-film producers are big in scale in China, using the latest modern equipment, and so when they buy they buy in big volume.

"I think they came back in a rush because both yarn and BOPP film-grade resin prices had slipped to very affordable levels (these converters can run either yarn or BOPP film-grade resin through their machinery).

"A big factor behind their re-entry into the market was the rise in oi prices."

Yarn grade was at $1,250-1,300/tonne CFR main port China and BOPP film-grade resin was at $1,280-1,350/tonne CFR main port China, according to the ICIS pricing assessment for the week ending April 2.

As the ICIS pricing graph below indicates, pricing for these two grades has declined recently.

All homopolymer grades were in tight supply with stocks in bonded warehouses almost exhausted, the trader added.

This might just scupper the hopes of European buyers who are keeping an eye on availability in Asia in an effort to gain relief from high local PP pricing.

PP prices have already increased in Euros200/tonne in 2010 with further rises of as much as Euros130/tonne on the cards, according to my London-based ICIS pricing colleague, Linda Naylor.

PP Producer inventories in Europe have been low a result of restricted supply of C3s due to refinery and cracker operating-rate cutbacks.

Propylene supply is restricted because European refineries are running low on the terrible state of refining margins.

Cracker rates were also cut back earlier this year in an effort to initially prevent ethylene from becoming oversupplied.

By Malini Hariharan

H2 is just two months away but one China-based market participant says that there is still a total lack of clarity on price direction for the rest of the year.

Buying activity picked up last week but he is not confident that this can be sustained. And he is certainly not expecting China to deliver a repeat of last year's record rise in imports and demand.

The China market is redefining itself this quarter, he says.

Stocks, which had built up over Q1 and Q4 2009 are slowly coming down. Speculative activity is also easing as Chinese banks tighten credit availability.

He expects many new traders/speculators who entered the market in 2009 to exit. The froth that was seen last year would slowly evaporate, the market player added.

On the positive side, China has been reporting a steady rise in monthly export numbers.

Pic source: Financial Times

They are not yet back to pre-crisis levels but this will contribute to polyolefin demand growth, he adds.

As for revaluation of the yuan, he thinks the Chinese government will follow its own timetable and will not want to hurt exports in the process. As the third quarter and fourth quarter are viewed as the peak manufacturing season when exporters make money, the government is unlikely to disturb exchange rates during this period, he adds.

Although the outlook is hazy, he expects prices to fluctuate in a narrower band this year with crude oil propping up numbers at the lower end of the range and increased availability from new plants preventing significant increase in prices.

Ben van Beurden of Shell Chemicals

Source of picture: Shell.com

By John Richardson

SINGAPORE looks set to soon make some further announcements on high-value investments downstream of the new Shell Eastern Petrochemical Co (SEPC) cracker.

The complex - which comprises an 800,000 tonne/year mixed-feed cracker and a 750,000 tonne/year OMEGA process monoethylene glycol (MEG) plant - was officially opened yesterday.

SEPC already has a contract in place to supply raffinate 1 and 2, after butadiene has been extracted, to Lanxess's 100,000 tonne/year butyl rubber project, said Ben van Beurden, executive vice president of Shell Chemicals, in an exclusive interview.

SEPC is a wholly-owned subsidiary of Shell Chemicals.

Lanxess, the German speciality chemicals major, is due to hold a groundbreaking ceremony for its project this month.

The start-up date for the planned facility was advanced to Q1 2013 in January this year, after being earlier delayed by the global economic crisis.

Butadiene sales from SEPC (it has a 155,000 tonne/year capacity) were a mixture of over-the-fence and exports, van Beurden added.

And he said: "We also have surplus propylene and ethylene (from the new cracker) and we are in advanced discussions on an array of options to make use of these feedstocks. Announcements will be made in the coming months."

He was unable to disclose any details.

My colleagues at ICIS pricing estimate that Shell has 150,000 tonne/year of ethylene for export at the moment with van Beurden adding that some surplus C2s are being sold to domestic customers.

Some of the propylene produced by the cracker (450,000 tonne/year) is being sold to the Shell Singapore-based styrene monomer/propylene oxide subsidiary, Seraya Chemicals, with exports also taking place, he added.

The cracker also has the capability to produce 230,000 tonne/year of benzene.

(Shell Chemicals' mixed-feed technology gives it the ability to cracker very light to very heavy feedstock, including hydrowax. The hydrowax is being supplied from a modified hydrocracker on Bukom Island in Singapore, where the cracker is located. Shell's MEG plant and the rest of Singapore's petrochemicals industry - and where the new investments will take place - is just across the water in neighbouring Jurong Island)

Van Beurden was keen to stress that SEPC's surplus products are all being sold on long-term contracts.

But Singapore is clearly looking to use the new complex as a basis for much greater and wider value-addition: The SEPC complex was expected to lead to a new wave of high-value downstream investments in Singapore, the country's Prime Minister Lee Hsien Loong said in a speech to mark the official opening.

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Gillian Tett: Worth Listening To

Source of picture: afponline.org

By John Richardson

The excellent journalist Gillian Tett, whose book on the financial crisis - Fool's Gold is well worth a read - again hits the nail on the head in this piece in today's Financial Times.

She says that if the whole of Greece suddenly vanished into the ocean it wouldn't make that much of a difference to the global economy in terms of demand for tangible things, real things - including chemicals, of course.

But she argues that what matters is how Greece interconnnects with bond and banking markets, with signs emerging that banks across Europe are once again becoming reluctant to lend.

It is the lack of understanding of these interconnections that's perhaps creating the fear factor behind the falls stock markets in Asia and the West.

Bear Stearns was just one bank that failed, but it was its connections with the wider financial system that  ended up mattering . Its collapse also pointed to rot throughout the system

The same could apply to Greece if Portugal, Spain, Italy Ireland - and even the UK - follow.

Chemicals company CEOs were careful to point out on the release of strong Q1 results that there were lots of risks ahead, including what BASF's Jurgen Hambrecht warned was the likely withdrawal of national goverment stimulus from the second half of this year.

Peter Voser, CEO of Shell, highlighted this same risk during a press conference earlier this week to mark the offiical opening of the company's new cracker complex in Singapore.

But if the Greek crisis spreads, more not less government money might be needed to shore up developed-world economies.

Just where is that money going to come from?

David Cameron

Source picture: right up north

By John Richardson

Nothing to do with chemicals, but indulge me - this is a once-in-five-years event.

I really miss, in some ways, the pantomime politics of the 1980s and early 1990s when you had clear enemies (in my case Thatcher, as she devastated large swathes of the country as she closed down coal mines, steel mills and most of our manufacturing industry).

It was emotional, it was tribal, it could be very irrational, it was still driven by the old British class system, but each party had clear policies and so you knew where they stood.

As the parties have coalesced into the bland middle so the personalities seem to have become equally bland. This might be a lot better for running an economy, but it makes for poor entertainment.

So despite all the excitement over a hung parliament, watching the speeches of the three main candidates has been, on the whole, about as engaging as watching paint dry.

And as my wife, Connie, so eloquently said this morning:

"Gordon Brown seems very serious and intelligent and is probably a decent bloke but has no charisma.

Or as a friend puts it: "Comparing Cameron to Obama, which I've heard recently, is a bit like finding out your favourite song has ended up in a commercial for a cheap fast-food restaurant."

By Malini Hariharan

The blog has been writing about the softening in olefin and polyolefin prices in the US. But the European market presents an interesting contrast offering arbitrage opportunities for those willing to take the risk.

Operating rate reductions have been reported at crackers in Priolo, Italy; Tarragona, Spain; Carling, France; Cologne, Germany; and in the UK at Grangemouth, writes Nel Weddle the ICIS pricing olefins editor.

However, none of these have been officially confirmed by the companies concerned. But operating issues have been confirmed at Borealis' cracker at Porvoo, Dow Chemical's No 2 cracker at Terneuzen and LyondellBasell's plant at Berre in France.

Enquiries for spot ethylene have increased but propylene remains soft as problems at derivative plants has freed up supplies.

Linda Naylor, the ICIS pricing editor for polyoelfins, reports that tight supplies have forced some PP buyers to agree to a price hike of Euro30/tonne (about $38/tonne) for May shipments.

Buyers had hoped that the tightness experienced since January would ease in May. But the situation has not eased because of operating issues at plants around the region.

Firm European prices should tempt traders to bring in product from other regions. But no deals have been reported as a weak Euro coupled with expectations of a price slide in the second half of the year has made traders reluctant to take a position in the market.

Mumbai at night

Source of picture: travelygan.wordpress.com

By John Richardson in Mumbai

POLYOLEFINS will not see a margin collapse this year due to persistently strong demand growth and continued problems with new-capacity start-ups, said numerous industry sources on the sidelines of the Asia Petrochemical Industry Conference (APIC) in Mumbai.

The belief seems to be growing that barring another catastrophic global economic crisis, the industry should be fine.

It is interesting that sources are expressing bigger fear of a demand rather than a supply-side shock. This is the result of the belief that associated gas shortages in Saudi Arabia, problems in starting-up new plants and operating-rate discipline among western producers will continue.

Booming Asian demand has created a lot of confidence. Is this misplaced?

China's apparent polyethylene (PE) consumption grew by 36.9% in 2009 over the previous year and polypropylene (PP) demand by 29.1%, according to the petrochemicals consultancy, DeWitt & Co.

"On scrutiny, much of the 2009 growth was due to replenishment of stocks after massive de-stocking at the end of 2008 and also reduced use of recycled material by converters," said Mazlan Razak, Kuala Lumpur-based consultant with DeWitt & Co.

But growth remains strong so far this year and is likely be above 10% for the whole of 2010, estimated several sources.

In India, polypropylene (PP) demand grew by 27% in 2009, according to India's Chemicals & Petrochemicals Manufacturers' Association (CPMA).

PP will grow by 12%, reaching apparent demand of 2.462m tonnes, the CPMA adds.

Overall PE growth was 7.6% in 2009 but is expected to accelerate to 10.5% this the year, the CPMA continued. This would leave India's apparent demand for all grades of the polymer at 2.879m tonnes.

Is The China Party Over? Hope you've got plenty of aspirin..

Source: The Daily Telegraph

By John Richardson

Apologies to our readers for a fairly quiet week on the blog this week - my fellow blogger Malini and I have been immersed in a week of training courses for our rapidly-growing training business, ICIS training. We will be back with a roar next week.

But we cannot let the week pass without commenting on this story from ICIS news.

This blog has frequently warned about how excess liquidity in China has created the potential for inventory distortions accelerating a downward price-spiral.

And sure enough these lines from the ICIS news story indicate how worries over the European debt crisis combined with high stock levels threaten to add to the momentum of price declines.

"The polyethylene market, meanwhile, was plagued with high stocks, with Chinese petrochemical majors PetroChina and Sinopec currently holding a total of 750,000 tonnes of the material, industry sources said.

The stocks were just a quarter short of the peak of 1m tonnes in August 2008, before the financial crisis struck"

One contact ours said on the sidelines of last week's Asia Petrochemical Industry Confwerence (APIC) in Mumbai: "My management has been asking me for the last 18 months 'where are all the volumes you've been shipping to China going?. Actual demand growth surely can't be that good'. I told them to enjoy the export boom while it lasted while expecting it to be brought to an end at any timy by some big economic event beyond our control."

How right he was to warn his board to be prepared for a dramatic weakening of market conditions.

Let's hope that his board took notice.

Greed definitely not good for chemicals....

Source of picture: reelmovienews.com

By John Richardson

THE chemicals industry is once again confronting the risk of being badly damaged by the ever-more interconnected oil, other hard commodity, currency and equity markets.

As fellow blogger Paul Hodges told us last November: "Demand visibility - even without as yet a collapse in crude - is already extremely poor, making planning very difficult.

"More companies go bust in an upturn than a downturn, because of the inevitable increase in working capital. This is a major risk in 2010, given the fragile state of the financial system, and banks' unwillingness to lend."

We have now seen a mini-collapse in crude from around $87/bbl at the beginning of May to this morning's NYMEX price for July delivery of $70.33/bbl.

One of the reasons for poor visibility back in November was confusion over to what extent crude prices reflected a fundamental improvement in demand versus financial speculation that a sustained global economic recovery was just around the corner.

Now we have our answer: Money has poured out of crude and into the US dollar, indicating widespread aversion to risk and a clear indication that the rise in oil prices was, indeed, mainly built on speculation. The switch to the dollar, as the US dollar carry-trade starts unwinding, could gain very damaging momentum.

Further strengthening of the dollar would also very likely lead to greater reductions in other futures-traded commodities, such as metals - and equity markets.

John Authers of the Financial Times neatly summarises the evolution of markets to where we are today.

Problems he identifies include the rise of super-fast computers that can move hundreds of millions of dollars in milliseconds between commodities and equities, the "other people's money" syndrome" (i.e. the rise of trading by institutions), and "herding" - investment managers following the general trend because of the way they are incentivised.

This has exacerbated bull runs and has made bear markets worse.

Fear has once again overtaken the investment community as talk of a double-dip recession and deflation regain popularity.

Until or unless regulations are introduced to make commodity and financial markets less greedy, less short-term, and less driven by what Hodges describes as "irresponsible bankers", an important part of managing chemicals businesses will remain understanding how all these markets work.

By John Richardson

LAST week's sharp decline in polyethylene (PE) pricing in China is being partly blamed on converters who occasionally act as traders liquidating their raw-material inventories.

Trading activity by end-users can account for more than 10% of total sales activity in the Chinese market in any one week, the blog has previously been told.

A broad-based price correction on declining crude was reported by ICIS pricing for week. For example, linear low-density PE (LLDPE) was assessed $90/tonne lower at $1,160-1,230/tonne CFR China on 21 May compared with the previous Friday. High density PE film was at $1,120-1,150/tonne CFR China - down $60/tonne.

"The converters saw crude slipping and so might well have entered markets in great numbers to sell their stocks. It should be remembered that compared with conventional traders they are always in a stronger position to trade resin because they get cheaper supplies from Sinopec and the local Chinese/foreign joint-venture producers," speculated one industry source.

"I think this activity by the processors could have played an important role in the price declines. From their perspective you can understand the decision to re-sell their stocks as the economic outlook at that time was exceptionally uncertain on worries that the European debt crisis could lead to a new global economic crisis.

"Also weighing on their minds were lending restrictions in China designed to cut overall credit growth and slow the property sector down.

"It might have seemed a lot safer to sell inventories rather than produce plastic goods that nobody might want to buy. The other risk they could have been hedging against was further steep declines in crude that would have left them unable to pass-on their raw material costs to their customers."

This is obviously highly speculative, and only one opinion, but it does point to just how difficult the Chinese market is to read. More research is needed by this blog - and more opinions are more than welcome.

This theory, though, does offer support to the argument we will develop over the coming days: That the recent price declines do not necessarily reflect weaker fundamentals. The demand-growth numbers we are going to provide for Q1 point to the China boom story continuing.

And a further illustration of how PE markets could have separated from the fundamentals was what one producer described as a "growing correlation with the Dalian Commodity Exchange over the last week or so."

As we have reported before, Dalian offers a futures contract in LLDPE that at times reportedly leads physical pricing. This was the case last week when the contract fell 5%, the maximum allowed in one day's trading, which was followed by a drop in physical RMB pricing.

"At times of extreme volatility and uncertainty, the Dalian becomes the market-setter. Somebody needs to do a study into how Dalian moves with the local stock market, with crude and in turn how Dalian then actually influences the deals that are done in the real market and how the correlations have varied since the futures contract really took off early last year."

Over to the statisticians......

Out of the investment deep-freeze?

Source: tehrandaily.wordpress.com

By John Richardson

A VERY interesting story from my colleague Bee Lin Chow on ICIS news today reports the signing of a memorandum of understanding (MOU) between Sinopec and Iran's National Petrochemical Co (NPC).

The agreement will explore joint- venture opportunities in petrochemicals and related businesses in the two countries.

China needs oil and has the political muscle and pragmatic mindset to in some cases place energy security above geopolitical concerns such as alleged nuclear proliferation and human-rights abuses.

Hence, it is now talking to Iran about petchem and associated investments.

And it has done energy deals in the past with Sudan and other countries with dubious human-rights records.

Iran, as we reported on the blog last October, is finding it increasingly difficult to get the foreign investment it needs to develop iits refining, gas-processing and petrochemicals industries. Even obtaining catalysts to run plants has reportedly become difficult.

New investment is sorely needed to shore up the economy. Value is, for example, being given away as Iran exports crude and imports gasoline with domestic pricing of the fuel heavily subsidised.

And in petrochemicals, limitations on gas extraction can cause erratic operations at existing crackers.

Lack of feedstock supply and an inability to source foreign investment and technologies have also stymied growth in petrochemicals capacity.

The scope of the MOU between Sinopec and NPC also involves joint marketing of products.

This might help Sinopec limit price disruptions in the Chinese market that might occur at times of sudden influx of Iranian petrochemical products.

As cheap as chips 

Source of picture: europa.eu

By John Richardson

THE decline in the Euro has resulted in investors downgrading their expectations of a Yuan appreciation taking place over the next few months.

Last week, Yuan foward contracts were factoring in a zero chance of appreciation over the next three months after there were few mentions of the issue during US-China talks.

This could have important implications for imports of chemicals and polymers into China, which, according to traders, have been bolstered by complex multiple trades in all sorts of commodities - and even property.

How it works is that you borrow first in US dollars to pay for the imports and then seek to maximise local-currency revenue by trading across a range of commodities. Sometimes this might even involve selling a chemicals or polymer cargo below cost in order to generate Yuan to make a profit elsewhere.

The end-game is to generate profits in Yuan before greenback borrowings have to be repaid.

We have heard that shell companies have been set up where local-currency earnings from these trades are being stashed in readiness for cashing-back into US dollars when the time is right.

This type of speculation might clearly dip if the belief becomes well-established that the value of the Yuan isn't going to budge anytime soon.

Polyolefin imports are already under downward pressure from China's rising self-sufficiency.

I am afraid we haven't got a clue about how important this kind of speculation has been for imports over the last year or so. We will keep on attempting to find out, of course, without much hope of getting a clear answer.

It is also possible that those playing a longer game might continue this kind of speculation. At some point it seems inevitable that a gradual appreciation of the Yuan will be resumed following the decision in 2008 to put strengthening of the currency on hold.

Deepwater disaster expected to impact shale gas 

Source of picture: Minnpost.com

By John Richardson

THE booming shale-gas industry could either benefit or suffer from the BP Gulf of Mexico oil-well disaster, with the end-result determined by the effect on energy prices of any long-term clampdown on deepwater and Arctic drilling.

Those for and against shale gas are lining-up to make their cases as to why the BP catastrophe will be a negative or a positive for what Daniel Yergin, chairman of IHS Cambridge Energy Research Associates, says is "the most significant energy innovation so far this century".

An executive with a Houston-based oil and gas services company told the blog: "Shale gas may well enjoy an easier regulatory ride in the US in light of the fact that deepwater and Arctic drilling is going to be a lot more problematic.

"If you can't get your energy from far out at sea or under the Arctic and the US still wants to improve its energy security, then shale gas is the obvious solution as it is onshore and therefore easier to deal if there is an incident. It's also inherently safer than going offshore."

And he pointed out that politicians will surely decide to pursue the path of least resistance.

"Once Deepwater Horizon has faded in the public imagination - i.e. when it drops out of the 24-hour news cycle - the focus of voters will return to the cost and availability of energy.

"The White House will face the choice of either seeing energy costs rise or letting the development of the perfectly-safe shale gas process continue."

Last month, in a supplement on the natural-gas industry, the Financial Times quoted Scott Van Bergh, an energy expert at Bank of America Merrill Lynch, as saying that higher deepwater hurdles might make shale-gas exploration and production (E&P) easier.

Negative publicity towards shale gas looked as if it had slowed, he added.

But his comments came before two incidents at the Marcellus shale -gas field in Pennsylvania earlier this month. One involved a gas leak and the other an explosion which injured seven workers.

And the hydraulic fracturing or "fracking" process used to extract the gas from the shale remains under scrutiny because of emissions and groundwater pollution claims.

Congress has, as a result, asked the US Environmental Protection Agency to complete a comprehensive study into fracking.

The US-based Natural Resources Defense Council argues that the oversight and insufficient regulations that have occurred offshore are an equal concern onshore.

The outcome of this whole debate could have big implications for petrochemicals.

In the US, the big oversupply in US gas has helped to make ethane cracking a lot more advantageous.

The other factors behind the fall in US natural-gas pricing is liquefied natural gas (LNG) oversupply and the drop in gas demand resulting from the economic crisis.

To date, the benefits delivered to US petrochemicals by the rise in shale-gas production have been indirect through its contribution to the drop in overall gas prices.

Continued E&P is seen as crucial to fulfilling the current forecast that US total gas reserves will last a further 100 years. Before the shale-gas technology breakthroughs, reserves were only expected to last 30 years.

Plus, there may be opportunities for direct feedstock supply from shale gas via any fields which prove to be rich in natural-gas liquids (NGLs).

And overseas, there's huge interest with feasibility studies taking pace in countries such as China, the UK, Austria, Germany and Poland.

The studies in Poland have indicated that shale-gas reserves could raise total European natural-gas reserves by 50%. But questions have been raised about the accuracy of these estimates and how quickly and effectively Polish and other reserves can be developed.

Still, though, the shale-gas revolution - provided it is not stymied by regulations - could benefit petrochemicals outside the US through advantaged feedstock.

This possibility has arisen as the Middle East gas advantage erodes, raising the chance of new places to build super-competitive crackers.

In the end, energy costs and energy security seem certain to set the future of shale gas globally, as well as in the US.

The unfeasible alternative is a radical change in consumer behaviour and lifestyle expectations.

Europe and China: A two-tier market is hard to bear...

Source of picture: blog.pinkcakebox

By John Richardson

CHINA'S polyolefin pricing is likely to remain under downward pressure over the next few months as a result of a persistent inventory overhang, new supply and weak construction and auto markets, two traders and one producer have told the blog.

And as we reported earlier this month, falling US PE prices are raising concerns over very competitively-priced imports from the States.

The weakness in the Chinese market is in contrast to Europe, where tight supply is keeping prices firm and is attracting imports.

A further negative factor in China might be a stronger Yuan, which could encourage price-cutting by local suppliers, the producer said.

But so far this week the local currency has both weakened and strengthened against the US dollar following the weekend announceement that it would be allowed to trade in a wider daily band across the US dollar.

One argument is that the government's decision was designed to engineer more volatility in order to discourage currency speculation and not a stronger Yuan.

Reports that the Yuan will definitely strengthen therefore seem premature.

"The polyolefins inventory overhang is still the result of the surge in bookings from overseas in late November and early December," said the first of the two traders we spoke to, who is based in Guangzhou, Guangdong, China.

"We are also seeing the affects of new supply, in both China and the Middle East.

"A symptom of the downward pricing pressure has been the recent re-export of Iranian material.

"As was the case when the re-export market opened-up on the last occasion, we are not talking about big volumes and the size of the total trade has been exaggerated. However, the shipments are hurting sentiment."

The second trader, who is based in Hong Kong, concurred and added: "There is going to be no relief on stock levels from local construction and auto markets that have slowed down considerably.

"Construction is being affected by all the government measures to cool the property sector, whereas tighter credit conditions are hurting autos.

"Auto manufacturers are telling us that they also have high inventories as a result of vehicles manufactured earlier this year on the assumption that extremely strong growth levels would be maintained.

"I am hearing that tighter credit is reducing private purchases, with many of the entire 2010 fleet orders by government companies brought forward in to Q1 because they anticipated that credit would be reduced."

A source with a major Western producer agreed with both traders and added: "I am concerned that we might have seen the best of Chinese demand for imports for this year in the first half.

"China's new plants are running reasonably well and we are seeing stabilisation of production at some recently started-up Middle East facilities.

"The positive news, though, is that OPEC oil quotas continue to limit production at established Middle East plants and we are definitely going to see more delayed start-ups."

The weekend announcement over the Yuan led to sharp fluctuations in its value in both directions on Monday-Wednesday.

"It is early days yet, but if the Yuan was to show consistent greater strength this is likely to create a further negative for pricing," added the first trader.

"Greater local currency strength would give buyers more ability to buy overseas material - i.e. they would need fewer Yuan to buy dollar-priced imports.

"The priority right now at Sinopec is to maximise the off-take from newly-commissioned local plants.

"So watch out for active centralised downward-management of pricing, plus more aggressive discounting by individual producers, in order to gain market share.

"A forward indicator of this would be reliable reports of rising Sinopec inventories following a sustained period of Yuan strength."

A stronger Yuan would also weaken the competitiveness of local finished good exporters, such as the auto makers, thereby providing a further motive for Sinopec to manage polyolefin pricing to the benefit the local industry.

A Velozzi plug-in hybrid

Source of picture: www.zerauto.nl.blog

By John Richardson

Doom-mongers are claiming the end is nigh with the world heading for a double-dip recession.

This is happening at the same as the optimists are talking of the world entering a new sunny upland of sustained exceptionally strong emerging-market growth, which will more-than compensate for lingering problems in the West.

At ground level in the chemicals industry the view is equally divided with specific commodity polymer markets showing significant stress, such as a polyolefins in China where the reasons behind price corrections point to problems with the sustainable-boom story.

You can contrast this with strong year-on-year and, more significantly, sequential improvements in financial results, and bullish statements about the medium and long-term outlook from companies such as Dow Chemical.

The truth might be between the two extremes with the confusing picture in the West reflecting a shift in the sources of demand-growth now that economies can no longer be driven by the credit-fuelled consumerism of most of the last decade.

Innovation seems to be the key for chemicals companies to prosper in this changed environment.

As for the emerging world, short-term bubbles aside, it is becoming harder to argue why the rise of China etc will not continue, leading to far greater consumption of both commodity and higher-value chemicals and polymers.

Patrick Thomas, CEO of Bayer Material Science (BMS), in an interview last week, described the nuanced nature of the moderate recovery in the US when he said: "There are two parts to the stimulus programme - the first paying-down debt in the financial system and getting the financial system working again through quantitative easing etc; the second investment in energy efficiency.

"While fiscal stimulus might have to be withdrawn from the financial system, energy-efficiency initiatives continue, which include better-insulating 400,000 government buildings. This is an opportunity for our methyl di-p-phenylene isocyanate (MDI)-based polyurethanes (PU) going into rigid-foam applications for insulation."

He accepted that the collapse in home starts - and negative equity that's preventing people from moving house - were significant problems for toluene diisocyanate (TDI)-based PU used for flexible foams in mattresses, furniture and chairs etc.

"We have seen somewhat of a recovery, though, thanks to people who are not moving home upgrading their existing properties.

"This has helped boost the sales of, for example, composite wood panels - using BMS PU adhesives - which are used to help build home extensions.

"On the polycarbonate (PC) side, we have benefited from an increase in sales in office automation machines.

"These machines, which are replacing people, combine functions such as photocopying, faxing and emailing into one unit - and the casing for these units is made from BMS acrylontrile butadiene styrene (ABS)/PC composite."

But he added that "people who are unemployed staying unemployed" would obviously hinder the recovery.

BMS is also working with Velozzi, the US, California-based new technology car company, which is developing a plug-in hybrid SUV-sized vehicle.

"In the US, people like to drive their giant SUVs and so one challenge is to make big all-electric cars with energy efficiency boosted by increasing use of light-weight plastics. The fuel-efficiency theory, through the use of these light-weight plastics, also applies to gasoline and diesel vehicles.

"The Velozzi car will use our PC glazing material and our open-cell carbon fibres with a PU skin which is moulded into body-work components."

As for China, he repeated the well-known, but still startling, statistic that China produced more cars in 2009 than the US.

"In the future, most of the new cars China produces will stay there as domestic growth accelerates - and these autos are of great value.

"I was picked up from Shanghai airport in a really good family car recently, that didn't rattle or anything, costing just 8,000 Euros."

China's auto manufacturers face far fewer regulations than their European counterparts, who have to comply with a plethora of rules governing, for example, the geometry of vehicles and minimum amounts of illumination, he added.

Lack of red tape is encouraging greater substitution of natural materials by plastics in China.

"The Chinese industry is also much more open to replacing steel and glass with plastics and composites made from plastics because there isn't the legacy issue of existing capacity you get in the US and Europe.

"In the West, a bigger amount of auto components are steel and glass-based as the attitude is "we have the production so we might as well make use of it' ".

But he qualified this by saying that higher EU emissions standards were encouraging greater use of PC glazing.

In China, too, he sees a big opportunity for use for rigid PU foams in insulation, where office buildings tend to heat the outdoors in winter and cool it down in summer as employees either shiver or sweat inside.

As with the other chemicals majors focusing on innovation, Thomas talked of the big global trends driving future growth. These include ageing populations, food and water.

BMS has developed PU-based lubricious coatings for use in catheters and other medical products.

"Globally, 50% of all the food produced is wasted and so there is a huge opportunity for rigid foams used in insulation for refrigeration in food transportation, storage in shops and finally in refrigerators in homes," he added.

"Thirty per cent of water in old cities leaks because of faulty piping. We have a PU material which you can spray inside a ruptured ceramic or metal pipe without having to dig the pipe up. This forms a whole new pipe within the old one."

It seems clear that the growth story is not straightforward - and not one that can be told only by looking at key economic indicators and relating these back to chemicals.

New sources of value for the chemicals industry will continue to develop, requiring a great deal of R&D investment, talent - and failures as well as successes.

BMS spent Euro207m on R&D in 2009, not including joint development activities with customers. This was from sales of Euro7,520m.

"Forty per cent of our products didn't exist five years ago. Some of this involves minor modifications along with new products," said Thomas.

In the final analysis, and in a nutshell: Anybody without overwhelming feedstock-cost advantages - or support from non-profit motivated state ownership - has little choice but to go down this route.

                                 Please, please not again...

Source of picture: soccernet.espn.go.com

By John Richardson

The dreadful state of China's polyethylene (PE) market will last for at least the next two months as a result of the overstocking we talked about earlier this week and poor demand, two polyolefin traders told the blog today.

And one of the traders added that increased domestic production is leading to aggressive price-cutting by Sinopec.

"Its priority is to maximise sales from these new local plants which means right now that falling Yuan-based pricing is leading the market - pushing dollar-based imports in the same direction."

China's ability to quickly stabilise production at new plants is in contrast to persistent operating issues that have limited output from the Middle East, where most of the new capacity came on-stream in 2009.

A brief flurry of re-exports of Iranian material from China helped relieve some of the inventory pressure but arbitrage had now closed, he said. 

Traders are concentrating on how to make returns across equities and futures markets as physical activity remains weak, he added.

"Recent restrictions introduced by China to cool-down the property market have also led to more speculative money flowing in and out of equities, futures and some physical trading in commodities, but certainly not PE due to the high inventories.

"Also, gambling on the Yuan has become more risky since the June 19 decision to widen its daily trading band. This is leading to yet more hot money flowing elsewhere."

For those who still have the appetite to take risks, this makes the Dalian Commodity Exchange's futures contract in linear low-density PE (LLDPE) somewhere to play while the physical market is so quiet.

"LLDPE, both future and physical because of the influence of Dalian, has essentially become a financial instrument," said the second trader.

"LLDPE futures have a limited, but still quite important, influence over the direction of physical pricing in high-density PE (HDPE), low-density PE (LDPE) and polypropylene (PP)."

The overall mood music seems to have shifted since the APIC conference in May with the majority of conversations I've had this week dominated by mounting concerns over a double-dip global recession.

"I was watching the recent England-Germany match with some friends and I was the only one betting on a German victory. I would also bet on a double-dip recession," the first trader continued.

He also thinks Germany will go on to win the World Cup.

So if Germany were to win, that would means he'd also probably be right on the economy.

Please, please no.....

Source of picture: www.sierraclubgreenhome.com

By John Richardson

WHEN the bisphenol-A (BPA) health scare erupted a couple of years ago I rushed out and changed all my baby boy's milk bottles to ones made from polypropylene (PP).

"Did you know that there are concerns now being expressed in Europe about the plasticisers used in your PP bottles?" a senior industry source informed me the other week.

Oops, or as we say in Britain (please re-watch that old movie, Notting Hill to hear this phrase in action), oops-a-daisy.

There are also claims that epoxy resins used to coat cans of baby milk-powder - which you will obviously need to use whether you have stuck to polycarbonate bottles made via BPA or have switched to PP - leach a fair amount of BPA.

Environmentalists once characterised chlorine as the "Devil's Molecule", partly over concerns about the dioxin levels released during incineration of PVC waste.

"Crematoria are a bigger source of dioxin emissions," claimed the same industry source and so perhaps we should all make a big push for more burials.

Death rates would have been a great deal higher in the developing world if it had not been for PVC pipes providing uncontaminated water.

There are many other arguments over the benefits outweighing the risks of chemicals and plastics.

One should obviously be sceptical for any positive claims that come from a company producing a particular chemical or polymer.

Nevertheless, as a journalist who used to work for the tabloid (sensationalist) national press in the UK , I am well-aware of how some reporters rarely let the facts get in the way of a good story. These are complicated, important and serious issues and worthy of a serious debate that's unlikely to take place when the focus is on a good headline or sound bite.

And talking about a serious debate, what about the BP (or if you are American, "British Petroleum") Gulf of Mexico disaster?

Once this story has dropped out of the 24-hour news cycle - as we've said before on the blog - will the public be willing to support much more stringent regulations on energy exploration and production if it means gasoline at more than $4 a gallon?

Dear Readers - here is, hopefully, a hand summary of some of the key themes that have emerged over the past two weeks with some important additional data on imports and inventory levels in China - plus a rather unscientific industry confidence survey.

By John Richardson

The mood seems to have changed since the Asia Pacific Petrochemical Industry Conference (APIC) in May, when there was talk of the worst of the economic crisis being over.

Back then - a time that now feels almost like the distant past, before the escalation of the euro debt crisis and a weakening recovery in the US - senior executives were talking confidently of a new Asian growth momentum discounting any persistent weakness in the west.

It was also thought that there was not going to be a major supply crunch in polyolefins due to constant start-up delays, meaning that these new levels of growth in Asia would greedily gobble up new volumes entering the market.

But the big proviso expressed at APIC was that everything could be derailed by macroeconomic events.

This now appears to be looming a little larger, according to polyolefin producers, traders and buyers. Eight of the 12 industry sources recently surveyed by this correspondent said a double-dip global recession is on the way; in late April, only four of the same 12 contacts thought so.

There are those who argue that this has been a disaster waiting to happen for a long while, because the global economic recovery had weak foundations.

Equally, there are others who say that we shouldn't get carried away by recent declines in polyolefin prices, or by a highly unscientific (and small) survey by one reporter.

The price falls are partly the result of overstocking in March, when confidence among traders was so much higher.

"There was a lot of speculative booking of overseas cargoes by traders, at a time when local production was on the rise," said one Shanghai-based trader.

"Oil prices were firm at that time and we thought that they would go higher. We were also more confident about the [Chinese] economy," he added.

China's domestic production has averaged approximately 800,000 tonnes/month this year compared with less than 700,000 tonnes/month in 2009, according to one industry observer.

"Increased domestic production is leading to careful price management by Sinopec," added the trader.

"Sinopec's priority is to maximise sales from these new local plants, which means that falling Yuan-based pricing is leading the market, pushing dollar-based imports in the same direction."

China's ability to quickly stabilise production at new plants is in contrast to persistent operating issues that have limited output from the Middle East, where most of the new capacity came on-stream in 2009.

Low density polyethylene (LDPE) imports reached an all-time high of 225,000 tonnes in March, according to New York-based trade data and analysis publication International Trader Publications.

Overall polyethylene (PE) imports totalled 865,000 tonnes in March compared with last year's monthly average of 610,000 tonnes, based on figures from International Trader.

Imports have fallen steeply since their March peak, to 624,000 tonnes in April and 545,000 tonnes in May.

"This is hardly surprising, as all the bonded warehouses in China are full. Inventories are very high," said a second polyolefins trader.

Sinopec's stock levels are reported to be at 700,000-800,000 tonnes compared with the usual 500,000 tonnes.

Interestingly, polypropylene (PP) is reported to be not as overstocked because there are less speculative traders in the polymer than in the bigger PE sector.

Imports of PP were 373,000 tonnes in March compared with an average of 350,000 tonnes/month in March 2009, according to International Trader. These fell to 318,000 tonnes in April and 292,000 tonnes in May.

PP pricing has, as a result, held up slightly better than PE  as these chart (click link below) show.

PPTJuly5.ppl

A further factor behind the steeper declines in PE was cutbacks by Middle East producers, an industry observer said.

This had led to greater availability of merchant ethylene delivered into a market already made longer by the surplus from Shell Chemicals' cracker in Singapore, he said.

But more fundamentally, the March bust points to the "game being over", as the global economy weakens, said Paul Hodges, UK-based chemicals consultant with International e-Chem.

Two major global polyolefin producers hold a much more positive view of the second half of this year.

They accept that the China growth picture looks a little weaker because of government restrictions that have cooled down the property sector.

But they add that China should still see polyolefin demand-growth in excess of 10% in 2010 as a huge amount of money is still working its way through the economy thanks to economic stimulus.

This should result in reasonable demand for imports in the second half, despite an 19% increase in local polyethylene (PE) capacity in 2010, they argue.

So, as usual, take your pick from the views of the pessimists or the optimists, both of which claim to be realists.

Spain saves the world economy

Source of picture: www.fifa.com

By John Richardson

GLOBAL chemicals sentiment seems to be muddled and confused as the constant flood of positive and negative macro economic data.

Take last week's American Chemistry Council (ACC) weekly report, for example, which at that time gave a clear indication that the US recovery was moderating.

 "Consumer confidence sank on continued poor job prospects and a weak housing outlook," wrote the report's authors.

 "The personal income and consumer spending report served to dispel fears about a double-dip recession. Nonetheless, still tight credit conditions and continued household de-leveraging foster headwinds against the pace of growth in consumer spending."

The ACC also pointed to disappointing jobs-growth numbers, released last week, as a major cause for concern.

And it added: "New orders (for manufactured goods) slipped in May as the boost from inventory rebuilding is fading. The expected slowdown in the second half of the year is now upon us."

The bad news on US unemployment, combined with Euro sovereign debt worries, was weighing on the minds of the 12 senior chemical industry executives we interviewed last week and early this week.

Eight of the 12 - which includes two vice-presidents at board level - now believe a double-dip recession is likely compared only four of the same 12 executives when we last conducted the survey in April.

But since then global stock markets have rallied on lower US jobless claims and growing optimism about the results of stress tests on European banks.

 "It's all xxxxxxxx I am afraid. The markets were looking for an excuse to stage a rally and so this doesn't change the weak underlying fundamentals," said a friend of the blog, who works as an investment banker in Singapore.

And as the Lex column in the FT points out today, US retailers have reported a third successive month of disappointing sales: Same-store sales were down by 3.1% in June.

Unless there is a federal extension to unemployment payments, 2.7m jobless people will soon lose government financial support - removing $41bn from the economy, Lex adds.

The better-off are being hurt by lower home equity values and face tax rises as Bush-era cuts expire next year and taxes are raised to tackle the budget deficit, says the column. One wonders where the US will get the money it needs to fund big investment in infrastructure, R&D and education that Dow Chemical CEO Andrew Liveris says is needed to turn the economy around in the longer-term.

However, the bltizschnell recovery in Germany has seen the country's exports rise by 9.2% with industrial production 2.6% higher in May than June. This just shows the value of a consensus political system that values education and long-term planning - the exact opposite of Britain. We British don't make anything anymore, remain far too dependent on financial services and public-sector employment, and are heading for a major fall.

Commodity chemicals and polymer pricing has been very firm in Europe of late, which the sceptics attribute mainly to tight supply.

But VCI, the German chemicals industry association, reported yesterday that capacity utilisation was "nearly back to normal". Chemicals production in the first six months of this year was 13% higher than the same period in 2009.

"I don't believe that the strength of the European market is the result mainly of production issues and therefore temporary," said one of the 12 senior executives we surveyed, who doesn't believe a double-dip is on the way.

"Another major supporting factor is the weakness of the Euro, which has declined by 25% against the US dollar since last year. This is giving the medium-sized manufacturing companies in Germany, for example, a lot of extra ability to export their technologies and their machinery."

The current weakness in chemical pricing in China was the result of what he said was an "always opaque and confused short term outlook, whereas the longer-term outlook is great".

 Optimism was also high the other week at Arkema and BASF. Arkema was predicting record second-quarter results in the right direction and BASF said Q2 would be better than they had expected after a 98% operating profit improvement in Q1.

So what the heck is going on?

I am not entirely with my good friend and fellow blogger Paul Hodges, who believes all the pointers are towards a very-weak second half of the year.

The next six months are likely to see pockets of strength and weakness for companies with returns varying quite dramatically product by product segment and region by region.

With the benefit a couple of weeks to ruminate on what we said, I now think that Patrick Thomas, CEO of Bayer Material Science, provided a very useful guide to where these pockets of strength and weakness might be.

And, of, course, how can we not mention that now Germany has been knocked out of the World Cup, all fears of a double-dip recession have disappeared?

Source of picture: www.en.cn.national

By John Richardson

THE decline in China's GDP (gross domestic product) growth from 11.9% in Q1 to 10.3% in the first quarter is, no matter how you try to dress it up, bad news for the chemicals industry.

Government officials and some economists are arguing that the moderation is not that dramatic and indicates success in taking heat out of the economy.

But this ICIS news article points out that further growth contractions are ahead with third-quarter growth expected to slip to 9.8% and Q4 to 9.4%.

Interestingly, government efforts to achieve emissions targets are expected to damage industrial production - still by far the biggest contributor to growth - through the closure of energy-inefficient chemicals and other plants.

The drop in Q2 GDP confirms what has been evident in chemicals markets for several months now as demand from key end-use sectors such as construction has slowed.

In the case of polyethylene (PE), as we wrote yesterday and last week, weaker economic expansion comes at a time of high inventory levels. It could be as late as Q2 2011 before stocks are normalised.

And the price falls across many commodity chemicals that we've seen over the last few weeks are also partly the result of the China slowdown. Other common factors have been a dip in exports of finished goods from China to the West and the volatility in crude, which seems to be resulting in more hand-to-mouth buying patterns among end-users.

A source with a major monoethylene glycol (MEG) producer told the blog earlier this week: "We have actually seen weaker-than-expected demand in China since the end of the Lunar New Year in February.

"Coastal storage tanks are full and with China MEG demand growth this year as 6-7% against a global capacity increase of possibly as much as 10%, we have problems."

To quote an example for another product chain, Asian June toluene diisocyanate (TDI) contract prices fell $350/tonne from May on weak demand and a supply glut.

It is time to take stock of what will be a much more difficult environment over the next few quarters.

Jurgen Hambrecht

Source of picture: www.wiwo.de/unternehmen-maerkte

By John Richardson

BASF'S Jurgen Hambrecht has made highly critical and extremely high-profile comments about China's business environment, according to the Financial Times.

The CEO of the German chemicals giant is quoted as saying over the weekend - during a four-day visit to China by German chancellor, Angela Merkel - that foreign companies were being forced to transfer business and technological know-how to their Chinese counterparts in exchange for market excess.

"That does not exactly correspond to our views of a partnership," Hambrecht apparently told Chinese premier Wen Jiabao.

Wen is quoted as responding by telling Hambrecht to calm down, while dismissing allegations that China's investment climate had worsened.

Assuming Hambrecht has not been misquoted, these seem extraordinarily strong statements to make by the head of one of the major direct and indirect investors in China.

Directly, BASF's stake in includes the BASF-YPC Nanjing petrochemicals complex and indirectly, it supplies lots of the chemicals to Germany's booming engineering companies. These companies, boosted by a weaker Euro, have helped Germany post a strong export-led recovery.

The expansion of the Nanjing complex, a joint venture with Sinopec, interestingly includes some of BASF's high-value technologies. The ten new chemicals plants, due for start-up in 2011 and beyond, include a 60,000 tonne/year super-absorbent polymer (SAP) plant, a 2-propylheptanol unit, a non-ionic surfactants unit and an amines complex.

As my fellow blogger Paul Hodges points out in a post on this same subject, Hambrecht's apparent comments follow those of General Electric CEO Jeff Immelt, who was reported to have told an audience at a private dinner two weeks ago: "I really worry about China. I am not sure that in the end they want any of us to win, or any of us to be successful."

The next Doha round isn't going to happen anytime soon and so a great deal depends on strong bi-lateral trade relationships between countries with, of course, China at the centre of many bi-lateral initiatives.

So why rock the boat with the world's most-important growth market unless frustration got the better of Hambrecht (again if we was quoted accurately)?

Or is there a sub-text to these comments that we are not aware of - i.e. a calculated exertion of pressure in an effort to achieve results?

Will this year's K-Fair see some major announcements to take advantage of the relative fall in ethylene costs?

Source of picture; http://www.k-online.de/

By John Richardson

THE rise in the price of propylene relative to ethylene is exercising the minds of senior executives in the polypropylene (PP) industry.

As fellow blogger Paul Hodges highlighted earlier this month in a post on this subject, C3s have moved from being a disposal problems in the 1970s through heavy investment in PP technologies.

Ethylene and benzene were in tight supply, and therefore polyethylene (PE) and polystyrene (PS) more expensive, adding a further push to PP innovation. 

This investment led to demand growth for propylene at 1.2 times global GDP (gross domestic product) by the mid-2000s compared with 1.0 GDP for ethylene.

But just as we have seen with the shale-gas revolution in the US that has transformed the economics of the country's PE industry, tipping points can be reached and surpassed before you even know it.

So is the case with PP where greater consumption of the polymer, along with other propylene derivatives, and reduced refinery and liquids cracker operating rates have inverted traditional price relationships.

As Paul points out in his article, the solution to expensive C3s relative to ethylene could come from on-purpose propylene, but a senior Singapore-based source with a global poylolefins producer told the ACC blog yesterday:

"A problem with the propane dehydrogenation-to-PP process is that it is extremely difficult to operate and expensive because although propane and butane is supplied at a discount in Saudi Arabia, it is still a discount from a market price (Note from the blog: 28% off the prevailing CFR Japan naphtha price. This is unlike ethane which has been traditionally priced based only on the costs of separation and distribution as it has had no alternative value - although this is changing)

"Bio-based propylene production has yet to be proven and the Chinese government has also closed the door on coal-to-olefins projects (Note again from the blog: over-investment has led to restrictions on new projects. A tougher approvals process is also the result of lower oil prices and concerns over the environment).

"But PP is by far the biggest derivative of C3s and so this will limit the upside for propylene as PP is a pure commodity. Once prices reach a certain level, and we are already seeing this, PP will be replaced by high-density PE (HDPE)."

Right now of the three major grades of PE, HDPE is suffering the most from oversupply because of big new capacities, polyolefin traders tell the blog.

So perhaps we are about to see some major innovations in PE to take advantage of longer ethylene markets.

The blog has heard that big announcements on new PE technologies are expected at this year's K-Fair.

The major long-term shift in US refinery economics and C3s

Source of picture: blueplanetgreenliving.com

By John Richardson

CHINA will account for around one-third of global polypropylene (PP) consumption by the middle of this decade, up from the current 25%, as domestic demand continues to grow at more than 10% a year, said Mike Smith, consultant with DeWitt & Co.

This will be fed both by new capacities in China itself and the rapid rise in output from the Middle East.

New capacities will outpace demand growth for the next few years with global average operating rates below 90% up until 2014, Smith warned.

The Middle East is set to be able to produce 8-9m tonne/year of PP in 1-2 years' time (most of this will be associated with propylene), placing it "in the same ball-park as the US," added Smith, vice-president for propylene and derivatives.

The US and Europe are losing ground in PP export markets as a result of the new capacities, he said.

Exports helped support a rapid recovery in the US and European industries last year, with re-stocking in the US continuing to offer support, he added. Inventory rebuilding is being boosted by improved demand from the consumer electrical goods automobile sectors.

The US exported 600,000 tonnes of PP in 2009 - 8% of production - with European exports at 282,000 tonnes accounting for 3% of output, to China thanks to its unexpectedly rapid economic rebound.

North America has already seen PP capacity reduced by a net 700,000 tonne/year (closures in the US and start-ups in Mexico), said Smith. Europe has seen 1m tonne/year of closures since 2006 with 400,000 tonne/year of start-ups and a further 245,000 tonne/year earmarked for shutdown.

Europe is facing particular pressure from the Middle East in the key Turkey export market, but further announcements of capacity closures were possible in both regions, he warned.

And while there was good demand growth in Central and Eastern Europe (C&E) that was supporting the western European producers, Smith warned that capacity in C&E would also eventually rise.

The decline in the US and European polypropylene industries has occurred in parallel with dramatic changes in feedstock availability and economics.

The US has seen a 25% fall in C3 availability from steam crackers as a result of the drop in natural gas prices relative to crude and subsequent drop in ethane, which has widened the advantage of ethane over naphtha cracking.

Plus US refinery C3s availability has been reduced as a result of weaker gasoline demand and will continue to be constrained from greater use of biofuels and tougher fuel-efficiency standards, say industry sources.

There has been a lot of talk about the influence of Petrologistics' 544,000 tonne/year propylene facility on US supply. The propane dehydrogenation-based facility, which is located in Texas, is due to come on-stream in late August this year.

But Smith said that the plant will add only 3.5% to total US C3s supply.

US propylene export availability has been reduced to such an extent that the country was "no longer the flywheel provider of C3s to the rest of the world", said Smith.

European refinery propylene availability should improve as the economy picks up, but Smith warned that this could be offset by weaker gasoline exports to the US. Europe has seen its shipments to the States decline for reasons we've already highlighted.

Steam cracker operating rates in Europe could also come under downward pressure from ethylene derivative- imports from the Middle East, he added.

And the further bad news for PP producers in all regions is the supply surge.

Twelve million tonnes per year of capacity is due on-stream in 2009-11 in the Middle East and Asia, comprising 4.2m tonne/year in the Middle East, 5m tonne/year in NEA, mostly in China, and 2.8m tonne/year in Southeast Asia, he said.

The Risk Of Exhausted Optimism

Source of picture: http://www.thedigeratilife.com/blog/double-dip-recession/

By John Richardson

Global polyethylene (PE) oversupply will be "challenging but manageable" over the next year-and-a-half provided there is no double-dip economic downturn, said Joe Duffy, consultant with DeWitt & Co.

"My analysis suggests that if economic growth continues into 2011 at the same rate as 2010, 2009/2010 expansions should be absorbed by the market with only 300,000 tonne/year of overhang," he added.

"However, more expansions are planned for 2011 which will maintain the overhang into 2012.

"On paper, conditions should start picking up in 2013/14 - but I would expect this to begin in mid-2012, as buyers seek to restock in anticipation."

He estimated that Asian demand growth would be 2.4m tonne this year versus 3.2m tonne/year of new production in Asia and 2m tonne/year in the Middle East.

This would leave oversupply on paper at 2.8m tonnes this year - but Duffy said that this would be reduced by lower European, Japanese and US operating rates as their exports decline.

"These three big industries enjoyed strong exports in 2009, mainly to China. They took advantage of a window of opportunity provided by the strong economic rebound and delays to Middle East start-ups," added a Singapore-based source with a global polyolefin producer on Tuesday.

"Last year was a big relief to all us. Even the marginal-cost producers in Japan and elsewhere could make money."

The US doubled its exports to China last year, but its export volumes could dip very sharply from the second half of 2010, continued Duffy.

And so when you take away what he characterised as the "low hanging fruit" of exports being easily displaced by higher production in the Middle East - and also Asia - this reduces the 2010 surplus by 1m tonnes to 1.8m tonnes.

On the upside more production problems in the Middle East - which has been beset with difficulties in starting-up and stabilising production at new plants - seem very possible.

Linear low-density PE (LLDPE) production might also remain constrained by the shortage of butene-1 co-monomer, the result of lower liquids cracking operating rates on cheaper ethane feedstock in the US.

Higher cost liquids cracker production is also under pressure from the new Middle East capacity, he said.

"Delays to start-ups of alpha olefins facilities (which produce butene-1) have also contributed to the shortage," he said

"Around 1.8m tonne/year of swing LLDPE/high density PE (HDPE) is being commissioned this year, but LLDPE is tight because of the butene-1 shortage.

"It is also more difficult technically to produce LLDPE and so while the commercial guys might want the right mix of grades, from a production perspective - i.e. achieving close to 100 per cent operating rates - it is easier to only produce HDPE."
.

Source of picture: keplarllp.com

By John Richardson

It always seemed as if the Asian polyethylene (PE) price rebound was built on a house of cards.

The Chinese economy is slowing down, the country's domestic production has greatly increased and new capacity in the Middle East - though still plagued by start-up and operating problems - is now starting to arrive in much bigger volumes.

Hence the Asian PE report released by ICIS on 13 August, which revealed that, despite further moderate price rises, Asian producers were, at best, "cautiously optimistic".

This followed the previous week's bigger price surge on temporary production issues. 

These included ExxonMobil's outage at its 600,000 tonne/year PE plant in Singapore and the impact of the fire and shutdown at Formosa Petrochemical Corp's No 1 cracker at Mailiao, Taiwan, on ethylene and derivative markets. The cracker is not expected to be back on stream until late September or early October.

A collection of other temporary factors could play a big role in supporting ethylene and therefore PE markets over the next few months - or could swing the other way and make conditions a lot worse.

First, with ethylene, the spot market in Asia has, on paper, become a great deal longer because of a 150,000 tonne/year surplus at Shell Chemicals in Singapore. The Shell cracker, which came on stream in March, is structurally long on C2s.

Lengthy problems in stabilising production of new derivatives capacity from crackers in the Middle East could also lead to more merchant ethylene.

Reasons for the six to nine months it can take to stabilise operations include manpower shortages and the huge scale and complexity of what's being commissioned.
Iran is also structurally long, by as much as 40,000 tonnes/month.

A further difficulty is that plants can, of course, suffer outages. This was the case with the recent report of a big, high density PE (HDPE) facility in the Middle East, which was brought fully on stream last year.

The producer in question was forced to sell 30,000 tonnes/month of ethylene for three to four months - a big reason for the ethylene price declines before the Mailiao outage, an olefins trader said.

The perception is that this current wave of capacity from the Middle East is more susceptible to outages than the previous one, for reasons that are best not to go into in print.

Spot pricing in Asia helps set what consumers pay on contract for their ethylene (term or contract sales account for well over 90% of the region's total consumption), and there are only a handful of spot deals in this region each week. So an extra few cargoes can make a great deal of difference to ethylene pricing.

But feedstock shortages in Saudi Arabia have greatly reduced the country's merchant ethylene sales.

February was the last time ethylene was loaded from the Al-Jubail site in Saudi Arabia, and even then it was only 5,000 tonnes, according to Joe Duffy, petrochemicals consultant with DeWitt & Co.

"Historically, Al-Jubail has been exporting 20,000-40,000 tonnes/month. Essentially, 500,000 tonnes/year of exports have gone to zero," he added.

Iran's ethylene shipments can also dip very sharply when the power sector and the country's other users of natural gas leave petrochemicals short of feedstock.

Whether Iran can achieve the investment in gas infrastructure to solve this problem is a moot point, given the current issues surrounding sanctions.

Another negative - or positive, depending on which side of the fence you sit - is that increasing demand for long-haul cargoes is creating repositioning problems for ethylene vessels.

Lack of sufficient vessels is also expected to result in higher C2 freights until the end of next year, limiting arbitrage.

"Freight rates are on the rise and could go a lot higher. The Singapore-to-Taiwan rate was, for example, $100/tonne (€78/tonne) in June and has risen to $125/tonne in August," added the olefins trader.

The long-running butene-1 shortage continues to significantly restrict linear low density polyethylene (LLDPE) supply

A wider disparity in container freight rates is benefiting the European PE industry, while hurting Asia.

"We usually see around 30% of Middle East polyolefins moving to Europe with the rest to Asia, but a bigger gap in rates to Europe is resulting in a higher percentage heading this way," said a Singapore-based source with a global polyolefins producer.

"Because of the dramatic recovery in global trade, the gap between freight rates on the European routes to the Middle East compared with China has widened," he added.
"This is the result of China's dominance in low-end manufacturing, creating more fully occupied container space to and from the Middle East and China."

The outlook for European polyolefin demand remains uncertain, but supply has long been tight.

Limited PE and polypropylene (PP) supply was at first the result of deep operating rate cuts when the 2008 financial crisis began - and then also the rapid Chinese economic recovery, which enabled Europe to export significant volumes.

European polyolefin exports to China have since fallen due to displacement by new capacity from the Middle East and China.

But Europe remains tight because of continued operating-rate discipline and the high freight rates that are discouraging buyers from acquiring Middle East material, an industry observer said.

"European PE prices were recently as much as $400/tonne above those in Asia, but that was still not enough to attract Middle East shipments," he added.

The longer all these temporary factors continue the longer producers might be able to squeeze out decent returns.

But the problem remains that an awful lot of surplus capacity still needs to be absorbed by a stuttering global economy.

"We haven't seen the worst of things yet. More permanent shutdowns by higher-cost Japanese and other producers are clearly needed," said a second source with the same global polyolefins producer we referred to earlier on.

People have been saying this for years, though, and plant closures are easier said than done for a myriad of reasons.

The source made a good point, though, when he added: "Rate cuts and permanent closures might occur if price reductions are $50-100/tonne per month rather than the increases we have seen of late.

"Otherwise, we could be struggling with fundamentally long markets throughout next year, with a recovery only occurring in early 2012."

However, if you are higher cost, why not limp through until 2012, given that you might well have loads of money in the bank from the boom period?

Every dark cloud has a silver lining...

By John Richardson

GLOBAL polyolefins markets are being kept very tight be a collection of what might seem like only temporary factors.

But in the case of the butene-1 shortage, for example, (see below) this has been restricting linear-low density polyethylene (LLDPE) for more than a year.

And many of the other reasons for supply restrictions have been dragging on for a long time now, enabling Asian consumption to grow - thus making it easier to absorb new capacities.

This is all well and good provided there is no double-dip recession, of course.

Here's our list for the reasons for persistent tightness, resulting in unexpectedly strong margins for those able to operate:

1.) Reduced feedstock availability in the Middle East. This includes both ethane and also liquefied petroleum gas (LPG). LPG has been tight because of, among other factors, reduced refinery operating rates and increased demand from petrochemicals in the Middle East.

2.) Plants keep falling over in the Middle East and new plants are taking a long time to stabilise because of manpower, technical issues etc.

3) Logistics factors which include port congestion, repositioning problems with ethylene vessels (see the link to the first article above), lack of sufficient ethylene vessels and not enough container vessels. Shortage of enough shipping space is also placing a cap on operating rates because this prevents arbitrage (e.g. polyolefins to Europe from the Middle East).

4) Europe's inability to sell gasoline in big volumes to the States anymore. When the US was enjoying an economic boom, ethanol blending wasn't as big and fuel-efficiency regulations were more relaxed, Europe was able to export its gasoline surpluses to the States. But now that cannot happen, this is forcing operating rates at refineries down, thereby restricting the availability of feedstock to petrochemicals, according to my fellow blogger, Paul Hodges.

5) In the US, the drop in gasoline demand is restricting the availability of propylene; in Europe most of the propylene comes from steam crackers so the lack of naphtha is the problem here. Also, the increased demand for polypropylene) PP due to innovation is another factor behind propylene becoming more expensive than ethylene.

6) Lack of spending on maintenance is reportedly the cause of numerous outages in Europe. Lack of maintenance spending is also a problem for PP production in the US, we have been told

7) In Europe also, the product managers are maintaining margins rather than market share (unlike the state-run companies, such as Sinopec, and the South Koreans). This is further restricting production.

8) Lack of enough low-density PE (LDPE) capacity, with the plants that do exist being pushed so hard to meet demand that outages are occurring very frequently.

9) The butene-1 shortage limiting LLDPE production.

Tougher sanctions set to reduce Iranian exports

Source of picture: amix.dk/blog/post/19116

By John Richardson

I met a hedge-fund manager yesterday who wanted a straight answer as to why he felt that ethylene, propylene and polyolefin margins are holding-up relatively well, despite an apparent flood of new capacity.

"The margins, particularly for polyproplyene (PP), are much better than we had expected at this stage in the cycle," he said.

Interestingly, though, the ICIS Pricing Margin assessments for ethylene and polyethylene (PE) paint a different picture. We have calculated that from Q1 this year, spot cracker margins have declined by 66% in Asia, by 50% in the US - but by only 2% in Western Europe. Logistics and feedstock availablility have kept Western Europe very tight.

But even in Asia and the US, the general margins picture - although very useful in pointing towards overall direction - doesn't deal with contract prices as opposed to spot, of course.

And for specific smaller-volume grades where tightness is great, for example, low-density PE (LDPE) extrusion grade, the story seems to be very different. 

The hedge fund manager wanted simple answers in line with the history of the industry - that supply is repeatedly built way ahead of demand and that therefore, an inevitable across-the-board collapse in profitability must occur over the new few months. 

On paper, yes, if you look at the nameplate capacities that have been started-up so far this year - and those still due on-stream - and measure this against likely demand-growth rates, a collapse does seem inevitable. 

It is certainly true that Chinese production at new plants brought on-stream in H1 has quickly been stabilised, which is a significiant negative for supply and demand balances.

But I bored the hedge-fund manager, who I think wanted a good argument to short all petrochemical company shares, why supply constraints elsewhere might just mean that certain areas of the industry will get through this crisis without a collapse in margins to levels seen during previous downturns.

It will be about, I think, analysing companies based on their exposure to particular products. For example, anyone heavily into LDPE in general and linear-low density PE (LLDPE)  - for reasons we have already given on this blog many times before over the last year - might well ride out this crisis without major pain.

But PLEASE - there is a major caveat here: This all depends on no double-dip global economic recession. My good friend and fellow blogger Paul Hodges remains firmly of the view that there is a major risk of a double dip. His views are worth listening to and building into scenario plannning.

In a conversation with an industry observer today, the blog picked up some further perspectives on why history may not repeat itself on this occasion (and even if the margins collapse to previous levels, it seems likely that the explanation will be demand rather than supply-driven).

In his own words, this is what the industry observer told us:

"We need to re-examine our assumptions and maybe lower effective available capacity from Saudi Arabia and Iran.

"Propylene and C4s availability have passed tipping points and so there is a need for a very hard look at more on-purpose production."

All our yesterdays... the ICI Runcorn site in its heyday

Source of picture: Chesterchronicle.co.uk

By John Richardson

Yesterday's blog post on Petronas illustrates once again how the state-owned giants, albeit in this case one that is about to undergo a partial IPO, are increasingly dominating the global petrochemicals industry.

The history of the European industry - with the now effectively defunct Imperial Chemical Industries (ICI) as a prime example - was one of government-directed and/or government-owned champions providing the basic raw materials - i.e. petrochemicals - for overall industrial development, says my fellow blogger, Paul Hodges.

But some of the old Western majors are increasingly being pressured by feedstock-advantaged or strategically-driven state-owned Middle East and Asia majors, such as Petronas, Sinopec, PetroChina and SABIC. By "strategically-driven", I mean that making a profit is not necessarily the major motive.

In theory, as we've written many times before on this blog, we should see more consolidation in Western Europe in particular (the situation on the ethylene derivatives side of the business in the US seems to have changed for the long-term because of the ethane-gas advantage. As my colleague Nigel Davis suggested in a recent ICIS news article, the US might even see capacity additions that would serve Latin American growth).

Thanks to a discussion with Paul yesterday, here are a few questions to ponder over your morning coffee:

*Can European countries afford to see too much capacity closed down if this jeopardises security of vital raw-material supplies to all those downstream industries so important to their economies?

*At what point should governments step-in (what constitutes too much capacity closure?) and save companies?

*Given that Western European companies are democracies, and, as a result, are often run by politicians with the attention span of hyper-active two-year-olds, is it realistic to expect coordinated and commonsense intervention?

Answers must be no more than 3,000 words, please, on lined paper and in legible handwriting, and NO chewing gum...

Source of picture: ICIS

By John Richardson

ICIS has just published its Top 100 listing for 2009, which, not surprisingly, reveals the nothing-short-of devastating impact of the global economic crisis on chemical company financial performances.

"Unprecedented operating and financial conditions helped drive annual sales for industry giants down more than 30%," writes my colleague Nigel Davis, in an ICIS news article yesterday about this year's Top 100.

The danger, as Nigel also points out, is that - to use a cliche from football or soccer - 2010 could be a game of two halves. Withdrawal of stimulus programmes in a new age of austerity has the potential to severely dent the remarkable rebound in chemicals demand that continued until at least June of this year.

My fellow blogger Paul Hodges has also written extensively about changing demographics and consumer behaviour (the result of the debt-fuelled pre-crisis spending binge) as major long-term threats to the chemicals industry. This includes a recent article in the Financial Times.

And in a series of blog posts over the next few weeks we will examine the Chinese government's ever-more difficult balancing act as it seeks to cool down overheated sections of the economy, while still stimulating domestic growth by a sufficient amount to replace lost exports to the West.

But that's the demand story. On the supply side, as we've written about before here, some polymer and chemicals markets remain remarkably tight because of the lingering impact of the Lehman Bros-triggered financial crisis beginning in September 2008.

For example, oil demand remains below pre-crisis levels - resulting in reduced associated gas supply to Middle East petrochemicals.

Lack of investment in maintenance in an effort to preserve cash might also be keeping petrochemical markets tight as plants seem to be breaking down with greater frequency.

Supply of certain petrochemicals is being constrained by factors relating both to the crisis and big shifts in consumption and production patterns over many years that have now gone beyond "tipping points" - most notably in the case of propylene.

And so if I were to be looking to pick winners and losers from the ICIS Top 100 for 2010 - which we will be publishing this time next year - I'd be looking closely at a company's product portfolio.

Key data to mine are what percentage sales a particular company derives from each of its products.

If I were looking for winners I would, for instance, be focusing on anybody with a heavy exposure to merchant sales of propylene and C4s.

Low-density polyethylene (LDPE) is an example of a polymer that's benefited both from a plethora of production problems (provided, of course, your plants are not down!) and resilient popularity that has confounded demand-growth forecasts. There has, as a result, been insufficient investment in new capacity.

A big challenge to LDPE's position in Asia is the increase in metallocene production in this region.

But metallocene-grade linear-low density polyethylene (LLDPE) is more expensive per tonne than LDPE. It goes further - allowing down-gauging - but you have to persuade converters very comfortable with LDPE to make the switch.

Major Middle East start-ups during 2010 will inevitably result in big increases in sales for producers such as SABIC.

But assessing just how big will require close monitoring of feedstock availability - and logistics - issues.

The region also seems likely to continue to suffer from more than its fair share of production problems.

This is the kind of depth of analysis we offer to our ICIS training customers during our training events and our Asian Markets Seminars.

We raise awareness of the key changes in the industry over the last two years (and keep regular and close track of how these changes are evolving) in order to help you plan for the future.

We don't claim to have all the answers, but we never assume that history will repeat itself in exactly the same fashion.

By John Richardson

THE outlook for ethylene spot market availability remains muddled as a few weeks ago due to higher freight rates and uncertainties surrounding Middle East natural-gas feedstock supply.

Freight rates for all Middle East, Asia and West Mediterranean routes were higher in August than their 12-month average, according to Singapore shipping broker Braemar Quincannon.

The Middle East Gulf-Southeast Asia route was, for example, $12.92/tonne higher at $225//tonne and the Middle East Gulf-West Mediterranean route $17.50/tonne higher at $310/tonne.

"The September 2008 financial crisis led to orders for new vessels being cancelled. Since then a combination of the economic recovery and an increase in spot ethylene availability has significantly tightened the market," an ethylene trader told the blog yesterday.

We have heard that some new ethylene vessels are under construction in Asia and in a later post, when we have checked this out, we will let you know what the market believes will be the impact on freight rates.

But a further problem could remain even after any new ships come into operation: Ethylene carriers are being tied-up in more long-haul journeys, creating repositioning problems. We need a clearer explanation of the reasons for this (all we have been told so far is that this is the result of more cargoes being delivered to Northwest Europe from the Middle East) and so - again - we will get back to you.

What we can say with certainty is that gas feedstock supply in Saudi Arabia is still constrained because of the OPEC oil-quota issue.

Ethylene exports from Al-Jubail remain at zero (they have totalled 350,000-450,000 per year over the last few years, we have been told).

However, the Saudi Kayan Petrochemical Co cracker at Al-Jubail - which was brought on-stream in late July - has a C2s surplus of 500,000 tonne/year until all of its downstream units are running properly, we understand. Whether this ethylene will exported or supplied to other complexes in Al-Jubail is a moot point.

The Iran wild card remains wilder than ever: Ethylene exports have recently increased because of the closure of styrene capacity.

Styrene capacity has shut down because Iran, unable to import gasoline due to tougher sanctions, is making more of its own gasoline by blending increased quantities of aromatics (thereby, taking benzene feedstock away from styrene).

We will have to wait and see whether officially-reported new investment in gas- processing capacity and increases in electricity costs prevent the usual winter-time reduction in feedstock supply to petrochemicals.

During the winter, gas is diverted to power stations to meet greater demand for electricity for heating.

If life was easy it would be boring...

Another excuse for a Dylan picture - ref "Shelter From The Storm"

Source of picture: www.israbox.com

By John Richardson

WEST EUROPEAN polyolefin markets remain tight thanks to the lingering effects of lack of spending on maintenance, several market sources have told the blog.

"Companies were so short of cash from late 2008 that they began to delay maintenance work such as furnace re-tubing," said one source yesterday.

"You normally start to experience production problems 6-9 months after this happens and we have seen this recently with the high number of outages.

"This also happens in really tight markets where nobody wants to be the first one to shut down because everyone is making so much money. So in 2005 we saw a raft out outages."

Tightness in Europe is just one of the consequences of the Lehman Bros-triggered crisis that have created a "New Normal" for markets, to borrow a phrase from my fellow blogger Paul Hodges.

Confusion continues among some industry observers who are familiar with looking at average operating rates and concluding that low average rates indicate poor overall profitability.

Average H1 operating rates for ethylene in Europe were just 82%, but some crackers were running at more than 90% while others were operating at much-lower rates or were shut down, we understand.

This was the result of both technical problems and lack of naphtha from local refiners.

The ICIS pricing European cracker and PE margin reports have consistently shown (here's a report on the 17 September issue) that variable cost margins in Europe remain an awful lot better than many people had dared to expect this time last year.

The overall "New Normal" for markets, including all the other the factors behind tight supply that we've detailed before, is leading to the view that we might just be bumping along the bottom of the cycle right now.

This is slightly earlier than the Q4 low point than had been forecast earlier this year, and, as we said, margins are in a lot healthier shape than had been predicted in Asia and the US as well as Europe.

"It is our view that we might be at the bottom, or close to the bottom, of the cycle as most of the new capacity in this current wave is already on-stream," said a Hong Kong-based chemicals analyst today.

"But most companies are only being cautiously confident because of all the risks ahead - not least, of course, the economy. Only the South Koreans are being very bullish over the prospects for 2011."

This could all still end in tears.

An example of how Lexan solar control IR sheets (made by SABIC Innovative Plastics) can be put to use

Source of picture: SABIC

By John Richardson

SAUDI ARABIA is busy reshaping its petrochemical industry to reflect a drastic shift in priorities.

Such is the change in the kingdom that commentators are going so as far as to say that major capacity additions of commodity petrochemicals will soon become a thing of the past.

The Saudi government is only supporting new investments downstream of the basic cracker derivatives in an attempt to diversify the economy and create more jobs (as you go further downstream, labour intensity increases).

To some extent, this also applies to other countries in the Gulf Cooperation Council (GCC). But what happens in Saudi Arabia is important, as this is where most of the project activity is in differentiated, or value-added, chemicals.

A separate but very important theme worth more exploration is where the new commodity capacity to serve voracious emerging-market demand growth will be added - as what is being planned in Saudi Arabia and elsewhere in the GCC is unlikely to be anywhere close to sufficient.

China is an obvious candidate. So is Singapore, as it takes advantage of spare refinery-based feedstock.

Malaysia is another strong possibility. It has very competitive ethane-gas feedstock, and the petrochemicals division of Petronas will have a much bigger motive to expand once its listing takes place, the current schedule for which is the fourth quarter this year.

But returning to Saudi Arabia, the shift downstream will leave the smaller, private producers that have a limited or even a single-product portfolio in a weak position, according to an industry source.

"Even if future allocations of natural-gas feedstock were readily available - and we all know they are not because of supply constraints - the government will only give them to companies moving up the value-chain," says the source.

It is a classic chicken-and-egg situation, according to an HSBC report on Middle East petrochemicals.

"Access to feeds that can be used for downstream development is likely to be limited to companies that [already] have a broad product portfolio and can therefore integrate internally," says the report.

Companies involved in refinery-based petrochemicals, such as Saudi Aramco, are also likely to emerge as winners, the report says: some of the downstream chemicals being planned require oil-based rather than gas feedstock.

So the strategy for these smaller, marginalised producers is likely to be mergers, acquisitions and diversification into plastics processing, adds the industry source.

It is important to stress, though, that larger and more diversified private companies are in a different position - most notably, Saudi Arabia International Petrochemical Co (Sipchem).

Sipchem brought its methanol plant on stream in 2004 and has since commissioned acetic acid and vinyl acetate monomer (VAM) facilities.

Last month, Sipchem announced a joint venture with Rhodia to build the Middle East's first ethyl acetate plant.

This is exactly the kind of "access to feeds" integration that HSBC is talking about, as Sipchem has acetic acid raw material for the ethyl acetate project.

SABIC, along with Saudi Aramco, is, of course, ideally placed to cash in on the diversification strategy because of its own access to feedstocks.

But to what extent will these two giants make money?

What is certain is that returns will be less than the massive margins generated by a relatively simple ethane-based cracker and downstream polyethylene (PE) and monoethylene glycol (MEG).

How much is made depends on what Saudi Arabia decides to build, says HSBC.

The bank carried out an internal rate of return (IRR) study of 40 basic and differentiated commodity chemicals that could be produced across the Middle East with a 10% hurdle rate for project viability.

Its conclusion is that intermediate chemicals - but not all the way downstream into specialities - Is where Saudi Arabia, and the Middle East in general, should be positioned.

These include acrylics, acetyls, epoxy resins, polyacetals and the polycarbonate (PC) and nylon chains.

SABIC has announced a polyacetals joint venture with Celanese, which is due to start-up in 2013.

Saudi Kayan Petrochemical Co (Saudi Kayan), which is 35% owned by SABIC, will become the region's first PC producer when it brings its plant on stream at Al-Jubail, Saudi Arabia, next year.

And the second phase of Saudi Arabia's PetroRabigh - the joint venture between Saudi Aramco and Sumitomo Chemical - could include other intermediate petrochemicals such as ethylene propylene rubber (EPR) and thermoplastic olefins.

The second phase might also include paraxylene (PX), purified terephthalic acid (PTA) and polyethylene terephthalate (PET), which HSBC identified as other products suitable for the region.

A feasibility study into PetroRabigh's second phase is due to be completed in the third quarter of this year, with a start-up targeted for the third quarter of 2014.

What will not work in the Middle East is production of water treatment chemicals, plastic additives, construction chemicals, catalysts, oil-field chemicals and speciality coatings and adhesives, adds HSBC.

This is the result of low demand for these products in the region and the importance of locating plants in countries where the consumption is big, such as China.

This assumes, though, no heavy government subsidies, with plastic additives quite possibly part of slow-to-get-off-the-ground plastics-processing parks in Saudi Arabia and Abu Dhabi.

A big question is to what extent western and Japanese companies will be willing to license technologies.

The returns for licensors are solid enough, as they include marketing and distribution fees at 5-8% of revenues and licensing fees at a further 1-2% of revenues, says HSBC.

Access to low-cost finance is another temptation, with interest rates at just 2-3% - well below what the foreign majors would have to pay in their home countries.

The evidence to date is that a fair number of overseas players have been prepared to license technologies, although a great deal more deals need to be struck if Saudi Arabia is to fulfil all its ambitions.

But a second industry source adds: "The western and Japanese speciality chemicals market is highly fragmented...so for the smaller players, going to Saudi Arabia makes every bit of sense.

"These smaller players are in a bind when you think about it. It is a choice of no growth at home or going overseas to sometimes less-than-ideal returns."

Saudi Arabia also has the money to acquire companies that own these technologies. An historic case in point was SABIC's purchase of GE Plastics, and with it a distribution network.

Ownership of distribution networks becomes important as you go downstream.
Where there is money, there is usually a way around most obstacles.

Source of picture: http://www.westernesa.com/

By John Richardson

AN allegation has been made that traders could be changing bills of lading on cargoes of a certain liquids chemical being shipped out of Iran in an effort to get round tougher international sanctions.

"What is I suspect is happening is that a cargo loaded in Iran is first being shipped to another country where the bill of lading is then changed to indicate that it was loaded in that second country. It then leaves this second port for its final destination," an industry source told the blog late last week.

We have obviously been told what particular chemical is involved in this alleged trade and where it is claimed that the trading companies are based - but have decided it would be best not to publish details without documentary proof (which, with our resources, we are very unlikely to get!).

A second source said yesterday that while he hadn't heard of specific instances where this was happening, he would not be surprised at all if bills of lading were being changed given current market conditions.

But a shipping broker pointed out over the phone this morning that bills of lading were checked very closely by ship owners, none of whom would do anything that was illegal.

"If this is happening I think it must therefore be on a very small scale," he said.

Regardless of the truth of the allegation, the people we spoke to agree that the Iranian petrochemicals and polymer industries are becoming increasingly marginalised by the tougher sanctions.

Questions are being asked about whether Iran will be able to continue to export ethylene. This would be a big deal for the merchant market as the country is a major source of supply.

"If you are a trader and attempt to make payments to Iran in either dollars or euros through a Western bank, there is a much higher chance these days that the money will be frozen," added our first source.

"Similarly, any money you are owed by an end-user for a cargo from Iran is much more likely to be suspended in the current political climate."

And the shipping broker added: "There is big pressure from the US on Western banks and on lenders in the Middle East - particularly in Abu Dhabi and Dubai where a lot of business is done with Iran.

"US officials are paying visits to those suspected of continuing business with Iran and are being warned that if they don't comply with the new rules, they will be banned from doing business in both the US and in the Euro zone. No major bank can take that risk."

We have also been told that it has become much harder to insure Iranian shipments - as there is also greater pressure on the insurance companies.

Source of picture: http://www.intentblog.com

By John Richardson and Malini Hariharan

THE view from a particular geography, grade of polyolefin or end-use application might be distorting the outlook for 2011.

In China and India and other emerging markets demand growth continues to astound and even though the rates of expansion might have slowed down this year, percentage increases are from much bigger bases.

China's PP demand grew by 6% in January-August this year compared with the same period in 2009, said CBI - the Shanghai-based commodity information service.

Linear-low density polyethylene (LLDPE) demand soared by 34% with high-density (HDPE) 15% higher, added CBI.

LLDPE is tight globally because of a shortage of butene-1 that's not going to go away. This is the result of the switch to lighter cracker feeds in the US, the overall pressure on liquids cracking operating rates from increased gas-based production and refinery operating-rate cuts.

The polyolefin has also gained market share at the expense of low-density PE (LDPE) - which at first benefited from tight supply through higher-pricing, but now seems to be suffering from demand destruction.

LDPE demand in India fell by 22% in April-August, according to a major Indian producer.

But India continues to see robust growth in other polymers. For instance, PP demand is expected to grow at 13-14% in 2010-11, the producer added

This would be lower than the record 26% in the previous year but still very healthy.

The other big factor affecting the whole of the whole of the polyolefins industry has been delays in starting-up new projects and stabilising production at complexes brought on-stream over the last two years.

"Approximately 8m tonnes of PE that could have been exported from the Middle East during 2010 won't be due to these production issues. There is also the shortage of associated gas," said a Singapore-based industry source.

Saudi Arabia needs to be producing 10m bbl/day to run its gas crackers at 100%, but its OPEC quota stipulates output in the mid 8m bbl/day range.

One could go on and on. In Europe, lack of investment in maintenance is said to be a factor behind average cracker operating rates totalling only 82% in H1 this year. The crackers that were functioning were running at above 90% - suggesting good market conditions.

So you add all of this together and you could be tempted to draw the conclusion that 2011 will be as good, perhaps even better, than 2010.

"I think we are bumping along the bottom of the cycle as far as margins are concerned. South Korean companies are expecting another fly-up in pricing by the end of next year. My view is that this is a bit early, but it's not far away," said a Taiwan-based financial analyst.

The danger in his thinking is that Middle East production problems are, according to some reports, being resolved - and so a lot more PE and PP will soon hit the markets.

"True, but I don't expect oil demand globally to return to pre-crisis levels for at least three more years. This means no change in Saudi Arabia's OPEC quota during that time," said a source with a leading Middle East producer.

The longer maximum output is delayed in the Middle East, the greater the ability of booming emerging markets to cope with the volumes when they finally arrive, remains a common view.

It feels like one almighty muddle when you balance this optimism against persistent macro-economic worries in the West. Without a healthy West - which drives the vital re-export trade from Asia - the recovery has to remain highly suspect.

"As we move into the remainder of the year, the recovery has waned. The boost from inventory restocking has played out and underlying demand remains weak," wrote the American Chemistry Council (ACC) in its 3rd Quarter Situation and Outlook report, which was published last week.

Overall US plastic resins output will rise by 4.5% in 2010 before declining to 3.9% next year and 2.5% in 2012, added the ACC in the same report.

The confusion has made forecasting supply and demand very difficult, according to South Korean-based chemicals analyst (has it ever been easy?).

"The fourth quarter is likely to be better than expected. Earnings for the South Korean companies may continue to be strong for the next two quarters and for the whole year will be higher than 2009," he said.
DeWitt & Co, the petrochemicals consultancy, had factored in cracker operating problems but had not anticipated the extent of the difficulties at new crackers in the Middle East and other parts of Asia such as Thailand, said the company's Kuala Lumpur-based consultant, Mazlan Razak.
Nobody seems to have anticipated so much lost production.

"There is a big gap between actual production and nameplate capacity. Unless these crackers raise their production the situation will remain good; margins will be positive," added Razak.

Another argument being used is that the industry will heal itself even if margins head south through closures of high-cost capacity.

But the source from the Middle East producer we quoted earlier on believes that there will be no further European consolidation because of the risk of missing out on imminent good times.

"It is being argued that profitability will be back at peak levels by 2015," said an industry observer, who is based in London.

"Part of this argument for record profitability is that some people will shut down in the interim - but this is an oxymoron, as why would people shut down if record profitability is forecast?"

"The 2015 peak also assumes global GDP (gross domestic product) growth of 3.8% per year, which is far too high an estimate."

One much-more optimistic sales director with a North American polyolefins producer hopes that such pessimism is accepted by his company, as it will mean that he will continue to exceed his monthly targets.

We are just journalists and so are required to mainly stick to reporting what people tell us, and so we sincerely hope you haven't read through this article expecting any definitive answers.

Looking for such answers elsewhere might turn out to be equally futile, but all of us have to keep on trying.

Michael Corleone once told his fiancee, "The old way of doing things is over - even my father knows that. In ten years time, the Corleone family will be entirely legitimitate" and ten years later he was still killing lots of people. So beware of what follows...

Source of picture: www.i-italy.com

By John Richardson

IT has been a remarkable year, one that has exceeded just about all expectations in Europe, the US and Asia as my colleague Nigel Davis wrote in an ICIS news Insight piece yesterday.

Confidence remains high that we could even be though the bottom of the cycle, as we said on Monday.

We have talked at length about the supply issues that continue to keep markets tight in certain grades of polyolefins. While overall profitability, as this Nexant ChemSystems report points out, might have been down very sharply in Q3 over the second quarter, this doesn't reflect persistently strong pockets of profitability.

On Monday we also referred to how excellent demand growth in certain geographies - most obviously, of course, in India and China - might be distorting what on a global basis remains a very shaky outlook.

But the doom-mongers, including us until the first quarter of this year when we started questioning our old assumptions, keep being wrong. What if the old ways of measuring demand growth are no longer good-enough because of an historic shift in the way the emerging-market economies are behaving?

"Look at India, China, Indonesia and Vietnam. Together they account for about 40% of the global population. At no previous point in history has such a large proportion of the world's population been entering the consumer economy," a Singapore-based oil and gas consultant told the blog yesterday.

This got us thinking that the gizmos that people want today are creating much-greater chemicals and polymer demand than a macro analysis of the fundamentals might indicate.

Clever marketing campaigns and technology innovation are creating more wants that at any other time in history (in the West, though, the focus has switched back to needs).

"The standard approach is you take an estimate of GDP (gross domestic product) growth for a particular country and use that to calculate the rise in consumption of plastics and chemicals," continued the consultant.

"This has been the traditional base method, with varying degrees of further sophistication, that companies, consultants - everybody - and you as journalists have slavishly reported these numbers as if they were the gospel truth - have used in the past."

The blog now wonders whether we need deeper analysis further downstream into different end-use applications to understand the impact of emerging market growth - that stimulation of greater wants - on demand. What, for example, will be the consumption of polymethyl methacrylate into flat-screen TVS and polypropylene (PP) into autos?

"I read recently that Indian auto sales have risen by 30%. This is probably why India is reporting such strong demand-growth numbers for random co-polymer PP as you wrote about in Monday," said the consultant, who agreed with our above point.

One assumption we used to hold was that all investment bubbles had to eventually burst.

But could emerging markets behave differently because of demographic, resource availability and government policy differences with the West?

For example, property prices have increased three -to four fold in Mumbai over the past five years.

The city is short of housing (even the middle classes are being forced to live in poor-quality housing or even slums because of this shortage), and so why shouldn't price rises continue at around the same pace?

In Singapore, the property market is going sideways following government tightening measures - but limited land availability and population pressures might guarantee long-tem inflation, albeit at more moderate rates than recently.

As we said, we need more detail - more granularity - as you go further downstream which requires deeper study into the opportunities and also the risks of the emerging-market boom.

The most obvious risk is the impact on energy costs if this boom continues. Are there enough resources to meet these levels of growth?

How will making better use of resources, through dealing with issues such as water pollution and all the challenges of urbanisation, benefit the chemicals industry?

But returning to the here and now, there seems to be a deep mistrust of the conventional top-down way of looking at things.

As a result, the pessimists are not being believed as they have long been predicting another post Lehman Bros collapse, but it has yet to happen.

This represents a danger in itself in that just because a lot of the commentators have been wrong so far doesn't necessarily mean they will continue to be wrong.

But month after month when sales figures keep exceeding budget targets that have been based on some of the gloomier forecasts, what is the chemicals corporate world supposed to think?

George Mitchell of Devon Energy - The "Father of Shale Gas"

By John Richardson

US polyethylene (PE) input costs will be 50% less than those in Europe and Asia beyond 2012, says a new report by Morgan Stanley.

The extraordinary gap in competitiveness is the result of the shale gas revolution that has sharply reduced US ethane costs.

Not so long ethane was above $11/mBTU in the States, but since the tipping point was surpassed on shale-gas technology, prices have ranged between $4-5/mBTU, resulting in a dramatic of US cracker feedstock slates.

Next year, though, Morgan Stanley expects natural gas liquids (NGL) supply to tighten in the US before lengthening again in 2012.

Last month we reported on a crisis of plenty for Northeast US shale-gas producers as they attempt to find a home for ethane which they view as a contaminant. The petrochemical feedstock could be moved by pipeline to Canada or liquefied and shipped to the Gulf Coast.

Once upon a time, just three years ago, Dow Chemical's weakness was that a big chunk of its production was based in the US.

But now Morgan Stanley says: "Longer term, Dow remains the most leveraged stock in our coverage universe relative to the Gulf Coast advantage that is forming within the global petrochemical industry".

When we spoke to Ben van Beurden, executive vice president of Shell Chemicals, earlier this year he told the blog that it was too early to talk about capacity being expanded in the States to cash-in on the ethane advantage.

Shell has been doing the opposite - reducing its US ethylene capacity while reversing its liquids/gas feedstock mix: It has gone from 75:25 liquid:gas feed to roughly 25:75 liquid:gas feed today.

But interestingly, in discussions that the blog held with senior Asian industry executives earlier this week, doubts were raised over the commitment of a US company to a steam cracker project in the region.

"We are not sure how serious they really are as a more viable option might be to build in the US," one of the industry sources told us.

And yesterday another of our sources told us of the here and now - i.e. the strength of US PE exports to China in September.

"Shipments to China totaled more than 200,000 tonnes last month, representing the second biggest-volume exports from anywhere in the world. This was the result both of low gas prices and the fall in the US dollar.

"The South Koreans and Japanese had slipped out of the top five and Singapore was way down, and so I don't know what these three countries were doing with all their material."

This all illustrates the importance of keeping track of changes in technology in order to improve the accuracy of forecasts.

The blog can only observe from the sidelines and wonder how this is done, but keeping track must surely involve taking into account the work of the outliers, those who defy conventional wisdom.

In the case of shale gas, this would have meant listening to and believing George Mitchell of Devon Energy at a time when his colleagues thought him a little eccentric. His vision has helped transform the industry's economics.

By John Richardson

In theory there should be an additional 20-30m tonne/year of liquefied petroleum gas (LPG) coming on-stream between 2008-2012, according to Petrochemical Corp of Singapore (PCS) - the Singapore Jurong Island-based cracker operator.

This could lead to 5-10m tonne/year more LPG being cracked if the pricing incentives are right, added PCS in a recent presentation.

But as the blog has discussed before, LPG has been much-tighter this year than anyone had expected as a result of the associated gas issue, delays to liquefied natural gas (LNG) projects and reduced refinery operating rates. A further factor has been the increased use of LPG for petrochemicals in Saudi Arabia.

As a result of the lingering impact of the above, it therefore seems questionable whether the PCS prediction that LPG markets will be long in 2011-12 will come true.

Firstly, as we've discussed on many occasions before on this blog - but it is worth re-emphasising because of its importance to global petrochemical balances - world oil demand is being forecast not to return to 2007 levels for a couple more years.

This will mean OPEC will have to manage this lower demand to attempt to prevent a price decline, resulting in Saudi Arabia's oil-production quota being maintained at a level that will limit its propane, butane and ethane production.

LNG projects have been postponed or even cancelled due to the economic crisis. And commissioning continues to be affected by the old chestnut also harming the start-up of on schedule of new petrochemicals facilities - the shortage of qualified engineers, said a Singapore-based oil and gas consultant.

"More than 30 LNG ships are standing idle at the moment out of a global fleet 370. This is an indication of project delays and weaker-than-expected demand," said an industry source.

Some 12m tonnes of LNG that should have been delivered to the US this year will instead to diverted to Asia because of the country's weak economy and the rise of shale gas, said Jason Feer, Vice President and General Manager Asia Pacific for the Argus Media Group, in a speech during last week's APPEC oil and gas conference in Singapore.

The shale gas boom, that has dramatically improved the economics of US petrochemicals producers, might in itself lead to more LPG availability.

But this is not part of the PCS estimate we gave above and outside the US, extra LPG volumes from LPG remain highly speculative as projects are at a very early stage.

Further - a global shale-gas boom could put paid to more LNG projects!

And then, of course, refinery operating rates remain under pressure due to factors including new capacity arriving just as the economic crisis occurred - and the peaking of US gasoline demand due to increased fuel efficiency and ethanol blending.

The jury is out over whether refinery margins have bottomed out with maybe only the complex, modern refiners set to prosper.

And then finally in this long list of reasons why we are not drowning in a flood of LPG, petrochemicals consumption has risen in Saudi due to more cracking of propane and butane and the start-up of several propane dehydrogenation (PDH)-to-polypropylene (PP) projects.

Saudi Aramco recently cut export allocations by 20% because of the associated gas problem and increased demand from petrochemicals, said an LPG trader.

BUT - according to the industry source we quoted above - two gas projects in the Middle East, due on-stream over the next few years, have 7-8m tonne/year of LPG of co or by-product LPG "that they don't know what to do with".

As PCS points out, in a world of more competitive gas-based cracker capacity and increased China petrochemicals import self-sufficiency, feedstock flexibility for the higher-cost Asian (ex-China) and European crackers will be essential to survival.

So making investments in the right separation facilities, in furnace adjustments and LPG storage could be worthwhile - especially as LPG yields a higher percentage of propylene than naphtha, and could therefore help solve a potential long-term C3s shortage.

But the key issue, as we have pointed above, is going to be timing!

Watch out for the charging bulls...

Source of picture: sbynewsblogspot.com

By John Richardson

A FEW senior industry executives told the blog as long as a year ago that a petrochemicals supercycle was on the way as a result of lack of new supply post-2011 and booming emerging markets demand growth.

The babble of optimism has built-up steadily over the past few months.

Because profitability has remained robust for such an unexpectedly long period, this seems to have undermined the credibility of those who have been predicting a disaster that has yet to happen.

So a new consensus seems to be forming - that we are indeed heading for a supercycle in a few years.

But the herd can be wrong, as the collapse in financial markets so amply demonstrated in September 2008. It could all still end in tears.

A new Morgan Stanley report adds big analytical weight, though, to those confident that we are heading the sunny uplands.

Here follows the executive summary from the report, which argues for:

An inflection point in the global plastics market, driven by China and India: After a recent period of slower growth and a decoupling from global GDP growth, we now expect the strongest period of ethylene demand growth in the past 20 years. We forecast that in the next five years, incremental annual consumption in China and India alone will equal the total current consumption in the US, until recently the world's largest ethylene consumer, and still responsible for 15% of the market.

Our global supply/demand model suggests ethylene utilization rates will tighten. We forecast strong demand growth, averaging 5.6% in 2009-14, and also expect the supply outlook to improve. The credit crunch has halted infrastructure investment by industry titans, and the Middle East appears to be exhausting feedstock quotas. Thus, global capacity should grow at just 2.3% in 2011-14. Utilization rates are set to tighten from 85% today to 92% in 2014, resulting in improving margins and returns globally.

Implications: In the US, with its advantaged natural gas-based feedstock, cash margins in the next cycle should be 2.4x the average of the past 20 years. Dow and LyondellBasell should be the main beneficiaries. Asian utilization rates are set to tighten the most from current low levels. In Asia/Middle East, we prefer companies with exposure to gas-based feedstocks such as PTT Chemicals and SABIC. Europe should remain structurally weak due to low demand, high feedstock costs, and proximity to potential Middle East imports.

By John Richardson

THE Morgan Stanley Supercycle report, which we first blogged on last Friday, has created a big stir among the blog's contacts.

 Click herefor a copy of the report RI_PETROCHEM_BLUEPAPER2010.pdf   

As we said in this ICIS news article on both the Morgan Stanley report, and one from Merrill Lynch which is in a similar vein, the paradigm seems to be shifting away from a supply-driven collapse in margins.

Certain senior industry executives have been telling us for a long while - some claim for several years - (maybe we were not listening hard enough?) that any crisis would not be supply-driven.

But now the majority of people we talk to are climbing on board the same argument - along with the belief that emerging-market demand-growth will be more than good enough compensate for a new recession in the West.

But an industry analyst we talked to earlier this week holds a very different view.

"Think about it - the US consumes around 21m tonne/year of ethylene or ethylene equivalent a year, Europe 24m tonne/year and Japan 7m tonne/year and so you are talking about a total of around 52m tonnes from global consumption of approximately 120m tonnes," he said.

"So I don't think it is right to suggest - as Morgan Stanley does in its much talked-about report - that Chinese and Indian demand alone, never mind the rest of the emerging markets, can compensate for weakness in the West.

"The bank's own data shows a decline in Western consumption in 2000-2009.

"If the US and Europe fall back into recession, and with the energy conservation and environmental pressures growing ever-stronger, their ethylene equivalent consumption is going to decline even further."

This would place even more pressure on China and the other emerging nations to carry the load - but recent evidence suggested that the Chinese economy was slowing down, he added.

Operating-rate problems that have constrained production this year would eventually be resolved leading to oversupply, he said

But he admitted that the associated gas issue was the wild card in the pack. The lack of petrochemicals feedstock via oil wells is likely to constrain production at Saudi crackers for several more years until global oil demand returns to pre-crisis levels.

Research by Kunal Agrawal, Asia Energy Analyst at BNP Paribas in Singapore, supports the oversupply argument.

"In 2009-2011, we see more than 21m tonne/year (30% of 2010E installed capacity) of new ethylene capacity in the Middle East and Asia," he wrote in a recent report.

This will lead to surplus capacity of 11.1m tonnes in 2009-2011 and 12.1m tonnes in 2010-11, he warned.

Operating rates would, as a result, decline to 83% in 201011 compared with the average 96% over the past five years.

The BNP Paribas research - taking into account all the project delays - estimates that while 5.1m tonne/year of ethylene came on-stream in Asia and the Middle East last year, this will have risen to 8.8m tonne/year in 2010, and will climb to 8.5m tonne/year in 2011.

The good news is that if the optimists are wrong this should become apparent over the next few quarters - thereby postponing any rash of new projects.

The bad news is that 2011 budget expectations may have already been raised, leading to another ferocious round of cost-cutting in the petrochemicals industry as margins and share prices tank.

Here is another article on the liquefied petroleum gas (LPG) market, a subject we have covererd several times on the blog over the last few months.

Below we discuss how the temporary supply constraints that have kept LPG tight this year look set to end, creating a very attractive feedstock option for higher-cost Asian cracker operators as they attempt to compete in an ever-more difficult environment.

By John Richardson

THE world is about to be hit by a flood of new liquefied petroleum gas (LPG) (propane and butane) supply, creating a big opportunity for higher-cost Asian cracker operators as they seek to survive in an ever-more competitive world.

An additional 20-30m tonne/year of LPG is due to come on-stream globally in 2008-2012, according to the Singapore-located cracker operator, Petrochemical Corp of Singapore (PCS).

This could lead to 5-10m tonne/year of extra LPG consumption by the petrochemicals industry if the pricing incentives are right, the company added.

"Europe has gone as far as it can in taking advantage of the LPG opportunity, but Asia is only just waking up to the need to be more flexible with some investments in the region taking place over the last 18 months," said Paul Hodges, chairman of UK-based chemicals consultancy, International e-Chem.

 Source of picture: Bombayharbor.com

Some South Korean, Japanese and Singapore cracker operators have already invested in the furnace adaptations and storage facilities necessary to make use of LPG - but many other producers lag behind.

"LPG normally becomes attractive as a cracker feed when its price is around 90% of the naphtha price," added Hodges.

Traditionally, this has been in the summer months in the northern hemisphere when LPG pricing falls due to lack of demand for heating.

The anticipated oversupply of LPG is the result of the ramp-up in liquefied natural gas (LNG) and condensate capacity in the Middle East, said oil and gas consultancy, FACTS Global Energy.

The capacity flood should have, in fact, already arrived by now, but this year has seen a surprisingly tight global market.

Lower LPG production by refineries - the result of oversupply in refinery capacity - is one factor behind the tightness.

Middle East petrochemicals demand for propane and butane has also increased due to a change in feedstock mix.

Recently commissioned gas crackers are running a higher percentage of LPG feedstock than plants that were brought on-stream earlier on because of shortages of ethane.

In addition, Saudi Arabia has seen the start-up of three propane dehydrogenation-to-polypropylene (PP) complexes over the last 18 months.

But by far the biggest factor behind delays in the LPG supply surge is reduced operating rates and maintenance shutdowns at LNG plants, added FACTS.

"It should be noted that this will be temporary and in the longer term, the LNG mega-trains will be strongly required to ramp-up their production to avoid any damage to project economics," wrote the consultancy in a recent report.

LNG production has been reduced because of the same problem afflicting the refinery sector: A lot of new capacity came on-stream just as the economic crisis happened, with the LNG industry facing the added problem of the shale-gas revolution in the US. This has left the States unexpectedly self-sufficient in natural gas and even, possibly, in a position to export rather than import gas.

In Qatar alone, total LPG and condensate production will surpass that of crude oil by 2012, added FACTS in the same report.

Of course, though, cheap feedstock for the smaller, older and therefore more marginal cracker operators in Asia won't by itself be a game-changer.

"Cracking propane and butane changes cracker yields," said a Southeast Asian cracker feedstock purchasing manager.

"As a result, a careful balancing act will need to be performed between savings on raw-material costs and what these different yields will mean for polyethylene (PE), polypropylene (PP) and other olefins derivative production.

"One obvious opportunity from using LPG is increased propylene yields. This might help what could be tight C3 markets over the next few years."

Propylene supply has tightened in recent months as a result, of again, lower availability from refineries.

Other factors have been low liquids cracking operating rates in Europe on lack of naphtha availability (again because of problems in the refinery industry) - and US cracker operators switching to lighter feeds due to the collapse in natural-gas pricing.

A further reason has been the boom in polypropylene (PP) production due to strong demand growth for the polymer.

The shortage of C3s is seen by some industry sources as a serious and long-term problem. Unless it is addressed they worry that PP could suffer from demand destruction.

Please stop taking the Mickey..

Source of picture: China Daily

By John Richardson

ECONOMIC bubbles have been given their name for a good reason: They behave exactly the same as the soap bubbles that were prevalent at Hong Kong's Disneyland, where I paid with my three-year-old son yesterday.

So when the momentum of rising equity and commodity prices - mainly driven by what's happening in emerging markets - slows down the surface tension of economic bubbles eventually increases and they go pop.

It doesn't have to be one major event that causes such events and so it won't necessarily be another Lehman Bros-scale trigger that will cause equities and commodity prices, including chemicals, to retreat. It could instead be a loss of confidence that causes the momentum of bubble inflation to slow down, leading to investors exiting as they cash-in on their profits.

"During bull runs, like the one we are experiencing right now, the longer a rally lasts the more investors start becoming deluded that this time it will be different, that this time the boom will last forever," a former investment banker, who is based in Hong Kong, told the blog late last week.

"I know of several hedge funds which have strategies in place to take advantage of the end of the current run."

Ironically, it might be Asian investors who have made a fortune from the boom who pour money into hedge funds based in this region that are ready to short markets in a big way.

"Chinese investors are emerging as new a source of capital for (hedge fund) managers in Asia as fundraising from international institutions has become tougher after the financial crisis," writes Bloomberg in this article.

In the same article, the news service reported that hedge fund JT Greater China Long/Short Fund was launched in Hong Kong last week by a former senior adviser to China's state pension fund and the ex-head of Morgan Stanley's prime brokerage.

The blog remains convinced that the long-term trajectory for chemicals demand is very positive. Emerging markets have surpassed a tipping point, meaning that levels of consumption will over the next few decades compensate for any long-lasting problems in the West.

But this doesn't meant to say that the road ahead won't be rocky and littered with fragmented and slippery bubbles, in what indeed is an ugly sentence with an appalling mix of clichés.

John Authers, in his excellent The Long View in last weekend's edition of the Financial Times, makes the point that the rallies in equities and commodities since Lehman Bros can be exactly correlated with the availability of lots of cheap money.

And the latest round of Fed quantitative easing has resulted in more cheap money and the expectation that interest rates will remain depressed for a long time.

This in turn, of course, has led to the flood of money into emerging markets in search of higher returns, creating the danger of currency wars and inflationary pressures that hedge funds are likely to attempt to take advantage of.

"For investors, there is money in bubbles, so it is best to go with the herd and buy anything that would benefit - gold, oil and emerging markets could also rise much more before the bubbles burst - and make sure to get out in time," writes Authers.

For chemicals markets the dangers are that real demand pictures get distorted as buyers hedge against the anticipation of higher oil prices by building stocks (sounds familiar?).

And as the great scramble to guard against feedstock inflation gathers momentum, those who trade in chemicals might well be tempted to come out with outlandish and silly stories to justify why "real demand" is strong - i.e. to promote a bit more panic among the buyers.

We will detail suspected examples of these silly stories over next week or so.

Chemicals producers preparing budget plans for next year need to be prepared.

By John Richardson

A gaping chasm has opened up over the past 18 months between nameplate capacities and effective operating rates, resulting in much greater focus on the latter.

It isn't easy and it is getting ever-more complicated to assess the actual volumes likely to hit markets.

There is a considerably well-supported school of thought that 2011 will represent a year of capacity absorption. More new plants are set to start up and facilities recently brought on stream should, in theory, run a little better.

But this assumes that the myriad technical problems at new Middle East plants that held back production in 2009 and 2010 will be resolved.

What nobody seems to have a clear perspective on is the extent to which faults have been built into the basic structure and design of plants, making technical fixes hard to achieve. If such fixes are possible, why haven't they already happened?

It has been suggested that corners were cut on construction when project costs were at their highest in 2006-07.

The manpower issue is also not going to be resolved anytime soon.

Petrochemical companies the world over, and particularly in Iran, lack sufficient experienced staff to operate plants and rectify outages in a timely fashion.

"A mechanical problem that would take two weeks to fix in Europe can take several months to sort out in Iran," an industry observer said.

There are rumours of major logistics problems at the container port in Al-Jubail on Saudi Arabia's east coast.

A lack of enough experience in handling bills of lading and letters of credit is a cause of delays in shipments from one particular complex in the Middle East, according to a polyolefins trader.

Insufficient reliable information about the extent of these issues, and when and if they will be resolved, are further complications.

Government policy in China is another major imponderable that will still have to be pondered in 2011.

Sinopec was forced to cut polyolefin production by 10% in December because gas-oil feedstock for crackers had been diverted into diesel production.

Has China already achieved its emissions target under the 11th Five-Year Plan that expires in March, and will this therefore mean no more cuts in coal-derived electricity supply?

It was efforts to achieve these targets that led to a diesel shortage as factories were forced to switch on their diesel-powered back-up generators.

Source of picture: incadventures.com

Once the 12th Five-Year Plan has been announced at the National People's Congress in March, there is the added complication of working out the timing of further cuts in emissions.

The Beijing-based online economic research publication, the China Economic Quarterly, says that China will reduce its total emissions by an additional 17% during the upcoming Five-Year Plan, which will run from March 2011 until March 2015.

Will everyone wait until towards the end of the plan to hit emissions targets, as was the case this time?

Or will the government force quicker compliance in order to avoid the embarrassment of being at risk of missing its own target?

A further imponderable is how global refinery operations will affect feedstock supply for petrochemicals.

Constrained production at European refiners was a factor behind low operating rates at crackers in 2010.

Oil, refining and chemicals analysts have been queuing up of late to claim that refinery margins have bottomed out, meaning higher production in 2011.

But a Singapore-based oil and refining consultant said: "Refinery margins will recover but not by that much. It will be the complex, full-conversion refineries that will benefit and not the simple refineries."

Reading the intentions of OPEC is also going to be critical. If the oil cartel cannot resist political pressure over rising oil prices we might see an increase in production quotas later this year, resulting in more associated gas supply. Lack of associated gas was perhaps the biggest factor of all in restraining Middle East production in 2010.

If there is a delayed oversupply crisis as new plants run better and both naphtha and associated gas feedstock supply increases, how will the petrochemicals industry in the West respond?

The past two years have seen exceptional operating-rate discipline among these producers. This has been the result of mergers and acquisitions that have taken place since the last big downturn and inventory losses suffered in the fourth quarter of 2008.

Without an inventory shock on the same scale (and for goodness sake let's hope that this doesn't happen), will producers be as quick to turn operating rates down?

If producers bring idled plants back on stream just as markets tank, and if under-pressure sales staff are tempted to chase volumes in an effort to hit unrealistic targets, will this make the problem worse?

Perhaps the biggest doubts of all, though, rest around growth.

Global demand growth for chemicals has to a large extent been driven by China's re-export trade. This has involved importing large volumes of chemicals and polymers for re-export to the West and to wealthier parts of Asia.

A recent report by Credit Suisse goes to the heart of the debate over how quickly home-grown domestic demand in China will replace lost exports.

With the West in deep economic funk and the Chinese government eager to wean the country off exports, will growth decline? This question applies to this year and probably much of the rest of the current decade.

"Over the last 22 years, demand multipliers - ethylene demand growth to global GDP growth - have averaged 1.3x. However the multipliers in this decade (2000-07) have averaged only 0.9x," Credit Suisse said in the report.

"The question is what are we going to get going forward? Will multipliers rise as demand growth shifts to emerging markets as some have suggested? Or will it be otherwise?

"Using China's exports of plastic-related products, we estimate that in 2009-10, China's exports of product accounted for 45% of total ethylene/propylene demand, or 11% of total world demand.

"Going forward, as export growth slows, and shifts away from the more manufacturing-driven products into higher value-added things, the demand for petrochemicals from this segment of China's GDP is likely to slow."

By Malini Hariharan

After months of talks, PetroChina finally signed a framework agreement with Ineos for partnerships in refining, trading and petrochemicals at Grangemouth in Scotland and Lavera in France. The companies will be working towards the formation of these ventures by end-June 2011.

PetroChina's parent China National Petroleum Corp (CNPC) and Ineos also signed an agreement to share refining and petrochemical technology and expertise.

Pic Source: www.businessinsider.com

For Ineos, Europe's largest independent refiner the deal to partner with one of the world's largest refiner makes a great deal of sense.

It not only secures the future of the two sites but also gives the company an entry into China's lucrative petrochemicals market.

Ineos director Tom Crotty said the agreement to give Ineos the opportunity to lever its polyolefins, polyvinyl chloride (PVC), chlorine, possibly acrylonitirile (ACN) and other technologies into China.

But beyond sharing of technologies, what Ineos should be looking at is a cracker joint venture in China. This has been difficult task for most foreign companies except those that can offer oil. But the planned joint venture with PetroChina gives Ineos a good platform to pursue a cracker and deriviatives project.

Ineos currently has only one project in the country - a phenol and acetone joint venture with Sinopec at Nanjing.

Financially, Ineos will be pleased as a cash injection by PetroChina would help it in its deleveraging efforts. "We are not talking small numbers here," said Crotty in this interview.

As for PetroChina, a deal with Inoes is much more than gaining a foothold in Europe. It would help PetroChina hedge against uncertain product pricing policies in China where the government is working hard to tame inflation, says one analyst in this report. A second pointed out that with a share in a refinery in major trading areas, PetroChina would have a secure supply of oil products and storage capacity for its expanding trading operations.

After expanding in Asia (a stake in Singapore Refining Co and a joint venture with JX Nippon Oil in Japan) and Europe, speculation has mounted that the company will soon turn its attention to the US to achieve its ambition of becoming an integrated international energy company.

And PetroChina has deep pockets - its chairman has said that the company plans to spend $60bn in overseas acquisitions.

But it remains to be seen if the PetroChina can to make a smooth entry into the US as the last effort by a Chinese company (CNOOC's bid for Unocal) to acquire a refining asset was scuttled by political pressure.

Patrick Thomas

Source of picture: Bayer Material Science

By John Richardson

SUCCESS in chemicals - whether you are into commodities or specialities - is largely about eking out maximum value from every single molecule in all the important markets.

The almost obsessive focus on China and other emerging markets might give the impression that "all the important markets" relegates the economically ailing West to the second or third division.

But any truly global chemicals company worth its salt needs to balance investment across each of the big consuming regions.

And so, after all the fanfare of last month's announcements by Bayer Material Science (BMS) of a further $1bn of capital spending in China, the company has also been keen to stress what it is doing in Germany and the US.

The chemicals major plans to invest a total of €3.5bn ($4.5bn) in these three countries over the next five years. This will involve commercialising a new technology, upgrading existing plants, building new production facilities and a lot more work on research and development (R&D).

"Our further expansion plans in Germany include growing our coatings facility in Leverkusen that produces aliphatic isocyanate, hexamethylene di-isocyanate (HDI) and isophorone di-isocyanate (IPDI) coatings," said the company's chief executive officer, Patrick Thomas, in an interview.

"This investment should be sanctioned by the board in the next 12 months and completed in two years."

Next he detailed an example of molecule-value stretching: plans to build a commercial-scale demonstration plant that will use the company's oxygen depolarised-cathode technology for producing chlorine. Start-up is scheduled for later in 2011 or the beginning of 2012.

This will involve the conversion of BMS's last remaining mercury cell chlor-alkali process unit in the world, which is located at Uerdingen in Germany, and result in big savings on electricity costs and reduced CO2 emissions.

In effect, hydrogen fuel cells are integrated in the chlorine cell as part of this new process, lowering electricity consumption (the main cost component in chlor-alkali production) by 50% compared with mercury or diaphragm cells.

Thirty per cent less electricity is required when facilities are converted from the membrane technologies.

The company will eventually convert all of its plants to this new breakthrough process, Thomas added.

And he said: "We have signed a memorandum of understanding (MOU) with China BlueStar (the mainly state-owned Chinese speciality chemicals giant).

"BlueStar, which is the technology supplier and builder of just about all the chlor-alkali units in China, plans to use our new technology across the country. The first step is to build a pilot unit in Caojing."

BMS will also invest in Baytown, which is near Houston, Texas, and the site of company's largest US production facility.

Polycarbonate, methyl di p-phenylene isocyanate (MDI) and toluene di-isocyanate (TDI) facilities will be upgraded at the site, involving debottlenecking and technical improvements to boost reliability.

Work will also be carried out on improving logistics, such as building a chlorine pipeline from feedstock supplier Oxyvinyl, which is 20km away. This will take chlorine transportation off roads and railways.

"These investments in both the US and Germany illustrate that they are still very important markets for us," said Thomas.

In volume terms, the US and Germany remain as big as China for BMS - even if they are eclipsed in terms of percentage growth-rates.

So, of course, because growth is booming in China, the big investments in new plants are taking place in that country.

Thomas provided a great deal more detail about what BMS wants to build at its big production site in Caojing, Shanghai, compared with what was reported last month.

"Our plan for MDI is to reach 1m tonne/year of capacity between now and 2016," he said
"This will involve a debottlenecking of our existing plant to 500,000 tonne/year from 350,000 tonne/year and building a new unit of 500,000 tonne/year."

The new polycarbonate plant being evaluated for Caojing will be an "economic copy paste" of the existing 200,000 tonne/year facility at the same site.

So it will initially also be 200,000 tonne/year and then the company wants to debottleneck both the old and new plants by 50,000 tonne/year to get to a total capacity at the site of 500,000 tonne/year.

"Capital equipment for the new plant has already been pre-ordered and our target is to bring the new plant on-stream in 2013. The debottleneckings will then take place 12-18 months after that."

Thomas stressed that the decision to move the BMS polycarbonate global headquarters to Shanghai from Germany would not mean any redundancies.

The company also wants to build a new coatings plant in Shanghai. Like the coatings investment in Germany, this new facility will produce solvent-free, water-based aliphatic coatings.

Capacity of this new plant would be 50,000 tonne/year with start-up scheduled for 2013-2014.

The existing 30,000 tonne/.year plant at Caojing is to also be debottlenecked.
"All our projects at Caojing have reached the Memorandum of Cooperation (MOC) phase," said Thomas.

"The MOC phase is a step along from an MOU and means that the local Shanghai authorities will now move on to studying our proposals.

BMS is to begin environmental impact assessments and feasibility studies as part of a local approvals process that involves about 20 different steps.

"Once these steps have been completed, some aspects of our overall plan for Shanghai will need to be submitted to the central government's National Development and Reform Commission (NDRC) for final approval.

"Other elements of the expansions can go ahead with only local government backing."
Further product development work in China includes building a large-scale PC automobile-glass demonstration hall in Shanghai.

R&D development work in the auto and appliances industries mainly occurs in China, as does manufacturing.

But the electronics industry is slightly different.

"The know-how is in the US, Japan, South Korea and Taiwan with the manufacturing - because of the low labour costs - in China," said Thomas.

This is why BMS opened a functional films research centre in Singapore in June last year as the city state is "an international hub for the development of technology, drawing on expertise for the whole region".

The functional films centre focuses on research into coated high-tech films and nanotechnology for electronics.

Stand still in this business and you end up being overtaken, and, quite probably, kicked off the running track altogether.

The opportunities are huge, but as the BMS announcements indicate, so are the difficulties in making sure you both keep pace with competitors in China while not losing focus on all the important markets.

By John Richardson

ANXIETY seems to be growing in the chemical industry over China's plan to migrate its economy away from export dependence towards greater domestic consumption.

The sense of nervousness picked up in several conversations with company executives over the past few weeks indicates how much is at stake for an industry that has hugely benefited from the Chinese growth model. The model has involved importing lots of raw materials, including chemicals and polymers, for re-export as finished goods.

To put this into an overall macro-economic context, China has now comfortably surpassed Japan to become the world's second largest economy, according to the online research publication, the China Economic Quarterly (CEQ).

The Chinese economy, now worth $5,800bn, has tripled in size in just six years with per capita incomes rising from $1,500 to $4,300 over the same period.

In an extraordinarily blunt article published in the China Daily in December, economist Yu Yongding said that painful structural reforms were essential if China was to get anywhere close to maintaining this stunning pace of growth.

Problems he highlighted, which have also been pointed out by other economists, include capital investment that accounts for more than 50% of GDP. Nearly a quarter of this investment has gone into real estate, he claimed.

"There are simply too many luxurious condominiums, magnificent government office buildings and soaring sky-scrapers," he wrote.

What was amazing was both the tone of the article, the fact that it was published in an official newspaper - and also because Yu was formerly a member of the monetary committee of the People's Bank of China.

Wasteful investment in too-much industrial capacity, as a result of soft loans to state-owned enterprises (SOEs) from state-owned banks, have been singled-out as another issue by other economists.

Misallocation of capital looked as if it had slowed down prior to the global economic crisis.

But once the massive economic stimulus package was launched to deal with the crisis in late 2008, the state-owned lenders were left with loan reserves burning a hole in their books.

"Because the banks were suddenly flush with capital and were told to go out and lend by the central government, the most established and therefore easiest route to get rid of this money was through lending to the SOEs," said a Beijing-based financial analyst.
"The SOEs in turn found the easiest way to dispose of this money was into new industrial capacity."

The financial analyst believes that this has left China more dependent on exports than before the economic crisis, evidence of which is a rise in China's current-account surplus as a proportion of global GDP.

Fixing the odds in favour of China's highly competitive export industries has had other consequences, according to critics of the China growth model. They include low wages and lack of full-time employment contracts and social benefit provision for rural migrant workers; high levels of pollution due to lax environmental standards; and lack of financing for private businesses because the state-owned banks lend primarily to the SOEs.

These factors have all held back growth in private wealth. Expansion in private incomes and tackling income inequality are essential for boosting domestic consumption.

Yu believes that a combination of a political culture of "sycophancy and cynicism" and a lack of "innovation and creation" in Chinese industry, make structural reforms exceptionally difficult. He argues that even though China churned out 17m cars last year, the country has a very small number of its own brands.

The CEQ takes a much more optimistic view and says that to start with, many foreign commentators have oversimplified things when they talk about the shift to greater domestic consumption.

"China's investment needs remain enormous, and its capacity to pick up global export market share, especially in higher-end goods, remains significant," wrote the online service in its fourth quarter 2010 report.

"Investment and exports will not disappear soon as drivers of growth."

Policy makers have also got much more serious about pushing through structural changes, a sign of which was a recent change in rules governing dividend payments by SOEs, the CEQ added.

Over the past four years the 120 biggest SOE groups paid 6% of their profits in dividends to the government, but most of these dividends were recycled back as capital injections and subsidies, it said.

The government plans to raise payout requirements to 10-15%, and extend the payment policy to all 1,600 centrally-controlled SOEs, creating the chance that some of this money will be funnelled into social service spending.

But official growth estimates, released during 2010's October Communist Party plenum point to the scale of economic disruption.

Officials were quoted as expecting lower GDP growth under the 12th Five-Year Plan (2011-2015) compared with to average of 11% per year under the 11th plan, which has just come to an end.

And this is the huge issue for the chemicals industry. Beijing expects export growth to average around 10% per year during the new five-year plan compared with 27% in the five years before the global economic crisis.

How quickly will domestic growth replace this slower expansion in exports?

By Malini Hariharan

Asian naphtha prices, which were expected to remain firm this quarter, have come under pressure as large volumes of European material are heading towards this region.

Naphtha was trading at around $885/tonne cfr Japan last evening supported only by the strength in crude oil prices with WTI at $91.69/bbl and Brent at $98/bbl.

But with nearly 600,000 tonnes of product on its way from Europe naphtha premiums have slipped and could fall further, traders told Felicia Loo, ICIS pricing editor for naphtha.

Europe has been able to move large volumes because of poor demand as some crackers switched to liquefied petroleum gas. Poor economics for gasoline blending have added to the problem.

In petrochemicals, ethylene and propylene prices have been stable this week but benzene has moved up, led by price hikes in the US and Europe and supported by crude oil.

Prices have hit a 28-month high of $1,120-1,130/tonne fob Korea, a level last seen in early September 2008.

     "Only another thousand or so years to go....."

      Source of picture: Atlantic Council

By John Richardson

HERE we go again, eh? Yes, as rising crude-oil prices and overall inflation pose a major threat to the petrochemicals industry.

Nothing the blog has read or heard over the last two weeks has given us any great confidence that the fundamentals in polyolefin markets (the market we track most closely) have changed for the better since December to support rising raw-material costs.

And you can make an argument that the fundamentals look weaker than they did in late 2010.

The Chinese New Year (CNY) is, of course, on the way and this year it falls on 3 February.

How will buyers of resin effectively estimate their purchases ahead of the holiday period as during that period they - and the rest of China - will not be around to assess the feel of markets in general, from crude through to polyolefins? In other words, they might over or under-stock and be hit by an unanticipated shift in feedstock prices.

This fear, very evident from our discussions with a couple of converters this week, is based on the idea that if you are in the market you are able to predict what is going to happen. Sure thing....

The other big worry is on China growth, as we discussed yesterday in terms of the impact of a major government policy shift ahead of the official start of the 12th Five-Year Plan in March.

GDP (gross domestic product) and export growth is expected to slow down during the period of the plan. This would be the result of policies designed to switch the economy away from over-reliance of exports and investment and towards more domestic consumption.

The other big issue in China, across Asia, and also in the EU and the UK, is inflation in general

Are the inflationary pressures mainly core (excluding energy, other commodity and food costs) or non-core?

In China the inflationary pressures seem to be very-much core, despite the big contribution that rising oil and food costs have played in the recent surge in the consumer-price index.

Too much money is still sloshing around in the system following the late 2008 economic stimulus package, a symptom of which is the continued increase in property prices.

So China keeps on raising its bank-reserve requirements. Several more interest-rate increases seem to be on the cards for this year.

The rise in the cost of living sets back the government's agenda of reducing dependence on exports and investment as drivers of GDP growth towards increased domestic consumption, as higher costs are hurting the "sandwich generation". These are the young people too rich to qualify for the limited social housing available in the major cities, but also too poor to afford the now astronomically high costs of private accommodation.

An email that went viral just before Christmas, written by disgruntled Bejingers, calculated how long peasant farmers, blue-collar workers and prostitutes would have to work to afford a condo in the city.

As long as there were no natural disasters, a peasant farmer working an average plot of land would just have been able to afford an apartment if he or she somehow had worked since the Tang dynasty, which ended in 907AD, until today, the email calculated.

In another popular e-mail, an anonymous author describes the misery facing ordinary people in China's increasingly unequal society.

"Can't afford to be born because a Caesarean costs Rmb50,000; can't afford to study because schools cost at least Rmb30,000; can't afford to live anywhere because each square metre is at least Rmb20,000; can't afford to get sick because pharmaceutical profits are at least 10-fold; can't afford to die because cremation costs at least Rmb30,000," the e-mail reads.

Social stability is crucial for continued strong economic growth and for the Communist Party to remain in power, both of which, some would argue, are connected.

Inflation across Asia, driven by, as we've said, higher crude and also higher commodity prices in general, have prompted recent interest-rate rises in South Korea and India.

And as we said at the beginning, quite possibly here we go again as inflation is arguably being largely drive by speculative funds pouring into oil and other commodity futures markets.

 This year is to date is reminding everyone of 2008 when oil and crop prices surged to record highs and then collapsed.

There are two radically opposed schools of thought about the role of speculators rising commodities prices.

"I feel it is a combination of both speculation and stronger demand, but the essential danger remains a sudden unwinding of the price if the speculators head for the exit," said a Singapore-based oil and refining consultant earlier this week.

"As of a few weeks ago, there were far more non-commercial contracts (the quant funds, the hedge funds and the pension-fund managers etc) open on the NYMEX compared with June 2008, when oil reached its peak of $147/bbl.

"This suggests a huge increase in speculative money and in my view poses a significant risk.

"As I said, though, there are strong demand factors behind the price - for example, the recent minus 15 degrees temperatures in South Korea that have raised heating-oil demand. There has been the drive to hit emissions targets in China that resulted in a big surge in demand for diesel.

"But on the supply side there is a lot of surplus capacity still around - 6m bbl/day of crude, for example - and crude and crude-product inventories are high.

"This suggests that to some extent OPEC is deliberately keeping the market tight by keeping supply off the market, and that speculators are able to keep crude and oil products in inventory because interest rates remain low.

"And so nothing really has changed. The big concern remains what will happen if and when interest rates rise in the US and easy lending conditions disappear.

"My feeling is that a crude price of $80-85/bbl is justified based on demand and so an unwinding from current levels is possible."

Our fellow blogger Paul Hodges pointed to the extent of the oil oil-product inventory overhang in a post earlier this week.

OPEC seems to be happy provided prices don't consistently move above $100/bbl - good news in a way because it doesn't seem to have any immediate plans to raise output. Thus there is no risk of more associated gas increasing polyolefin supply. But supply could still increase substantially in 2011 if plants operate more smoothly.

In a worrying echo of 2008, purchasing managers down all the petrochemical chains could be tempted to chase higher oil prices. A sudden collapse in crude could, as we have warned many times before, lead to inventory losses similar to those in Q4 of that year.

Chasing higher oil prices is a huge risk in such an uncertain, and potentially a lot weaker, demand-growth environment.

Source of picture: Dallhouse University, Canada

By John Richardson

THE incredibly smart way in which polyolefin producers have managed production since the great collapse of September 2008 continues to defy what appear to remain some very uncertain, and some cases weak, macro-economic fundamentals.

As we discussed on Wednesday, China faces a significant demand-growth gap as its economy changes gear. Yesterday we talked about surging crude oil and inflation in Asia, Europe and the US as further big concerns for 2011.

But ever since the great Lehman Bros disaster there have been numerous other macro-economic threats - and constant predictions of new polyolefin supply wrecking the market - that have failed to make life a misery.

A big reason seems to be, as we said at the start of this post and as we've said before, the determination of producers to ration output and control their inventories.

Yes, emerging-market growth continues to surprise on the upside. But as Nigel Davis, editor of the Insight section at ICIS news points out, global production has yet to return to 2007 levels.

Right now the cost-push is intense as olefins, polyolefins and petrochemicals prices in general (we will look at some of the other product chains next week) surge to record levels.

US propylene contract prices rose by a whopping 28% in January with the ethylene contract up by 13% in December compared with October, according to William Lemos, Senior Editor, Manager, at ICIS pricing in Houston.

The European market continues to defy the pessimists. Polypropylene (PP) prices, for example, reached record levels earlier this week as producers were comfortably able to pass on the rise in propylene costs.

The blog began last year in a pessimistic mood, by May felt overwhelmed with the persistent optimism of the industry as it succumbed to a heavy bout of euphoria, felt a little more gloomy by December and now, quite frankly, hasn't got a clue.

Another of my colleagues, Linda Naylor, Senior Editor with ICIS pricing who covers the European polyolefin markets, has also spent a lot of time expecting everything to end in tears.

But she believes that her predictions have floundered largely thanks to production management.

One European PP buyer told her this week that there has always been a crash after a price rally on the lines of the one we are seeing right now.

He believes this time, though, that if volumes continue to be very skilfully controlled, a crash won't happen.

Asian prices have increased in line with those in Europe and the US, but in a sluggish, reluctant fashion due to widespread worries over weaker China growth.

There is talk of prices edging up a little further after the Chinese New Year (CNY) holidays, which fall in the first week of February.

Comments from a Southeast Asian-based sales executive with a leading North American polyolefin producer perfectly describe the nervousness in Asian markets we have been picking up over the past couple of weeks.

"The big question is how much more feedstock cost increases the end-users can take," he told us yesterday.

"They are remaining exceptionally reluctant to buy because they are worried about the direction of crude and the effect of inflation on demand.

"If you can manage to sell to an end-user margins are paper-thin at $20-30/tonne. You really need a minimum of $30/tonne to cover your storage and letters of credit costs.

"What we are seeing, therefore, is not much price movement.

"The Middle East is selling just below market prices and the South Koreans and Taiwanese are seeing their margins squeezed."

(Note - we have heard of one Southeast Asian cracker with poor integration which has cut back on high-density polyethylene production in order to sell more ethylene)

"We have seen in the past few days, though, a moderate increase in buying by traders as they take positions ready for after the CNY," continued the sales executive.

"I am not sure to what extent these purchases have been driven by current arbitrage on the Dalian Commodity Exchange, anticipation of higher oil prices versus estimates of an up-tick in real demand post-New Year.

"For the traders  it can be a no-lose game these days as even if physical prices start falling, they might have already made their money on the Dalian.

"Linear-low densitypolyethylene (LLDPE) domestic prices right are now equivalent to $1,320-1,330/tonne compared with the May contract on Dalian - which is at $1,380-1,400.

(Note - The May contract is seeing the biggest trading-volume at the moment, as is always the case with the contract which closes four to five months out)

"Import prices are, however, at the same level of Dalian so there is no arbitrage to use overseas shipments to back-up deals on the exchange," he added.

"LDPE is kind of stuck at $1,700/tonne and I don't see much room for movement upwards in the short term.

"The good news is that inventories are low across-the-broad. End-users are hand-to-mouth, as they have been since 2008, traders have only 3-4 weeks in stock and producers around a month.

"So far there is not much sign of anybody chasing higher oil prices."

There you have it. Any predictions gratefully accepted.

Davos 2011 

Source of picture: eacci.net

By John Richardson

THE edginess and nervousness of Asian polyolefin markets we talked about last week is likely to be part of the mindset of any chemicals company CEO right now.

As my colleague Nigel Davis wrote about last week, the industry's financial results for 2010 are set to exceed all expectations. INEOS, Lanxess and Clariant will see their profits double over 2009, according to S&P analysts. Profits at the world's biggest chemicals company by sales, BASF, are forecast to hit a new record high.

But to what extent will better results be due strong emerging markets while Western demand remains below pre-crisis levels?

To what degree will improved returns reflect inventory building down production chains after a de-stocking overreaction? A classic example and extreme example is the re-stocking which supported US chemicals and other industries throughout 2010 after the great 2008 collapse.

A further factor behind good results will be manufacturing-rate discipline. We saw this in the chemicals industry in 2009-2010 when it became much better at matching production to what, on a global basis, was depleted demand versus before the crisis.

This was the result of plant closures and constantly adjusted operating rates at facilities that continued to run.

All of this can be hard to calculate in the frenzy and noise of any reporting season. Even in quieter periods, numbers can be notoriously hard to analyse correctly.

If all of these factors turn out to be very significant in last year's stellar performances, it will not take the shine off what has been achieved. The industry has clearly been very smart in managing extremely volatile economic conditions.

However, talking about our first point, a lot of companies still depend on the West for a high percentage of their sales.

The blog, along with Paul Hodges at International eChem, believes that many of the policies adopted by Western governments have failed to address to the underlying causes of sub-par growth. This is the ageing of the Babyboomers.

Watch out for much more on this subject over the coming year as we prepare a book on this subject.

Persistently high US unemployment and the state of the country's housing market reflect policy failures.

To what degree has emerging-market growth depended on importing chemicals and polymers for re-export as finished goods to the West? Policy weaknesses of Western governments and a deliberate change of course by the Chinese government are threats to this growth.

And finally and most immediately, the threat of inflation must rank very high in any CEOs concerns.

As we shall discuss later this week there is an argument to be made that hidden inflationary pressures in China indicate that Beijing has lost control of the problem.

We also believe that the crude-oil market is dysfunctional and is firmly in the hands of speculators. Both short and long-term pricing do not reflect demand and supply fundamentals.

As a result, we could well be in the middle of a mini repeat of 2008. Crude seems to have risen to unsustainable levels due to the demand destruction it is causing the ultimate consumers - the motorists, the shoppers etc.

It is always very hard for chemicals-company purchasing managers to assess the extent of this demand destruction and inevitably, as crude continues on a bull run, they will have to buy forward.

"Even if raw-material purchases are only 10% more than normal in any one month, add all those ten per cents together in any product chain and this represents a big risk," said Paul Hodges.

Chemicals companies face inventory losses if there is a crude-oil price correction. We believe such a correction will happen in H2.

But the chemicals companies who innovate for the future can attempt to look well beyond any one set of financial results, provided their investors have patience.

Such innovation needs to be around products that deal with the consequences of demographic changes in the West and surging consumption in emerging markets.

All the above are the big issues confronting not only the chemicals industry, of course, but the world economy as a whole. They should be at the forefront of discussions at this week's World Economic Forum in Davos.

By John Richardson

Yesterday we suggested that demographic challenges in the West, the strain on resources resulting from rising consumption in emerging markets and rising inflation should heavily feature in discussions at this week's World Economic Forum in Davos.

Chemical industry leaders who could be attending include Mohamed Al-Mady, CEO of SABIC, Andrew Liveris, CEO of Dow Chemical and BASF CEO Juergen Hambrecht, according to my colleague Nigel Davis at ICIS news.

My fellow blogger Paul Hodges is highly sceptical over whether one very well-recognised issue will be the subject of the right kind of debate at the great annual economics talking shop: Inflation, the main cause of which is the rise in the cost of crude oil.

The problem that the great and good at Davos, and everyone else, face is predicting the timing of any crude-related inflation bust as it will be sentiment-drive, added Paul.

"Supply/demand balances have been telling us for 18 months that there's too much supply, so trying to decide when sentiment and fundamentals might reconnect is an art, not a science," he continued.

"It might even be starting to happen now, in fact, as Saudi Arabia has made a fairly clear statement that it doesn't want prices over $100/bbl.

Set to keep the wild, drunken student party going?

Source of picture: benarnke.net

"Put this alongside China continuing to tighten, and by March, people might be starting to believe oil prices won't move up much further.

"If this became a general belief, as in July/August 2008, or Q1 1980, then procurement people will start the process of re-balancing their inventories, etc etc.

"But on the other hand, if Bernanke has another go at driving up asset prices and announces QE3, we could be off to the races again...."

Credit Suisse supports the view that there is a big overheating risk right now.

This evident from its newly-launched index that measures growth dynamics in the chemicals, energy, paper and packaging and transportation and shipping industries.

Click here to download a copy - CreditSuisseCSBasicMaterialsIndex.pdf

The index uses North American ethylene production and (naphtha) margin data and demand data for polyethylene (PE), polypropylene (PP) and polyvinyl chloride (PVC), although the chemicals weighting in the index is low. This is again according to analysis by my colleague, Nigel Davis.

"The December estimate is consistent with the observation from recent real economic data that last summer's global slowdown scare is now turning into something approaching a global speed-up scare," writes the bank in its first index report.

Ali Naimi, Saudi Arabia's oil minister, suggests more oil supply could be on the way

Source of picture: stonesoupstationblogspot.com

By John Richardson

CHEMICALS analysts at HSBC have added further weight to the argument that 2011 could well turn out to be a year of disappointment following the very high expectations set in 2010.

The financial results season is upon us with US analysts predicting significant full-year 2010 and fourth quarter gains for companies such as Dow Chemical, LyondellBasell, Georgia Gulf and Westlake.

An indication of just how high the bar has been set for 2011 has come through fourth quarter results already released by SABIC. Reliance Industries Q3 results for the quarter ending 31 December 2010 were also very good.

The chemicals analysts argue that supply constraints are set to ease slightly on a stronger European economy, resulting in more naphtha availability for cracking.

"Ethylene availability from European naphtha-based crackers dropped 20% below 2007 peak levels (in 2010) as a result of reduced naphtha supply," writes HSBC in a recent report.

As our fellow blogger Paul Hodges pointed out last week, Saudi Arabia is giving indications that it might pump more oil in order to tame surging crude prices. And if you click on this last link this also gives our view of the threat to chemicals posed by the rising price of oil.

Higher crude output would result in more associated gas for Saudi and other Middle East crackers. According to HSBC, Saudi crackers are currently running at only 80%.

Additional supply from existing crackers in Europe and the Middle East will therefore match demand growth in 2011, predicts the bank.

It also sees what we see: The extreme fragility of the argument that all is well with the world because of healthy emerging markets.

As a result, HSBC doesn't seem to quite buy into the Supercycle theory being expounded by Morgan Stanley and others.

"We are barely 18 months removed from one of the worst industry troughs in living memory," writes the bank, in the same report.

"Developed market demand for commodity chemicals is still well below the levels of 2007 with some major end markets, such as US autos and US housing, still at a fraction of their peak-activity levels.

"While emerging market demand remains robust, developed markets still account for 60% of the commodity chemical market by volume, and a sustained multiyear peak is unlikely as long as developed markets continue to drag, in our opinion."

Hear, hear.

By John Richardson

THE signs are ominous as they have been since the beginning of the crisis.

Intuitively, it still feels as if we are heading for some major macroeconomic problems. As Andrew Liveris, CEO of Dow Chemical, put it last week: "Overall, the world continues to recover to pre-recession levels. However, with inflation concerns in emerging geographies, lingering unemployment issues in the US and sovereign debt issues in Europe, we remain prepared for a reversal of momentum."

Call a crisis for long enough you will eventually be proved right, based on the maxim that what goes up must eventually come down,.

But rising oil prices, along with overall inflation, do seem to pose the most immediate threats for 2011 over what was a fantastic 2010.

ExxonMobil Chemicals lower sequential quarter-to-quarter segment earnings in Q4 last year reflected an inability to fully pass on rising feedstock costs and new petrochemical capacity, my colleague Nigel Davis wrote last week."The closing quarter of 2010 was a disappointing end to the year for many petrochemical producers," wrote chemicals consultancy ChemSystems in a report published last week.

"Renewed pressure on feedstock costs depressed profitability of petrochemicals in many markets, eroding strong gains in margins achieved in the first half of the year," added the consultancy.

Not surprisingly it was the European producers who were hammered the hardest because of their reliance on liquid feeds. Naphtha costs surged on crude and the severe northern hemisphere winter made liquefied petroleum gas (LPG unaffordable. The end-result was cracking margins being squeezed by Euros160/tonne, according to ChemSystems.

The US did much better because of its natural gas advantage with average polyethylene margins down just 5%.

Cash margins for Middle East producers were in contrast 14% higher.

So where do we go from here?

A key measure will be how Asian petrochemical markets respond as they return from the Chinese New Year Holidays this week, provided one can separate the usual nonsense talked by the huge trading community from what is really happening.

This could obviously be a very tough year for the higher-cost Northeast Asian cracker players as a result of further erosion of market share in China and the pressure from higher crude. As fellow blogger Paul Hodges pointed out last week, 2010 polyolefin import data showed a substantial gain for the Middle East in China at the expense of Japan, South Korea - and also Southeast Asia.

"The considerable cumulative excess capacity built since 2008 will take many years (to absorb) and operating rates will remain heavily depressed in the near term," ChemSystems added.

It is likely, as we have said before, that more of this cumulative excess capacity will hit the market in 2011 than in 2010.

By John Richardson

THE optimism of Saudi Arabian petrochemical producers remains extremely high, according to an industry observer who spoke to the blog.

One might think we were to some extent stating the blatantly obvious as their margins will have swelled thanks to higher oil prices.

But there is also little concern among the producers that higher crude might cause a global economic bust, said this same observer - despite what we believe is a great deal of evidence to the contrary.

Another risk he pointed to in quotes below was operating-rate increases which end up being out of sync with the market.

This is a risk we have highlighted before. To a significant extent rate increases might happen because the feedstock is available rather than because the market is in a healthy-enough state to take increased volumes.

In his words, this is what he told us:

"The Saudi crackers are continuing to run at 80-85% and so obviously if there is more associated gas available through increased oil output, then we could see these crackers going to 100%. I estimate that this would represent a total of an additional 1m tonne/year of ethylene - in other words, one extra worldscale cracker.

"If all the European crackers were to go from their current operating rates of an average of around 80% we are talking about a lot more - 2.5m tonne/year of extra ethylene. This would obviously also depend on feedstock availability -i.e. how the refineries run in Europe for the rest of this year - and on demand.

"The mood among the Saudi producers remains exceptionally buoyant, the best for several years.

"Earnings in 2010 were excellent and they feel that this year could be even better. They were sold out by mid-January and told their customers 'come back in February when we will probably raise prices.' This also applied to some producers elsewhere.

"There is no real talk of the big macro-economic risks. Even if China's percentage growth rates slow down you are talking about lower growth from a much-bigger base than 5-10 years ago. China's polypropylene (PP) consumption is now bigger than that in the US.

"On logistics, and as well as on feedstock, what you see and what you calculate is different from what the companies say.

"You visit plants and you see resin stacked in the desert. They say 'this is because our capacity is so big', but obviously when you plan a complex you factor in sufficient storage to prevent resin from degrading in the desert.

"On feedstocks you can calculate from the trade data and earnings that they are, in fact, running at a lot less than 100%."

By John Richardson

EUROPEAN refiners are "awash with naphtha" as a result of long-term structural length and a lack of arbitrage, a petrochemicals feedstock purchasing manager told the blog yesterday.

The decline in US gasoline demand (according to most experts consumption in the States peaked in December 2007 and has been falling ever since) has left European refiners long on both gasoline and therefore naphtha for several years now.

At the same time the European refiners are under pressure to maximise production to meet strong local diesel demand!

What has added to these long-standing pressures in the last few weeks is closure of naphtha arbitrage to Asia due to the upcoming cracker turnaround season, added our source.

"Brazilian arbitrage is also shut because that market has been well-supplied from elsewhere," he said.

This could, in theory therefore, create an opportunity for European cracker operators to squeeze some heavy discounts out of the refiners.

The high cost of Brent crude, though, which is trading at a big premium to West Texas Intermediate, is underpinning the price of naphtha in Europe.

The scenarios one can describe include cheap naphtha supplies that tempt European cracker operators to overproduce.

Our fellow blogger Paul Hodges believes that the biggest factor behind tight European petrochemicals markets over the last 18 months has been lack of feedstock from the refiners.

Or will refiners cut runs as crack spreads get squeezed?

By Malini Hariharan

Paraxylene (PX) markets are on a roll. Prices have risen by 20% since the beginning of the year and were assessed at around $1,620/tonne cfr Asia late last week by ICIS pricing.

One contract nomination for March was out yesterday with JX Nippon Oil proposing a $110/tonne increase to $1,730/tonne cfr Asia.

The opening of the East-West arbitrage window has fuelled Asian markets. Plant problems in the US and Europe could create room for as much as 50,000 tonnes of Asian product.

European spot PX prices moved towards record levels last week despite a number of force majeure declarations in the downstream purifited terephthalic acid (PTA) industry. Buyers were said to be willing to pay as much as $1800/tonne for spot PX.

Besides the arbitrage factor, Asian markets were also propped up by unconfirmed reports of a possible delay in the start up of S-Oil's new 900,000 tonnes/year plant. The plant was expected to start at end-March but this could be delayed by two months, said market players.

However, action in the Asian PTA market was muted last week as a fall in futures prices on the Zhengzhou Commodity Exchange dampened sentiment. There were also concerns about the impact of the Chinese government's efforts to tighten liquidity. Labour shortages in the coastal regions had also affected the textile sector and polyester margins were under pressure from high input costs.

Additionally, around 1.5m tonnes/year of Chinese polyester capacity scheduled for maintenance shutdown from 10 February to 10 March which would further hit PTA demand.

But these could be temporary factors as cotton prices continue to remain firm.

In a recent report, analysts at UBS Investment Research noted that cotton prices have risen by 30% so far this year and were expected to remain strong at least until the next harvest season in late Q3 2011.

The analysts were bullish for the entire polyester chain and have revised their spread forecasts for the year.

The average PX-naphtha spread has been raised to $550/tonne from the earlier estimate of $370/tonne. The PTA-naphtha spread has been raised by nearly $100/tonne to $605/tonne while the ethylene-monoethylene glycol (MEG) spread was expected to reach to $350/tonne in 2011, up from the previous estimate of $190/tonne.

"We see limited new capacity coming on stream in 2011-12 for PX and MEG. And with the strong downstream demand, spreads are likely to remain robust in the next one to two years," they noted.

By Malini Hariharan

C4 buyers are a troubled lot. Availabilty of the product is tight and will remain so for the foreseeable future.

So it was not surprising to hear that concerns about C4 supply dominated discussions at the recent 6th ICIS World Olefins Conference in Brussels.

From a surplus in 2010, Europe is predicted to be short in 2011. The region is also expected to emerge as a net importer with demand growing by 20,000-40,000 tonnes/year.

The weakness of the European raffinate 1 market relative to its feedstock, crude C4, and its co-product butadiene (BD) will have a negative impact on butadiene extraction utilisation rates if it persists, INEOS market manager for C4s David Cartwright said at the conference.

He pointed out that raffinate 1 pricing had fallen into a negative €45/tonne ($62/tonne) spread on average in the 2010-2011 period, having previously averaged a premium of €48/tonne in the pre-crisis 2006-2007 period, and that this was not sustainable.

If BD extraction rates were to be limited by poor raffinate market performance, it would be another nail in the coffin for European BD consumers already facing the prospect of tightening BD supplies and soaring prices, reported ICIS pricing editor Nel Weddle from the conference.

And the supply outlook in the US is equally grim as the crackers were expected to continue using ethane as feedstock.

Ethane presently accounts for around 65% of US cracker feedstocks, but the Barry, Dow Chemical's co-monomer and global C4s business director, estimated that number would rise to 70% by 2015.

Buyers are now hoping that high BD prices would push some end-users out and help demand and supply return to a more balanced position.

"There is a natural cap to future BD price increases, some will be forced to exit," said Christof Krogmann, vice president petrochemical projects of major BD consumer LANXESS.

The high prices could also make alternative on-purpose routes viable. This includes butane/butene dehydrogenation and bio routes to C4.

By John Richardson

THE earthquake and tsunami that hit Japan on Friday afternoon is still hard to take in. We send our sympathy to everyone connected with this disaster and just hope and pray that the rescue efforts go exceptionally well.

As Japan returns to work this morning it will confront the huge cost of rebuilding at a time when its economy is struggling with slowing growth and lack of confidence in the government.

But this is a country that has overcome huge obstacles in the past and we are sure that history will repeat itself.

It seems almost in bad taste to talk about the impact on refining and petrochemicals, but of course life has to go on.

And so we have been trying to piece together the impact on these two industries both in Japan and elsewhere.

Petrochemicals plants at Ichihara, Chiba prefecture, and Sendai, Miyagi prefecture were reported to be still on fire 15 hours after the disaster occurred.

Chisso Corp's Goi Complex, which includes polyethylene (PE) and polypropylene (PP) plants, is at Ichihara.

Maruzen Petrochemical shut down its 480,000 tonne/year crackert at Chiba, east of Tokyo, after the earthquake.

Keiyo Ethylene shut is 690,000 tonne/year cracker at Chiba.

Keiyo Ethylene Co is 55 percent-owned by Maruzen Petrochemical and 22.5 percent each by Mitsui Chemicals and Sumitomo Chemical.

Idemitsu Co, Showa Denko and Mitsubishi Chemical are also reported to have closed down plants in order to carry out test.

Some 1.7m tonne/year of ethylene capacity is thought to be off-line.

There was also a fire over the weekend at the chemical factory of JFE Chemical in the Chuo ward in the city of Chiba, Chiba prefecture.

JFE Chemical produces coal tar, benzene, toluene and xylene and industrial gases including oxygen, nitrogen and argon.

JX Nippon Oil & Energy shut its paraxylene facilities in Kashima, Ibaraki prefecture, with a combined capacity of 600,000 tonnes/year, and in Kawasaki with a combined capacity of 350,000 tonnes/year.

Around 1.2m tonne/year of refinery capacity is thought to be also shut down. These include three JX Holdings refineries, one refinery operated by Cosmo Oil, another by TonenGeneral Sekiyu and a final one run by Kyokuto Petroleum.

The 220,000 tonne/year Cosmo refinery, which is at Ichihara, was reported to be on fire.

Japan is a major importer of naphtha and so crack spreads elsewhere will be under downward pressure due to the drop in demand.

Ten naphtha vessels were said to be heading from Europe to Japan when the disaster happened.

This could add further length to a European market that was already struggling to cope with oversupply.

By John Richardson

Dear Reader

Below we take a break from our own coverage and focus on another topic - some thoughts on the future competitiveness of the European petrochemicals industry.
A widely-held assumption has been that a lot of European petrochemicals capacity will have to shut down as a result of lower-cost capacity elsewhere, particularly in the Middle East.

But the European industry enjoyed tremendous profitability in 2010 as a result of production being carefully aligned to demand.

More important reasons for these stellar results were probably the age of the plants and lack of investment in maintenance as a result of the 2008 global economic crisis. This led to a high number of force majeures.

Perhaps the biggest reason of all, though, was lack of naphtha from refineries. The collapse of demand in 2008, a long-term decline in US gasoline demand and the start-up of state-of-the-art "full conversion" refineries in Asia put the older European refineries under a lot of pressure.

Plant reliability should now improve as a result of the strong 2010 earnings.

But these earnings will give the Europeans a greater capacity to hunker down and wait for another fly-up in margins if the next 2-3 years prove difficulty because a weaker macro-economic environment.

Barring another major global recession that effects demand for all petrochemical products, Europe's use of naphtha as its main feedstock could continue to deliver very strong co-product credits.

The lightening of feeds in the US, as a result of the shale-gas bonanza, has helped tighten butadiene, benzene and propylene markets.

So has the most recent wave of new capacity which was predominantly in the Middle East and gas-based.

A further factor behind the C3s tightness has been polypropylene (PP) demand growth above the expansion in global GDP and in excess of that for other competing polymers.

This is the result of PP gaining market share from these other competing polymers, such as polystyrene (PS), and a lot of focus on application development.

Producers have therefore been lured into adding substantial amounts of PP capacity, in excess of feedstock availability.

Another even bigger bonus for European petrochemicals could be greater, rather than less, availability of naphtha over the next few years.

More than 50% of new vehicle registrations in Europe are of diesel vehicles.

European refiners might have to run harder to make diesel which will result in greater naphtha production. Exporting naphtha and gasoline to the US is going to get even harder because of the country's continuing decline in gasoline consumption.

Refining capacity in Europe might, in theory, be shut down in if the losses on naphtha and gasoline exceed the money to be made from diesel.

But the same mentality applies to refining as petrochemicals: Why be the first, and maybe the last, company to close capacity when there could be another fly-up just around the corner? (The global refining industry fairly recently made tremendous amounts of money as a result of the Hurricane Katrina disaster. The disaster left the gasoline market very under-supplied).

Environmental clean-up costs and contract obligations with customers may also continue to act as barriers to closure (as is again also the case with petrochemicals).

And if more overseas companies such as PetroChina - which recently acquired Ineos refinery assets - buy into the European industry they are unlikely to want to shut down.

The big oil companies are divesting refining assets in order to concentrate on more profitable exploration and production (E&P). A good example was Chevron's sale last week of a refinery in Wales, the UK, to Valero Energy.

Smaller companies such as Valero seem unlikely to want to buy-in and close-down assets.

A further factor preventing capacity being scrapped could be the intervention of governments anxious to maintain national fuel supplies.

If European petrochemical producers, therefore, do not shut capacity down as expected who might be the losers if there is another major economic crisis?

We are going to explore this theme in later posts, but the losers could be the South Koreans and other Northeast Asian producers.

They are facing much-tougher competition for import volumes into China from the Middle East. China's import growth could also slow down due to structural shifts in the economy and greater petrochemicals self-sufficiency.

South Korea, Japan and Taiwan are also entirely dependent on imported oil and heavily dependent on imported naphtha.

Like all scenarios there are a few caveats. Here are a few:

1.) The European economic crisis deepens, forcing further closure of manufacturing industry
2.) The Japanese earthquake and tsunami leads to major changes in the global economy, the scenarios for which are laid out in the post from Paul Hodges - which have linked to above
3.) The high price of propylene results in strong growth of on-purpose production, thereby reducing co-product credits for the liquids cracker players
4.) Continued tightness in C3s leads to PP demand destruction and, as a result, eventual weaker demand for propylene
5.) Co-product credits remain so good that the US makes a major switch to heavier feeds (This won't be naphtha as "heavier" in the US means moving from ethane to propane and butane). This weakens the competitive position of the Europeans

By John Richardson

THE global growth outlook grows ever murkier as a result of credit tightening in China (or is the problem instead continued strong growth in lending?), inflation problems throughout Asia, possible monetary tightening in the West, the direction of oil prices and the Japanese tsunami-earthquake.

We feel that this is making the rest of 2011 and next year perilously hard to forecast.

What follows is a brief summary of these key challenges, which we will examine in more details over the coming days and weeks.

As always we are working closely with fellow blogger Paul Hodges in an attempt to provide valuable support to chemical industry planners.

We don't want to get above ourselves here - this particular blog is run by journalists. But we hope that what follows helps you to challenge any blithe comments you come across about guaranteed continued strong expansion of the world's economy.

Here goes:

1.) We have picked up anecdotal reports from polyolefin traders and producers that credit tightening in China is making it harder for small -and medium-sized businesses, including the plastic converters, to access working capital. But does China's shadow banking system mean that, in fact, credit continues to expand? How does one then explain what appears to be flat polyolefins demand in China right now? Is this just a temporary lull due to overstocking? If Beijing cannot control credit growth, and thereby inflation, what does this mean for the battle against inflation and the long-term health of the economy? If property values continue to increase because of easy lending what will this mean for social stability and the struggle to create a more equitable society?

2.) Inflation, mainly driven by higher wages and oil and food prices, is a problem across Asia. Central banks are being criticised for being too slow to lift interest rates and allow currencies to appreciate. A repeat of the 1997 Asian Financial Crisis seems unlikely because of big foreign currency reserves. But Richard Martin, the managing director of strategic consultancy IMA Asia, was recently quoted in this article in the Australian Financial Review as saying: "Everything you buy is increasing 20 per cent year-on-year - labour, materials. Margins are down. In the second quarter companies will need to lift prices that will lead to a significant shift to inflation. The pace will step up each quarter to 2012. At that point inflation pressures within the production system will be strong enough for central banks to lift rates for a mid-cycle slowdown." His comment on weaker margins is interesting and could well be one of the reasons why Asian cracker operators are struggling compared with their western competitors

3.) Inflation in the West is also an issue, though more muted than in Asia. The Fed may decide on no further major boost to liquidity - i.e. it will complete QE2 but there will be no QE3. There are also indications that US interest rates could be increased by the end of the year. The European Central Bank is talking about rate rises while maintaining funding support for banks. Austerity programmes across Europe represent another danger to growth

4.) Once there are definite indications that there will be no QE3 this will likely result in some unwinding of the oil price, provided problems in the Middle East do not escalate. Speculators have indulged in a one-way bet on the Fed maintaining exceptionally high levels of liquidity. This has helped drive the oil price up and the dollar down. The reverse could now occur. What should this danger mean for chemical company raw-material purchasing strategies?

5.) Paul Hodges' excellent posts on the effects of the Japanese tsunami-earthquake are well worth reading. We would add that in the short term rolling electricity blackouts, as a result of the nuclear crisis, will continue to disrupt chemicals and downstream production for the next few month. New suppliers may, as a result, be sought for some of the chemicals that Japan makes for high-end goods such as printed circuit boards. An estimated 70% of one particular grade of epoxy resins for all the world's circuit boards is made in Japan, for example, with around 90% of Japanese production reported to be down two weeks ago. It might not be, of course, that easy to replace highly specialised chemicals technology at such short notice, leading to economic problems that will linger and continue to spread beyond Japan. This could mean further disruption for the rest of this year, for instance, in auto production in the US and final assembly of electronic goods in China. In the longer term, will procurement managers seek to move away from such a heavy reliance on one Japanese supplier because of the risk, however statistically remote, of another major earthquake in the next 5-10 years?

By John Richardson

THE refining industry enjoyed a golden era before the global economic crisis thanks to a booming economy and gasoline shortages caused by Hurricane Katrina. Inevitably, therefore, as is so often the case with commodity industries, too much new capacity was planned that came on-stream at the worst possible time.

But recently some financial analysts have been arguing that the worst is over for the industry. This is based on the premise that the world's economic recovery is on solid ground - which we strongly dispute - and less capacity additions over the next few years.

A recent report by Kunal Agrawal, Singapore-based energy and chemicals analyst with BNP Paribas, suggests a more negative longer-term view for the industry.

"We expect global utilisation rates and benchmark refining margins to improve steadily over 2011-12 owing to incremental refined products demand outstripping refining capacity additions, which we believe will result in a sweet spot for refiners and Asian refiners in particular," he writes.

"In our view, it is a good time to have exposure to refining, but a longer-term return to the 'golden period' of impressive refining margins of 2004- 08 is unlikely, as refining supply growth should exceed demand growth beyond 2012.

"We do not foresee global utilisations increasing beyond 85%. The utilisation outlook is healthy - but is unlikely to support a robust recovery in refining margins.

"We believe a longer-term positive sentiment on the sector is being a bit optimistic. Beyond 2012, we expect an excess of 1.8 mbd capacity to be commissioned annually, which would mean that supply will likely be ahead of demand growth. This is an unfavourable situation for a robust refining environment improvement, in our opinion.

"We also anticipate a significant amount of heavy-fuel processing capacities being commissioned over 2010-15, which will increase demand for heavy oil, and pressure the light-heavy spreads to contract. We believe this is negative for highly-complex refiners in the region that had enjoyed superior refining earnings during the refining supercycle of the middle part of the previous decade (owing to extremely strong light-heavy spreads).

"In the next refining cycle, we believe the ability of complex refiners to lock in the incremental dollar margin per barrel will be compromised."

This could have major implications for the availability and affordability of petrochemical feedstocks in different regions.

We can speculate that while older European refineries might be pressured by the overall problem of supply being in excess of demand, they might find themselves in a relatively strong position because of the greater strain on the newer, more complex refiners.

Last month we argued that the push by European refiners to meet strong diesel demand might make light ends, including naphtha, cheap for local petrochemical players.

The BNP Paribas report provides further reasons to believe that these European refiners could run relatively hard, providing advantaged raw materials to highly experienced and fully-depriciated domestic petrochemical industries.

The complex refiners, some of whom are integrated with new or fairly new petrochemicals capacity, might find their competitive positions challenged. They could be forced further to the right of the cost curve.

And overall with a significant oversupply of refining capacity being predicted, there might be plenty of spare naphtha to be traded globally, assuming there is no major consolidation.

What might this spare naphtha mean for the competitiveness of naphtha-based crackers versus the gas-based players?

By John Richardson

IT has been a fantastic party. Nobody expected that the drinks would last for so long, thanks to Wen Jiabao and Ben Bernanke working overtime to man the 24/7 off-licence (it is called "liquor store" in the States and a "bottle shop" in Australia).

But now the market has clearly reached the top with China facing the unenviable task of tackling deep-rooted, systemic inflation that has placed Beijing in an exceptionally difficult situation.

It will have to clampdown much harder on the cost and availability of money if it wants to bring food prices under control. The risk of failing to do so is major social unrest. As my fellow blogger Paul Hodges said the other day "how can any government expect to survive food inflation at 11.7%?" (its level in March).

But crackdown too hard on the extraordinary growth in liquidity post-2009 and the risk is a severe correction in house prices. All the millions of Chinese who would then find themselves in negative equity could then instead exert pressure on the government.

S&P's decision to put the US's AAA debt review on reviews is, as Hodges says in this post, a potential game changer.

"It means that policymakers can no longer pretend the $5trn they have spent over the past 2 years on stimulus measures somehow "doesn't count" in terms of needing to be repaid. Oil markets will be first in the line of fire.

"The S&P move makes it much less likely that the US Federal Reserve will be able to follow QE2 with QE3. And QE2 has been the prime reason why oil prices have risen from $75/bbl to $125/bbl since August, when it was first announced."

Even Barack Obama has said that he believes the rise in oil prices has been driven by speculation and not supply shortages.

Chemicals prices rose following the announcement last August that QE2 was going to take place with confidence further bolstered by the continuing boom in China.

But since the Chinese New Year, the world's most-important chemicals market has stalled as the realisation has sunk-in that there is something deeply wrong with China's economy.

It has happened before as Patrick Chovanec, professor at Tsinghua University's School of Economics and Management in Beijing, says in this blog post we also linked to on Tuesday. He quoted a book called Red Capitalism, where the authors - Carl Walter and Fraser Howie - write of how there was a surge in bank lending and inflation ahead of the Tiananmen Square crisis in 1989.

In an attempt to confirm what we fear, the blog spoke to four chemicals and polymers traders yesterday to assess the current mood in China. They said that while some markets had seen slight rallies early last week on mild recoveries in confidence, volumes remained exceptionally subdued.

"All the end-users are buying hand-to-mouth. There is no visibility anymore over the economic outlook. We have done incredibly well since Q1 2009, but it is now time to reduce our exposure," said a polyolefins and polyvinyl chloride (PVC) trader.

This repeats what we heard from another trader on our recent trip to Singapore  

By John Richardson

WE hate to say we told you so but the 15 per cent fall in oil prices last week - the steepest one-week decline in two-and-a-half years - was evidence of growing concern over the health of the global economy.

And as we predicted on 12 April, last week saw a broad sell-off of commodities in general.

Polyethylene (PE) prices in China were understandably down by $10-20/tonne, according to last Friday's assessment by our colleagues at ICIS pricing.

Price retreats were recorded across a broad range of chemicals and polymers, including a further $50/tonne fall in purified terephthalic acid (PTA), again according to ICIS pricing.

The fibre intermediate is now down by 11 per cent over a three-week period - a perfect example of how pricing has been driven-up by surging crude costs and is now on the retreat.

Cotton prices have also played a big role in strength up and down the entire polyester chain. Cotton futures prices are now down by 20 per cent in one month on concerns over a supply glut.

The run-up in crude and commodities in general has in our view been disproportionate to the underlying strength of the recovery. More expensive oil has been largely the result of the "one-way bet" on the Fed maintaining record-low interest rates for a long time to come.

The end of QE2 seems to have been a factor behind the rout in commodity prices last week.

But the biggest reason, we feel, is that investors suddenly realised, as the negative economic news built, that they were over-exposed on commodities and headed for the hills. A solid indication of this retreat was strengthening of the US dollar.

Despite good US job growth - the data for which was released on Friday - the US economy faces major problems, most importantly how to solve the budget deficit with Democrats and Republicans miles apart.

Sovereign debt issues in Europe could still create an global economic shock comparable to that, or perhaps even worse, than the collapse of Lehman Bros.

And, of course, there is China where most of the blog's attention has been focused over the last few weeks.

China confronts rising inflation, which has:

1.) Restricted the ability of chemicals and polymers producers to pass-on cost increases down value chains to finished goods
2.) Weakened the competitiveness of Chinese exports as a result of higher raw-material and labour costs
3.) Raised the prospect of major social unrest as a result of asset-price inflation that has widened the gap between the super-rich - those who made a fortune from China's huge late 2008 economic stimulus - and the average worker
4.) Left the government trapped between the devil and the deep blue sea. It might end up overreacting through too-stringent steps to contain inflation, or it may fail to take sufficient measures to reign-in rising costs, resulting in more of the social pressures we have just referred to

Last week's slump in commodity prices, if sustained, might make the job of tackling inflation in China - and other Asian countries such as India, which raised interest rates last week - a lot easier.

But the reasons why commodity prices declined should be of major concern for chemicals companies - particularly those that have presented a rather rosy view of China's immediate future and. Such companies may not, as a result, be prepared for the worst.

As we said, the global recovery is on very shaky ground. Support for this view is provided by recent surveys of purchasing managers working for Asian manufacturers. The resulting indices show that while orders have been growing, so have inventories, suggesting a slowdown in exports to the West.

This should be a big concern for the chemicals industry as we approach the peak manufacturing season in China, which runs from around July-August to September.

The peak season occurs as manufacturers of finished goods increase production in order to get finished goods on the shelves of Western retailers in time for Christmas.

A decline in imports of chemicals and polymers during this period - which are re-exported as finished products - would provide further support for our arguments.

Any declines could, though, be also the result of a low-end manufacturing having drifted to other emerging economies with lower labour costs - and so a wider examination of trade data might be necessary. 

The blog is delighted to announce the title of its new eBook, jointly authored with fellow blogger, Paul Hodges.

It explains how Western BabyBoomers are changing chemical demand patterns, again. We believe it will become vital reading for all those working in the global chemical industry.

The first chapter of the book will be published online by ICIS next week. Paul and I look forward to bringing you more details then.

By John Richardson

THE euphoria sweeping through the US petrochemicals industry seems to indicate strong support for the "supercycle" theory.

Some of the comments made during the first-quarter results season certainly point that way, as does the upbeat mood of presentations made to investors over the past few months.

A consensus view appears to have emerged: we are through the bottom of the cycle; that not enough capacity will be added over the next few years; and that, therefore, by 2015-2016 everything will be wonderful.

Morgan Stanley first started talking about the chemicals "supercycle" - a view that has subsequently been supported by several other banks - in a report from October 2010.

"An inflection point in the global plastics market, driven by China and India [has been reached]. After a recent period of slower growth and a decoupling from global GDP growth, we now expect the strongest period of ethylene demand growth in the past 20 years," the report stated.

"We forecast that in the next five years, incremental annual consumption in China and India alone will equal the total current consumption in the US, until recently the world's largest ethylene consumer, and still responsible for 15% of the market.

"Global capacity should grow at just 2.3% in 2011-14. Utilisation rates are set to tighten from 85% today to 92% in 2014, resulting in improving margins and returns globally."

But, as Torsten Penkuhn, the head of BASF's petrochemicals business in Asia, told ICIS news in an interview earlier this month, the industry has a history of shooting itself in the foot by overbuilding capacity when confidence is high.

Where there is cheap feedstock and finance, companies will build. Individual companies are often unaware of the cumulative effect of all their competitors doing exactly the same thing.

Kunal Agrawal, a Singapore-based chemicals analyst with BNP Paribas, provides some numbers to support this view in a report released last week.

"While we believe the Middle East will find it challenging to approve and commission incremental gas-based crackers, we see significant opportunities globally for continued investments in naphtha-based crackers," he writes.

"We recently conducted a detailed bottom-up analysis on global refining capacity-addition plans during 2010-15. We found that at least 10m bbl/day of refining capacity is scheduled to be commissioned during the period, which, in our opinion, will provide enough feedstock for an additional 16m-17m tonne/year cracker capacity.

"These are projects for which either construction is already in progress or EPC (engineering, construction and procurement) contacts are being awarded.

"Sufficient naphtha and liquefied petroleum gas (LPG) will be produced by the 10m barrels per day of refining additions to supply a further 11m tonne/year of ethylene capacity that has yet to be announced," he adds.

This would be on top of the substantial number of studies into new crackers - and plans to expand existing facilities - that have already been announced in the US over the past few months. The mood of the industry has been transformed by abundant shale gas and confidence in the global economy.

Getting a cracker built by 2015-2016 that isn't already reasonably underway, certainly beyond the initial study phase, would be a big challenge.

But Agrawal adds in the same report: "We also believe the surplus capacity commissions through 2009-11 will require a couple of years of digestion before we see global utilisation rates tightening substantially."

Extra production is being planned during a period of increasing economic uncertainty.

The battle against inflation in China threatens to subdue growth for at least the next few quarters.

And, assuming the Chinese government wins the battle, it faces the huge task of weaning the economy off its addiction to exports - one of the main strategies under its current five-year plan (2011-15).

A period of transition appears inevitable as slower export growth (and therefore growth of chemical and polymer imports) is replaced by domestic consumption.

For the supercycle theory to come true, Asia must continue to do all the heavy economic lifting, as the outlook for the US and Europe is at best fragile.

The Morgan Stanley case was that strong Asian growth would be enough by itself, because the size of the continent's consumption meant that it would drive the global ethylene cycle.

Agrawal disagrees. He writes: "In our opinion, a chemicals bull cycle needs to be supported by robust developed market (48% of demand) and [our italics] emerging market growth.

"Excluding any new capacity expansions, beyond the ones which are already under construction (also excluding the recently announced US shale gas based expansions), we see global ethylene operating rates improving from the cyclical 2010 bottom of 84.6% to 89.7% by 2015," he says. This would be lower than the 91.5% average in 2004-2007.

The risks of rushing into investment look like they are mounting. But the age-old dangers remain for those companies that pause: losing ground on market share and economies of scale.

By Malini Hariharan

...is a debate that has starting moving out of the US. A desire for energy independence has seen countries like Poland to embrace shale gas with the government welcoming US companies to quickly develop the country's reserves, estimated at 5.3 trillion cubic metres.

This would be enough to meet Poland's annual gas consumption of 14 billion cubic metres for decades to come and put an end to its need to import 70% of its required gas from Russia, said the Polish economy ministry.

"Let's not be afraid, let's just do our own thing," said the country's foreign minister referring to the environmental issues related to shale gas.

"We just have to keep explaining to environmentalists and local people what it's about. From what I know, the technology keeps improving," he added.

Global majors have lined up to accept the government's open invitation. Total has signed up with ExxonMobil to acquire an interest in the exploration of shale gas while Chevron will be working on its own. And the Polish refining, chemicals and petrochemicals group PKN Orlen has plans to launch its own oil and gas extraction and energy production units in 2012.

But while Poland is moving aggressively France is likely to become the first country to ban development of shale gas.

The country's lower house of Parliament approved a bill earlier this month to ban drilling due to environmental concerns and cancelled exploration rights given to companies. The Senate will consider the bill in June.

A principal area of concern in France and also in the US is the fracking or fracturing process which involves blasting huge amounts of water, sand and chemicals to break shale rocks to release the gas trapped in them.

Environmentalists claim that the chemicals used in fracking cause contamination of ground water. They recently received a big boost in their campaign against shale gas after the Pennsylvania Department of Environmental Protection fined Chesapeake Energy $900,000 for contaminating water supplies in Bradford County, a busy drilling area in the Marcellus shale gas formation.

The agency concluded that contamination was caused by improper well casing and cementing, allowing seepage from non-shale shallow gas formations.

A second area of concern is methane leaks from drilling sites also contaminating drinking water.

Researchers at Duke University concluded after a recent study that methane contamination has taken place at sites in Pennsylvania and New York.

Methane was found in 85 percent of the samples, and at sites within a kilometer (0.6 mile) of active hydraulic-fracturing operations, levels were 17 times higher than in wells far from such operations, said the study.

Some residents have sounded an alarm about running faucets that ignite if a flame is placed nearby. These and other environmental issues have been superbly captured in this very hip rap song (special thanks to the blog's colleague Nel for discovering this).

Shale gas has given the US petrochemical industry a new life but with the green lobby getting stronger the industry may soon have to dance to a new tune. 

Today, the blog is proud to announce the publication the first Chapter of its new eBook:
'Boom, Gloom and the New Normal: how Western BabyBoomers are changing global chemical demand patterns, again'
It is co-authored with Paul Hodges of International eChem - author of the Chemicals & Economy blog.
A new chapter will be published each month. Please click here for Chapter 1. We hope this will help to build discussion about its key messages.
These are as follows:
• It is most unlikely that we will quickly return to the Golden Age of chemical consumption between 1990-2008
• This was driven by the enormous purchasing power of the Western BabyBoomers (those born between 1946-70)
• They were the richest, and largest generation that the world has ever seen. But they are now moving into the 55+ age group, when people typically save more and spend less
• This is already impacting key sources of chemical demand, including housing and autos. These will not recover to previous peaks
• Equally, the age of outsourcing production to the emerging economies is also coming to an end
• Western demand is reducing, not growing, so there are no longer any capacity constraints to be overcome
• Instead, Western and emerging economies need to adapt to the New Normal, and its very different demand patterns
The eBook argues that the next wave of global growth will not be a simple replica of the past 25 years. Instead, it will require major innovation in business models and technology.
The industry will need to develop a sustained focus on key megatrends such as increasing food supplies, water availability and life expectancy, whilst reducing carbon footprint.
These represent major challenges. But the industry faced similar challenges in the 1970's, and overcame them to launch the Golden Age.
We hope the new eBook will prove valuable for everyone currently working in the global chemical industry. Please click here to download a free copy of Chapter 1. Paul and I look forward to your comments.

By John Richardson

THE article of faith publicly expressed at last week's Asia Petrochemical Industry Conference (APIC) in Fukuoka, Japan, was that the current problems with demand in China and India were only temporary.

Discussions the blog held were packed with the conventional wisdom that not enough capacity would be built over the next few years. For example, one estimatewe heard was that there was the need for 35 crackers to be built to meet global ethylene equivalent demand growth over the next decade; so far only 24 had been announced.

But as we mentioned last week, Singapore-based PNB Parabis chemicals analyst Kunal Agrawal estimates that 11m tonne/year of yet-to-be-disclosed ethylene capacity could be built by 2015, based on available refinery feedstock. This could be on addition to the 16-17m tonne/year of capacity already announced fed by these same refineries.

One has to also worry about Sinopec's propensity to add capacity for self-sufficiency reasons, regardless of the economics.

A lot of talk at the conference was about China's potential to make use of coal for this purpose.

But the blog feels that because the environmental and economic problems of the coal-to-mono-ethylene glycol (MEG) and methanol-to-olefins (MTO) processes are so huge, the advent of a large amount of coal-based capacity will not happen during the next wave of overbuilding. If Sinopec announces firm new projects for start-up during the upcoming cycle, they will be based on refining.

We will discuss the environmental issue surrounding coal-to-chemicakls in more detail later on, but here is a rather worrying statistic: According to the consultancy Tecnon Orbichem it takes seven tonnes of coal and 2.5 tonnes of methanol to produce one tonne of olefins. When the blog asked a senior chemicals industry executive where all this carbon disappeared to, he pointed his finger upwards.

If we had $50 every time we heard mention of shale gas during the conference the blog would be very rich. Sadly we are not, which is why we have written this post.

Sufficient ethane would be available for an additional 8m tonne/year of ethylene capacity in the US over the next 20 years, according to IHS director Russell Heinen in a paper he gave during the event.

In an interview with the blog, two senior executives of Shell Chemicals said that their company was studying North American expansions based on low-cost ethane.

"We have 700,000 acres of shale gas assets in the US and Canada and so we feel we are in a good position," said Iain Lo, Shell's vice president, business development and ventures.

The focus would initially be on additions to existing plants in Louisiana and Texas, but Sven Royall, Shell's vice president for global intermediates, said that "everything was on the table" - when asked about the possibility of a greenfield cracker.

Mention of Canada was interesting. With all the focus on US shale gas the blog had missed the possibility that shale assets in Alberta might also be exploited for petrochemicals.

Shell's comments come after a raft of announcements over the last few months of studies into new crackers and debottleneckings of existing facilities by other US majors, such as Dow Chemical, ChevronPhillips Chemicals and LyondellBasell.

One of the ethylene derivatives anticipated to be in tight supply over the next few years is MEG, given feedstock shortages in the Middle East.

Saudi Arabia in particular has met most of the demand growth over the six or so years. Now, though, it seems unlikely that it would be allowed to add more capacity in the Kingdom for strategic reasons, even if it could get its hands on more gas allocations.

Returning to coal-to-chemicals in China, there has therefore been a lot of excitement over the syngas (made from coal) to oxalic acid and then on to MEG process, bypassing the need for ethylene.

It takes 4-5 tonnes of coal to make one tonne of MEG via this route, said an industry observer. While not as bad as MTO this is still pretty grim.

So the conventional ethylene route seems the likely means of meeting perceived future demand over the next 5-6 years.

Shell, in the same interview with the blog, disclosed plans to add two OMEGA process MEG plants in Qatar (each 750,000 tonne/year) by 2016-2017.

The industry observer also told us: "It makes sense to build MEG capacity in the US to serve the local purified terephthalic acid (PET) and textiles industries, which are mainly based in South and North Carolina.

"The US is a significant net importer of MEG and so this new capacity would be backing-out exports.

"As far as ethane supply goes, it is not rocket science to reverse the flow of pipelines that currently go from the south to the north. Ethane could be made to flow from the Marcellus shale-gas fields to new crackers that may be built in Texas and Louisiana. These facilities would then supply the MEG to the Carolinas."

This entire post has talked about capacity. We have not discussed why the industry believes in the doctrine of a continued global economic boom.

The reason for this is that we are journalists and so always endeavour to faithfully report what people tell us.

What APIC told us was that the delegates we spoke to, and listened to during presentations, were either unaware - or didn't want to publicly discuss - profound changes in the global economy.

These are detailed in our new e-book - 'Boom, Gloom and the New Normal: how Western BabyBoomers are changing global chemical demand patterns, again.'

Changes in demographics in the West - and a major shift in both demographics and government policy in China - need to at the very least be discussed openly by the industry.

There may be good reasons to discount what we argue in our book, but we have yet to hear them.

By John Richardson

A GLOBAL slowdown in manufacturing is already being reflected in European and US polyolefin markets as anxiety in the industry grows over the prospects for the rest of this year.

European June contract prices for ethylene and propylene have declined after seven consecutive months of increases. Ethylene contracts have slipped by Euros45/tonne and C3s by Euros40/tonne, according to ICIS pricing.

Polyethylene (PE) pricing has already started to fall, led by too-expensive low density PE (LDPE). Polypropylene (PP) appears to be in better shape because of the structural shortage of propylene, but pressure is building for reductions in the cost of the resin.

The continent's polyolefin makers and buyers will do their best to claw-back margins as long as the current climate continues. This follows a long period of excellent profitability at the cracker end of the business on tight supply of ethylene and strong co-product credits.

In the US, polyethylene (PE) contract prices were rolled over from April into May as producers backed away from attempts to push through a 5 cents/lb increase, again according to our colleagues at ICIS pricing. This was despite yet more production problems upstream that have resulted in an increase in ethylene costs.

Prices in China have now been flat or on the decline since the end of the Chinese New Year (CNY) holidays in February, as we have discussed many times on this blog. 

China had already been damaged by inflation, credit tightening and possibly the worst electricity shortages since 2004. The publication yesterday of numerous indexes - indicating the global manufacturing slowdown including in China - is therefore just further bad news for the country's polyolefin sector.

China's PE imports slipped by 16% in Q1 this year over the first quarter of 2010 to 1.18m tonnes, according to Reuters, which quoted the China Petroleum and Chemical Industry Federation. Implied consumption fell by 1.5% following increases of 7-10% during the first quarters of 2009 and 2010.

The Indian market is also weak as the government again battles inflation.

The four big factors affecting markets everywhere were identified by Paul Hodges, fellow blogger and UK-based consultant with International eChem, in a recent feature for ICB. They are:

1.) The battle against inflation China (This is connected to the power crisis. One of the reasons why electricity supply became constrained in the first place was due to the economy overheating. This week's decision to raise non-residential power costs by 3% might ease the crisis by encouraging loss-making generators to run harder. But the downside is that it is expected to add 0.5 percentage points to inflation)
2.) The knock-on effects of supply-chain disruptions caused by the Japanese disaster. (The supply of auto components, many of which are made from copolymer PP, is likely to remain disrupted for many months to come, leading to reduced production at auto plants everywhere
3.) Austerity in the western world as sovereign debt is cut. A Greek default is also an increasing threat. 
4.) Oil prices and the impact on demand

"Buying forward" down all the chemical chains, not just in polyolefns, no longer makes sense when the direction of crude looks so uncertain.

From Q4 last year up until February-March, crude seemed to be heading in only one direction as everyone stocked-up in an attempt to hedge against further cost rises.

But as Hodges again points out this is always a danger because:

 As oil prices rise consumers reduce discretionary spending
 This lowers demand for the stuff made from chemicals
 And yet chemical buyers have to buy forward
 An eventual decline in oil causes destocking and a fall in operating rates

So where do we go from here?

The expectation, or perhaps more honestly the hope, expressed at last week's Asia Petrochemical Industry Conference (APIC) was that China would sort out its problems over the next few months. Growth would then resume its previously happy pace.

"If China is really going to grow at 8% per year, the estimate most people have made for GDP in 2011, then we are going to have to see a recovery in petrochemicals demand by June or July," an industry observer told us this week.

"The inventory run-down process started around two months ago and China has historically only run on stocks for 3-4 months before it has had to come back into markets to restock.

"There has clearly been a change of mood. Buyers were buying forward globally because they were convinced that crude would go higher and credit was more ample in China. But now, of course, we have seen much-greater volatility - and perhaps a greater downside risk - in crude. There has also been credit-tightening in China, along with the power shortages.

"A risk that producers in the Middle East panic and chase market share by cutting prices. This would badly hurt the naphtha-based producers in Asia, but in the long-run would hurt everybody as we could end up with an extended period of lower prices."

This is a very important few weeks for the global polyolefins industry (and by proxy the whole of the chemicals industry). We should  soon discover whether this is merely a blip in the great growth story or something much more fundamental.

The blog is excited about its first New Normal seminar in Frankfurt, Germany this month.

It follows February's successful launch in Singapore, and is being held in association with International eChem on 16-17 June.

The Workshop aims to provide a comprehensive understanding of the factors that will impact the petrochemical market over the next few years:

• What is the New Normal and how will it change the petrochemical landscape?
• What will it mean for key feedstock and end-user markets?
• What will be the key margin drivers for the market?

The New Normal is being driven by the major demographic changes now underway in the Western world. The BabyBoomers born between 1946-70 led to massive gains in consumption, as they entered the 25 - 54 age group. This is when people typically marry, settle down and have children.

But now, they are entering the 55+ age group, when people normally save more and spend less. This is already having profound effects on demand patterns in autos and housing in the West. Whilst emerging countries now need to replace their export-driven economies with domestic consumption.

The seminar will place all of this in the context of what's happening at the moment in global olefins and polyolefins markets (as a good proxy for the chemicals industry as a whole). We We will also analyse chemical company strategy and give a long-term view of where we feel the industry is heading in the context of the New Normal.

Please click here if you would like further details of the course.

By John Richardson

POLYOLEFINS demand growth in China is likely to be flat in 2011 over last year, a senior industry executive and a consultant have told us.

"I am quite pessimistic and don't see the Chinese government winning the battle to bring inflation below 4% during this year (its target) and so the credit restrictions are going to stay in place and could get worse," said the executive.

"They are not going to loosen the tap again and pour money into the economy until this problem is solved. As a result, I think that PE and PP demand growth will be flat in China this year."

We have discussed on many occasions before how higher interest rates and increases in bank-reserve requirements have worsened the trading climate since late 2010.

"Since the April 1 local banks have also reduced the amount of credit that can be raised in foreign currencies," a Singapore-based polyolefins trader told us this week.

"As a result, you now have to open several letters of credit (LC) to buy one cargo compared with only one LC in the past. This is slowing and reducing trade."

PE apparent demand grew by 13% in 2010 to 17.4m tonnes and PP was up by 6%, according to industry sources. PE demand has grown by a staggering 53% in China over the last two years, estimates UK-based chemicals consultant Paul Hodges.

"All the signs are pointing in the direction of a flat year for China PE demand," added Hodges.

"Actual consumption, excluding inventory stockbuild, appears to have been down in Q1 versus 2010, and since then more tightening measures have been introduced by the government."

PE imports were down 14% in Q1 over the first quarter of last year, fellow blogger Hodges wrote in a post yesterday.

Not surprisingly, given the economic outlook in China and concerns about weakening growth globally, pricing headed further south last week, Asian PE prices fell by $10-60/tonne, according to 3 June ICIS pricing assessment. PP declined by $30-80/tonne.

This is a global problem as we pointed out last week.

US polyolefin sentiment remains weak with PE continuing to face import pressure, according to Houston-based ICIS pricing olefins editor William Lemos.

"Downward pressure from cheaper Asian imports continued to weigh on the US PE, keeping buyers and traders on the sidelines," he wrote in his June 3 report.

US PP remains bedeviled by propylene affordability due to the switch to lighter feeds and lower refinery operating rates. Weaker US auto sales are a further problem.

As in Asia, low-density PE (LDPE) in Europe has led PE pricing down as it became far-too expensive on restricted supply and firm demand. European LDPE has now fallen by 13% since early April - or Euros180-200/tonne - adds ICIS pricing.

Early last week an industry observer told us: "There is a risk that producers in the Middle East panic and chase market share by cutting prices. This would badly hurt the naphtha-based producers in Asia, but in the long-run would hurt everybody as we could end up with an extended period of lower prices."

Since this interview Middle East producers have aggressively cuts offers for LDPE in Asia and linear-low density PE (LLDPE) in Europe, says ICIS pricing.

It has been a fantastic two years for the industry following the 2008 calamity.

The big issue right now is whether we are in a prolonged downturn or one that will last only a few quarters.Companies need to decide and make a plan.

By John Richardson

YESTERDAY'S fractious OPEC meeting - where members were unable to agree on a proposal by the four biggest members to raise output - may not necessarily be good news for petrochemicals.

For a long time the industry has worried about Saudi Arabia's potential to raise crude output from approximately 8.5m barrels a day - where it had been for much of last year and into 2011 - thereby generating more associated gas feedstock.

As we have blogged on before, Saudi crackers need crude production to be at around 10m barrels a day in order to received sufficient associated gas to run at 100%.

In the first quarter of this year, the crackers remained at average operating rates of around only 85%. This had taken approximately 1m tonne/year of ethylene production out of the market.

This has provided some support for troubled ethylene derivatives markets, particularly polyethylene (PE). Chinese PE and polypropylene (PP) pricing has been flat or declining for the last five months due to problems with the economy. In Europe now also, pricing is on the decline, partly on the back of what's happening in China.

The OPEC meeting in Vienna saw a rejection of a proposal by the four bigger producers - Saudi Arabia, Kuwait, Qatar and the United Arab Emirates - to raise crude output by 1.5m barrels a day.

But, according to this Reuters report, Saudi Arabia, the world's most-important "swing producer", has already unilaterally raised output by about by 500,000 barrels a day in June to between 9.5m barrels to 9.7m barrels a day. Saudi's apparent motive for upping output is its concern over the impact of high prices on the global economy.

An increase of 500,000 barrels a day for June would mean that Saudi Arabia was already above well above 8.5m barrels a day of production in May. This means that they could already be running crackers at more than 85%, helping to explain reports of inventory problems among Saudi polyolefin producers.

The China market is just too weak at the moment to take any extra volumes. Hence, perhaps, the reason for the aggressive reductions in Middle East low-density polyethylene (LDPE) offers in Asia and linear low-density PE (LLDPE) offers in Europe.

It might not seem logical that Saudi Arabia raised output simply because it had more associated gas available to run harder.

But traditionally, crackers in the Middle East have always run flat out if they have had the required feedstock, regardless of market conditiions - as they can always make money no matter how bad things are.

The same could have well have happened on this occasion, especially if the Saudis accepted the conventional wisdom that China was about to come roaring back with strong orders.  

PetroMatrix, the Swiss-based oil-research service, has produced this chart which actually indicates a steep rise in Saudi oil production since January.

Click here to View image 

We had heard of a pick-up in Saudi output in March to help deal with the Libyan crisis. But we were then told that the Kingdom quickly cut back again when it found that it couldn't sell its extra production of mainly sour crude (Libyan crude is light and sweet and therefore the only option for many of the older refiners).

Now it seems as if bigger-picture concerns over the impact on the global economy of expensive crude has prompted a rethink.

Whatever the reality in Saudi Arabia, the OPEC decision not to raise its official quota is bad news for the battle against inflation - as the immediate response has been  rise in oil prices.

By John Richardson

SAUDI ARABIA'S crackers could soon be running at operating rates of 100% again following widespread reports quoting the al-Hayat newspaper that the country's crude production is set to rise to 10m barrels a day in July. Al-Hayat, a Saudi newspaper, is seen as a reliable indicator of government intentions.

We reported last week how Saudi production had already been raised to 9.5m-9.7m barrels a day in June, 500,000 barrels more than in May.

This all matters a great deal for petrochemicals as reduced associated gas availability, due to Saudi Arabia keeping its crude output at around 8.5m barrels a day for most of 2010 and into 2011, has taken around 1m tonne/year of ethylene production off the market. The country's crackers have been forced to run at average operating rates of 85% because of reduced associated gas feedstock.

The 10m barrels a day crude production level is very significant - as it is this amount that is viewed as necessary to provide enough associated gas for Saudi crackers to run flat-out.

Tighter-than-expected petrochemicals supply has provided major support for markets. This has been due to the associated gas factor, delayed start-ups in the Middle East and constrained operations at European crackers resulting from another feedstock issue - lack of naphtha supply as a result of cuts in local refinery production.

It might not seem logical that Saudi Arabia should raise output simply because it might soon have more associated gas available.

But traditionally, crackers in the Middle East have always run flat out if they have had enough feedstock, regardless of market conditions. The reason is that they can always make money no matter how bad things are.

Despite exceptionally weak market conditions due to what is happening in China, Saudi Arabia might still exercise its option of raising petrochemicals production (note: Tomorrow we will provide you with our usual weekly update of current polyolefin market conditions).

Raising petrochemicals production would result in Saudi Arabia gaining market share in Asia, as deep rate cuts would have to occur among the higher-cost Asian naphtha cracker operators.

Applying the same approach in Europe hasn't made sense for a long time because of SABIC's petrochemicals investments in mainland Europe and in the UK.

On a wider level the Saudi decision to raise crude output added further volatility to crude markets last week. This made "buying forward" an even more dangerous strategy for chemicals and polymers purchasing managers.

During the sustained run-up in crude prices - which began in Q4 last year and ended around February-March - building inventory made sense in order to beat higher raw-material costs.

Crude prices had first risen last week following OPEC's failure to agree on an increase production quotas during its meeting on Wednesday. 

But then on Friday, Saudi Arabia's apparent decision to unilaterally raise production caused oil prices to fall by their biggest amount in four weeks. Saudi Arabia, along with Qatar, Kuwait and the United Arab Emirates, had pushed for a higher OPEC quota because of concerns over the impact of expensive crude on the world economy.

The kingdom has the upper-hand in oil markets because it is the world's most-important "swing producer".

By John Richardson

THE decline in Asian and European ethylene and polyethylene (PE) markets continued last week with no sign of the recovery that producers still hope will take place by end-June at the latest.

Asian ethylene prices slipped by a further $60-70/tonne to $1,130-1,170/tonne FOB Korea to reach a six-month low, according to our colleagues at ICIS pricing.

Interestingly, our ethylene team picked up reports of cargoes from South Korea and the Middle East that will be sold on a floating formula rather than on a fixed-price basis. This is a further indication - as if we needed one - of how ethylene and PE have become buyers' markets.

Ethylene in Asia was probably artificially supported by technical problems at the Shell Chemicals cracker in Singapore after demand had already started to weaken.

But now problems downstream are dominating the C2s mood: Asian polyethylene (PE) declined by a further $10-30/tonne last week following a $60-80/tonne fall the previous week.

European ethylene producers conceded last week that the local market had gone into oversupply because they had failed to anticipate the extent of the dip in demand.

Producers have very successfully matched supply against demand for more than two years. Their failure to do so over recent weeks indicates the unexpected scale of the problems in China.

European ethylene and PE markets are under pressure both at home and overseas as everyone attempts to compensate for the weakness in China.

Some European PE June contracts had been settled at Euros20-45/tonne lower than in May, reflecting the Euros45/tonne fall in June contract prices, said ICIS pricing.

The full settlement of European June PE contracts had yet to be achieved as other buyers were hanging-on for reductions of Euros60-80/tonne over May, added our colleagues.

As we said at the beginning, the hope persists that China will recover by end-June at the latest

The inventory run-down process started three or four months ago, several polyolefin industry sources have told us.

China has historically only run on stocks for 3-4 months before it has had to come back into markets to restock, they added.

This means that by mid or end-June we should see a recovery in demand.

"The benefit could be that the longer China stays out of imports the bigger the pent-up demand and therefore the bigger the recovery in prices," said an industry observer.

Also underpinning this logic is the start of the peak Chinese manufacturing season and the next agricultural film season in July-August.

Traditionally, this is when demand picks up for polymer imports that are re-exported as finished goods ready for Christmas sales seasons in the West.

This coincides with an increasing requirement for low-density PE (LDPE) and linear low-density PE (LLDPE) film used by farmers.

How strong will the export trade be this year given persistent, and perhaps worsening, economic problems in the West?

And even if export orders are good, what about power-supply problems that could prevent manufacturing plants in China from operating?

The further concern is the strength of the domestic economy as the struggle against inflation continues.

"You are incredibly bearish," a chemicals analyst told us last week.

True, but if anybody out there could give us some good news we would love to report it.

By Malini Hariharan

Is the International Energy Agency (IEA) being extremely bullish in predicting a 'golden age' for natural gas over the next 25 years?

In a recently released report (available here) the IEA forecasts a 55% growth in global demand to 5.1 trillion cubic metre (tcm) in 2035 driven mainly by China, India and also the Middle East. The share of natural gas in the global energy mix is expected to rise to 25%, from the current 21%, during the same period pushing coal's share down to 22%.

Where will the gas come from? Eastern Europe led by Russia is expected to remain the largest supplier followed by the Middle East and North America.

The agency is confident that production in the Middle East, despite political issues in Iran and Iraq, and a gas moratorium in Qatar, will more than double by 2035. But it admits that "an important factor influencing new gas development in the region will be whether domestic gas prices are permitted to rise to a level that stimulates investment".

This is crucial as new reserves, which are not associated with crude oil, are likely to be more expensive to develop.

Interestingly, the IEA also expects China to tap unconventional sources of gas such as coal bed methane (CBM) and shale gas to emerge as a major producer pumping out nearly 300 billion cubic metres (bcm) in 2035, up from 80bcm in 2008.

But the country will still remain a large importer as local production is likely to meet only half of domestic demand which is expected to match that of the entire European Union in 2035.

There are probably not too many questions on the projected demand growth for especially for power generation after Japan's nuclear crisis. The power sector is expected to remain the largest consumer accounting for 24% of total gas demand in 2035.

But perhaps the IEA's predictions on the rise of unconventional sources of gas, which it describes as "key to expanding the long-term role of as in global enery mix" are a little premature. The agency expects the share of unconventional sources to rise to 24% in 2035 from 12% in 2008.

"We project the share of shale gas in global gas production reaches 11% in 2035 while that of CBM reaches 7% and tight gas 6%. Unconventional gas production is currently concentrated in the US and Canada. By the end of the Outlook period, unconventional gas also reaches a significant scale in China (CBM and shale), Russia (tight gas), India (shale) and Australia (CBM)," says the IEA.

The agency is also confident that gas from unconventional sources can be produced at costs similar to those in North America ($3-7/mmbtu). This is debatable as costs are likely to be higher in some location which will have major implications on projected production volumes.

Also the shale gas revolution has yet to take root outside the US. China has only recently opened its doors while in India exploration has yet to start.

The IEA acknowledges the environmental issues surrounding the fracking technique used to get to shale gas but expects these to be resolved once regulatory frameworks are set up.

However, as reported by the blog earlier, the concerns are getting louder and some European countries like France have already taken action to place restricting shale gas drilling.

The world, including the petrochemicals industry, certainly needs more unconventional gas but gaining public acceptance is unlikely to be easy.

By John Richardson

WEAKER domestic consumption-growth in China represents a major challenge to the argument that global petrochemicals demand, and therefore pricing, will see a strong recovery during 2011.

Price declines continued last week with low-density polyethylene (LDPE) down a further $20-50/tonne as the polymer, as we have reported before, continues to be dogged by high inventory levels.

Polypropylene (PP) prices fell by $10-40/tonne with further reductions seen as inevitable. Like LDPE, PP increased too rapidly and by too much as a result of feedstock costs and supply issues.

These reductions follow declines a week earlier in both Asia and Europe. We will take a look at the latest state of European markets in a separate post over the next few days. 

Some slight good news was that high-density PE (HDPE) pricing stopped falling last week, while linear low-density PE (LLDPE) edged-up by $20/tonne.

However, a trader told us this morning: "Nobody really believes that HDPE or LLDPE pricing has bottomed-out. Buyers remain exceptionally negative as they anticipate further price reductions.

"And anyway, even if their sentiment had improved, many of the end-users wouldn't be able to get the financing to replenish their stocks because of all the credit-tightening measures."

The extent to which credit-tightening is undermining efforts to rebalance the economy away from exports became very apparent last week.

Retail sales growth slowed to 16.9% during May. Even though this number was inflated by high food prices, it was still less than the average for the last five years.

Passenger-car sales declined for the first time in two years as growth in furniture and electronics sales dipped.

Meanwhile, spending on fixed assets and investments rose by 26%, excluding rural households - the fastest pace in almost a year.

This suggests that the enormous economic stimulus package, introduced in late 2008, continues to feed through into fixed-asset investments. How much of these investments will ultimately be productive versus additional inefficient loss-making factories and even-more empty condos?

The rise in fixed-asset investments is hindering the economic rebalancing effort: Private consumption has now fallen to 34% of GDP, the lowest level since China began to open-up its economy more than three decades ago, according to this article from Bloomberg quoting Capital Economics. Ten years ago, private consumption represented 46% of GDP.

Higher wages should eventually improve this ratio, but not until the Chinese government has won the battle against inflation.

The fight to reign- in the rising cost of living is, as we have already pointed out, hurting consumer spending - and the situation is likely to get worse.

"The government is caught between the devil and the deep-blue sea," a senior source with a global polymer producer, who heads his company's Greater China operations, told us recently.

"It has to bring the overall inflation rate below 4% in order to maintain social stability, but this target will not be met this year. As a result, we expect further interest-rate rises and credit-tightening measures."

Overall inflation was at 5.5% in May, the highest in 34 months, with food prices up by 12% - prompting the government to raise bank-reserve requirements by a further 50 basis points to 21%. This was the sixth increase in the reserve requirement so far this year.

Interest rates have been increased on four occasions since last September, but financial analysts worry that an 11-week gap since the last rate rise has been a mistake. Another 2-3 interest-rate increases are, as a result, forecast for 2011.

Polyolefin industry players continue to express the hope that Chinese demand will soon return with avengeance after a five-month lull.

But if domestic consumption remains depressed, which seems likely given the protracted struggle with inflation, how can a big recovery happen?

Some kind of rebound might occur as China enters its peak manufacturing season.

But as we discussed last week, the downside of higher wages is reduced export competitiveness. Migrant-worker wages were raised by 40% in 2010 and are expected to be increased by an additional 20-30% over the next three years.

The peak manufacturing season is also likely to be affected by power-supply problems and, of course, again restricted credit - which makes it ever-harder for export-focused companies to raise trade finance.

Perhaps, though, the biggest reason for caution about a strong Chinese recovery is that it seems to be dependent more on external rather than internal factors.

Anybody betting on a rebound would therefore need to place his or her faith in stronger US and European economies.

US unemployment is back above 9% and the Eurozone is in crisis as a result of Greece, making any such leap of faith difficult for us to understand.  

By John Richardson

CHEMICAL share prices have surged to the top of what one industry observer calls "buzz mountain" during the last six months.

The buzz has been centred on the supercycle theory which holds that recent corrections in commodity prices are nothing more than a temporary blip.

Formosa Plastics Corp (FPC) and Formosa Chemicals & Fibre Corp (FCFC) have been some of the star performers in Asia since September 2010 with their share prices up by 40-50%, according to a UBS report we received last week.

Another outperformer has been Petronas Chemicals Group (PCG), which, since it first listed last November, had seen its share rise by 27%, added the same report

All three companies' share prices have slipped over the last few days on increasing global economic concerns, including most prominently for Asia the slowdown in China.

Parsing through chemicals' analysts reports, the blog can find little evidence of the realism we think is now essential given exceptionally weak fundamentals.

This is not a blip, it is something much worse - and at the very least will keep petrochemical pricing volatile and depressed for the rest of this year.

Broadening this out, a fascinating Associated Press article from yesterday, which we spotted in the LA Times, included the following:

"Among the 9,015 analyst recommendations on S&P 500 stocks, only 300 -- or 3.3% -- are to sell, according to data provider FactSet. That's the same proportion as a month ago, when the economy was considered to be in better shape. All else being equal, you want to sell if you think profit growth could slow."

The article goes on to say that many analysts won't cut earnings estimates until senior executives warn about weakening sales and profits.

"But many companies appear to be waiting until they announce second-quarter earnings to guide estimates down. That won't be before mid-July," continues the Associated Press.

By that time it could be too late for investors who have held on for too long.

There is some evidence of realism in the chemicals industry - for example, Torsten Penkuhn, the head of BASF's petrochemicals business in Asia's comments in an ICB interview last month.

Fellow blogger Paul Hodges also wrote in a post last Friday:

"Major commodity trader, Glencore, said this week 'we see a pullback in China and it will continue'.

Sadly, though, he pointed out that this challenged the view expressed last month by Dow Chemical CEO Andrew Liveris.

Rhodia CEO Jean-Pierre Clamadieu also said earlier this month that he saw "no material signs of a slowdown".

By John Richardson

THE majority of financial analysts seem to be clinging on to the hope that the recovery in petrochemicals demand from China is about to happen.

This doesn't just apply to our industry. Analysts across many sectors appear to have staked their reputations on a return to the Old Normal of booming commodity markets, rising share prices and strong company results.

"Among the 9,015 analyst recommendations on S&P 500 stocks, only 300 -- or 3.3% -- are to sell, according to data provider FactSet," said an Associated Press article, which we quoted yesterday.

"That's the same proportion as a month ago, when the economy was considered to be in better shape. All else being equal, you want to sell if you think profit growth could slow."

Wall Street believed that weak petrochemical pricing in Asia (which, of course, is driven by China) was merely a reflection of destocking, a US-based industry observer told the blog.

"We keep being told that the inventory run-down process will end next week," he added.

This is consistent with what we hear from our other contacts. We were first told that the rebound would happen in May, then in early June, then mid-June, followed by end-June and early July. "The end of July" was the story told to one of our ICIS pricing editors late last week as pricing in Asia continued to fall.

"Sell-side analysts and some industry commentators project supply, demand and operating rates as a function of GDP forecasts times the multiplier," continued the industry observer we quoted above.

"With banks and the IMF constantly reducing year-end and Q2 GDP forecasts you would assume sell-side analysts will be the next to follow.

"However, given their stubborn nature I would assume they will keep praying for the ramp-up in demand."

US olefin and polyolefin producers could be clinging-on to a similar sense of denial. This is despite mounting evidence that pricing in the States will be dragged-down by what is happening in China.

China pricing led the world in 2009-2010, thanks to the country's enormous economic stimulus package.

Now that fiscal tightening has become essential as a result of inflation, the China price has been lagging both the US and Europe (we will take a close look at Europe in a later post).

European and US producers have shown exceptional operating-rate discipline since the 2008 global financial crisis. Production in Europe has been further constrained by a shortage of naphtha feedstock.

A high number of force majeures have also helped to keep Western markets very tight. For instance, 11% of US ethylene capacity was offline in April, added our industry observer.

Now, though, US ethylene supply problems look as if they are easing in this climate of weak demand.

"With no announced turnarounds, and no obvious operational issues, a (further) decrease in spot pricing is in the offing, one source said," wrote William Lemos, our US ICIS pricing olefins editor in an article on Monday.

Spot ethylene had already fallen by an average of 1% for the week ending 17 June, resulting in a 1.4% contraction in margins, Lemos added.

"The only thing sustaining (US PE) prices is the spot ethylene market," another source told Michelle Klump, our US polyolefins editor, in this article  from last week.

Some US PE producers were still attempting to achieve contract price increases for June, she added.

But these efforts were occurring following a rollover of a 5 cent\lb increase into June from May.

Domestic demand was relatively weak with producers facing added pressure from lower Asian and Middle East producers, the article continued.

"US PE markets have been very tight recently, due to production problems," our fellow blogger, Paul Hodges, told us. His latest IeC Downturn Alert post said that US Gulf high-density PE (HDPE) export prices were 18% higher since January.

"China's PE demand seems to be declining - down 1.6% in Q1, and Q2 may be worse. So I think it will be very hard for US companies to maintain margins into Q3, assuming their plants are back online,"he added. 

We are at a turning point in the global economy, the blog believes, as stimulus-led growth peters out and we enter the New Normal.

This should be frightening and challenging, but not necessarily depressing provided chemical and other companies adopt the right strategies.

Our new e-book, Boom Gloom and the New Normal, outlines our ideas for helping to shape these strategies.

By John Richardson

CHEMICALS and polymer demand looks even less likely to be supported by "buying forward" following yesterday's decision by the International Energy Agency (IEA) to release 60m barrels of crude into the market.

Here is a bit of context first before we look at the implications of the IEA decision, which, along the way, will help explain why it was taken.

From the fourth quarter of last year until around February 2011, chemicals and plastics end-users built raw-material inventory in anticipation that oil prices would keep-on rising. No purchasing manager who cared about his or her job was willing to bet against the consensus that crude would go higher.

But as we've discussed before on the blog, building stocks in this way is always a risky proposition because of lack of visibility down all the production chains.

It is never clear at what stage demand destruction will begin, and how serious the loss of demand is going to be, as there is a lack of regularly updated and reliable information on how more-expensive crude is affecting retail sales.

We have been warning for a long time that the underlying macroeconomic fundamentals are a lot weaker than during the last big crude bull-run - which ended in September 2008. The global economic crisis of late 2008 has left behind "strong headwinds" detailed by Fed Chairman Ben Bernanke earlier this week.

Warning signs should therefore have been flashing red when US gasoline prices  rose above their previous pre-crisis peak in March this year.

The impact of rising crude on emerging markets was also evident in early 2011 as inflation rates climbed.

Criticism is easy, though, when you are commentator rather than a participator. If all your competitors are buying forward and your managers are placing you under pressure to follow the trend, it is very hard to just say no.

A large European polypropylene (PP) buyer told ICIS news last week: "I am not buying a lot, just one or two trucks at a time. I kept a high stock level when prices were going up, so now I am using that up. Why would I buy now when I know prices will be lower in July?"

This hand-to-mouth buying pattern, which has also been the case in Asia since the end of the Chinese New Year (CNY) in late February, was a response to the already-existing uncertainty over the direction of crude and economic growth.

The IEA announcement should, perhaps, have been predicted because of the damage being caused by expensive oil.

But the release of the strategic stockpile seems to have made the outlook for crude even-more murky because:

1.) It could annoy OPEC into cutting quotas in order to fund higher social costs. The costs have risen as a result of the Arab Spring
2.) Can OPEC collectively, though, wield that much influence? Saudi Arabia is the only player who probably really matters within OPEC as it is the world's biggest swing producer. Saudi Arabia unilaterally decided to raise output earlier this month after OPEC failed to agree-on an increase in overall quotas. The release of the IEA stock-pile might be just a temporary measure until extra Saudi production calms the market, IEA Executive Director Nubuo Tanaka seems to have hinted in the Wall Street Journal article we linked-to in bullet-point one
3.) The IEA announcement was the reason given in many press reports for yesterday's steep fall in crude-oil prices. August Brent was, for instance, down by 6.1% at $107.26. But there were reportedly lots of other factors behind the slide in oil, including WEAKER GROWTH IN CHINA AND EUROPE, THE GREEK CRISIS AND THE POLITICAL IMPASSE OVER RAISING THE US BUDGET DEFICIT
4.) Goldman Sachs, interestingly, believes that the IEA decision alone could cut Brent crude by $10-12 a barrel. If financial players change their strategies will this play a big role in pushing oil below $80 a barrel by December - one of the forecasts we read yesterday?

It has been quite a week during which, we think, the chemicals industry and the global economy have gone beyond important turning points.

Hopefully, our coverage has helped. This is the kind of thinking we also provide - in more detail and with workshops - during our ICIS/International eChemNew Normal seminars.

The next event takes place in Houston in October.

By John Richardson

THE dreadful state of European polyolefin markets became even more evident late last week as prices continued their declines.

Discussions on further reductions in European olefin contract prices were also set to begin today.

High density polyethylene (HDPE) and linear low-density polyethylene (LLDPE) spot prices have now fallen by Euros80-150/tonne in June, according to our colleagues at ICIS pricing.

Low density PE (LDPE) became far-too unaffordable because of limited supply and unexpectedly strong demand in certain end-use segments. Spot prices fell by Euros100/tonne last week.

Producers had been hoping to limit June PE contract price declines over May to Euros45-60/tonne, which at the lower end would have been in line with the Euros45/tonne drop in ethylene contracts for the same month.

But the PE contracts settled Euros50-80/tonne lower, said ICIS pricing.

Some polypropylene (PP) June contracts were agreed at Euros80/tonne lower than in May, double the Euros40/tonne fall in the June propylene contract.

The global demand outlook is back to what one industry commentator described over the weekend as "late 2008 recession levels'.

Not surprisingly, therefore, as discussions begin today for the July ethylene and propylene contracts, further reductions are being expected by ICIS pricing.

Talk for ethylene is expected to focus on declines of Euros80-120/tonne.

The majority of propylene players are anticipating falls of Euros50-70/tonne. However, a couple of players said Euros100/tonne was possible.

"Margins are still historically very good and so cracker producers would still make a workable margin if they made significant reductions," a second commentator told the blog last week.

This was confirmed by the latest-available ICIS pricing Weekly European Ethylene Margin Report, which is for 17 June (the 24 June report is published later today).

As of 17 June, for example, naphtha-feed ethylene contract margins were at an average of Euros450/tonne for the year-to-date in 2011.

This compared with Euros354/tonne for the full-year 2010 and Euros228/tonne in 2009.

Improving margins are a result of production being well-managed against demand, naphtha feedstock shortages and a high number of force majeures.

"There is an old school of thought that decreases in monomer prices can make the situation worse," our second industry commentator continued.

"What is on everyone's minds is whether the Europeans will do enough to align their domestic markets with what is happening globally."

European olefin and polyolefin producers were clinging-on the hope - vain in our opinion - that weakness in China was only the result of destocking, the source added.

China's PE demand was down by 4% in January-May this year to 7.1m tonnes over the same period in 2010, according to this post from the ICIS Chemicals & The Economy blog.

European net exports to China halved over the same period to 71,000 tonnes as China also raised its own production and the Middle East took market share, added the post.

Higher Saudi PE production seems inevitable as a result of the Kingdom's decision to raise crude-oil output.

This will put more pressure on Europe - not only in the China export market, but also in other export markets as Saudi Arabia struggles to sell this extra output to China.

The blog believes that the China market is not going to stage a major recovery until the battle against inflation is won.

Despite China's Prime Minister Wen Jiabao declaring victory over inflation last Friday, the cost of living might get worse before it gets better. This would mean more interest-rate rises and further credit-tightening.

The outlook for crude is at best uncertain, and quite probably bearish, on higher Saudi output, last Thursday's decision by the International Energy Agency (IEA) to release some of its reserves, and the weak global economic outlook.

"Buying forward" is therefore unlikely to provide any support for chemical and polymer markets in general.

Perhaps the single-biggest risk to the global economy is Greece.

The Economist wrote in its 18 June issue that "dangerous political brinkmanship" over resolving the Greek crisis was affecting corporate spending.

"Companies are currently sitting on piles of cash because they are wondering how strong economic growth will be," added the magazine.

"Politics gives them more reason to sit on their hands rather than investing and hiring immediately, providing a boost the world economy sorely needs."

A Greek debt default seems inevitable with only its timing in question.

The consequences of such a default, according to this article from the UK's Daily Telegraph, would include:

1.) Every bank in Greece becoming instantly insolvent
2.) Greece walking away from the Euro and relaunching the Drachma at an exchange rate 30-70% lower than the Euro
3.) Insolvency at the European Central Bank

This further post from Chemicals & The Economy blog details the extent of liabilities of other European banks to Greece and what a default could therefore mean for the wider EU economy.

A petrochemicals Supercycle? You must be kidding.

Chapter 2 of Boom, Gloom and the New Normal is published today.

In a completely new and challenging analysis we argue:

• The Western BabyBoomers boosted chemical demand for housing, autos and electronics during their peak consumption years between 1980-2000. But this demand is unlikely to be sustained, now they are entering the 55+ age group. A new SuperCycle is therefore extremely unlikely.

• Demographics ultimately drive chemical demand. Japan's BabyBoom took place around a decade earlier than the West's, and may therefore provide useful insight into the likely future course of events.

• Japan's experience post-1990 seems to indicate that stimulus programmes cannot counter the impact of an ageing BabyBoom generation over the medium and longer-term.

• Equally, it suggests interest rates in the major economies could well fall significantly, as the 55+ generation starts to save more and spend less, to fund their potentially lengthy retirement.

• This means funding should be available to tackle the key megatrend issues that will drive the next wave of global growth: ageing populations, increasing food and water supply, and reducing carbon footprint.

Please click here to download this free Chapter. You can also click here to download the 2 page summary article in ICIS Chemical Business.

By John Richardson

ANYONE clinging on to the hope that the weakness in the global polyolefin market is merely down to China going through a prolonged period of destocking could face a rude awakening.

China's polyethylene (PE) demand was down 4% in January-May this year, at 7.1m tonnes, compared with the same period in 2010.

Imports fell by 12% to 3m tonnes as exports doubled to 240,000 tonnes.

The surge in exports was the result of re-exports by traders who had shipped to China, only to find they were unable to sell and had to therefore move the cargoes elsewhere.

European, North American and northeast Asian producers lost market share in China to the Middle East and higher local production, he said.

The drop in demand feels nothing short of shocking when measured against forecasts of full-year 2011 growth at close to or above 10%.

"This is not destocking, as we have been arguing since March," said a senior source with a global polyolefin producer. "This is a significant correction that the industry is going to have to get used to."

A US-based chemicals analyst said: "We keep being told [by Wall Street] that the inventory rundown process in China will end next week."

China was first supposed to rebound in May, then in early June, mid-June, end-June, early July and now late July, as we pointed out last week.

Higher interest rates and tightening credit in China - along with the bearish outlook for the global economy - have had a big effect.

The Federal Reserve added to US macroeconomic concerns last week when it revised down GDP growth expectations and raised unemployment forecasts.

Greece is a huge concern, not just for China but globally.

As The Economist magazine wrote in its 18 June issue, referring to the failure to resolve the Greek crisis: "Companies are currently sitting on piles of cash because they are wondering how strong economic growth will be.

"Politics gives them more reason to sit on their hands rather than investing and hiring immediately, providing a boost the world economy sorely needs."

A Greek debt default is widely viewed as inevitable, with the only question being the timing.

 Economists have warned of consequences including insolvency of Greek banks, the re-launch of the drachma - and perhaps even the collapse of the euro as a whole due to widespread contagion.

Crude oil prices took an inevitable hit from the International Energy Agency's decision last Thursday to release 60m barrels of its reserves.

The declines were also attributed to greater macroeconomic pessimism.

"Buying forward" supported chemical and polymer pricing and volumes in general from the fourth quarter of 2010 until late February 2011.

Crude was on a bull run during that period, with confidence in China and the rest of the global economy very high.

Would any purchasing manager who values his or her career take the risk to stock-build in the current climate?

China led global polyolefin pricing upwards from the second quarter of 2009 until early 2011.

The country sucked in every spare plastic pellet, helping to keep US and European markets healthy - thanks to the biggest economic stimulus package in history.

Now China is suffering from a side effect of that package: inflation at well above Beijing's target rate of 4%, the observers added.

Prime Minister Wen Jiabao declared victory in the battle against inflation last Friday.
But it could take several more months, perhaps quarters, before any such victory is achieved.

Inflation, which was at a 34-month high of 5.5% in May, will rise to 6% in June, according to some economists.

And so further interest-rate rises and credit-tightening measures could well be on the cards.

This was the expectation in Asian polyolefin markets late last week, where prices continued to decline and buying interest remained depressed. PE prices were down by a further $20-80/tonne and polypropylene (PP) by another $20-70/tonne, according to ICIS pricing. Asian pricing has now been either flat or falling since the end of the Chinese New Year in late February.

China is again leading global pricing, but this time on the way down. Prices across all regions are slipping as they reflect what is happening in the world's most important market.

European low density polyethylene (LDPE) spot prices fell by Euros100/tonne last week, with linear low density polyethylene (LLDPE) and high density polyethylene (HDPE) also down.

Some moderate good news emerged earlier this week, however.

An initial European propylene contract price for July has settled at Euros1,130/tonne ($1,614/tonne), down Eurs75/tonne from June, a major producer said on Tuesday.

An initial European ethylene contract for July has been agreed at Euros1,090/tonne ($1,535/tonne), down Euro95/tonne, a major producer said on Monday.

More substantial decreases had been expected. We shall dig-around in an attempt to find out why the market held-up better than people had expected.

Spot offers for some grades of US PE emerged late last week that were 19% lower than May contract settlements. This was the result of falling feedstock costs and pressure from overseas imports.

Sell-side chemical analysts have remained persistently bullish in the face of the mounting negative news, the US-based chemicals analyst added.

Some chemical companies are also continuing to talk about recent setbacks being only temporary.

The longer that this goes on, the harder it will be to remain optimistic and to refer credibly to difficult market conditions as temporary.

If global GDP growth estimates keep on being revised down, what might this mean for the chemicals Supercycle theory?

By John Richardson

EUROPEAN polyolefin converters seem quite justified in pressurising their suppliers for further price reductions, given weak macro-economic fundamentals and still-excellent profitability at the cracker end of the value chain.

The news from China continues to get worse. China's Vice-Premier Wang Qishan said last week that the government's 2011 targets for GDP growth and inflation would be difficult to achieve.

China's Premier Wen Jiabao also admitted last week that the official 2011 target for inflation of no more than 4% would be hard to attain.

Wen's comments, made during a trip to Europe, were in marked contrast to his article in the Financial Times a couple of weeks ago when he talked about victory in the battle against inflation.

The $64,000 dollar question is WHEN this victory will be achieved. While inflationary pressures might ease by the third quarter, they are forecast to intensify again in Q4 because of strong underlying inflation.

Further increases in bank-reserve requirements and interest rates now seem almost certain, making life even harder for China's small -and medium-sized enterprises (SMEs). These companies are, of course, the life-blood of chemicals and polymer demand in China as most buyers are SMEs.

In a post later this week we shall examine in detail why the SMEs are being hurt more by credit restrictions, higher borrowing costs - and also a sharp increase in wages - than the state-owned enterprises (SOEs).

Returning to Europe, it is evident from comments made to our ICIS pricing colleagues that the China factor looms large.

Polyolefin exports that would have gone to China are now being diverted to Europe, with this surplus availability accelerating the global price-equalisation we have discussed before.

A Greek debt default still seems inevitable, despite last week's optimism following parliamentary approval of an austerity package. And given the level of public protest and political opposition, one would have to be pretty deluded to believe that the cuts will all be implemented on-schedule.

So if you are buying polyethylene (PE) and polypropylene (PP) plastic pellets in Europe you will hardly be in a hurry to stock-up on volumes. 

This is also the summer holiday season when demand traditionally falls.

A further reason for buyers to remain on the sidelines is high stock levels among the producers.

Several PE and PP producers told ICIS pricing late last week that they were sitting on 2-3 months of stocks, with one admitting that his inventory was to close to its 2008 level just before the great crash.

"Since the 2008 financial disaster producers have been on the whole very disciplined, keeping stocks at no more than 3-4 weeks," a European-based industry observer told the blog yesterday.

This suggests to us that the extent of the problems in China have not been fully understood, and that stocks were built on anticipation of firmer crude.

Strong overall cracker profitability could also be a reason for PE and PP output remaining high relative to the state of the polyolefin markets. 

European contract margins based on naphtha feedstock did fall by almost a quarter last week on lower ethylene and propylene July contract settlements and high naphtha costs, ICIS margin analysis showed on Monday.

In the week ending 1 July, contract cracker margins fell by Euros162/tonne ($235/tonne) to Euros579/tonne.

But the average margin for June was Euros667/tonne - the best seen in 2011 so far and the highest margin since the 2008 crisis.

Upstream margins, as we have talked about before, have long been supported by strong co-product credits, disciplined operating rates and a high number of force majeures.

The ability of non-polymer consumers of ethylene and propylene to pay high prices for their raw materials has delivered a further benefit.

The July ethylene contract settlement - Euros95//tonne lower than in June - is therefore expected to be fully passed-on to July PE contracts, said our European-based poyolefins ICIS pricing editor, Stephanie Wilson.

Incidentally, the C2 settlement was the biggest movement in pricing since the monthly contract system was introduced in March 2009, added our European olefins editor, Nel Weddle.

PP markets were slow to react last week to the Euros75/tonne fall in the July propylene contract, added Stephanie.

But given that June PP contract prices fell by Euros80/tonne, further reductions in July contracts seem very likely.

Both PE and PP spot prices weakened further last week. PE declined by Euros20-50/tonne and PP by Euros40-70/tonne.

By John Richardson

HOPEFUL theories espoused by traders can sometimes sound a little hollow - as was the case with the one doing the rounds in Asian polyolefin markets late last week.

"We think the latest interest rate rise in China will be the last this year and so, in a way, the announcement was good news. It means all the bad news is now out of the way," a trader told the blog on Friday.

Several other traders agreed as they argued - perhaps because of the positions that they have taken - that the recovery  would hold.

When we raised the fact that many economists believe at least one more rate rise is on the cards this year, with further increases in bank reserve requirements possible and lending set to dip sharply in 2011 over last year, the phone line went dead in our discussion with the first trader mentioned above. We tried calling back but with no success.

China's Premier Wen Jiabao thinks the 2011 annual inflation target of 4% or less will be hard to achieve. He might know a thing or two.

As long as the crucial 4% remains out of sight the lending environment will remain restricted - and could well get worse. This is a major problem for China's small and medium-sized enterprises (SME), which make up most of the country's chemicals and polymer buyers.

Interestingly, the exact opposite view on the impact of the latest interest rate increase was being expressed in the C2s market, according to our colleagues at ICIS pricing.

Ethylene prices rose by $20/tonne to $1,130-1,170/tonne FOB Korea last Friday.

But this and other gains were being "tempered by China's interest rate hike and uncertainty if the hike in the key downstream polyethylene (PE) segment can be sustained," wrote ICIS pricing in its Asian ethylene report.

Polyolefin traders are understandably sighing with relief that the market is finally showing signs of life after being flat or in decline since March. Import volumes and demand have been sharply lower.

The pricing improvement is significant: PE was assessed $10-80/tonne higher last Friday over the previous week with polypropylene (PP) increasing by $10-60/tonne, according to ICIS pricing.

But another producer we talked to this morning, confirming the views of the producer we spoke to last Thursday when we broke the news about the price rally, warned that it was important to put the recovery in the right context.

"There has been some improvement in demand, but that was to be anticipated," he said.

"We are about to enter the peak manufacturing season for exporting finished goods to the West for Christmas. The next agricultural film season is also about to begin in August.

"Maintenance shutdowns are the other factor but crucially, where do we stand now in terms of demand compared with this time last year? Down is the answer."

In a report released late last month, HSBC talked about consensus demand-growth forecasts for PE, PP and polyvinyl chloride (PCVC) in China being in the range of 11-13% for 2011. No way is this going to happen.

Tomorrow we will look at similar widespread caution among European producers. Despite recoveries in olefin and polyolefin spot markets, further reductions in contract prices are still being very-seriously discussed.

On the Asian supply side, a US-based chemicals analyst told us that the peak production loss for 2011 was forecast to be in February-March this year.

After the steep rise in cracker turnarounds in August, he sees supply being well-balanced in the fourth quarter.

And sorry to bore you to death about this, but we are still searching for an answer to our question of whether the Saudis, and also the Kuwaitis, have upped production on greater availability of associated gas.

Could this extra supply make the market long in the last quarter of this year?

By John Richardson

EUROPEAN ethylene and polyethylene (PE) market participants seem a million miles away from buying into the idea that the recovery in Asia is sustainable.

This is a realistic view following last week's interest rate rise in China, the fifth in eight months - and with the announcement over the weekend that inflation in June had risen to 6.4%.

We will discuss the implications of China's inflation problem in detail in a later post. But here it it is worth saying that this official govenment pronouncement supports our view that more monetary tightening is on the cards.

The argument that last week's interest rate rise would be the last this year, used to justify polyolefin price rises in Asia, looks as if it has been built on very shaky ground.

Consensus opinion on the European ethylene market late last week was that it had found its floor, wrote Nel Weddle, ICIS pricing olefins editor in Europe.

But she added: "Sources caution it is too early to determine whether the reversal of trend in Asia will be either large enough or sustained enough to make a significant difference to the supply and demand balance through the July-August period and beyond, when the next round of European cracker turnarounds start.

"Several players said that there has not been a structural shift in demand in Asia, and describe the renewed demand as a normal function ahead of planned maintenances given the extensive de-stocking during recent months.

"One source said any expectation of a return to the very healthy March-May period was akin to clutching at straws."

Cracker operating rates have recently been cut by 10-20% in an effort to rebalance lengthy supply, according to some producers.

PE and polyvinyl chloride (PVC) inventories were reported to be still very high.

"Initial (July contract) pricing ideas of minus Euros50-130/tonne are filtering through from producers in the European PE market this week," added European polyolefins editor Stephanie Wilson.

Triple digit reductions over June settlements, including as much as Euros120/tonne for low-density polyethylene (LDPE) and butene-1 grade linear low-density (LLDPE), were being discussed, she said.

European prices were still seen as too-expensive relative to Asia, suggesting the upper hand is now with the polyolefin consumers after two-and-a-half years of power residing upstream.

Or is it that the damage to the downstreamers has gone beyond a tipping point?

"The cracker operators can wheel their suitcases of money to their banks, but what about the longer-term prospects for European manufacturing?" said one rather jaundiced industry observer, who has since left for a sorely-needed summer holiday.

By John Richardson

RISING oil production in Saudi Arabia has resulted in bigger volumes of polyethylene (PE) being delivered into Asia-Pacific markets, a source with a major plastics processor told the blog late last week.

"Saudi Arabia has definitely, in my view, already raised PE production on more availability of associated gas. I am seeing more volumes in our local market," he said.

Clear evidence emerged last week that Saudi crude production has been on the up for at least two months.

Estimates for June production range from 9.4m barrels a day to 9.8m barrels a day, up from around 9m barrels a day in May.

Crucially, the International Energy Agency believes that Saudi Arabia has continued to raise production in July, possibly already reaching 10m barrels a day. This would, in theory, enable the country to once again run its crackers at 100% due to the greater availability of associated gas.

Saudi Arabia is producing more oil in order to pay for higher social costs following the Arab Spring. Another reason is concern over the effect of high crude prices on the global economy.

Polyolefin prices continued to rise last week - the second week in a row of increases. For example, PE rose on a delivered basis by $20-50/tonne in Northeast and Southeast Asia, according to ICIS pricing.

But with Middle East offers for August material expected to emerge in the third week of July, the big question remains whether the price recovery will be sustained.

Not only is supply not necessarily as tight as traders have argued due to the suspected increase in Saudi production, but also the macro-economic climate in China and elsewhere is getting worse.

The uptick in both prices and volumes over the last few weeks has mainly been attributed to traders re-entering the market on the perception that prices had bottomed.

Doubts are being expressed about how much of these volumes have been passed-on to end-users who remain very nervous about the risks ahead.

By John Richardson

EUROPEAN polyolefin markets are at one of those fascinating tipping points following the recent price recovery.

Ethylene spot prices rebounded late last week with July sales much better than those in June, wrote Nel Weddle, European ICIS pricing olefins editor, in this report.

Propylene, however, remained under pressure because of a long market.

The same pattern was reflected downstream where polyethylene (PE) spot pricing had strengthened while polypropylene (PP) remained under downward pressure because it was perceived as still too expensive.

But in both ethylene and PE the rapid change in the European mood was such that reductions in August contracts were no longer the only option under discussion; rollovers or even increases were being mentioned.

In Asia, the recovery seems a little less clear cut. Traders, producers and buyers keep mentioning one word over and over again - "affordability".

They agree with a HSBC assessment, published in a report released last month, that in inflation-adjusted terms PE, PP and polyvinyl chloride (PVC) prices were the highest that they had ever been in March 2011.

That month marked the end of a clear upward direction in crude, reducing the incentive of resin buyers in China to "buy forward".

March and every month since then has also seen further monetary tightening as China attempts to bring inflation below 4%. This has placed a great deal of pressure on the small -and medium-sized enterprises (SMEs) that make up the bulk of the country's resin buyers.

So the worry is that if prices go up by too much too quickly - before the battle against inflation has been won, enabling Beijing to result to relax monetary conditions - there will be a kickback from the converters.

Another big worry is that crude, buoyed by greater stock market confidence, might enter a new mini bull-run.

"Some of the less well-integrated Asian cracker operators would then face either stomaching weaker margins or attempting to pass-through prices that might well not be acceptable to the buyers," said a source with one major producer.

This would be a familiar problem, according to a report released by Nexant ChemSystems late last week.

"(The) average profitability of the South Korean industry (in the second quarter) fell to a six quarter low," wrote the petrochemicals consultancy.

It attributed this to rising naphtha costs and weak polyolefin exports to China.

One trader repeated his earlier comment that a lot of resin remained in the hands of the traders.

"The improvement in Asian pricing over the last two weeks is mainly down to the traders acquiring volumes. If the buyers do suddenly come back in big numbers, then whoosh - pricing could really take off."

But, of course, the other possibility is that the traders end up getting burnt.

As for supply, the blog is still struggling to get a definitive answer on whether higher Saudi crude production has resulted in more polyolefin output. This would be the result of greater availability of associated gas.

Contradicting the plastics converter we quoted earlier in the week, our trader source said: "I am not seeing bigger volumes coming out of Saudi. Several grades remain tight."

A Middle East-based chemicals analyst, however, said that the Q2 financial results released by Yansab, the SABIC subsidiary, showed its production had increased. Two and two makes four or five?

"Parent company SABIC's volumes were also up in the second quarter, but this might have been to do with greater overseas output," he said.

One obvious explanation for tightness in PP is reports of mechanical problems at two Saudi facilities. This has taken 1.1m tonnes of annualised capacity out of the market, if the reports are accurate.

By John Richardson

CHINA'S polyolefin market was in "total chaos and panic" this morning, according to a Singapore-based trader.

The Dalian Comodity Exchange's futures contract in linear low-density polyethylene (LLDPE) fell a further 5% this morning after declines earlier in the week, according to ICIC news.

The weak futures markets caused a supply surge in the physical market as local distributors released cargoes. 

The recent price recovery always seemed as if it was at risk of falling victim to macro-economic events.

Tighter supply was a big factor in the rebound, firstly as result of awareness in the market of scheduled maintenance shutdowns in August and September. The blog then heard reports of technical problems at two polypropylene (PP) plants in Saudi Arabia, affecting 1.1m tonnes of capacity on an annualised basis.

The problems at Formosa had a further positive influence on sentiment with an unconfirmed rumour this week of yet more production problems - this time at a cracker complex in Southeast Asia.

The arrival of both the peak production season for exporting finished goods to the West and the latest agricultural film season in China offered additional encouragement.

A slight seasonal uptick in demand was also been seen in SEA, ahead of the Muslim fasting season.

But what kind of peak demand season can we expect in China for all those manufactured goods heading to the West as fears grow that developed economies are heading back into recession? Martin Feldstein, emeritus professor of the US National Bureau of Economics, now believes that there is a 50% chance of the US heading back into recession.

US gasoline demand was up "a miniscule" 0.1 per cent for the week ending 29 July, according to the latest MasterCard SpendingPulse's latest survey. This is supposed to be the peak driving season.

The European Central Bank resumed purchases of Irish and Portuguese bonds yesterday in a sign of growing concerns over the Eurozone sovereign debt crisis. Italy and Spain may also need financially rescuing.

Oil prices tumbled yesterday with West Texas Intermediate for September delivery falling more than 5% to settle at $86.63 a barrel, removing all the gains made during 2011.

The Dow Jones Industrial Average has also seen all of its 2011 gains erased.

The Hang Seng Index in Hong was down 4.81 per cent this morning when the market opened.

And so not surprisingly, the Dalian Commodity Exchange's Rmb-priced futures contract in linear low-density polyethylene (LLDPE) has responded to all these macro trends.

"The futures contract across all delivery months has lost around Rmb1,000/tonne over the last week," added the Singapore-located polyolefins trader.

"My phone hasn't stopped ringing - it is total chaos and panic out there. In my view, the end-users were not the main driver behind the recent price rally. The rebound was because of traders taking positions.

"Now, of course, the end-users don't want to make any commitments until they see where pricing is going to bottom-out."

By John Richardson

DOW Chemical CEO Andrew Liveris said in a 27 July conference call that China's industrial economy was still doing very well. "They're managing themselves down very nicely," he added, pointing to official GDP growth numbers of 8-9%, which translate into chemicals and plastics growth of 12-13%.

"We're not seeing any issue here with polyethylene (PE) in terms of demand, especially our polyethylene, which is very much into applications such as agriculture, for example, and films and packaging in general, industrial packaging and the health and hygiene medical markets," he said.

"We are seeing the demand growth, good volume growth and decent price power."

In the article we linked to above, some of the other big, well-integrated and diversified chemicals companies also remain upbeat about the rest of this year. 

PE demand in China fell by 2.5% in the first half of this year, according to Paul Hodges.

A senior executive with a major polyolefins producer said: "You are not going to see very strong polyolefins demand growth in China this year - you are more likely to see negative growth. This is unless inflation falls below 4% which would allow Beijing to improve lending conditions.

"We might see some specific measures to help the small and medium-sized enterprises (SMEs). There is talk about the introduction of some kind of measures, but no details yet.

"I see buying by the converters and the traders staying hand-to-mouth and PE and polypropylene (PP) margins in Asia remaining under pressure for the less well-integrated Japanese and South Koreans.

"I think profitability has peaked in the US and Europe. Some grades of polyolefins are still too expensive in the West and need to come down more to reflect China prices, even taking into account the recovery in China over the last few weeks."

The blog believes that the peak manufacturing season will be very bad (how can it be anything but bad?). We hear continued talk about tight polyolefin supply and this peak season justifying firm pricing. As far as demand goes, this can surely no longer be credible.

The next few weeks might see relief rallies in oil and stock markets which polyolefin traders holding long positions would use to justify a better outlook.

But this is a squash ball bouncing down the stairs - meaning, the overall trajectory is down with mini-peaks and troughs on the way as the global economy heads into a new recession.

And equity and oil markets could well react negatively to S&P's decision to downgrade its US debt rating one notch to AA+ with a negative outlook attached. 

Higher interest rates. in response to the downgrade, are likely to weak consumer and business spending even further in the States and elsewhere.

BUT, we think the Chinese government might well be tempted to react with more economic stimulus, even at the risk of adding to inflationary pressures.

Controlling the cost of living could become less of an immediate priority than avoiding large-scale manufacturing job losses.

By Nigel Davis and John Richardson

On the financial markets it depends when investors feel confident enough to step back into shares. An analyst on Tuesday asked who would be willing to catch a falling knife?

But there are already indications of a mini-rally following the slump on global markets of the past week. Stock market indices in Europe moved higher on Tuesday and the Dow opened up on the Monday close. Chemicals stock prices rallied following steep falls.

But in this latest downturn, it has not been so much the magnitude of the slump on stock exchanges globally that has caught the attention but the speed of the fall.

The downgrade of US sovereign debt by Standard & Poor's triggered the latest turn down in stock and commodity markets, alongside the on-going struggle with the eurozone debt crisis.

The fundamentals behind the painfully slow recovery from the 2008-2009 crisis have been clear for a long time. High stock and commodity prices, particularly the price of oil, have built largely on the assumption that times are a lot better than they were.

No-one likes a bad story so no-one listens. But when the news is particularly bad, they sit up and take notice.

Fiscal stimulus underpinned market growth in 2009 and 2010 and, the removal of this underpinning of demand growth has begun to bite.

Consumers and companies react by spending less. Government cutbacks put the brakes on economies with little or no forward momentum in the first place.

Clearly, the chemical industry has benefited greatly from the money pumped into the US, European and China economies. It is one of the first to react to stronger industrial demand.

By the same token, it should be one of the first respond to falls in physical market demand and to lower commodity (feedstock) prices.

Chemical markets in Europe and the US have been weakening since late in the second quarter. That became widely apparent as producers reported on a strong period but one which demonstrated the first signs of weakness for some time.

China's important polyolefins markets had been weak since April and the impact was beginning to show. At the time the weakness in these markets was traded off to some extent by improving fundamentals in the US and in Europe.

But the extreme stock and commodity market nervousness of recent days has highlighted the uncertainty that overshadows both the US and other major world economies. The US is pulling out of the 2008-2009 recession but only slowly and could well dip back. Germany's encouragingly strong industrial growth in recent quarters was driven by exports - largely to the rest of Europe. As those exports weaken so the gloss is taken off the industrial giant which is so important to the well-being of the European chemicals sector.

In chemicals all eyes must turn to China, a country which has provided so much of the growth for the industry since 2009.

A key question is whether China can or, indeed, wants to, stimulate the economy the way it did in 2008 and 2009. Inflation hit a three-year high in July, and bad debts are rising, so this looks difficult.

For weeks now there has been a recovery in petrochemical prices in Asia as local manufacturers gear up to feed products into a Christmas season market in the West.

Asian markets are also being supported by tight supply in polyolefins as a result of scheduled maintenance work and mechanical problems at plants in Saudi Arabia and Taiwan.

But as of yesterday, confidence had evaporated. Traders were nervously eyeing their inventory levels as buyers hung around on the sidelines waiting to see when prices might bottom.

And given very weak consumer sentiment in Asia, it is hard to envisage a very strong peak manufacturing season.

The fact that producers and traders in Asia are now talking about when prices might bottom is a big change. Only a week ago they were talking about how much further they would be able to increase prices.

This new bottom in the market is likely to set by where oil prices settle.

By John Richardson

Fifty per cent of the blog (John Richardson) is on leave for the next two weeks.

Next week Paul Hodges will be posting on Asian Chemical Connections. Paul runs the ICIS Chemicals & Economy blog.Then from the week starting 22 August my fellow ACC blogger, Malini Hariharan, returns from her leave and will be posting articles.

Before I sign off here are some thoughts on events over the last week.

It has been the kind of week the blog has been expecting for two years or so, ever since the recovery from the late 2008 global financial crisis.

The recovery was based on hugely increased liquidity via the Fed and the Chinese government - but all this extra money flowing around the world merely papered over the cracks. And as we discuss in Chapter 3 of our e-book, 'Boom, Gloom and the New Normal - how the Western BabyBoomers are changing chemical demand patterns, again', one of the consequence of the Fed's largesse has been oil prices out-of-line with underlying demand. You can download a copy of the chapter for free here.

The loss of the US triple A debt status and fears over the Eurozone, which have now even spread to France, point to the deep, fundamental problems with the global economy that are going to take a generation or more to fix. This is something we discuss in Chapter 4 of our book, due to be published at the end of this month.

One of the big themes we have covered this week is China and what it might do to protect its economy from weaker demand in the West.

Premier Wen Jiabao said earlier this week that it was important to balance growth and inflationary expectations. He noted that price rises had to be slowed, but his statement omitted the previous emphasis on tackling inflation as being a top priority.

"I think we might see targeted measures in certain regions to help the small and medium-sized enterprises," a senior executive with a major polyolefins producer told us this week.

"But the government will have to be careful to structure these measures so that the money goes to SMEs and not to the bigger companies and the speculators."

This article from the China Daily suggests that help for the SMEs is probably on its way.

And perhaps interest rates and liquidity restrictions will be eased across-the-board because, a we have said, dealing with inflation appears to no longer by China's number one priority.

Beware of misleading reports of all being right in the chemicals world as a result of China adjusting economic policy to support is manufacturing industry.

Chemical prices might temporarily recover, as will commodity prices in general and stock markets, but this will constitute nothing more than a collection of bouncing dead cats. China cannot stimulate its economy on the same scale as 2008 because of the problems left behind by this earlier huge injection of cash into its economy, as we discussed earlier this week.

And every measure taken to help China's manufacturers will only weaken manufacturing industries in the West as China seeks to export its way out of trouble.

This could create trade tensions, even tariff barriers.

Exporters of chemicals and polymers to China might enjoy temporary benefits from new measures to support manufacturing industry.

But chemical manufacturers in their home markets will lose out as China floods Western countries with cheap, government-subsidised manufactured goods. An example could be a sharp rise in auto exports from China, as Paul Hodges discusses in this post from his blog. 

The unavoidable problem is that total global demand for chemicals and polymers is down and will remain depressed for many years.

By John Richardson

ALL of us would love to be able to see into the future. Chapter 4 of our new eBook, 'Boom, Gloom and the New Normal', does just this.

It offers 10 predictions about how the world will look in 2021, which are :

1. Young and old will be focused much more on 'needs' rather than 'wants'.
2. A major shake-out will have occurred in Western consumer markets.
3. Housing will no longer be seen as an investment.
4. In emerging economies, companies will have recognised that the phrase 'middle-class' doesn't define people with Western income levels.
5. Chemical markets will have become more regional.
6. Western countries will have increased the retirement age beyond 65 to reduce unsustainable pension liabilities.
7. Taxation will have been increased to tackle the public debt issue.
8. Social unrest will have become a more regular part of the landscape.
9. Consumers will look for value-for-money and sustainable solutions.
10. Investors will be focused on 'return of capital' rather than 'return on capital'.

The New Normal offers the potential to restore a greater balance to society if companies refocus their creativity and resources on real needs.

There is also an urgent need for companies to focus on basic research to tackle these needs, rather than simply taking government grants to deploy old technologies.

The transition to the New Normal will be a difficult time. The world will be less comfortable and less assured for many millions of Westerners.

The wider population will find itself following the model of the ageing boomers, consuming less and saving more. Rather than expecting their assets to grow magically in value every year, they may find themselves struggling to pay-down debt left over from the credit binge.

More engineers and more scientists are going to be required to create the new products that will serve needs arising from the megatrends.

We will also need to find politicians with sufficient vision to sell the need for hardship and long-term struggle. This will be difficult, given that voters have become used to having all their wants met via quick 'fixes' of increased debt.

We could instead decide to ignore all of this potential unpleasantness.

But doing nothing is not a solution. It will mean we miss the opportunity to create a new wave of global growth from the megatrends. And we will instead end up with even more uncomfortable outcomes.

Free Download Options for Chapter 4:

Click here for a two-page summary

Click here two download the full chapter

Click here for a video interview with co-author of the book, Paul Hodges 

By Malini Hariharan

The Chinese government's efforts to control inflation are showing no signs of yielding results.

The National Development and Reform Commission (NDRC) admitted yesterday that the government was finding it difficult to achieve its full-year inflation target of below 4%. It cited high global commodity prices as a major factor driving up local production costs.

This added to earlier official warnings that the annual inflation target would likely be missed.

Consumer price inflation in July hit a 3-year high of 6.5% while the producer price index jumped 7.5%. Food costs soared 14.6% as the price of pork, a staple food, increased by nearly 57%.

Although some analysts expect a slight easing in inflation from August the government does not seem to share these expectations.

Late last week the People's Bank of China reportedly took fresh measures to tighten liquidity, asking banks to include their margin deposits (collateral deposited in banks against LCs and letters of guarantee) in the reserves required to be kept at the central bank. Analysts expected this move to reduce liquidity by about Yuan 800-900bn ($125-141bn).

This could further hamper chemicals trade. As we have discussed before on the blog, chemicals traders have struggled since late last year to source credit.

New reserve requirements would also put more pressure on small and medium-sized enterprises (SMEs) which make up the bulk of China's chemicals and polymer buyers.

The deputy director of the China Association of Small and Medium Enterprises warned in this interview that if inflation and power shortages continue, 40% of SMEs in Zhenjiang would go bankrupt next year.

This places the government in a difficult position. On the one hand liquidity controls have become a must to tackle inflation and on the other hand SMEs, the lifeline of the country, need to be supported.

Some economists think that the government may take measures to ease credit to SMEs, as has been rumoured in chemicals markets for several weeks.

But any such measures would have to be carefully targeted and well-policed, a sales and marketing executive with a global polyolefins producer told the blog in July.

It is often the case in China that lending intended for one purpose gets diverted elsewhere. For example, LCs opened to ostensibly buy polyethylene (PE) are being used to complete property deals because of restrictions on lending to the property sector, the senior source added.

Deutsche Bank's economist believes that the government may start loosening monetary policy in the fourth quarter as growth in the US and Europe slows and global commodity prices start easing.

But not everyone is convinced and recent developments suggest that a loosening of the country's monetary policy is unlikely to take place soon.

By John Richardson

SEPTEMBER is going to be a cruel month when the West returns from the summer holiday period and the extent of damage to chemicals and polymer demand becomes more apparent.

In Asia, temporary supply constraints in polyolefins, paraxylene (PX) and styrene monomer (SM) have disguised the damage. These constraints will at some point ease, leading to a clearer picture of where the industry stands.

Gone will be the SuperCycle theory, for good we feel, and gone will be some if the projects announced to take advantage of this cycle (more diplomatically, they will be "shelved" but in reality investments will be cancelled).

Companies will then begin to deal with the New Normal, which we discuss in Chapter 4 of our e-book.

For the last three years, ever since the Lehman Bros crisis, we have been living on borrowed time.

The US Fed's quantitative easing programmes created lots of liquidity and the illusion that the global economy was back to normal. But as we discussed in Chapter 3 of our book, most of the Fed money was wasted at it ended up in the hands of speculators in oil and other commodities.

Ironically, the Fed's policies have caused further long-term damage to the economy by driving crude prices to unsustainable levels. This has placed additional pressure on hard-pressed Western consumers as they struggle with depressed employment prospects, high debt levels and reduced support from governments as sovereign debt is reduced.

In emerging markets, the Fed policy has contributed to inflation and interest rate hikes.

China's enormous economic stimulus package - introduced in late 2008 - is another reason why we have been living on borrowed time.

Hindsight is a wonderful thing, but it now seems obvious that the 53% increase in polyethylene (PE) demand in China in 2008-2010 had to be unsustainable.

A fall in demand growth was inevitable, but what few of us predicted (including the blog) was that PE growth would turn negative this year. The same is likely to apply to lots of other chemicals and polymers.

The reason for growth turning negative is the damage caused by China's stimulus package.

As with the Fed policy, China's economic stimulus has contributed to inflation through, for example, higher property prices.

The pace of new lending was so rapid in 2008-2010 that misallocation of capital would have been inevitable in any economic system. In China's system, bad lending is likely to have been on a scale that threatens its long-term financial stability - as a result of corruption and the cosy relationship between the state-owned banks and state-owned enterprises (SOEs).

Beijing is involved in a multi-year effort to redress the damage caused by government spending.

China's banks were under a lot of central government pressure to accelerate lending during 2008-2010. The easiest way to deal with this was for the banks to lend to their mates in the SOEs which then used the money to invest in lots of new industrial capacity (local government officials will have been motivated to support these investments as a means of achieving GDP growth targets set by Beijing).

Electricity consumption reached a new record high in July, according to fellow blogger Paul Hodges.

This suggests that industrial capacity continues to be commissioned as global demand weakens. The danger is that China will seek to export these surpluses at very competitive prices, resulting in a global trade war.

By John Richardson

"IF we build polymer capacity in India the demand will come," a very senior industry executive told the blog last year. He amplified this statement by explaining that greater availability of plastics would always stimulate strong demand growth for low-end packaging materials etc in emerging markets in general, as the poor became a little less poor.

Back in May 2010, when he made this statement, India, China and other developing countries such as Indonesia and Vietnam were enjoying soar-away growth. "Decoupling" from troubled Western economies was once again in fashion.

Confidence was high at last May's Asia Petrochemical Industry Conference (APIC) in Mumbai as many of the delegates talked about tight markets by 2014-15.

The search for new locations for new capacity was already on to serve this voracious emerging-market growth, given that Middle East ethane supply is so severely constrained.

The momentum continued into late 2010 as JP Morgan published its famous SuperCycle theory, claiming that it didn't matter what happened in the US and other Western markets. Incremental polyethylene (PE) demand growth would be so strong in China that a decline in US consumption wouldn't even matter on a global basis, the bank claimed.

Investors in commodities and equities etc quite often have very short-term perspectives and so don't really care whether theories, such as the one above, turn out to be true over a period of years. All that matters to these investors is that enough people believe a particular idea over a millisecond (in the case of the high-frequency traders), an hour, a day, a week, a month or a quarter.

But it is the job of senior chemicals industry planners to see through all of this.

Right up until this May's APIC, in Fukuoka, Japan, there was still talk of a peak in the cycle by 2014-15 and the need for lots of new polymer and other plants.

Denial continues in some quarters.

"Even though chemical and industrial stocks have been hammered, 2012 profit estimates still show 20%+ gains across the board for the group. Even second half 2011 estimates show double-digit earnings growth," said an industry observer yesterday.

Emerging markets cannot by themselves provide enough momentum to save the world from a new recession - and quite likely a new Great Depression.

As we highlighted on Wednesday, China faces a debt crisis that could destabilise its financial system and across the developing world, inflation threatens growth.

And as we also point out in Chapter 4 of our e-book, Boom Gloom and the New Normal, what it means to be "middle class" in China and India is radically different from the West.

Low-end packaging sales might benefit from the poor becoming slightly less poor in India and China and other emerging markets.

But average income levels are way below those in the West, meaning that "decoupling' was always a fallacy for manufacturers of mid-range and high-end consumer goods. It will take several decades for emerging-market average earnings to catch up with those in the US and Europe.

Even the alleviation of rural poverty is now under threat, putting into question the argument made by the senior executive we quoted at the beginning of this post - that if polymer capacity is built in countries such as India, demand will come.

The latest issue of the World Bank's Food Price Watch shows that global food prices in July were 33% higher than a year earlier.

Maize was up by 84%, wheat by 50% and live hog prices in China were 50% higher.

In India, the wholesale prices of rice and wheat were 9% higher in the first week of August from the same period last year, says the Australian Financial Review.

Food-price inflation is also a problem in Indonesia, Thailand and Malaysia.

In 2008, during the last big run-up in global food prices, the World Bank estimated that 105 million people were pushed into its definition of extreme poverty. A further 44 million people are now faced with being pushed into extreme poverty, it adds.

Fundamentals are thought to be mainly the cause of this latest rally in food prices, as opposed to the speculators who were blamed for what happened in 2008.

The fundamentals include poor harvests caused by bad weather - and changing diets in the developing world as the relatively small but super-rich upper-classes eat a lot more meat. This is taking land away from cereal production for food, as is the rise in the use of biofuels.

A further problem is that the supply of arable land in China has been reduced due to the surge in real-estate construction since 2008, enabled by the country's huge economic stimulus package.

In the longer-term, how does the world properly feed itself when you also take into account water shortages and climate change, if you believe that climate change is real?

Later chapters in the book will look at megatrends such as food and water. We will discuss the opportunities, as well as the challenges, that these megatrends represent for chemicals companies.

All the problems we now face are highly complex, global in nature and constantly evolving -and so this is very much work in constant and difficult progress.

But what is already crystal clear is that there is no going back to the old approach of simply building a plant on the assumption that demand will inevitably expand to consume its capacity.

By John Richardson

A CAREFUL reading of all the major ICIS pricing reports covering olefins, polyolefins, aromatics and their derivatives over the last few weeks reveals very few mentions of the phrase "peak demand season".

This time last year, the reports were full of references to the seasonal surge in production of finished goods in China in time for the Thanksgiving and Christmas sales seasons in the West.

The reason is obvious: In comparative terms, this year's peak demand season has been exceptionally weak and therefore hardly worth discussing at all. 

"The container-shipping industry is contending with the longest stretch of near-zero rates in its half-century history on the Asia-to-Europe route, as a capacity glut combines with the slowest growth in trade since 2009," wrote Bloomberg in this article published last week.

"Commerce on the world's second-busiest container route rose 4.2 percent in the second quarter, the weakest since the end of 2009, Woking, England-based Container Trade Statistics Ltd. estimates."

It is a similar story on the Asia-US route, of course, due to all the macro-economic problems.

In polyolefins, what seems amazing at first glance is why pricing has held up so well.

Polyethylene (PE) and polypropylene (PP) were each, for example, only assessed $10-20/tonne lower last week. As the graph below shows (click on the link), pricing has remained pretty stable in the face of what is clearly a new global recession.

AsiaPEpricingSept52011.ppt

There are two reasons for this, which are:

1.) Olefin and polyolefin supply losses in Q3 have been huge - as this slide from our latest ICIS Worldwide Ethylene Plant Report illustrates - click here: AsiaEthyleneCapacityLossSept2011.ppt. Several scheduled turnarounds in Asia are now, however, coming to an end and some technical problems look as if they are close to being resolved. For instance, Formosa Petrochemical Corp hopes to restart its 700,000 tonne/year No1 cracker at Mailiao in Taiwan during the first half of this month

2.) The oil price has yet to free-fall. But the blog agrees with Paul Hodges, UK-based chemicals consultant, when says: "I used to think that prices would eventually stall and then re-stablise at around $60 a barrel, and this is still my base case. But I think the damage that has been done to demand by high oil prices may be so great - in combination with the other economic problems emerging around the world - that we may end up back at $25 a barrel."

We are heading for some very difficult times. 

Although the fourth quarter might be too soon for the major correction that we believe will eventually happen in crude oil, petrochemicals supply is set to lengthen not only in the olefins chain but also in paraxylene (PX) and styrene monomer.

Strong support from demand seems unlikely as the "peak demand season" is over, Q4 is traditionally a little quieter and the uncertain economic outlook is resulting in a lot of risk-aversion.

Another factor to consider when making your market-assessments for the rest of this year is  China's decision late last month to change how bank-reserve requirements are calculated.

"This is already making trade finance a lot harder to obtain," a Singapore-based polyolefins trader told us late last week.

The policy involves banks being forced to include "margin deposits", or collateral deposited by customers for letters of credit and other guarantees, in calculating the share of deposits they must put aside for reserves, according to the Wall Street Journal.

The move would "seriously cut off" traders' access to short-term credit, affecting 50-60 per cent of China's commodity traders, Henry Liu, head of commodities research at Mirae Asset Securities, was quoted as saying in the same newspaper.

Small and medium-sized enterprises were already struggling to obtain credit because of previous attempts by China to tackle inflation.

The West has looked to Asia to support growth since late 2008, but now the prospects for growth everywhere look bad.

A case in point is the PE market.

"The overriding sentiment in the European PE market this week is one of uncertainty over demand in the coming weeks," wrote our European polyolefins editor Linda Naylor in her latest report, published last Friday.

"Few doubt that Asia will continue to soak up volumes and many players look to Asia for direction in the mid-to-long term."

The Singapore-located trader we quoted above, however, also told us: "Traders are now looking to re-export Middle East from China to Europe because they have overestimated the strength of demand in China."

By Malini Hariharan

Despite a bleak global economic environment in the near term and uncertainty on how deep the next crisis will be chemical industry executives appear to be remarkably bullish about future prospects as is evident in KPMG's latest industry survey.

Eighty five per cent of the 142 senior chemical industry executives surveyed in June expected revenues to increase next year.

Among the different regions, executives in the US were the least optimistic but even here 77% predicted a revenues to grow in 2012. Asian executives were understandly most bullish with 96% confident of revenue growth with 49% expecting a significant increase and 47% seeing a moderate increase.

The confidence was despite expectations of higher raw material costs next year and concerns among European and US executives on the macro economic risks.

So where will growth come from? The most cited answers were expansion in new markets, new product development and acquisitions.

Sixty six per cent of executives said their companies would be involved in a merger or acquisition as a buyer in the next two years. In addition, 70% of executives said their companies had enough cash on the balance sheet to pursue strategic acquisitions.

And 80% planned to boost capital spending next year, for new products and services, acquisitions, and research and development. All of the executives surveyed in Asia-Pacific predicted higher capital spending.

The optimism in the survey is very different from the current mood on the ground for many petrochemicals. As mentioned in the Monday post, the peak demand season in China has turned out to be very weak and there is a general reluctance on part of Asian buyers to hold stocks. In Europe too, weak demand has started exerting downward pressure on prices.

The American Chemistry Council (ACC) said in a recent report that there has been a "marked deceleration [in chemicals production] in some countries and regions, a downturn." It added that most leading indicators of global industrial activity signalled "further softness".

The survey makes interesting reading but it is best to take the results with a pinch of salt.

By John Richardson

IT was interesting to read late last week about how certain chemicals analysts still believe that the big slump in the sector's share prices might merely be a rough patch, possibly just a correction.

In this same excellent piece from my colleague Nigel Davis, Citi US chemicals analyst PJ Jukevar talks about how "battled tested" chemicals companies" have learnt since 2008/2008 to put "value over volume". In other words, capacity will again be quickly shut down to bring markets back into balance if we do end up in a protracted downturn.

There is also a lot of discussion about two classes of chemicals companies. This comprises those more exposed to the cycle because they make highly commoditised stuff where there is lots of competition, against products where there are fewer players and so more of an ability to exercise market discipline (plus more "value-added" differentiation).

This latter group might get through the rough patch relatively unscathed, argue some chemicals analysts.

Regular readers of the blog will hardly be surprised to discover that we don't agree with any of this.

In our view it was Federal Reserve liquidity that was a substantial factor behind driving share prices, in general, higher during 2008/09. The chemicals sector rode on the back of this and also benefited from cost savings, the operating discipline Citi talks about - and China's economic stimulus package.

Fed liquidity did not mean that on a global basis demand was back where it was before the crisis during the 2009/2010 recovery, even though emerging markets were booming.

The rise in share prices was substantially because investors - faced with record-low interest rates in the US - were chasing higher returns in equities, oil prices and other commodities. The oil price remains in demand destruction territory thanks to the speculators.

The signs are that the Fed might not be able to extend its ultra-loose liquidity policy much beyond keeping interest rates very-low for the next two years - because of resistance within the Fed.

Plus, of course, there is global aversion to risk - benefiting government bonds, gold etc at the expense other commodities and equities. There will be mini-recoveries in the appetite for risk, sure, over the next weeks and months, but this will not mean a return to a bull market.

The reason is the macro-economic problems. No matter where you turn they are mounting, evolving and together represent a once-in-a-generation shift to a New Normal.

Take the Eurozone and the bitter divisions over how to solve the crisis as just one example.

Germany's Finance Minister Wolfgang Schauble has rejected International Monetary Fund (IMF) calls for a softening of the European austerity drive.

"Pursuit of debt reduction by deflation only - in a world whose savings rate is already at a record high - means the Euroland recession could well be prolonged and deepen into a recession next year," Charles Dumas from Lombard Street Research told yesterday's Australian Financial Review.

Two years on from the start of the Eurozone crisis, we still seem to be some way from broad agreement on how to solve the crisis. This does not bode well.

India has now raised interest rates 11 times since March of last year and food-price inflation has been above 9 per cent for five weeks in a row.

A new global food crisis - driven by fundamental changes in the demand and supply of food - threatens emerging-market growth in general. This raises questions about existing emerging-market growth models.

China continues to struggle with the harmful side effects of its stimulus package.

Attempts continue to cool inflation without preventing a collapse in property prices that would leave the country with a potentially destabilising non-performing loans crisis. As we discussed earlier this week, the latest attempt to rein in liquidity - a change in how bank-reserve requirements are calculated - has further reduced the ability of chemical traders and buyers to source credit.

China's 12th Five-Year Plan (2011-2015) involves perhaps the biggest overhaul in economic policy for a generation. This looks likely to set the economic direction for the next decade or more, not just the next five years.

Policy changes are going to have a big, disruptive effect on chemicals demand.

Take the auto sector as one example.

Government policymakers are leaning towards more limits on the rise in car ownership in order to address China's steeply rising dependence on imported oil, its traffic jams, air pollution and shortages of land in many areas for more road construction.

This is despite strong industry pressure to reinstate reduced sales taxes and subsidies for rural purchases. The incentives resulted in a 33% surge in sales in January-July 2010 over the same period in 2009. After the incentives were removed, January-July 2011 sales were up by just 5 per cent.

Individual cities, such as Beijing, have also introduced restrictions on new vehicle registrations in order to deal with chronic traffic congestion and dreadful air quality.

The government is considering raising minimum kilometres per litre, or miles per gallon, requirements for new vehicles - and introducing new subsidies to promote the production and sales of fuel-efficient and battery-powered cars.

For the numerous foreign and auto makers who are building-up capacity in China - perhaps on the assumption that the old growth model still applies - these are worrying times. Annual auto production capacity is expected to rise from 17 million vehicles in 2010 to 31 million vehicles by 2013, according to consultants JD Power & Associates.

All chemical companies fall into one category - those dependent on demand.

There are fewer producers of polyurethanes (PU) than say polyethylene (PE), and so the PU producers might be able to react more effectively in the short term to declines in demand.

But the scale of the global economic changes we are undergoing at the moment - as we enter the New Normal - are so great that nobody can possibly be immune.

And this is not merely a rough patch or a correction.

By John Richardson

THE blog hears that some industry observers are persisting with the Supercycle theory for petrochemicals based on "decoupling" - i.e. emerging markets will compensate for any new recessions in the West.

We find this baffling as evidence points to a lost year of growth in China. The prospects for next year seem to us highly uncertain because of a host of factors which we will examine in detail over the coming weeks - including the objectives of the 12th Five-Year Plan (2012-2015). And, as we discussed on Monday, the struggle against inflation seems likely to extend into 2012.

Returning to 2011, several contacts have commented that they cannot understand how we keep talking about flat, or even negative, growth for polyethylene (PE) when GDP growth is still forecast to be a very-healthy 8-9 per cent.

This is the explanation we have been given by a Shanghai-based polyolefin industry executive:

"I think PE demand growth will be flat this year because so much stock was built up at the resin end of the business down to finished goods during the great credit flood.

"A lot more traders came into PE and into commodities generally, and started to speculate and take long positions during 2009-2010 when credit was easy.

"They were caught out in March/April when the market turned bearish and are still, as a result, sitting on high inventory levels.

"I think also that there must be a great many finished goods in storage because of the lack of consumer confidence. There is a real, tangible increased fear over the future and I see less consumer spending and more savings."

Traders are suffering from a reduction in liquidity as a result of increased interest rates and bank-reserve requirements, we think. They have also been affected by an adjustment in how banks are required to calculate their reserve requirements.

So it seems likely to us that in this credit-starved environment with demand so uncertain since March/April, many traders have been forced to dump material on the market, thereby suppressing prices and reducing demand for new material. Numerous traders have reportedly gone bust.

Polypropylene (PP) looks a little better as demand will still grow by 4-5 per cent this year compared with 2010, added the industry executive.

PP demand has been badly dented by the removal in government subsidies for autos. The removal of subsidies is part of both the efforts to control inflation and a major strategic shift of economic direction under the 12th Five-Year--Plan. It therefore seems unlikely that they will be restored.

"For polyolefin operating rates to stand still - i.e. where they were last year - you would need the China market to grow at 6-8 per cent during 2011," added a chemicals analyst.

"If the Supercycle theory were to come true you would need growth in China to be in the region of 10 per cent, which is clearly not going to happen this year.

"The West is almost certainly heading for recession. It must not be forgotten that the US and Europe still account for around 60 per cent of global polyolefins demand."

"Flat or negative growth in the West for polyolefins seem possibilities, making it even harder to support the notion of a SuperCycle.'

Quite.......

By John Richardson

EVERYWHERE you turn it is bad as fear over the future dominates the mood of polyolefin producers and buyers.

Aversion to risk seems to have increased because of the concern that this could be September 2008 all over again. Hand-to-mouth buying is the norm as no purchasing manager who values his or her job wants to be caught on the wrong side of a sudden collapse in crude-oil prices.

Last time around, when Lehman Bros went bust in September 2008 triggering the global financial crisis, governments came to the rescue through economic stimulus.

Markets were also buoyed by frequent technical problems at new Middle East plants during the 2009-2010 recovery. The great supply surge was always going to happen next month, then the month after that and so on and so on. Traders, supported by plenty of easy financing in China, were all-too happy to "help out" buyers who suddenly found themselves short of material.

Austerity is now a widespread policy in Europe with doubts over the extent to which the US will be able to overcome its political divisions and further boost its troubled economy.

Limited help for China's struggling small -and medium-sized enterprises (SMEs) has been announced in certain areas of the country over the last two weeks. The central government has also indicated that it might introduce nationwide measures to help the credit-starved SMEs, which make up the bulk of China's chemicals and polymer buyers - and which account for more than 50 per cent of economic output.

But the battle against inflation - the reason why credit conditions have got worse for the SMEs - looks very likely to stretch into next year. This would mean no great improvement in overall tight lending conditions that have badly dented China's chemicals trade throughout 2011.

"We were all taken a bit by surprise by the August inflation number at 6.2%. We had expected it to fall to 5.9 %, but it looks as if underlying inflationary pressure is stronger than we thought," said a sales and marketing executive with a major polyolefin producer.

"And so we don't expect any positive changes in the liquidity situation in China this year and probably well into 2012."

Beijing is struggling to deal with the harmful impact of its huge 2008 economic stimulus, which includes not only higher inflation but also a steep rise in non-performing loans due to over-investment real estate and other sectors, warn economists.

It cannot, therefore, risk a major relaxation in lending conditions - perhaps even if the global economy enters a new recession.

The government also seems to recognises that its investment-driven growth model is no longer sustainable for environmental reasons, hence the decision to end subsidies for auto purchases.

Since the subsidies were removed last December, auto sales have increased by just 5 per cent in January-July 2011. This compares with a 33 per cent increase for the full- year 2010.

"Polypropylene (PP) prices have come under a lot of downward pressure recently," said a Shanghai based sales and marketing executive with a second major polyolefin producer.

"I think a big factor here has to be autos. We are seeing an erosion of premiums for co-polymer grades (used in auto production) over homo-polymers."

High domestic polyethylene (PE) inventory levels, particularly in low-density PE (LDPE), have been weighing heavily on markets, he added.

Warehouses in Iran are also reported to be full of LDPE that is expected to put downward-pressure on prices in China, Europe and South Asia.

"I think LDPE, which had been tight for so long on very-limited global supply, became too-expensive and has suffered from demand destruction," added this second sales and marketing executive.

As for the Middle East supply story, a chemicals analyst believes that many of the production problems that plagued new plants during 2009-2010 have been ironed out.