Chemicals & The Economy

A blog reader has kindly pointed out the potential impact of GM's new Volt car on the chemical industry. The Volt will have an operating range of 40 miles (64km), when it becomes available in 2010. According to GM, it will enable 75% of America's daily commuter journeys to take place without using gasoline. And US drivers currently use over 9mb of gasoline every day.

So if Volt sales take off, chemical companies should benefit. Refiners would be encouraged to make more naphtha instead of gasoline, and this increased supply could also lead to relatively lower prices for the industry's largest feedstock.

Ken Rogoff was Chief Economist at the IMF, and is now a Harvard professor. His view on Wall Street's current problems is refreshingly different. Writing in The Guardian, he notes that 'efficient financial systems are supposed to promote growth in the real economy, not impose a huge tax burden'. But, he adds, 'the US financial sector, in greasing the wheels of the real economy, has been soaking up an astounding 30% of corporate profits and 10% of wages'.

Rogoff therefore wonders whether 'significant shrinkage of the financial sector, particularly if facilitated by an improved regulatory structure, might actually enhance efficiency and growth?'

Warren Buffett, the world's leading investor, was quite candid yesterday in his views on the US economy. `In my adult lifetime, I don't think I've ever seen people as fearful, economically, as they are right now,' Buffett, 78, told PBS. 'They are not wrong to be worried'. He added that a lack of short-term credit is `sucking the blood out of the economic body of the United States.'

Buffett is a long-term investor, who says his favoured holding period for stocks is 'forever'. But even he added that, whilst he assumes a bailout bill will soon pass Congress, he doesn't expect much improvement in the economy over the next 6 months.

Will Beacham of ICIS radio did a 6 minute interview with the blog this week at EPCA. It focuses on the impact of the credit crunch and the high oil price, and provides advice on how to prepare for the downturn.

If you would like to hear it, please click here.

Last March, the blog noted an excellent article on Iceland by Gillian Tett of the Financial Times. She argued that Iceland was 'the first country run like a hedge fund'. And she worried that its banks might prove not 'too big to fail', but 'too big to rescue'? Now, it looks as though we are close to finding out the answer.

In 2007, according to Bloomberg, the assets belonging to Iceland's 3 biggest banks were 9 times the country's GDP. But on Monday, the government had to bail out the 3rd largest bank, Glitnir, to save it from bankruptcy. And now the Wall Street Journal reports growing doubt about the government's ability to rescue any other large banks.

After months of denial, Iceland's government has finally begun to face facts. On Thursday, the Prime Minister, Geir Haarde, warned that 'Government, companies, households and people have seldom faced such great difficulties'. But it may already be too late, as there are suggestions that the country will soon require a rescue package from the International Monetary Fund.

'Buy on the rumour, sell on the news' is the classic definition of a weak market. So the US stock market's reaction to the passing of the US bailout is a worrying indication that further problems may lie ahead. On 19 September, the Dow rocketed to 11388 as the bailout was confirmed. Last night, as the bailout passed into law, it closed 9% lower at 10325.

Nor do we yet know all the answers to the 5 key questions that worried the blog when the proposal was first announced last month:

What is the likely total cost? We know the cost has risen by $150bn plus from the original $700bn requested, in order to gain support from the House of Representatives. But as the New York Times points out, the bailout still has to 'put a dollar value on mortgage related assets that nobody wants'. And previous bailouts in the 1930s and 1990s ended up costing at least twice the number originally proposed.
Is it a done deal? The blog was clearly right to suggest that the bill might well not pass in its original form. And even now it has passed into law, there are serious questions over how it will operate. Will Congress allow tens of $bns to be siphoned off by Wall Street in fees, as apparently proposed by Treasury Secretary Paulson? And will he really be allowed to recruit former colleagues from Goldman Sachs 'to advise him'?
How will the money be spent? It is being suggested that it will take at least 6 weeks to put the necessary systems in place. But already people such as Alan Blinder, former vice chairman of the Federal Reserve, are warning that 'you need to worry about conflicts of interest' when it comes to 'determining the bailout's winners and losers'.
Who will pay the bill? As expected, there are no tax increases planned. So the Treasury will have to borrow from domestic and overseas markets instead. With credit already tight, this may well 'crowd out' borrowing by companies and individuals, as happened in the 1970s.
Will it solve the crisis? The final package is clearly an effort to re-start interbank borrowing. But as the blog noted originally, nothing is being done about the underlying cause of today's crisis, namely 'the excess supply of homes and the large number of mortgage borrowers in dire straights'. Until this is addressed, it is hard to see how markets, and the 'real economy' in which the chemical industry operates, can truly recover.

Against this background, 'buy on the rumour, sell on the news' seems an entirely logical reaction.

The blog has long worried about the high levels of debt that have been incurred by some companies in recent years. So it applauds Akzo's decision to halt its planned €3bn share back at the half-way stage. As Nigel Davis notes in ICIS insight, Akzo has a very strong balance sheet, and its 'gearing is only 10%'. But even so, Akzo apparently cannot currently 're-finance short-term bonds'.

In today's difficult times, everyone looks to the majors for guidance on what is happening, and what it all means for the industry. So the blog welcomes the advice given by Graham van' t Hoff, newly appointed VP for base chemicals at Shell, when he spoke to ICIS news at EPCA.

He emphasised 3 areas:

• Cost competitiveness 'in the right place'
• A strong balance sheet, to avoid having to 'run very short term'
• Investment in 'advantaged cracker feeds globally and in closer refinery integration'

September was another difficult month for the cornerstones of US chemical demand, autos and housing:

• GM cut prices dramatically via its 'Employee discount for everyone' programme. But even so, sales fell 16% versus last year (blue column)
• Toyota (red column), fell 30%
• Ford (green column) fell 34%
• Chrysler (purple column) fell 33%

Auto sales were down 27% overall, and Ford CEO Alan Mulally said he didn't expect any recovery before 2010. Chrysler's President, Jim Press, added that 'its hand-to-hand combat' in the auto market at the moment.

Meanwhile house prices continued their 'record decline' according to the S&P/Case-Shiller index, and are now down 17%. S&P noted that, by comnparison, the 'record low was -6.3%' during 1990-2.

A year ago, the blog was in a minority of one, with its forecast for 2008. Its heading was 'Budgeting for a Downturn'. By contrast, the consensus post-EPCA was for $70bbl oil, debt market problems to be contained, and for chemical margins to remain at 2007 levels.

This year's EPCA mood was different. There was an acceptance that a downturn was now underway. The only question was whether this would be short, or lengthy. The blog believes it will be multi-year, on the basis that not only are we entering a global economic downturn, but we are doing this at a time when the oil price is high, and when over-capacity is developing in almost every major product area.

As discussed in my ICIS radio interview, it is also clear that a financial crisis is already well-advanced, even before the economic downturn has really taken hold. What will happen if/when major industrial companies crash over the next few years? Experience from the multi-year recessions of the early 1980's and 1990's suggests that this is probably inevitable. We do not know how this will play out, but it is unlikely to be pleasant.

However, experience from previous recessions also shows that 'self-help' is a better policy than simply waiting for 'something to turn up'. The former allows companies to become 'players', and to retain some control over their own fate. The latter leads to the development of a 'victim' mentality, in which apathy develops and critical issues are left undecided.

It is also important to remember that economic cycles have always been a part of life in the chemical industry. The last 4 years have been amongst the best in our history, and we have enjoyed blue skies. So whilst there are now storm clouds ahead, a 3 - 4 year downturn does not mean that the industry will never recover.

Photo courtesy of www.freefoto.com

The blog has given up counting the number of US banks that have failed in recent weeks, away from the headlnes. Ken Lewis, CEO of Bank of America, predicted last month that half of all US banks would fail, and he is well placed to know.

Bank rescues are also rising across Europe. The German government last night supported a €50bn ($68bn) rescue for Hypo Real Estate, the country's 2nd largest real estate lender. Whilst France's biggest bank, BNP Paribas, took control of Fortis Bank in Belgium and Luxembourg for €14.5bn after a government rescue failed. Germany also followed Ireland's example in guaranteeing bank deposits, to avoid further bank runs this morning.

Against this dreadful trans-Atlantic background, the UK government is moving to address one of the fundamental issues. The Financial Times reports today that Finance Minister, Alastair Darling, is considering a taxpayer-funded 'recapitalisation of Britain's banks' as part of 'some pretty big steps which we would not take in ordinary times'.

Darling impressed the blog in August with his realisation that the 'global economy is at a 60-year low'. His move mirrors the successful Swedish response to a similar banking crisis in the early 1990's, which was also caused by a bursting property bubble.

This model only allowed the strongest banks to survive, and GDP still fell by 5% over 3 years. But its use of government money for selective recapitalisation is now viewed 'as one of history's most successful financial system bailouts'.

The moment the blog has long feared, and warned about, may be about to arrive. It appears that we may be about to revisit 1980, when for some weeks it seemed that demand for many petchem products had simply stopped. As Nigel Davis notes in an excellent ICIS insight article, we are not there yet. But the warning signs are building.

As he observes, 'the slowdown in demand growth has until now been masked by supply chain inventories, but those clouds are drawing back to reveal the true situation. Producer stocks are building as the situation deteriorates. Polymer prices have fallen sharply over the past two weeks.'

The causes are the same as in 1980:

• End user demand for polymers is focused on housing/construction and autos. As the blog has chronicled over the past year, this demand has collapsed by 20 - 60%, depending on country.
• The petchem industry, however, has been living in a 'parallel universe'. All down the value chain, buyers were instead focused on buying ahead of likely oil price rises.

As I noted in my radio interview last week, the 1980 experience tells us what to expect. First, buyers have to reduce their stocks to more 'normal' levels. This probably took place in Q3. Now, they have to adjust stocks to today's actual level of demand, which is a lot lower than 'normal'. This process will probably take most of Q4.

I remember 1980 as the scariest moment of my 30 year chemical career. We simply had no idea what was happening to us. If your Board would like to talk about the current situation, and to discuss how to manage it, please contact me. I will be happy to use my experience to try and help.

The UK is to invest £50bn ($85bn) to rescue its major banks, via part-nationalisation. In addition, it will provide unlimited amounts of cash via loans. The aim is to try and unfreeze the UK's banking system, which has been on the verge of collapse. Unlike the USA, there is no disagreement amongst the major parties over the need for the rescue.

In fact, the initial defeat of the US bailout bill last week, seemed to spur a sense of 'this mustn't happen here' amongst UK politicians. A new consensus is also beginning to form about the relative roles of government and markets. As summarised by Michael Skapinker in the Financial Times, this is based on the principle of 'the markets where possible, government where necessary'.

The International Monetary Fund (IMF) has now increased its estimate of total sub-prime losses to $1.4 trillion, versus $945bn in April. It estimates banks will need to raise $675bn in new capital. And Dominique Strauss-Kahn, the IMF MD, has called for the major economies to respond to the credit crisis with 'a collective commitment by authorities to address the challenges directly'.

The annual IMF meeting of the world's finance ministers takes place this weekend in Washington DC. This would be the perfect opportunity for such a collective commitment to be made. Chemical company executives will certainly share Strauss-Kahn's view that 'the time for piecemeal solutions is over'.

The German word 'Zeitgeist' describes 'the ethos or mood' of a select group of people. Back in January, the blog noted a change underway in the financial zeitgeist. Today's Wall Street Journal, normally a cheerleader for the financial community, provides a further example. After reviewing the losses to her personal portfolio, and considering how current financial market events compare to those at the start of the Great Depression, Karen Blumenthal writes:

'For more than a decade, I have gone to my local elementary school to tutor. There I spend time reading with children who own no books of their own, whose families can't afford school supplies and who have never been to a dentist. For the price of 45 minutes a week, I return to my desk feeling as wealthy as any one person needs to be'.

The blog welcomes the co-ordinated action by central banks, including the US Federal Reserve, European Central Bank, and the Banks of England and China, in cutting interest rates. Anything that suggests policymakers are starting to get their act together is good news.

But as the blog has argued since February, cutting interest rates in today's financial climate is like pushing on a string. Today's cut similarly seems to be more gesture politics than a strategy to tackle the real causes of today's problems - overleveraged banks, and collapsing housing markets.

Prospective lenders have clearly found current rates of interest unattractive, and so have exited the market. The blog therefore finds it hard to believe that cutting their potential reward will now encourage them to return

Readers may remember the satirical John Bird/John Fortune video on the causes of the housing crisis. Now the Financial Times Diary has provided a satirical view of the causes of the banking crisis:

A new bank model
1) Take money from members of the public in savings accounts on pretext of keeping it safe
2) Use that money to lend to people who are unlikely to repay it.
3) When loan defaults rise and wholesale markets dry up, start refusing loans and credit to those who are able to repay.
4) Resist paying more for insurance scheme to guarantee savings accounts. You can always take money from the public, through nationalisation, as the price of keeping their money safe.
5) As investors notice structural weakness, start hoarding cash.
6) When this leads to system crisis, take money from the public by offloading bad loans by swapping for Treasury bills at Bank of England.
7) As turbulence continues, stop lending money to businesses.
8) Take more money from the public through government recapitalisation, in return for promise to keep lending people their own money.
9) Slash dividend. Create new executive remuneration scheme.

As the blog predicted, Iceland has been forced to call on the IMF for help. Finally, the country's leaders have recognised that their $20bn economy couldn't support the level of debt built up during the 'go-go' years. The pity is that it took them so long to recognise reality - and by then, any chance of avoiding disaster had long since disappeared.

The credit crunch began over a year ago. But it took until yesterday, when the UK government part-nationalised the country's banks. for a sensible policy response to begin to emerge. Today, the excellent Gillian Tett of the Financial Times pulls no punches in her assessment of what went wrong. She believes that 'London does now have a chance of stabilising its banking system. The tragedy is that it took so much incompetence and denial - on both sides of the Atlantic - to arrive at this point.'

Collapsing housing markets are creating major problems for chemical companies worldwide. Now JD Power, the leading auto industry research firm, is warning that 'the global auto market in 2009 may experience an outright collapse.' They add that 'while mature markets are being impacted more severely than emerging markets, no country or region is completely immune to the turmoil'. 2008 sales are already weakening:

• They forecast US volumes will be down 16%, with any recovery 'more than 18 months away'
• China's growth will be down to 10%, versus 24% in 2007
• India will grow just 5%, versus 16% last year
• Europe will be down 3% overall, with W Europe down 8% and growth in E Europe 'slowing considerably'.

CEOs will need to revisit their Downside scenario in the 2009 Budget, and check once more that it really is robust in the face of such forecasts.

Winston Churchill, a long-standing friend of the USA, once irritably but acutely observed that 'one can rely on America to get to the right conclusion, when all other options have been exhausted'. So, hopefully, it will prove with the financial crisis.

Tonight, Bloomberg and the New York Times are reporting that US Treasury Secretary Henry Paulson 'is planning to buy stakes in a wide range of banks within weeks, as the credit freeze increasingly threatens to tip the U.S. economy into a deep recession'. The cost being talked is $200 - 300bn.

This has to be the right thing to do, via the purchase of preference shares. But the sum talked sounds too little to the blog. After all, the UK government is investing at least $87bn in its bank purchases, in a much smaller economy.

The purchases also need to happen much more quickly than 'within weeks'. The US$ has just slipped below ¥100: $1, and as the blog noted last November, any sustained fall below this level 'would take us into uncharted water', and create the potential to add a currency crisis to the banking and housing crises already underway.

Many new readers have turned to the blog, to better understand what is happening in the financial world, and to chemicals demand. They might like to start with the 7 September posting, which forecast the current collapse: 'The price of all assets will go down'

Also, here is a list of recent postings:
Financial crisis
US to follow UK in buying bank shares
'Incompetence and denial'
Iceland calls in IMF
Europe, N America, China cut interest rates
The zeitgeist continues to change
The time for piecemeal solutions is past
UK part-nationalises its major banks
The Swedish model
Bailout bill passes, Wall Street falls

Housing crisis and chemical demand
Credit crunch causes demand destruction
Auto markets face 'outright collapse' in 2009
'Demand and prices in free fall'Blue skies disappear
US car sales plummet, house prices fall again
Shell's priorities for the gathering economic storm
Akzo halts share buybacks

And finally, for those who would like a break from it all:
A satirical look at the banking crisis

OPEC has called an emergency summit for 18 November 'to discuss the global financial crisis, the world economic situation and the impacts on the oil market'. Its president, Chakib Khelil, added that it was 'very likely' they would cut output. This morning's price is already down to $80/bbl, with US total products demand down 8.6% in the last month as recession bites. OPEC could well be trying to hold the floor at $50/bbl by the time they meet, unless conditions in financial markets improve quickly.

Ratings agency S&P warn today that a major recession might force the 3 top US carmakers to file for bankruptcy. Clearly they share JD Power's fears, noted yesterday, about the potential for an 'outright collapse' in global auto markets. S&P says operating cash-flow needs at the firms are 'substantial', and adds that they face a 'serious challenge' in 2009.

Chemical company CFOs have some difficult decisions to make in the light of this situation. If they cut off credit to the companies, then they help to hasten any possible bankruptcy filing. If they continue to sell normally, they risk major losses if the worst happened. And if they cut off credit, whilst others continue to supply, then they will find it difficult to make up the lost sales volume elsewhere in current market conditions.

It is nearly time for the blog's annual forecast of chemical industry prospects. Of course, past performance is not necessarily a guide to future outcomes. But it is one of the better guides that we have. So before publishing the forecast next weekend, it makes sense to assess the blog's credibility by looking back at last year's outlook.

This was titled 'Budgeting for a downturn'. It took issue with the then current consensus, suggesting that this was 'very optimistic' in its belief that 'oil would remain at $70/bbl' for the year, that 'debt market problems would be contained', and that 'margins will remain at 2007 levels'.

It argued instead that there was 'a real possibility' oil prices would reach $100/bbl, and noted the alarming parallels with 1979-80, when apparent petchem demand increased (due to stock-building ahead of likely prices increases), whilst actual end-user demand collapsed. It also worried that 'the underlying position in financial markets is clearly deteriorating', and that 'new housing starts and US house prices were already very weak'.

Its main concern was that 'the latest upward rush by the oil price will be the catalyst that 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'. It concluded that 'if I was drawing up budgets for 2008, I would be putting in place contingency plans for just such an outcome'.

The whole aim of the blog is to 'share ideas about the influences that may shape the chemical industry over the next 12 - 18 months'. The blog hopes that its 2008 forecast achieved this aim, and enabled readers to better prepare for today's more difficult economy.

You're looking at the man who, according to today's New York Times, is now responsible for 'choosing which US financial institutions live, and which die'. He's 35, and the assistant Treasury secretary for financial stability, Neel T Kashkari. His qualifications? He used to be a banker at Goldman Sachs, and is 6 years out of business school.

The blog feels distinctly underwhelmed. At this critical moment, was there really nobody in Washington capable of providing sound advice based on actual experience of managing financial crises?

Finally, as the blog noted with relief last week, there is a workable plan on the table to rescue the global banking system. On Saturday, the IMF warned of potential 'meltdown' if the plan was not approved. In the blog's view, they were right to do so. Yesterday's EU meeting could not afford petty politics and point-scoring.

As it was, the IMF says the meeting went well. We shall learn the details today, but the basic UK plan, under which governments will effectively take over the banking system on at least a temporary basis, seems to have been accepted. The major governments within the eurozone provided a lead. The smaller countries, not wishing to go the way of Iceland (now effectively bankrupt with $85bn debt and $20bn GDP), didn't complain.

The sums involved are enormous. The UK will be spending 3% of GDP to rescue its banking system. Germany will be committing €400bn ($540bn). All of this money will have to come from other budgets. So the 'real economy' is about to take an enormous hit. But, as the EU leaders recognised, they had no choice. Our economy cannot function without banks, so the price of rescuing them has to be paid.

The UK's Sunday Telegraph newspaper reports that 'Ineos, the chemicals group which is one of Britain's biggest private companies, is considering selling assets in an effort to reduce its debt burden'. It adds that 'the company, which has expanded rapidly through debt-fuelled acquisitions, is understood to be looking at disposing of a number of businesses in the US, according to people familiar with its plans'.

Sir Fred Goodwin, CEO of RBS, was one of the poster boys of the new banking model. Along with his peer group, he preached the virtues of the 'efficient balance sheet'. Equity was for wimps. The blog warned over a year ago that the 'seeming genius' in recent years of people such as Sir Fred 'has been due to nothing more than the application of high leverage during the 'up' part of the business cycle. As and when we go into the 'down' cycle, leverage will exert its same impact on the downside.'

This morning, Sir Fred is gone. So is Sir Tom McKillop as Chairman - a very talented and friendly man, but out of his depth when he moved from running AstraZeneca to chairing the 'go-go' bankers at RBS. Instead, Gordon Brown is now effectively the blog's bank manager, as the UK government will end up owning 60% of RBS in exchange for a £20bn ($35bn) capital injection - twice its recent market capitalisation.

Financial markets currently seem to be discounting the end of the world. So it would be no great surprise if the recent panic was replaced by a more balanced outlook. But the unusual feature of this recession is that the banks have already gone bust, even before the 'real economy' has turned down. So unfortunately, as the blog warned early last month, this probably means that deleveraging still has a long way to run.

In August, the blog welcomed the statement by UK Finance Minister, Alistair Darling, that the 'global economy was at a 60-year low'. It noted that he was 'the first western politician to abandon reassurance and instead to focus on the reality of current problems'. But it still took until last weekend before all the relevant policymakers had taken this message on board.

Financial markets are now busy celebrating their 'escape' from the prospect of a major Depression. And so is the blog, as an economy without functioning banks would have been difficult indeed. It is just a pity that this situation was ever allowed to occur. I spelt out the potential problems in a series of 3 letters to the Financial Times in 2006-7, but policymakers were too busy cheerleading the boom years to listen:

• On 3 November 2006, I argued we should 'beware lending institutions bearing gifts'
• On 27 March 2007, I called for 'action, not words, to end the liquidity party'
• On 4 September 2007, I summed up the problem in 'Every mania is based on an illusion'

As is the way of large organisations, Darling's boss, UK Prime Minister Gordon Brown, will now probably get most of the credit for the rescue that is now underway. But the blog tips its hat to him.

And before we all get too carried away, it is worth remembering that the housing crisis is still unsolved. This is the origin of current problems, and the events of recent weeks have nothing to help stabilise them. The continuing decline in house prices also remains the single most important problem facing the chemical industry, as it weakens demand in core customer sectors.

As the aptly named Mr Darling said in his famous August interview, the coming downturn 'will be more profound and long-lasting' than most people expect. He was right about the risk of Depression and, unfortunately, he is right about this too. The blog will analyse the issues this poses for the chemical industry next weekend, in its annual Budget outlook.

OPEC has called an emergency meeting for 18 November to discuss measures to combat collapsing oil prices. But as the blog noted last week, by then they could be looking to defend $50/bbl. And it seems Saudi Arabia agrees. Market reports suggest 'the world's top oil exporter has already started cutting oil supplies to European refineries'.

OPEC faces a difficult few weeks. It would be political suicide, just before the US Presidential election, to announce production cuts today. Equally, oil markets could quickly tighten in Q1, if the northern hemisphere has a cold winter. That could end prices soaring, just as a new President takes office.

Yet Saudi Arabia needs $60/bbl oil to balance its budget, Venezuela perhaps $90/bbl. Western oil companies also need high prices. Last month, Total's CEO Christophe de Margerie said Angolan exploration required $70/bbl to be viable, whilst Canada's oil sands needed $90/bbl. So any short-term price fall could mean higher prices later on, if crucial projects to maintain future supplies were now to be cancelled.

But this kind of logic is too complex for the US campaign trail. Hence the Saudi move to discreetly cut production now, away from the headlines, and postpone formal OPEC discussion. It rarely pays to bet against the Saudis, so $70/bbl could be at least a temporary floor. But they have a tough few weeks ahead.

On Monday, governments announced c$3.5 trillion of recapitalisation and capital injection into the global banking system. One would have then expected the major investment institutions to rally round in support.

But on Wednesday, they conspicuously failed to do this. Instead they argued that the taxpayer should provide yet more money, in the form of dividends from the bankrupt banks. Unsurprisingly, stock markets then swooned again.

It is these same shareholders, by their focus on quarterly earnings, who have completely undermined the long-term role of company Boards. They were the ones who pushed for ever higher gearing, and who tried to unseat managements at banks, such as LloydsTSB, who expressed any sense of caution about the likely consequences of such lending.

The blog increasingly suspects that today's convulsion marks the end of the 25-year bull market from 1982 to last year's final highs. It also suspects that the next 25 years will see a return to more sobriety and careful analysis amongst major investors. The bonus culture, and its focus on maximising short-term 'shareholder value' would then disappear.

In turn, this would enable Boards to return to their proper role, as defined prior to 1982, of taking stewardship of the business for the next generation.

Asian naphtha spreads versus crude oil have fallen to all-time lows. Dubai crude was reported at c$80/bbl last week, whilst naphtha was $30/bbl lower, at a price of only $50/bbl. This shows an extreme lack of demand for naphtha, and hence for petrochemicals. In turn, this is a leading indicator of economic downturn. ICIS news tonight is reporting European naphtha at $474/t, compared to Brent at $67/bbl. So it seems likely that Europe is following Asia's lead. A global recession, defined by the IMF as GDP growth of less than 3%, is almost certainly underway.

Events have moved quickly in oil markets in recent days. Last week, when oil was at $80/bbl, the blog argued that OPEC risked having to defend a $50/bbl price, by delaying production cuts until its 18 November meeting. Last night, OPEC signalled it agreed with this analysis, announcing that the meeting would now take place next Friday.

The blog has established a good record on oil price forecasts. And this seems to be another success. By last night, Brent had already fallen to $66/bbl, half-way to the blog's $50/bbl. And OPEC clearly felt it couldn't take the risk of further falls over the next month. Instead, as the blog noted on Wednesday, it will have to take the political risk of announcing production cuts just before the US Presidential election.

Today sees a supportive follow-up in the Financial Times to yesterday's posting about LloydsTSB, and its willingness to rebuff those who parroted the 'shareholder value' mantra. The man who led the bank's director development programme reveals that its former Chairman, Sir Brian Pitman, 'drummed into us that the board's main focus was to ensure continuing economic value added by balancing three seemingly incompatible issues:

- the reasonable demands of the shareholders
- the cost of capital
- ensuring the long-term health of the business.

In addition we had to have the professionalism and moral courage to say "No" to any unreasonable demand of the owners and to be ready to resign if necessary.'

The blog prefers to be optimistic. But 30 years in the chemical industry has taught it to be extremely realistic. So its motto for 2009 Budgets is 'batten down the hatches'. Chemical companies are likely to be sailing in some very rough seas, with treacherous currents and plenty of dangerous rocks. Survival, not growth, is therefore the prudent objective.

The key question is whether your business is robust enough to survive an extended period of low volumes and margins, against a background of tight credit markets, and continuing volatility in oil and currency markets?

Companies therefrore need to change their 2009 budget process in response to this challenge. Normally, they would develop a 'base case', and then investigate 'upside' and 'downside' scenarios. This year, companies should instead focus on the key variables around their survival Budget, so that they are prepared for most possible outcomes.

Futures markets are taking an increasingly gloomy view of oil demand. And over the past 2 weeks, the volume of NYMEX contracts to sell crude at $50/bbl has soared 50-fold. But so far, as the blog expected, physical prices have stabilised at the $70/bbl level in advance of OPEC's emergency meeting on Friday.

Current OPEC President, Chakib Khelil, today indicated OPEC will probably cut production, in stages, by between 1 - 2 mbd. This would be a bold move, just before the US elections. But many OPEC governments simply cannot afford further price falls, if they are to balance their budgets, and so they may well decide they have to take the political heat.

As the blog noted earlier this month, everyone looks to the majors for guidance during difficult times. It therefore welcomes today's comments from SABICs CEO, Mohamed Al-Mady, when announcing their Q3 results. SABIC are probably the strongest petchem producer in the world, with experienced management and access to advantaged cost feedstocks.

Al-Mady confirmed that SABIC has completed the financing of its new projects. But he then added that " the expected global recession may lead to a decline in demand for products in most of the international markets". This is clearly a carefully worded comment, which anticipates an actual decline in demand, and not just a decline in growth rates. Al-Mady's downbeat view seems similar to the blog's, which yesterday published its own 2009 Outlook, 'Budgeting for survival'.

China was the first major country to recognise the need for economic restructuring, back in August. Today, the State Council announced further details of its plans, as Q3 GDP growth slowed to 9%. Agriculture and rural development are now the key priorities. This builds on the recent Communist Party decision, described as being of "historic importance", to allow villagers to "transfer their land-using rights to market-oriented farm corporations".

By making farming more rewarding, China clearly hopes to keep more villagers on the land. This would increase food production, and help to avoid social problems in the cities. At the same time, China is not abandoning industrial development. The Council announced that it will also increase export rebates, encourage financial institutions to hand out more loans, and will provide support for technology innovation.

The new policies are entirely logical, and make good sense for China. Chemical companies will need time to absorb their implications. But at first glance, it appears that they are unlikely to provide much direct support for chemical demand, with the exception of agrochemicals. China's interest in remaining the manufacturing capital of the world may be starting to wane.

We now have an possible indication of how far house prices may have to fall in some parts of the USA, in order to attract buyers. Last month, Southern California saw a 65% rise in property sales versus September 2007. The reason, a major increase in foreclosed properties for sale. The impact on prices was severe - median prices dropped 33% versus last year, and are now down 39% from their peak.

One of the oldest rules in investment is that 'When a good management finds itself running a bad business, its the reputation of the business that survives'. Legendary US investor Kirk Kerkorian has just proved he is no exception. Back in April, he spent $1bn on buying a 6.3% stake in Ford Motor Co, and publicly supported its turnaround plan. Today, his stake is worth around 1/3rd of its initial value, and he has begun to sell. If Kerkorian is giving up, then this suggests that Ford may not have long to survive in its present form.

When Manchester United play Newcastle on 4 March next year, the US government will also be playing the UK government. United's main sponsor is AIG, now owned by the USA, whilst Newcastle's sponsor, Northern Rock, is also nationalised. West Ham, of course, were sponsored by an Icelandic bank, now bust.

The President of the UK's Football Association warned recently that the $5bn debts of the main Premier League clubs were 'high risk'. The clubs, just like many banks in recent months, immediately denied this. But the fact remains that the blog's team, Manchester United, have debts of $1.2bn; Chelsea owe $1bn: Arsenal owe $700m and Liverpool owe $600m. And only Arsenal made a profit last season ($60m), whilst MUFC lost $100m, Chelsea $125m, and Liverpool $35m.

These losses were in spite of the clubs' receipts from the current $4.6bn Sky TV deal. And the blog does wonder whether the clubs will be able to renew this on similar terms next season? Equally, will UK football fans continue to pay $100/match for the cheapest seats as the UK recession bites? Is this the real reason for Cristiano Ronaldo's unusually thoughtful face, as he turns out at Old Trafford each match?

The moment the blog has long feared has now begun to happen. Celanese chairman David Weidman said on Tuesday that acetic acid prices in Asia had dropped sharply in recent weeks. "Basically, orders just stopped", he added. It is almost certain that this moment will now be repeated in other product areas and in other regions, particularly as customers will be aiming to keep working capital low for year-end reasons.

The blog warned a year ago in Budgeting for a Downturn that this cycle was probably underway. And earlier this month, in 'Demand and prices in free fall' it suggested that the 'Hodges moment' (cf last month's 'Minsky moment' in banking markets) was about to arrive.

The 'Hodges moment' is when everyone in the chemicals value chain suddenly realises that they have been living in a parallel universe. Whilst they have been building inventory in advance of future oil price-related increases, demand in the real economy has been collapsing.

Now, the task is simple. Those of us who had the misfortune to be around in 1980, at least know what needs to happen next. Supply and demand need to be rebalanced to today's lower level of demand as quickly as possible. The blog also hopes that its recent 'Budgeting for Survival' will provide a helpful scenario for those seeking to 'test' their thinking in today's difficult market conditions.

Many Asian companies have been cutting back petchem production in recent weeks. Now TOTAL have become the first to follow suit in Europe, with the announcement that they will shutdown the Carling No 2 cracker for a month from mid-November. These decisions are never easy. But as the blog has noted before, when times are bad, the industry looks to the majors to take a lead. The blog therefore applauds TOTAL's management for biting the bullet, painful as it will be.

It also applauds Dow CEO, Andrew Liveris, for his continued honesty about the outlook. Liveris is now warning that "we will likely see a global recession through most of 2009". BP's Steven Welch was equally candid when noting that BP are currently seeing "reduced real demand (not just destocking)". However, the blog is puzzled, to say the least, by yesterday's claim from Nova's Jeffrey Lipton that N American "customers will have to order heavily to maintain production" during Q4.

Readers will hopefully forgive the blog a moment of nostalgia. This weekend sees the closure of SABIC's PX V plant in the UK, after producing c10 million tonnes of paraxylene. The blog's first role as a product manager was in trading 250KT/year of xylene feedstock for PX V. In turn, this led to a memorable 2 years secondment in Houston, Texas, and then into senior management.

At that time, the blog worked for ICI - then the UK's largest chemical company and No 3 in the world. In PX/PTA we were No 2, behind Amoco. Today, both companies have disappeared. Yet the PX/PTA business has gone from strength to strength. When PX V opened, world polyester demand was c15 MT, and mainly based on DMT. Today, it is c50MT, with almost all that increase based on PTA.

The blog has fond memories of those early days as part of the ICI PX fraternity, when we were successfully building a global polyester business. Rumours that SABIC will sponsor a lavish all-expenses paid farewell party in Riyadh have sadly been denied. Instead, the blog proudly marks the occasion, and thanks all those still around for their continued friendship.

The blog first raised this issue last December, when noting that global chemical industry production growth had already "slowed significantly".

At that time, it questioned whether "central bankers will be able to wave the magic wand that restores us to a growth path". And it warned "it is hard to imagine that the chemical industry can avoid a serious downturn". The above chart, based on Kevin Swift's must-read weekly report for the ACC, shows how serious the situation has now become.

• Asia Pacific growth has fallen from 10% in June 2007 to 3% in August
• Central/Eastern Europe has crashed from 10% to -3%
• Latin America growth has fallen from 3% to zero
• Western Europe has fallen from 3% to -1%
• N America has gone from zero to -3% in September

The Middle East is the only robust region, where new capacity based on advantaged feedstocks has caused growth to increase from 5% to 13%.

World chemicals growth is usually close to GDP. So it is ominous that growth had fallen from 5% to 1%, even betore the current Crash. This must further impact demand and credit availability. The blog therefore believes that the industry needs to prepare for a serious and extended downturn.

Sometimes markets move because of sentiment, sometimes because of fundamentals. Sometimes (luckily rarely), because of blind panic. The latter is what we are seeing at the moment. Investors suddenly feel they MUST sell - whether because they need the cash, have completely lost confidence, or because their family and friends are advising it.

Whatever the reason, markets then crash. But these moments, contrary to popular belief, do not come out of the blue. After the blog itself was caught in 1987, it learnt to read the warning signs, and to move aside as the moment of maximum danger approached. Thus it was able to forecast on 7 September that 'The price of all assets will go down'.

Deleveraging, which caused today's panic, will still be with us once markets stabilise again. This matters to the chemical industry, as it tells us whether we are in a dip, or a downturn.

Last week, the blog didn't know whether to laugh or cry when Alan Greenspan told Congress that he was "in a state of shocked disbelief" to find that that his self-regulation policy for banks had failed. Gretchen Morgenson of the New York Times was similarly surprised to discover the former Chairman of the US Federal Reserve had really thought lenders "would rein themselves in, when there were billions to be made?"

Echoing the famous line from the 'Casablanca' movie, she adds ironically that, last week, "Mr Greenspan was shocked, shocked to find there was gambling going on in the casino".

There are welcome reports this morning that the US government is finally putting in place measure to help homeowners in danger of foreclosure. The FDIC (Federal Deposit Insurance Corp) has developed guidelines that will "lower a loan's interest rate, extend the life of the loan or defer payment on a portion of the principal". The aim is to reduce monthly mortgage payments to a max 38% of the borrower's pre-tax income.

The blog welcomes this move, as it should help to keep people in homes, and avoid more neighbourhoods being devastated by foreclosures. Unfortunately, though it is a "fix" and not a solution to the housing crisis. It is unlikely to kick-start demand for new homes once more, and the revised borrowing terms will put more pressure on lenders. So it will do little to stimulate chemical/polymer demand in this important sector.

Last week, the Financial Times tried to lighten the current mood of doom and gloom. It began a letters page discussion about the merits of humour as an antidote to panic.

Many blog readers clearly enjoyed the recent posting 'A new bank model'. They will therefore understand why the FT today carries the blog's suggestion that Robert Shrimsley's weekly Notebook deserves to be widely read.

Benzene is an excellent indicator of the outlook for industrial production, and hence for general chemical demand. Thus tonight's ICIS news report that prices for benzene and its naphtha feedstock, are close to parity (around $390/t), tells us just how dire market conditions have become.

The blog believes this has only ever happened once before in the last 50 years, at the time of 9/11. It therefore suggests that all chemical suppliers would be sensible to adopt very conservative estimates for likely levels of real end-user demand in key sectors such as autos and housing until New Year.

Friday update. The monthly European benzene contract price literally 'crashed' today, as demand continues to collapse. ICIS news reports the November CP has fallen 60% to €316/t ($412/t), compared to €797/t in October.

Two main factors weigh on oil markets. The first, as PetroMatrix note in their latest weekly report, is that speculative players in virtually all commodity markets are being forced to deleverage their positions, and so "the bottom will be dependent on the end of the firesale". The other factor is the continuing fall in demand. OPEC's own expectation, following its 1.5mbd production cut, is that global recession means the current "fall in demand will deepen, despite the approach of winter in the northern hemisphere".

The risk is that all this uncertainty over future demand levels and prices starts to reduce future supply. A new draft study from the International Energy Agency suggests the world needs to replace 9.1% of current production every year, as existing fields reach the end of their life. As the Saudi cabinet warned on Monday, "continuation of investment" is therefore vital for the "safety and growth of the world economy".

US house prices continued their downward path in August, and "every region reported negative annual returns", according to today's new Case-Shiller index. Nationally, average prices were down 17%, with Phoenix and Las Vegas down over 30% since last August. The recent Panic in financial markets makes a quick recovery even more unlikely. US chemical companies would be wise to budget for relatively low levels of demand from this important sector during 2009.

The US Federal Reserve is now bypassing the banking system, and dealing directly with major corporate borrowers. These have been cut off from many sources of credit, as banks hoarded their cash.

The impact has been immediate, with 1500 transactions already done for a record $67bn - 10 times last week's daily level. This should provide major help for companies, as it frees up their ability to undertake normal day-to-day operations. Equally encouraging is the fact that it also caused a 20% fall in 90 day borrowing rates, to an average 2.55%.

The blog warmly welcomes this latest move to unblock credit channels. If followed by other central banks, it should mark the end of the Panic that has frozen most all financial markets since Lehman's failure last month.

Prof Nouriel Roubini of New York University was one of those to correctly forecast a global recession. He is now warning in a detailed new article that "sharp deflationary pressures" are likely to hit in 2009.

As evidence, he notes:

• the supply glut that has emerged in "housing, consumer durables, motor vehicles"
• "the unemployment rate is sharply up" and "commodity prices are sharply down"
• "the Baltic Freight index - the best measure of international shipping trade - is down 90% from its May peak"

These conditions have already led to a major loss of pricing power for many chemical products in recent weeks. Whilst the blog hopes that the New Year may see some improvement, Roubini's analysis suggests that today's problems might instead continue for some time. Prudent CEOs and CFOs will need to develop contingency plans for this depressing prospect.

Back in August, the blog noted that BASF chairman Jurgen Hambrecht was forecasting that "the world will still continue to grow respectably", although he foresaw a temporary slowdown into H1 2009. Yesterday, however, this mood of relative optimism had disappeared as BASF announced Q3 results.

Hambrecht is now forecasting, along with Dow's Andrew Liveris, that "the decline in demand in important markets, stockpiling by our customers and the fall in oil prices are all signs of a recessionary trend that is likely to sharpen in 2009."

Compounding current problems, BASF reported it had suffered "significant expenses from hedging naphtha purchases against increasing prices" in Q3. Sadly, it seems BASF had failed to take the blog's advice on July 13 to also hedge against a rapid fall in crude prices to $100/bbl.