Budgeting for a downturn

The ‘consensus forecast’ for 2008 is very optimistic, as I commented in my post-EPCA note. It says oil will remain at $70/bbl, that debt market problems will be contained, and that petchem margins will remain at 2007 levels. This is unusual, as the consensus is normally a base case scenario, with upside and downside variants.

And since EPCA, oil has already increased to around $90/bbl. Back in early July, when it was still ‘only’ $70/bbl, I noted that it had the potential to approach $100/bbl, and this still seems a real possibility. In these circumstances, it is perhaps no surprise that we are seeing an apparent ‘boom’ in demand, as downstream consumers rush to cover themselves before product prices move higher.

I first saw this effect happen in 1979, when the industry had a record year. It was only in 1980 that we discovered that the apparent ease with which the economy had weathered a rise in the oil price to $30/bbl (around $95/bbl in today’s money), was a mirage. Could the same be happening today? I think it is worth considering very carefully as a possibility.

After all, whilst history never repeats itself, the underlying position in financial markets is clearly deteriorating. Bank of America (the 2nd largest US bank), came out with truly shocking Q3 results on Thursday, whilst on Friday Caterpillar’s CEO Jim Owens said the US was already ‘near to, or even in, a recession’. And new housing starts and US house prices were already very weak, even before the recent credit crunch.

There must surely be a real possibility that this latest upward rush by the oil price will be the catalyst that finally causes the US consumer to cut back on non-essential spending. Equally, the continuing problems in the banking sector may well turn off the tap of consumer, and maybe even corporate, lending.

If I was drawing up budgets for 2008, I would be putting in place contingency plans for just such an outcome, even whilst crossing my fingers that I would not have to use them.

About Paul Hodges

Paul Hodges is Chairman of International eChem, trusted commercial advisers to the global chemical industry. The aim of this blog is to share ideas about the influences that may shape the chemical industry over the next 12 – 18 months. It will try to look behind today’s headlines, to understand what may happen next in important issues such oil prices, economic growth and the environment. We may also have some fun, investigating a few of the more offbeat events that take place from time to time. Please do join me and share your thoughts. Between us, we will hopefully develop useful insights into the key factors that will drive the industry's future performance.

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