Chemicals & The Economy

Germany and China have benefited massively from the growth in world trade since 1980. As the Wall Street Journal chart shows, 47% of Germany's GDP comes from exports. And China has a 37% dependence. US exports are just 13% of GDP, so it is more self-sufficient.

Both countries have punched above their weight in terms of chemical demand as a result. Germany has been a major auto exporter, a key use for all types of chemicals. Whilst China, as the manufacturing capital of the world, has become a major chemical importer and producer.

But now, with world trade likely "to record its largest decline in 80 years" according to the World Bank, the economies of both countries are struggling. However, their policy responses have been quite different:

• The German government, faced with a 17% drop in exports, has decided to sit out the storm. It is subsidising payrolls, as companies move to short-time working, and supported auto sales, but has refused to introduce more general stimulus programmes to boost the economy.
• China has instead pumped enormous sums of money into its economy, to support GDP. But with exports down 26%, much of this stimulus has gone into building inventories and to finance stock market speculation.

Now China's Banking Regulatory Commission has called for this "explosive lending" to stop, and called on banks to "make sure that loans flow into the real economy".

Unrestrained lending got the world into the current crisis, when Western banks lent recklessly to borrowers who could never repay. Now China is at risk of repeating the same mistake. It creates a real danger, as the Commission states, of a sudden slowdown when bank lending is cut back.

If firms then liquidate their inventory, this could have a major deflationary impact on chemical demand worldwide, particularly if it happens to coincide with a slide in crude oil prices from today's peaks.

Capacity closures are always hard to achieve in the petchem industry:

• First, these are a 'zero sum game' - if I shut my plant, then other producers gain in terms of overall operating rates and margins, at my expense
• Secondly, there is the integration issue. Closing a consuming plant also impacts output from an upstream plant, and may make it unviable

Dow Chemical's announcement of US capacity closures reflects this underlying logic. By shutting downstream consuming plants, and an ageing cracker, Dow will align its overall US ethylene balance. It will no longer purchase ethylene in the merchant market. Dow is therefore passing on the pain of any necessary upstream closures to its suppliers.

But Dow also added a wholly new dimension to the debate, when Brian Ames, Global Hydrocarbons Business director, spoke to ICIS' Nigel Davis. His comment, no doubt carefully prepared, was that US capacity had to shut because "demand overall is lower than it used to be".

The blog shares Ames' view. US exports must suffer, in spite of the Gulf Coast's ethane advantage, as major new capacity arrives in the Middle East and Asia. Equally, there must be doubts about underlying US demand, unless housing and autos recover quickly to their former levels.

Dow's moves are therefore likely to prompt further debate about how to best manage capacity closures during depressed market conditions.

The good news from the latest reports on US house prices and auto sales was simple - things have stopped getting worse. US house prices saw "some stabilisation in some regions" according to the S&P/Case Shiller Index for April. Whilst auto sales are clearly bouncing along the bottom, down "only" 29% in June versus May's 35% decline.

The bad news in terms of house prices was that the decline is really only just getting underway in some key markets. Chicago and New York, for example, "posted record annual declines in April", and are now down 19% and 13% respectively. By comparison, Phoenix, the worst market, was down 35% versus last April, and 54% from the 2006 peak.

Anecdotal evidence from the blog's recent New York visit certainly suggested that the city's bankers are only now beginning to sell up. Initially, those newly unemployed in Q4 had held on to property, believing that they would quickly find new employment. But now cash is getting tighter, and H2 may well see more homes up for sale.

The auto market is also showing diverging trends. Ford seems to be on a bit of a roll, as the chart shows, even though its sales were down 11%, and it claims to be reducing price incentives. Other producers fared less well, with Chrysler having to increase its incentives by up to $750.

The other good news is that auto inventories are also coming down, due to the recent plant closures. Ford is actually increasing Q3 production by 25k vehicles, having dropped inventory by 214k since last June. GM has also reduced stocks by 206k over the same period. This should certainly help hard-pressed chemical and polymer suppliers.

Crude oil markets have risen 60% in recent months, as traders speculate on a quick V-shaped economic recovery. But there are growing signs that reality, in the shape of evidence of falling US and global oil demand, may be about to reassert itself.

Latest US statistics remain very negative:

• Total oil product demand is 6% below H1 2008 levels
• Crude oil stocks at 350mb are well above normal seasonal levels
• Current stocks are 18% higher than a year ago

In summary, the story of 2009 continues to be stocks rise, demand drops, prices rise. This is an obvious inconsistency, which can only be resolved by either an increase in demand, or a fall in prices.

The blog's reading of the International Energy Association's (IEA) new 'Medium-Term Oil Market Report' suggests the latter outcome is much more likely. As the chart shows, the IEA is now expecting negative 'real' (ie adjusted for inflation) global GDP growth in 2009. This did not happen even in the recessions of the early 1980's or 1990's.

The IEA is therefore expecting an actual decline in global oil demand this year. And it has introduced a "lower case scenario", which it says is "just as likely" as its previous "business as usual" case (which was based on a V-shaped economic recovery). This new scenario pushes out any "supply crunch" until 2013, as consumption only returns to 2008 levels by 2012.

Geopolitics (eg Iran, Nigeria) can always change oil market balances very quickly. But in the absence of supply disruption, chemical companies need to keep a close eye on changing sentiment in financial markets. Thursday's worrying US unemployment rise, unless quickly reversed, may prove to be the catalyst for such a change to take place.

The chemical industry has benefited from a benign paradigm over the past 25 years:

• Demographics in the west have encouraged consumption, as the baby-boom generation reached middle age
• Globalisation meant this could be achieved at lower cost, by outsourcing production to lower-wage countries in the east
• Workers in the east saved their money, which allowed banks to make good profits by lending it back to consumers in the west

Now, all three pillars of this paradigm are under threat:

• The baby-boom generation is starting to retire and a new, more frugal, type of consumption is emerging in the west.
• Asian countries are trying to rebalance their economies, to promote more domestic demand and replace lost exports.
• And many banks are amongst the ranks of the walking wounded, unable to resume lending at previous levels

What happens next, is therefore a key question. The Bank for International Settlements (BIS), the central bankers' bank, suggests that "A financial crisis bears striking similarities to medical illness. In both cases, finding a cure requires identifying and then treating the causes of the disease."

Its analysis, in its newly-released Annual Report, suggests that investors, consumers and policymakers have been "fooled into thinking that trend growth was higher than it really was". And the BIS's conclusion is that "countries have been left with bloated financial sectors, the ability to build more cars than their populations need and, in some cases, surplus housing stocks."

Housing and auto demand have, of course, been a key support for chemical demand in the past few years. If the BIS are right, then considerable downsizing awaits the industry over the next few years, as it adjusts to the new realities.

After yesterday's post, Edwin Pang of Credit Suisse in Hong Kong has raised an interesting question over the likely rationale for China's massive increase in petchem imports, such as polyethylene (PE), in 2009.

As the chart shows, its monthly PE demand (production plus net imports), was very steady in 2007-8. It averaged 980kt in 2007, and 970kt in 2008. Yet in 2009, it has soared to record levels, averaging 1270 kt/month.

This makes no sense at all in terms of real demand. China's total exports are down 26% so far this year. And it defies belief that the government's fiscal stimulus could have caused such a massive increase in domestic demand, in so short a time.

The blog's view is that the rise is instead due to traders':

• Desire to bet on the rising oil price, and a global economic recovery
• Ability to access cheap credit, as part of the fiscal stimulus

This creates a serious risk that a vicious circle could develop, if the oil price continues to slip, and global demand does not recover in H2.

The blog therefore continues to worry, as it noted back in March, that "China may well end up having to dump this inventory on world markets, at whatever price they will fetch".

Source: Wall Street Journal

Everybody's favourite Christmas film is 'Its a Wonderful Life', in which the hero rescues a failing US bank during the Depression. But until today, the blog had never realised that a major role model for the plot-line came from Chicago in 1932.

Nouriel Roubini's blog notes that the city saw the largest and most important bank panic of the Depression, after Chicago ran out of money and had to start issuing IOUs to employees, creditors and others.

Fast forward 77 years, and the situation is now repeating itself in California. If independent, the State would be the 8th largest economy in the world. Yet it ran out of cash on 1 July, and has since had to start issuing IOU's to employees and creditors, just as in Chicago.

The State has a budget deficit of $26.3bn, on revenues of $113bn, according to the Financial Times. And it is constitutionally unable to raise taxes in many obvious areas, due to voters' reluctance to vote the necessary increases. Their ability to pay higher taxes is also questionable, with unemployment already at 11.5%, and house prices down c20%.

Nobody currently expects California to default on its $59bn debt load. The Federal Government would probably feel forced to intervene before that happened. But with Hollywood within the State's border, no doubt President Obama is already nervously wondering if he will end up starring in 'Its a Wonderful Life - 2', this time in real-life.

Any improvement in the troubled auto sector is extremely good news for the chemical industry, after the battering of the past few months. Thus the blog welcomes news, as the chart shows, that European sales increased 2.4% in June, the first rise for over a year.

Government support for scrapping older cars has led the way. The German market is up 41% versus 2008, and may hit 4 million sales in 2009. Italy was up 12% and France 7%. But the UK and Spain were both down 16%, as homeowners worry about negative equity.

Analysts JD Power warn that the market could collapse again, if the schemes are not renewed for 2010. They suggest Germany, for example, could see a 35% fall to 2.6 million sales. But for the moment, at least, government action on both sides of the Atlantic continues to keep chemical and polymer sales moving through the auto supply chain.

In 2007, Sweden was the largest private equity market in Europe, as a percentage of the country's GDP. And the local banks lent freely, as elsewhere, to fund investments. Now they, and other Nordic banks, are struggling to minimise their losses.

According to Bloomberg, Sweden's second-biggest bank, Handelsbanken, "seized parts of Plastal Group and Plastal Holding AB on July 2, after a cash infusion from Stockholm-based private equity firm Nordic Capital failed to save the plastic-parts maker from bankruptcy".

75-year old Plastal had sales of €1.3bn in 2007, and 6000 employees in 10 countries. But since then, it has been badly hit by the downturn in its core automotive market. Now "Handelsbanken, which loaned the company 2.1 billion kronor, plans to merge Plastal's Belgian, Norwegian and Swedish units into a new company".

Sadly, Plastal is unlikely to be the only company whose ownership moves from private equity to their bankers, as the downturn continues.

The blog is rather pleased with the performance of its new Boom/Gloom Index©, as financial markets continue to respond positively to any suggestion of "good news".

The Index is based on Ben Graham's famous concept that markets are:

• A voting machine in the short-term but
• A weighing machine in the long-term

It is therefore meant to identify whether positive or negative sentiment is driving short-term performance. And clearly, market sentiment is indeed still remarkably positive, in spite of the fact that there is no sign of any real improvement in the underlying fundamental position.

One example of the continuing influence of positive short-term sentiment can be seen in the positive reaction to the news that US housing starts rose 3.6% in June to an annualised rate of 582k. Yet as the above chart from the American Chemistry Council shows, the long-term fundamentals still remain dreadful:

• Last month's starts were 46% down on June 2008 levels, and were worth just $9.3bn in terms of chemicals sales (each house uses c$16k of chemicals) on an annualised basis.
• This compares with sales worth $35bn of chemicals during the boom period, when starts were running at a 2.2 million level in 2006/7.

The blog is very mindful of Keynes' insight that "markets can remain irrational for longer than most investors can remain solvent". It will therefore be keeping a close eye on the Boom/Gloom Index©, to identify when today's positive sentiment starts to wane.

A year ago, the blog brought news that July's Paris fashion sales were seeing prices reduced by 70% on shoes, bags and dresses. Today, the slowing global economy is apparently leading to even more bargains.

According to the Financial Times, "desperate times are forcing the likes of Armani, Dolce & Gabbana, and Jimmy Choo to launch half-price sales". An Armani leather jacket is now "only" £1250 (€1500, $2000). Burberry clutch bags are "just" £500 (€600, $800). Smythson, Donna Karan, Ralph Lauren and Radley are all offering discounts of up to 50%.

There is even a secret French website, www.vente-privee.com offering up to 70% off luxury brands in one-off sales. No doubt my fellow blogger, Barbara, is already a member. (photo: purse.com)

California's Governor, Arnold Schwarzenegger, has now made a provisional agreement to reduce the State's soaring budget deficit.

Its main features are a $9bn temporary cut in the education budget, plus multi-$bn cuts in welfare and health programmes.

The only good news is that it clears the way for oil drilling to resume off the Santa Barbara coast. The ban, aimed at preserving California's beaches, had clearly become an expensive luxury for the US's most populous state.

In another sign of the economy 'bouncing along the bottom', US drivers appear to have returned to the road in recent months. Latest figures from the US Highway Administration show a 0.1% rise in vehicle miles travelled during May, the second consecutive month of positive growth since 2007.

But this is unlikely to provide much support for increasingly hard-pressed refiners. European players saw crack margins tumble 62% in Q2 to $1.20/bbl, versus an already low $3.20/bbl in Q1. Weak demand is leading to low refinery operating rates, whilst normally strong diesel margins have failed to keep up with higher crude oil prices.

US refiners are also worried, with new government proposals for carbon 'cap-and-trade', likely to increase their costs significantly. Plus, of course, new CAFE standards aim at raising average auto mileage by 42%, at the same time as legislation to promote ethanol usage is also effectively reducing oil product demand.

Last August, we published a major Study, 'Feedstocks for Profit', with refining experts Wood Mackenzie, which forecast that "competition is likely to increase within the main regions, as exporters find life much more difficult." This scenario now seems to be coming true.

In terms of chemical sales, the increased competition comes at a time when demand is already weak. But on the positive side, refiners' problems could well provide chemical companies with an opportunity to mitigate their problems, by accessing feedstocks at distressed prices.

There are two main views on the financial crisis that began last September. The mainstream view, as expressed by the US Federal Reserve, is that it was a problem of liquidity. Banks became frightened to lend, and so the Fed stepped in as "lender of last resort". So given time, everything will soon be back to "normal".

The other view, as expressed by Pimco, the world's largest bond fund managers, is that the crisis was, and is, about solvency. As they describe it, US consumers have suffered a wealth loss of $15 trn, and global consumers a loss of "multiples of that figure". As a result, Pimco forecast a "new normal", for at least a generation, of "higher savings, lower consumption ...and growth closer to 2% rather than (the historical) 3.5%".

The blog continues to side with the Pimco analysis, for one simple reason. This is that it has long argued that the heart of the financial crisis was the reckless lending to the housing sector. Yet these loans are still on the books of the lenders at close to their original value, at a time when US house prices have fallen by more than 30% from their peak, and the number of foreclosures is still increasing.

Now, a very detailed article in the Wall Street Journal by 2 Stanford University professors analyses the real value of these loans. And they are "clear that the problem was not liquidity, but rather the insolvency risks of counterparties with large holdings of toxic assets on their books".

It may suit the lenders, and the Federal Reserve, to maintain that the issue is just liquidity. But after reading this article, and the lack of transparency that it describes about the real value of these loans, the blog feels it is only prudent to follow Pimco's analysis, rather than the Fed's.

The excellent weekly report from the American Chemistry Council (ACC) has a number of interesting insights:

• As the chart shows, global chemical production seems to have bottomed. All regions are, however, now showing a decline versus 2008.
• Separately, the ACC has updated its valuable survey of the state of inventories down the US polymer chain. This suggests that these were finally being rebuilt in May and June, for the first time in a year.
• Equally, they note that total inventory of existing US homes reduced to 9.4 months, with sales stable at similar levels to June 2008.

The latter is a critical leading indicator for chemical sales. But according to the US Realtors Association, the housing market is now seeing 2 quite different sets of drivers:

• Homes priced under $250k are selling fast, often via foreclosure, and inventories are down to 6 months
• But homes priced over $1m are seeing very little activity, with inventories now at 20 months.

The question, of course, is what happens next? The risk is that rising unemployment starts to force owners of more expensive homes to sell on a distressed basis. This would clear inventories, but would also cause further problems for the financial system, as lenders would then have to go through another round of debt write-offs.

Hopefully, these owners will be able to hang on. But even then, the chances of a V-shaped recovery remain low. As the ACC note, it is likely that "headwinds from massive deleveraging and lingering fallout from housing will offset the typical inventory bounce".

Source: Chartoftheday.com
There are "lies, damn lies, and statistics" according to Mark Twain, the famous American humorist. His argument was that statistics are often (a) untrue* and (b) used without the necessary context.

Last week provided a perfect example of the latter. As the blog's own Boom/Gloom Index© shows, sentiment is currently very positive in global financial markets. And so US markets rallied 4%, on the basis that reported company earnings were "above estimates".

Yet in context, this "outperformance" disappears. The above chart from ChartOfTheDay.com (COTD) shows 12-month, 'as reported' S&P 500 earnings, adjusted for inflation. And COTD highlight that these are now down over 98% since peaking in Q3 2007. Equally, they say this is "by far the largest decline on record (the data goes back to 1936)".

Also ignored last week was S&P's own report on Friday that forecasted total S&P 500 earnings for the 12 months to September "to be negative ($-1.01 EPS), for the first time in index history". Howard Silverblatt, S&P's senior equity analyst noted that any recovery in earnings will depend on a recovery in sales, as "you can only cut so much, and for so long".

*The blog carefully checks all those it uses with reputable sources

Its not only the blog (and fellow blogger John Richardson), who worry about the speculative frenzy underway in China, and its impact on global polymer and chemical markets.

Wu Xiaoling, former deputy governor of the central bank, has called the growth in new lending "excessive", and warned it is creating "bubbles in the property and stock markets".

Wu says China's bank lending in 2009 will be "a staggering increase of 40% of the entire stock of outstanding loans". The blog had to read this statement several times to fully grasp its importance.

It does not mean that bank lending will increase by 40% in 2009 versus 2008 - which would still be a very large increase. It means that the total value of all bank lending at the end of 2008 will have been increased by 40% during 2009.

Equally, Stephen Roach, chairman of Morgan Stanley Asia, and a long-time China bull, says he "is starting to worry" about the direction of current policy. The blog likes Roach, particularly for his accurate analysis in December 2007 that "decoupling (of China's economy from the West) is a good story, but it's not going to work going forward". He notes:

• In 2007, premier Wen Jiabao warned the economy was becoming "unstable, unbalanced, uncoordinated and ultimately unsustainable"
• Roach claims that current policies "compound the very problems the premier warned of: aiming a massive liquidity-driven stimulus at its most unbalanced sector"
• He adds that they "leave little doubt as to how bad it was in China in late 2008 and early 2009", to cause the government to react in this way

But Roach warns the loan growth is "ultimately a recipe for failure".

This week, the government began to respond to its critics, with regulators starting to insist that its Rmb 7400bn ($1080bn) of loans so far this year, be "used to bolster the real economy and not to speculate". But as we know from recent experience, bubbles on this scale don't usually subside gently. And when they burst, a lot of innocent people can get hurt.

In May 2008, the blog aligned itself with Harvard's Prof Martin Feldstein, who declared that the Q1 2008 US GDP report was "grossly misleading". Feldstein, after all, was in a position to know, as he was then chairman of the official body that decides whether the US is in recession.

15 months later, the US Commerce Department has finally admitted that Feldstein was right. It has revealed that "the first 12 months of the US recession saw the economy shrink more than twice as much as previously estimated".

The blog learnt long ago that if something seems "too good to be true", then it probably is. It awards itself a pat on the back for not falling into this trap on the US GDP numbers.

US auto sales have not yet followed the European lead, and shown an increase versus 2008 levels. And they certainly don't match China's 17% sales increase in H1. But they were down just 11% in July. And Ford did post its first annual sales gain since November 2007.

As the chart shows, all the major manufacturers saw an improving trend. August should also be better, if the government subsidy for scrapping older cars is extended. Equally, GM's news that it is to increase Q3 production by 35% versus Q2 levels will be very welcome to hard-pressed chemical and polymer suppliers.

However, the blog remains cautious about the pace of recovery. Moody's notes that the last major industry incentive programme, after 9/11, increased sales by 35% to an annualised 21.7m. By comparison, July's annualised sales were half this at 11.2m. And Ford CEO Alan Mulally has said he expects 2011's sales to only reach 14.5m, versus 17m in 2007.

Equally, Chrysler, newly emerging from bankruptcy, has decided to double the government's $4500 incentive for older cars, and is also offering the same $4500 discount to any buyer. If this price war continues, suppliers' margins will be the first to feel the pain, especially if crude oil remains strong.

Sales of most chemicals are down due to the recession. But US sodium silicate volumes could see a massive boost, according to the Wall Street Journal. The reason is that the government has mandated its use to destroy the engines of the old cars that it buys under the subsidy scheme.

Normally 'liquid glass', as it is otherwise known, is used to repair leaking gaskets. But now, mechanics around the US are apparently queuing up for the chance to "kill" the engines. The blog was intrigued to learn that older engines take longer to die - 1988 Dodge vans take 6 minutes, but a 1999 Jeep takes only 2 minutes.

As the downturn began In July 2007, leading retailers Tesco and Wal-Mart "signalled a major shift in consumer priorities".

And Tesco added a warning that "If you don't have the basic things right, you will be talking at the edge rather than at the centre".

2 years later Procter & Gamble, one of the world's major consumer companies, has learnt this lesson the hard way. Its sales last quarter were down 4%, and profits down 18%, as they tried to maintain a premium position against low cost 'value-based' competition.

But large, successful companies like P&G don't usually just disappear. They have learnt to adapt to a changing world. And P&G's response is the the product above. It is part of a totally new strategy, which includes the European launch of a new Pampers Simply Dry product.

The new product, 'Tide Basic' no longer seeks to focus the consumer's eye on the words 'new' or 'improved'. Instead, it is a response to the growing mood of frugality amongst consumers, as discussed in the blog last month. It is 'Basic'. It has no new features. In fact, P&G has deliberately reduced its performance.

From a chemical industry viewpoint, this means it offers no scope for value-added innovation. That's very bad news for those specialty chemical companies who would normally supply the innovation. And it is further confirmation of Wal-Mart and Tesco's warning two years ago that "coming down the road is a tougher time".

The blog's favourite financial journalist, Gillian Tett, has written an excellent article summarising the similarities between today's problems in the western banking system, and those of Japan's during the 'lost decade' of the 1990's.

Her point is that although central banks are pouring money into the system via 'quantitative easing', it is clearly not reaching the wider economy. In particular, small and medium sized enterprises (SMEs), find bank loans very difficult to obtain.

Tett says she observed exactly the same issue in Japan, when working there 10 years ago. As now, politicians were jumping and down, urging the banks to lend. The government even set quotas for SME lending. But Tett describes the results as "almost comical". Her research uncovered, for example, that some banks were meeting their SME quota via loans to Toyota subsidiaries; hardly the result that was required.

Fast forward 10 years, and it seems the same process is being repeated. Large corporates, seen as low-risk, can tap markets - Dow raised $2.75bn to repay borrowings this week. But as Tett notes, "numerous small or risky corporate ventures in the West complain they cannot get loans". Consumers also struggle. And she concludes that "the pipes (of the banking system) are badly clogged, if not broken".

As a result, Tett says we are seeing a "backflow" of the liquidity created by the central bank money. It is ending up back with the government, via purchases of government bonds. In Japan, this process caused long-term interest rates to fall to 1%. The blog suspects that the same outcome could occur in some western countries too, if the plumbing of the banking system remains blocked.

This year, China has been the one place in the world where almost anyone can get a loan. But now, it seems policy is about to change.

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".

Zhang also confirmed the blog's own worries about the speculative bubble that has developed, saying that "we noticed that some loans didn't go into the real economy and feel that some industries are expanding too rapidly".

As regular readers will know, the blog believes benzene is a good leading indicator for chemical demand, due to its widespread use in the industry. Last November saw its price "on the floor", indicating a major downturn, and it remained there until March, before its price began to "surge" in early April as destocking ended down the value chain.

Since then, as the chart based on ICIS pricing shows, benzene (blue line) has risen 270%, twice the oil price increase. But benzene's main derivative, styrene (red dotted line), has only increased in line with oil prices. Thus the spread between styrene and benzene prices (dotted purple line) has been squeezed.

This suggests underlying levels of chemical demand are still weak. And my IeC colleague, John Keeley, has seen this picture before, when he ran Shell's European aromatics business. His judgement is simple, "go short benzene now, unless you think styrene is about to tighten".

Cerberus' timing was clearly not very good with its Chrysler acquisition in Q3 2007.

And Steve Feinberg, Cerberus co-founder, admitted this when he told the New York Times "we were too optimistic on timing. Maybe what we should have done was not bought it."

So far, they have lost $6bn of their original $7.4bn investment. But the interview makes clear that their mistakes were not just due to timing, or over-optimism at the top of the 2003-7 credit bubble. They are also a warning sign of how new influences are starting to shape the investment landscape in the 'new reality'.

Steve Lewandowski of Total Chemicals wisely pointed out to the blog recently that Political, Environmental, Societal and Technology (PEST) issues are moving up the agenda around the world. The blog shares his view that careful study of these should be high on the list, when companies look at producing SWOT (Strengths, Weaknesses, Opportunities, Threats) analyses.

The latest OPEC monthly oil report paints a bearish picture of the market. It expects OPEC to supply 28.4mbd in 2009, down 7.5% from 2008 levels. And it forecasts more of the same for 2010, expecting to supply just 28 mbd.

Its analysis suggests that "the market is still fundamentally weak amid ample stocks of crude and products". And it notes that "US oil consumption is still showing a massive reduction". However, it says China saw "strong growth" in June "after a devastating contraction in Q1", and India is seeing "significantly higher growth".

OPEC notes that recent high levels of oil price volatility "indicates the increasing sensitivity of oil prices to conflicting economic signals". Its own view is cautious, suggesting that "expectations for a strong recovery (in the US economy) may still be premature".

Interesting new research from Prof Nouriel Roubini provides some perspective on relative levels of consumer spending around the world:

• US private consumption accounted for 16% of total global output in 2008
• It was valued at $10trn, just ahead of European consumption at $9trn
• Total Asian consumption was under $5trn
• China's consumption was $1.6trn, about equal to the UK
• India's consumption was 56% of its GDP, China's was only 38%

These numbers highlight the fact that Asian economies have been over-focused on supplying exports to the West, rather than domestic needs.

This means, as Deutsche Bank's Markus Jaeger notes, that Asian domestic demand can "only partly offset the likely permanent reduction in foreign demand". And Jaeger adds that even fast Asian domestic growth can provide "little support for G7 and global demand".

Companies normally have 3 ways of pleasing investors:

• Meet or better expectations for revenue and earnings
• Cut costs to meet earnings if revenues disappoint
• Focus attention on a more favourable earnings definition

When things are going well, the first option is preferred. But under the pressure of a sustained economic downturn, it is understandable that some companies might investigate other options.

According to Paul Marson in the Financial Times, the third option is very popular at the moment. More companies than ever are focusing attention on 'operating earnings' rather than 'reported earnings'. These sound much the same, and 'operating' even seems more 'hands-on' than 'reported'.

But 'operating' earnings allow companies to exclude items that have to be included in 'reported' earnings, under GAAP accounting standards. And Marson notes the gap between the two is now at an all-time record of $54/share. Today's 'reported earnings' for the S&P 500 companies are just $7.20/share, versus $61.20/share 'operating earnings'.

Of course, if recovery were just around the corner, then companies might be right to highlight this to investors. But there is little evidence to support this argument: last month's US retail sales were down 8% versus 2008, and even retail giant Wal-Mart saw a 4% decline, reporting that "customers around the world are forced to do more with less".

Leading retailers such as Wal-Mart are an excellent leading indicator for the world economy. And as US head Eduardo Castro-Wright noted, the outlook is weak as "more people are concerned about unemployment".

In fact, Q2 saw many companies following Wal-Mart's reaction to falling sales revenues by taking the second option of cutting costs. In turn, of course, this creates a vicious circle by increasing unemployment.

At the same time, US foreclosures continue to climb. July's record volume saw 360k properties receive a foreclosure notice last month - a scary 1 in every 355 households. And of course, the consumer accounts for c70% of US GDP, and 16% of total global output. So a problem for the US consumer is a problem for the global economy.

Budget season is about to start, when chemical companies start to take a view on the outlook for 2010. Although the blog would like to be optimistic, it doubts that the optimistic view portrayed by 'operating earnings' is reliable evidence of a real recovery in the US economy.

Henry Mintzberg is one of the blog's favourite management gurus. The reason is that he understands the constraints under which most managers operate. His view is that the best managers aren't Superman or Superwoman, but "are simply ordinary, healthy people who aren't too screwed up".

In an interview with the Wall Street Journal, he outlines the 3 ways in which managers make things happen:

• Direct action. "Sometimes managers manage actions directly. They fight fires. They manage projects. They negotiate contracts."
• Via other people. "Managers build and motivate teams, and they enhance the culture and train them and do things to get people to take more effective actions."
• Via influence. "Managers manage information to drive people to take action--through budgets and objectives and delegating tasks and designing organization structure."

Mintzberg's view is that today, we "have much too much managing through information. It doesn't take genius to say: Increase sales or out you go. That's the worst of managing through information. The alternative is to give more attention to the people plane and the action plane. Even when you're managing information, you can manage in a much more nuanced way than just shooting a bunch of figures around."

Mintzberg's new book, 'Managing' has one further tip for managers. In his view, interruptions are a major cause of failing to manage properly, and "email--and especially BlackBerries in the pocket and all that--really makes it much worse".

Monsoon rainfall accounts for 60% of farm irrigation in India, Asia's 3rd largest economy. This monsoon season, it has so far been about 2/3rds of the 10 year average. Last week it was 56% below normal.

Although agriculture accounts for just 17% of the economy, the lack of rainfall will also damage the whole rural economy, which has remained robust through the economic crisis. It accounts for more than half of India's domestic consumption, and so total GDP will probably reduce by 1% - 2%.

Industrial production has been strong recently, up 7.8% in June versus 2008, even though exports fell 28%. But as Finance Minister, Pranab Mukerjee noted Friday, although "the economy has started moving slightly, other problems may come from adverse impact of scanty rainfall."

Some 20 years ago, the blog launched ICI Watercare - which became the largest water treatment business in the chemical industry. So it has kept a close eye on opportunities in the water industry ever since.

The weak monsoon season in India highlights one such opportunity. As a new report from the UN Food and Agriculture Organisation (FAO) notes, Asia's vast irrigation systems were built 40 years ago, at the time of the 'Green Revolution'.

It says they have become "underused, poorly maintained and inefficient", and calls for major investment to finance their modernisation.

This is clearly a multi-billion dollar opportunity for the chemical industry. Such investment will not only require polymers, sealants and other products for the irrigation systems themselves. It is also an opportunity to provide much-needed expertise, to ensure the rebuilt infrastructure operates more efficiently in the future.

The blog is very interested to see the different outlooks being proposed by central bank heads. US Fed Chairman Ben Bernanke claimed Friday that the financial crisis was due to "panic", rather than fundamental problems such as reckless lending. As a result, with the "panic" over, he now saw the potential for securing "a sustained economic recovery".

But at the same meeting, European central bankers were more cautious, believing that the world economy still faced major problems:

• Germany's Bundesbank President Axel Weber said it was "too early to say it won't be a bumpy road ahead."
• Whilst European Central Bank President Jean-Claude Trichet was "uneasy when I see that because we have some green shoots here and there, we are already saying, 'Well after all we are close back to normal".

The underlying issue is shown in the chart from thechartstore.com, which shows "official" recessions in grey. And these are much shorter than the "real" recessions faced by industries such as chemicals. This is because the end of the destocking process produces a statistical recovery, as GDP rises in response to a renewal of underlying demand.

Thus the "official" 1980's recession ended in 1982, and that of the 1990's lasted just 6 months. Yet in reality, the chemical industry had to wait 3-4 years before a real recovery took place. And even the minor downturn of the early 2000's was far shorter officially, than in reality.

The US housing crisis is still getting worse, causing the weekend collapse of Guaranty Bank, the 11th largest US bank failure. As the Wall Street Journal notes, this marks a "new stage" in the banking crisis. Guaranty Financial had bought low quality, "toxic" mortgage loans, and its woes illustrate the "boomerang effect" that is now hitting thousands of small to medium sized US banks.

The problem, as the Independent Community Bankers of America note, is that most low quality mortgage loans "have declined in value, and it is not clear when they are going to come back in value, if at all." Whilst the Mortgage Bankers Association warn that "more than one in eight homeowners (are now) delinquent or in the foreclosure process". And Deutsche Bank calculate that 27% of US homeowners (14m) now owe more on their mortgages that their homes are worth.

Thus it is not really good news that US sales of existing homes rose in July, as shown in the above chart (blue column). For new data shows that "two-thirds of (existing) home sales are either foreclosures or banks taking a loss on the mortgage". And the 13% rise in inventory (red line) since January suggests more forced sales are in the pipeline.

Financial markets continue to believe in a quick V-shaped recovery. But wishful thinking of this kind would be dangerous for chemical company Boards. Today sees the end of an important source of recent demand, as the US "cash for clunkers" auto stimulus programme finishes. And with US banks now failing at the fastest rate since 1992, the blog fears that the outlook for demand is unlikely to see much medium-term improvement.

The blog was asked to write an analysis for ICIS Insight on the growing concerns about the outlook for China's economy, and their potential impact on the global chemicals inustry.

Please click here if you would like to download a pdf copy.

Further evidence of the trend towards a more frugal consumer comes from L'Oreal, the world's largest cosmetics company.

Like Procter & Gamble, it was slow to react to the trends identified by the major retail chains some 2 years ago. As a result, its profits fell 14% in H1, after decades of 10% annual increases.

And like P&G, it is undertaking a fundamental reassessment of its product portfolio and mission statement. As CEO Jean-Paul Agon notes, its new focus is on "affordable innovation" rather than "premium-isation".

Until recently, its aim was "more performance and higher prices". Now, Agon says the drive is to "create affordable ranges".

Agon also casts doubt on the idea that lipstick sales increase during a recession, as consumers seek "an inexpensive indulgence". He says this is no longer true, and that instead women want their "skin to look perfect". No doubt readers, as well as my fellow-bloggers Barbara, Malini and Doris, will be able to provide global insight on Agon's new theory?

There are clear signs in the above chart that the inventory cycle has turned positive again, as customers restock. Globally, data from the American Chemistry Council shows chemical production now down 10.5% versus last year, after being 13.4% down in March, in line with signs that GDP in the west is now stabilising.

But will we go back to the levels of demand seen in the 2003-7 Boom period? This seems unlikely. Moody's economy.com, for example, has produced interesting new data that shows the average US household's wealth has reduced from a peak of $540k to $421k in Q1. And Moody's note that consumers are becoming more frugal, due "to a general uneasiness about the future".

Of course, some argue that Asian consumers may be more extravagant. But total Asian consumption is worth just $5trn, half that of the USA. It is hard to see them spending enough to make up for slowing western growth, especially with 50% of Asia's GDP based on exports.

Many readers have been out of the office during August on a well-deserved break. As usual, the blog is therefore highlighting below the main postings over the past month, in the hope this will help you to catch up quickly on key developments - please click on the highlighted title if you want to read the original posting:

Demand has stabilised, but companies saw no sign of major upturn when reporting HI results. More questions were asked about China's apparent boom. The manipulation of 'operating earnings' to meet analyst expectations reached a new peak amongst S&P 500 companies. GDP in the west made a statistical recovery, as destocking ends, although a weak monsoon is hitting India's GDP.

End-user industries have also stabilised. Auto sales rebounded due to government subsidies, but capacity cutbacks continued, whilst a rise in foreclosures has increased US house sales.

Oil markets remain sentiment-driven and out of line with fundamentals. Benzene prices have dropped $300/t since the blog suggested they were signalling a chemical market peak. The Boom/Gloom index turned cautious, whilst US natural gas markets remain confused.

Bank lending is greatly reduced versus the Boom period, and Gillian Tett suggested their plumbing systems were still blocked. China's banks started to worry about a speculative bubble.

Consumption trends are focusing on cost and sustainability rather than innovation, with P&G introducing a Basic brand. Auto makers drive for higher fuel efficiency creates a feedstock opportunity for chemical companies, as does the need for improved irrigation systems in Asia.

Political issues will need careful attention when companies produce SWOTs in future, as politicians start to focus on real rather than financial engineering.

Prof Mintzberg had good advice for managers on coping with interruptions.

September's IeC Boom/Gloom Index© is slightly higher than August. But the 'Green Shoots' level (green line) has fallen sharply, indicating that sentiment has become less positive about the staying power of the recent rallies in financial markets. The index now includes a new reading for "frugal" (red line), as this may be worth watching in future months.

Other indicators are also showing signs that "green shoots" may be withering. China's Shanghai index is now in a bear market, having fallen 23% from its 3471 peak on 4 August, whilst benzene (a good leading indicator for chemical markets) is down 28% since its $1060 peak.

Optimism can carry markets along for a while. But at some point, clear evidence of an upturn has to appear. And so far, as the blog found in Germany last week, there are few signs of this. September's volumes will be a critical sign of whether recovery is really just around the corner.

A key rule for any successful trader is that high volume is always bullish, and low volume is negative. The blog first learnt this when trading oil products in Houston, on secondment from the UK in the 1980's. And it has proved an invaluable guide ever since, in a wide range of markets.

The rationale for the rule is simple, namely that (a) more people join in a rally as it strengthens and (b) the end of a bear market is signalled by a "give up phase", when volume rises as people finally lose faith in recovery. In turn, this sets the scene for a new trend to emerge.

Thus the chart above carries a fairly clear message. Trading in linear low density polyethylene (LLDPE) on China's Dalian futures exchange leapt earlier this year, just as benzene prices also surged. By April, Dalian was trading 80 million tonnes - 4 times total annual world production. But August's trading was down 58%, whilst benzene prices have also fallen.

Clearly, the "smart money" feels that it is now time to move on, having made a healthy profit. In turn, this confirms the blog's growing sense that the speculative price rallies of the past 6 months, in commodity and financial markets, may now be coming towards an end.

One of the blog's major themes is that it fears the idea of a quick V-shaped recovery will prove wishful thinking. New figures from the Bank of England seem to bear out its caution.

The slightly complex chart shows that net UK lending for mortgages (yellow line, then red diamond) has been falling steadily since the beginning of 2008. And provisional data (not included in the chart) suggest it actually fell in July, for the first time since records began in 1993.

Overall, mortgage holders paid back £418m ($681m) more than they borrowed. This was in spite of approvals for new mortgages reaching a 17-month high. As the Guardian notes, "cautious consumers and strict lending criteria kept net lending low".

The UK's housing bubble created major demand for most chemicals. If consumers and lenders remain cautious, as seems likely, it will prove very difficult to quickly replace these volumes with other applications.

Today is Labor Day holiday in the USA. But sadly, the latest news on jobs remains deeply worrying. As the chart from the New York Times shows, jobs are still being lost (blue line), long after recovery had begun in downturns from 1974 - 2000. And far more jobs have already been lost.

Total jobs lost since the downturn started now amount to 7.4m, the largest decline in any slump since World War 2. Unemployment rose to 9.7% in August, with 14.9m Americans out of work. And a further 5m were out of work for over 26 weeks (and not counted in the 9.7% rate).

These job losses have continued even with major stimulus programmes in place. And the Financial Times reports that 40% of the 35m Americans now on food stamps (worth c$290/month) are also working part-time, which suggests that wages outside the financial sector are starting to fall.

The figures make it seem very unlikely, to the blog at least, that any "recovery" in official GDP figures will lead to a rapid rise in consumer spending. And that, at the end of the day, is the key factor that will determine chemical company sales and profits next year.

China was the first major country to feel the impact of the financial crisis. In August 2008, it noted that "the era of low costs and high growth has come to an end for China, and an economic restructuring is inevitable".

Since then, of course, China's export-dependent economy has meant it has been one of the worst-hit economies. GDP growth fell to 0% in Q4 last year, when 23m jobs were lost. Thus the blog was fascinated to read a detailed status report on the government's recovery efforts by Premier Wen Jiabao in today's China Daily.

Wen says China has so far only replaced 6.66m of the lost jobs, and warns that "to counter the global financial crisis is a long-term and arduous task". He adds that "the impact of the crisis is as strong as ever and is unlikely to disappear anytime soon". And he worries that "the stabilization and recovery of the Chinese economy is not yet steady, solid and balanced. With many uncertainties remaining in the prospects of the world economy, we still face tremendous pressure of the decline in external demand".

Last year, exports represented 37% of China's GDP, and these are still down over 20% versus 2008. Just replacing this volume is itself a major task. Wen is therefore only being realistic when he suggests that "perseverance" is required as boosting "domestic demand is a long-term strategic policy", and not the 'quick fix' assumed by financial markets.

Any executive whose business depends on China, directly or indirectly, would probably find the full speech well worth reading, for the perspective it provides on the government's current ambitions and future goals.

Globalisation flourished whilst economic growth was strong. Jobs lost in Western countries were replaced by new jobs. Whilst cheaper production offshore kept consumer prices low, as well as bringing more people into the world economy.

But today's economic downturn means this virtuous circle is turning vicious. Western countries are becoming more protectionist and hope to repatriate offshore jobs. Thus the USA, with nearly 10% unemployment, has now imposed a 35% import duty on Chinese tyres.

The justification is the 3-fold increase in China's US market share to 17% between 2004-8, whilst 4 US tyre factories shutdown. Such "market disruption" allows punitive duties to be imposed under World Trade Organisation rules. Thus. as we forecast in our landmark 'Feedstocks for Profit' Study last year, regionalism is now making a comeback.

Chemical companies supplying the tyre industry will be amongst the first to have to consider relocating their plants back home. But with high oil prices also increasing the cost of extended supply chains (as P&G have noted), many others will need similar debates as the downturn continues.

After destocking, and then restocking, what next?

The blog is a great believer in following the insights of the major retailers, who have been consistently "on the money" in their analysis. Thus it takes very seriously the comments of Wal-Mart CEO, Mike Duke, who has joined the camp of those who believe we face a "new normal" - not a return to the levels of demand seen in the 2003-7 boom period.

Interviewed by the Financial Times, Duke was quite clear about the challenges ahead. "The 'smart' shopping, the customer that really looks at price and value and quality, the deferral of purchases ... this is something that will be with us for a long, long time."

Whilst chain-store JC Penney, which targets middle- America, told investors that "consumers are acting rationally, they are paying down their debt, they are spending for things they need. And for the more discretionary thing, they are being more cautious." US Federal Reserve data confirms this trend, with consumers repaying $21bn of debt in July, the largest amount ever seen since records began in 1943.

Equally, the head of ING, the largest US thrift bank told US investment magazine Barrons that "a lot of the data is showing there's a fundamental shift in spending habits". CEO Arkadi Kuhlmann said demand for the critical Christmas sales will be relatively slow as 80% of people now believe that "having money in the bank" makes them happier than "buying something".

US private consumption is worth $10trn and accounts for 16% of total world GDP. So this change of spending habits carries enormous implications for chemical industry demand. The blog's annual Budget Outlook, due next month, will tackle the issue in more detail.

It might be interesting to see whether blog readers agree with the ING opinion poll results.  You can vote below, if you wish.

Coincidentally, both the US Federal Reserve and the Bank of England yesterday signalled the probable end of the 'the recession' yesterday. But as the blog noted last month, statistics don't tell the whole story.

The issue is that economists usually define recession as simply being 2 or more quarters of negative growth. Automatically, therefore, any improvement - however small - marks the end of 'the recession'. This is what both Ben Bernanke and Mervyn King are now signalling. Both, however, added important caveats to their comments:

• Bernanke noted that "even though from a technical perspective the recession is very likely over at this point, it's still going to feel like a very weak economy for some time as many people will still find that their job security and their employment status is not what they wish it was."
• Whilst King went further, noting "It is very important not to lose sight of the fact that growth rates don't tell the story. It is the levels that really matter. The depth of the recession is great and it will continue even if we get a small positive growth rate over the next few quarters."

Some readers may remember the 2007 and 2008 reports from the Bank of International Settlements (the central bankers' bank). In July 2007 the blog titled its summary '4 risks to the world economy', and July 2008's was titled 'The difficult task of damage control'.

Not all of the BIS's forecasts proved correct, but it was the only major financial institution that came remotely close to forecasting the current downturn. Thus the blog paid particular attention today to an article by the author of those reports, William White, who has now retired from the BIS, and is therefore free to speak his own mind. White's key points are as follows:

• Trying to avoid recessions "at all costs" is a dangerous policy. White believes today's problems could have been avoided if central banks had not cut interest rates in previous downturns eg the 1997 Asian crisis, 1998 Long Term Capital Management collapse, and the 2001 dot-com debacle.
• He says the result was equivalent to allowing "undergrowth to accumulate in a forest". It made "subsequent downturns more dangerous", and "available policy instruments less reliable in response".
• White argues that efforts to stimulate demand ignore the fact that we "also have an undergrowth problem on the supply side". He cites autos, banking, construction, transport and distribution as examples of industries which have been allowed to become "too big and must be wound down".

The core of White's argument is that "many countries that relied heavily on exports as a growth strategy are now geared up to provide goods and services to heavily indebted countries that no longer have the will or the means to buy them". In this, White allies himself with those, like the blog, who believe we face a "new normal" now recession is ended, where demand will be much slower than in the 2003-7 boom period, as people choose to save more, and spend less.

White argues that his former central bank colleagues don't seem to understand that "good crisis management also contributes to crisis prevention". He believes that cash-for-clunkers and other demand stimulation "policies are equivalent to trying to resuscitate a patient long since dead". And he worries that by encouraging the current boom in asset prices they risk creating "yet another boom-bust cycle", far worse than anything we have yet experienced.

The above chart, from Moncef Hadhri's excellent monthly report from CEFIC (the European chemical industry association) provides an interesting snapshot of the state of the EU chemical industry.

On the positive side, it shows that recovery from the destocking period was well underway in June (the latest data available). Volume (green line), had risen 10% from November's low of 82. And versus June 2008, volume is now down 'only' 12.4%, versus November's 25% decline.

But on the negative side, EU volume is now down 18% versus the all-time peak of 110 seen at the end of 2007. Volume is also 10% below 2005's average level of 100. This figure will clearly improve as restocking continues down the chain. But even if we get back to the 100 level, this will still mean the industry has effectively 'lost' 3 - 4 years of growth.

US corporate earnings were down a record 89% in Q1 versus the previous 12 months at just $7. Q2 saw only a minor improvement with earnings at only $8. Its interesting, therefore, to see market expectations for 2010.

The chart is based on S&P analyst forecasts, and shows "reported earnings" (red line) are expected to recover to c$45 in 2010 as restocking continues. But this would still only take them back to 2003 levels.

Unsurprisingly, therefore, analysts are choosing to focus on "operating earnings" (blue line) which, as the blog discussed last month, exclude many negative items that have to appear in "reported earnings" under GAAP accounting standards.

This discrepancy featured in the 2000-2 downturn, but was not seen in the 1990-4 downturn. It thus usefully highlights the wide gap between those expecting a quick V-shaped recovery now restocking is underway, and those who (like the blog) fear a more prolonged U-/W-shape will develop.

The blog believes that the landscape has changed during the current downturn. We came into it on the back of a major boom in consumption, supported by reckless lending and borrowing. This mind-set seems unlikely to return quickly.

Instead, as the period of destocking/restocking comes to an end, we may face a "new reality". This probably involves a paradigm of higher savings, lower consumption, and global GDP growth of perhaps 2.5% rather than the historical 3.5%.

This scenario is more challenging than the consensus view of a quick V-shaped recovery. But if correct, it will also present a number of major opportunities for those companies who recognise that the basis of industry competition has now changed.

I outline some of the key issues in a new article for this week's ICIS Chemical Business. Please click here if you would like to read it. As always, I would welcome your insights on the points discussed.

When the G-20 met last April, it issued a Communiqué containing just 688 words. Its Pittsburgh meeting over the weekend produced a Leader's Statement containing 9292 words.

"More" does generally not mean "better" when it comes to writing action plans. Instead, the document simply seems to be a catch-all of comments from the 20 leaders. It still ducks most of the key issues, although finance ministers will press on with their work to strengthen financial regulation.

The blog is also concerned by the G-20's assumption that the current stimulus/inventory "bounce" will now lead straight to a full recovery for the global economy. Using the phrase "It worked" in the Statement, to describe the impact of recent measures, seems far too optimistic.

Coincidentally, another view is provided by Mohamed El-Erian, CEO of Pimco, the world's largest bond fund. He suggests that its "the absolute levels of income, debt, wealth and unemployment, not just the rates of change, are what matters today". Or, in the blunt view of the Governor of the Bank of England, "It's the level, stupid - its not the growth rates".

The probable ending of the destocking/restocking phase is a good moment to look back at what has happened to chemical industry volume in recent years. The chart, based on data kindly supplied by Kevin Swift of the ACC, shows how volume has moved, by Region, with Q1 2006 = 100:

Global. Volume in Q2 this year was the same as in Q1 2006. It had grown 9% by Q1 2008, but then fell a disastrous 13% over the next 12 months. Restocking, and the impact of the stimulus programmes, allowed it to recover 4% in Q2, and it has probably risen further in Q3. But essentially, much of the growth seen since 2006 has probably been wiped out.

Middle East/Africa. This Region has seen the best volume performance, and is now 19% above 2006's level. It will rise further over the next few months as more feedstock-advantaged plants come online.

Asia-Pacific. Volume collapsed at the end of 2008, but then made a dramatic recovery, due to China's vast stimulus programme. However, continued growth will rely on consumption recovering in the West, due to the export-orientation of the Asian economy.

N America. This major Region is still 12% below its 2006 level, and saw only a 2% recovery in Q2 this year. This highlights the dramatic impact of the crisis on personal consumption, which accounts for 70% of GDP.

W Europe. Volume fell 16% from 2008's peak to the 2009 trough, but has since recovered by 10%. Much of this was due to support from stimulus programmes, particularly pre-election in Germany.

Latin America. The Region peaked in Q4 2007, having grown only 11% from 2006, and its recovery has been weaker at just 5%.

CEE. This has been the worst affected Region, as governments have been largely unable to fund stimulus programmes, to mitigate the loss of export markets. Volume was down 13% in Q2.

The rationale for the recent stimulus programmes has been to provide a platform for growth to resume, by creating "escape velocity" for the major national economies (as Larry Summers, US economic chief put it). This strategy will now face its major test, as the poor state of many governments' finances forces the scale of stimulus to be reduced.

There is increasing evidence for the blog's belief that the auto industry is embarking on a fundamental shift in its approach. An interview in just-auto with Daimler's R&D head, Thomas Weber, provides some important insights into the opportunities that may develop for chemical companies as a result.

Weber notes that "cost, knowledge and speed" are the "key to future success". He adds that Mercedes now has 3 "key strategic directions":

- More efficient engines. These will also become smaller.
- Hybrids. Infrastructure issues (eg battery top-up) need resolving.
- Reduced fuel consumption. Lighter materials will be crucial

This implies increased demand for polymers, and other lightweight products. In addition, greater fuel efficiency will free up more feedstock for the chemical industry, helping to keep raw material costs down.

Coincidentally, EPCA delegates in Berlin will be able to see some of these ideas in prototype, as Sunday's opening event is being held in Mercedes World.

China's perceived demand has been the major driving force behind the rallies in financial and commodities markets this year. It has also attracted large volumes of polymer imports. But this wishful thinking ignores the fundamental issue that China's economy is relatively small (just $4trn in a world economy of $60trn) and is 104th in terms of GDP/capita ($3k, versus $46k in the USA).

Instead, traders have focused on the opportunity to make easy money, with at least 50% of the government's $1trn lending package estimated to have been used for speculative purposes. As the blog has noted, the Dalian futures markets has been a focus for some of this activity - at its peak in April, 80 million tonnes of LLDPE was traded, versus total world annual demand of c2 million tonnes.

Since then, the bubble has begun to deflate, and September's volume continues this trend. It was down 63% from April, at 29 million tonnes, whilst PVC trading volumes crashed the same amount in just one month. Volume still has a long way to go to return to more "normal" levels, but the trend (blue line) in the chart is clear. No government, not even China's, can continue to lend 25% of its annual GDP every 6 months.

The good news is that the IMF thinks that the economy may have stopped getting worse. The bad news is that it thinks it may be a long time before we get back to earlier levels of demand.

The main problem is the ongoing weakness of the banking system. The IMF has maintained its April forecast of a total $2.8trn of losses. But as the chart shows, we are less than half-way towards all of these being recognised. Banks are still sitting on loans that will never be repaid - some of them, no doubt, in the chemical sector.

This means the world faces a further $1.5trn of write-offs over the next 18 months (the red bars). US banks have faced up to 60% of their expected losses, but EU banks are still hiding 60% of theirs. Overall, the IMF estimates banks will have to raise a further $310bn of capital. In turn, this overhang will reduce their ability, and willingness, to lend new money.

This makes the coming recovery very different from those of the early 1980's and 1990's, when banks were still able to lend freely. Thus the IMF forecasts that the current recovery will be "weak by historical standards". And it warns that additional government stimulus programmes may be needed "if downside risks to growth materialise".

Sentiment is a very important influence in markets. When positive, as it has been since March, traders tend to 'look through' today's problems to a brighter future. But at some point, reality needs to confirm this optimism.

The IeC Boom/Gloom Index (blue column) aims to measure these changes in sentiment. It correctly forecast March's turning point, since when financial/commodity markets have risen around the world. But last month's 40% decline suggests this bear market rally may be ending.

The focus of the rally was the belief in 'Green Shoots' (green line) of recovery. This began to rise in early 2009, and took off in March, when it rose 4-fold, before peaking in June at 162. Q3 saw it begin to slip, and October's new reading shows it back at 37.

Back in August, the blog suggested that all major downturns go through 3 main phases - "sharp down, reflexive rebound, a drawn-out fundamental downtrend". Today's new Boom/Gloom Index suggests we are now starting to move into the 3rd phase. A sharp rise in the "Frugal Index" (red line) by year-end would confirm this is underway.

My first European Petrochemical Association (EPCA) meeting was in 1985. Since then, I have found that it provides an unique opportunity to look back over the current year, and focus on what might happen next.

Thus in October 2007, just after I began writing the blog, my discussions led me to warn that we were at "a turning point in the petchem cycle". Similarly, last year, it helped to convince me that we should expect "a multi-year downturn" of the type we had seen in the early 1980's and 1990's, and not a short V-shaped recession as in 1997-8 or 2001-2.

This year, however, I found myself sharing the consensus view. Very few people claimed to see any sign of a real upturn in critical demand areas such as housing and autos. In fact, visibility on future orders seems as low as ever, as companies focus on reducing working capital for year-end.

This led me to reflect on where we are in the industry cycle. As readers know, I have long argued that the 2007-8 period was paralleling 1979-80. Then, as recently, a major oil price rise led to a massive rise in inventory (as companies bought ahead to beat price rises), whilst end-user demand was collapsing. And the result was the same - a traumatic collapse in demand as people destocked, followed by modest restocking.

Thus I found myself thinking of parallels with 1981-2. And I was reminded of an excellent series of lectures that I attended many years ago at the IMD business school, given by Prof Casse. His summary slide, above, provides the clearest view I have ever seen of the "life-cycle" through which industries seem to pass. It features 6 distinct stages:

1. The industry enjoys some success and cautiously expands (eg 2003-4)
2. Emboldened by success, it then takes greater risks (eg 2005-7)
3. Sadly, it then hits problems, and failures occur (eg 2008)
4. It discovers there is no "quick fix" and begins to struggle (eg 2009)
5. Then, it begins to learn from its mistakes (2010 ?)
6. Finally, it discovers strengths and potentials (2011 onwards?)

This year in Berlin, I was reassured to find a number of companies, including many of the largest, starting to move into Stage 5. I found this very positive. Clearly we face major difficulties as an industry, with slow demand growth and growing over-capacity. But there will also be opportunities, for those who correctly identify the strengths that will be required to access them.

(If you would like a copy of Prof Casse's key slides, please click here)

US unemployment has now reached 9.8%, and seems almost certain to reach 10% by year-end. In addition, 11 million people have either given up work, or have settled for part-time employment. Thus 26 million are now out of full-time work, 17% of the workforce.

A rise to 10% would also mean, as Goldman Sachs note, that all 8.3 million jobs created in the 2003-7 expansion would have disappeared during the current downturn. And as Barrons, the US investment magazine comment, this will create a further drag on the economy as these people reduce their consumption.

It adds that private employment (eg excluding government) is already 2.6% below the December 2000 peak. And it warns that companies may well try to meet Wall Street's inflated earnings estimates for 2010 by further cutting costs. If they do, unemployment might well rise higher.

Coal miners used to take a canary with them, to help detect poisonous fumes. If the canary stopped singing, then they knew there was a problem. This led to the concept of "the canary in the coalmine acting as a warning of danger".

Small countries can play the same role in the global economy. Last year, Iceland, "the first country to be run as a hedge fund", provided early warning of global financial meltdown.

Now it may be Latvia's turn. Its homeowners took on massive loans, 80% of them at a low rate in euros, at the height of the boom. Since then house prices are down 70%. And the economy is in such bad shape, that there are fears the government may have to devalue the currency against the euro. This would further increase homeowners' losses.

Homeowners, not banks, vote in elections. So the government may now allow homeowners to write off their losses. According to the Financial Times, its "proposals would allow banks to collect only the current value of the property, rather than the original value of the mortgage".

Swedish banks would lose billions under this proposal. German and Austrian banks are also worried, as they made vast loans in Central Europe on a similar basis. For the moment, the Latvian canary is still singing, as the proposal has not yet become law. But the blog will listen carefully, as the Latvian proposal is debated.

The blog has argued for some time that the chemical industry is facing a "new normal" as growth returns to the economy. Now US Federal Reserve Governor Dan Tarullo has helpfully spelt out some important changes that he expects to occur. He notes that:

• "Just about everyone understands we will never return to the credit markets of the middle part of this decade"
• "The habit of building personal savings predominantly through appreciation of one's home is one that Americans will have to change.
• "The growth models of emerging market countries dependent on unshakeable American consumption and ever-increasing borrowing will not be sustainable even as recovery becomes more established."

Tarullo also highlights the fact that "very few people believe they understand what the "new normal" will look like once the crisis has fully passed and the economy is on a sustained recovery path." He adds that "I suspect that this uncertainty is itself an impediment to stronger growth, since it makes financial planning more difficult."

The blog will aim to answer some of these key questions, as they relate to the chemical industry, when it presents its annual Budget Outlook next weekend.

The blog is now preparing its annual Budget Outlook for 2010. Before this is published next weekend, it makes sense to assess the blog's credibility by looking back at last year's Outlook, to see how well it performed. Past performance may not be a perfect guide to future outcomes. But it is one of the best that we have.

The 2009 Outlook was titled "Budgeting for Survival". Once again, as with the 2008 Outlook, "Budgeting for a Downturn", the blog was in a small minority of forecasters who had the courage to go against the optimistic consensus. Its main forecasts were:

• "Survival, not growth, is the prudent objective".
• "2009 is likely to see global recession".
• "Chemical demand is likely to be badly hit, as it is focused on consumer spending, particularly housing/construction and autos".
• "These areas may begin to bottom during 2009, but any real recovery is unlikely before 2011".
• "Unemployment is likely to rise, and banks will be reluctant to lend".
• "Companies selling into more favoured sectors (agrochems/pharma) will probably see lower demand and pricing pressure".
• On oil prices, "the most likely outcome is that OPEC will cutback production and seek to hold $70/bbl".

The blog's aim is to 'share ideas about the influences that may shape the chemical industry over the next 12 - 18 months'. It therefore feels very proud of having correctly forecast these key areas correctly.

It hopes that its 2009 Outlook enabled readers to better prepare for today's more difficult economy.

This being Budget Week in the blog, it seems appropriate to look at the views of Larry Summers, US economics chief, to understand his expectations for an economic recovery. His main concept is of "escape velocity", whereby the economy will escape from the downturn like a 3-stage space rocket:

• Government spending stops the downturn becoming worse
• Companies rebalance inventories
• Consumers gain confidence, and begin spending again

His core argument is that "the deepest recession since the Great Depression hasn't changed the growth potential of the U.S. economy". But Summers does concede that "we've got a substantial period ahead of us until we get back to a fully satisfactory state for the American economy."

Probably the key issue is what happens to US consumer spending. This accounts for 70% of US GDP, and 16% of global GDP. It is worth $10trn, versus total Asian consumption of under $5trn. Summers' argument is that spending will recover if confidence can be restored. The alternative view, argued by Pimco, the world's largest bond fund managers, is that the US consumer will not return to the spending patterns of 2003-7.

Unemployment is the key indicator that will decide the winner of this debate. Consumers don't spend if they are jobless, or worried about job security. If companies continue to cut jobs, then Summers' concept of escape recovery will likely fail for lack of fuel.

Sometimes a picture is worth 1000 words. The chart above, from the New York Times, highlights the massive changes that are taking place in world trade flows. These are of critical importance to the chemical industry, one of the world's most globalised businesses.

• Firstly, the volume of world trade has fallen to 2006 levels, with the World Bank forecasting 2009 will see "the largest decline in 80 years".
• Secondly, China (red line) has now become the world's largest exporter, overtaking Germany during H1 2009.

The rationale for China's success is its ability to offer low prices. It can supply jeans for just $2.85, thus allowing its textile exports to soar as quotas were removed earlier this year. And the government has pulled out all the stops to support exports, by:

(a) keeping the currency's value fixed and low
(b) providing $1trn of low-cost loans and
(c) providing export tax rebates (worth $39bn in January-August).

Two conclusions follow from China's success:

• Contrary to European hopes earlier in the year, it seems that export success in the 'new normal' will be based on price, and not necessarily on the ability to produce high quality, more expensive items.
• Trade frictions will increase with the West as a result. Governments are unlikely to sit back and watch jobs disappear. Anti-dumping measures will increase, as will pressure for the currency to appreciate.

And whilst financial markets worry about the return of inflation, China's success suggests deflation is the more serious near-term concern.

In 2006, there were 2.2 million US housing starts. These were worth $35bn of chemical sales.

Currently, and even with the support of an $8k tax credit, they are running at an annual rate of just 600k, worth $10bn. This is the lowest level since records began in 1960. Even in 1975, 1981 and 1981, starts only fell to 800k.

Now the vice chairman of the Federal Reserve, Donald Kohn, has forecast that we will only see "a relatively subdued pickup in housing starts over the coming year". He suggests that inventory of new homes "remains elevated", and expects the pace of foreclosures to "remain very elevated for a while".

2010 should be a better year for the chemical industry, as demand grows in line with a recovery in global GDP.

But a quick V-shaped return to the 2003-7 Boom years in terms of volumes/margins seems unlikely.

Governments will worry about budget deficits, and may well scale down support for critical end-uses such as autos and housing. Equally, major amounts of new capacity, planned during the Boom years, will start to come onstream in the Middle East and Asia.

In effect, therefore, 2010 will be a year of transition to a 'new normal'. The blog expects global GDP growth rates to average around 2.5%- 3% for the next few years, the 1980-2000 average. This will be a significant reduction from the 3.5%-4% levels seen in the Boom years.

The rationale for this change is that we will start to see a rebalancing of the global economy. The West will see lower consumption, as people rebuild their savings, and borrow less. In turn, this will mean lower export demand for the emerging economies. The outcome will be a more sustainable world economy, but it will be a difficult journey.

Growth Forecasts. Most chemical markets are mature, and growth rates are therefore tied to GDP. The blog would therefore suggest that companies review their forecast growth rates for individual businesses in the light of their expectations for global GDP growth. One of the problems of the Boom years was that arbitrary growth rates (often of 5% or more), were assumed for many products. This also led to a perception that major amounts of new capacity were needed to meet this assumed demand. A more realistic view of demand would highlight potential problems of over-capacity, and perhaps encourage companies and governments to address the problems this will bring.

Demand. On a global basis, chemical output is now back at 2006 levels, having lost 3 years of growth. If GDP now grows as the blog expects, then demand from key sectors such as construction/housing, autos and electronics should improve next year. But the impact of government stimulus measures will make for a bumpy ride. The end of specific measures will cause major falls in perceived demand, whilst new stimuli will create short-term upward fluctuations. Excellent supply chain management will therefore be required, and Boards will need to keep a very careful eye on underlying trends.

Protectionism. Unemployment is set to become a key political issue in the West, as economies adjust to the 'new normal'. Hopefully, it should peak in 2010, but is unlikely to quickly return to previous levels. Arguments about the 'export of jobs' will therefore increase, and lead to a rise in anti-dumping activity. In turn this will cause job losses in emerging economies. Chemical companies will need to keep a close eye on the political arena, as they operate in a complex value chain, and may not otherwise appreciate the potential impact of a development in a key supplying or consuming industry.

Credit issues. A recovery in demand puts great strains on cash-flow, and many companies go bankrupt as a result. This could be a particular problem in the current recovery, given the underlying fragility of large parts of the banking system. CFOs will need to institute robust monitoring mechanisms, and be prepared to keep customers on 'cash before delivery' terms if they have grounds for concern. New customers represent a particular risk, if their credit history is weak, even though their promised volume may be attractive.

Oil prices. These are likely to remain volatile in 2010, as speculative price movements linked to traders' bets on the US$'s value will continue. Neither $100/bbl, nor a return to $40/bbl, would be a great surprise on a day-to-day basis. But underlying supply/demand balances may well remain weak in 2010, in spite of the expected economic recovery. Thus we might see prices coming under more pressure during 2010. $50/bbl might be an average price, in the absence of major geo-political events.

Overall, the blog expects 2010 to be a transition year. Full economic recovery is unlikely to take place much before the 2011/13 timeframe. But the return of economic growth will offer companies the opportunity to identify likely future market needs. Those that focus on this new reality, rather than simply hoping for a quick return to the Boom years, will position themselves for future success.

The blog's new Budget Outlook is an independent view of the key issues which will impact chemical sales and margins in 2010. Previous Outlooks have stimulated much debate within the industry. We are therefore proposing to run a free 1 hour Webinar next week for blog readers, on Thursday 29 October at 15:00 GMT (16:00 CET, 11:00 EDT, 19:00 Dubai).

The format will be a 30-40 minute presentation, followed by online discussion. The Webinar will be hosted using Microsoft Live Meeting. If you would like to join the Webinar for the presentation, please click above, and use entry code w@\!7{F For audio you will need to dial +44 1452 584201, conference code is 4389561610

If you wouild like to obtain a PDF copy of the presentation before the Webinar, please email either Simon.Robinson@icis.com or myself, adding 'Chemicals and Economy Group' in the subject line of the email. Colleagues and business partners are also very welcome to join the Webinar.

The blog should award itself a pat on the back, now its May forecast of $80/bbl crude has come true. And it is pleased to maintain its 100% record in forecasting the direction and level of oil prices.

But it still regrets the lack of substance behind the so-called 'correlation trade' between oil, the US$ and the S&P 500. Like all good trading ideas, this could have some truth in it: if oil was fundamentally strong, then the US$ should weaken (due to the extras costs of oil imports) and companies in the S&P 500 might expect a return to growth.

Unfortunately, as they say in Texas, "this dog don't hunt". Crude oil stocks have been at record highs for months, due to lack of demand. And there is no indication that western companies expect a quick V-shaped recovery in top-line revenue growth. Moreover, $80/bbl oil puts great pressure on a fragile world economy, and will cause demand destruction.

Equally, as Olivier Jakob of Petromatrix notes, "this is a very technical market, and technical markets fall as fast as they rise". Barring any geopolitical surprises, a return towards $40/bbl seems very possible.

Oil prices will be one of the key issues discussed in the blog's free Budget Outlook webinar next week (details yesterday). If you would like to register, please email simon.robinson@icis.com or myself, with Chemicals and the Economy Group in the subject line.

China will pump loans worth $1.3trn into its economy this year, equal to 1/3rd of GDP. Equally, by tying the yuan to the US$, China has achieved a major devaluation against major currencies such as the euro.

The result has been that China's Q3 GDP rose less in "nominal" terms than in "real" terms. Normally one has to deduct inflation from the "nominal" figure. But in Q3, China's "nominal" GDP growth was just 4.7%, but rose to 8.9% in "real" terms as a result of massive deflation.

When one looks at specific chemical industry statistics, the result is just as alarming. As the blog noted back in February, China allocated $58bn to accelerate the implementation of petrochemical expansion plans. And as ICIS news has reported, the new capacity is clearly not being delayed.

The two big projects for 2009, PetroChina Dushanzi and Fujian are now online. And there seems little reason to expect 2010's big projects (Sinopec Tianjin, Sinopec Zhenhai) to be delayed. Including other smaller expansions, and PetroChina Fushun in H1 2011, China will have increased ethylene capacity by 6 million tonnes in 2.5 years.

The impact is shown in the excellent new ICIS Asian weekly polyethylene margin report above. The yellow bar shows regional ethylene margins (based on NEA export netback values into PE) are already down to just $105/t. As one experienced industry observer told the blog, "2002/3 conditions are beckoning" if Western demand does not recover quickly.

Over the past year, much of the Western financial system has been on life support. Now the European Central Bank (ECB), like its peers, is grappling with the question of 'What happens next?'

ECB Board member Lorenzo Smaghi set out the key issues yesterday:

• "Our role (as a central bank) is limited to the provision of liquidity to solvent banks.
• "This role does not include the recapitalisation and restructuring of the banking system.
• "We expect banks to take a more active role in the process of recapitalisation.
• "The banking system cannot be supported indefinitely by the extraordinary measures taken by central banks. An exit strategy will inevitably need to be implemented in due course.

He highlights the issue with the above chart, which shows the collapse of all forms of financial activity in the eurozone over the past 2 years. And he argues that nothing will change unless "individual incentives, those of bank managers and shareholders, are aligned with the collective incentives to support the economy."

Currently, of course, most banks are instead pursuing their own agendas to maximise short-term bonuses and profits. The blog therefore shares Smaghi's concern that unless politicians and regulators act quickly, the eurozone may well repeat "the experience of Japan over the past decade, where delays in restructuring and recapitalising the banking system undermined the recovery after the crisis".

The purpose of liquidity in financial markets is to enable price discovery. But when super-fast computers take over the trading, that purpose disappears. Instead, we have today's "correlation trading".

Olivier Jakob of PetroMatrix demonstrates this with the above chart, which shows Tuesday's detailed trading patterns in WTI and the Dow Jones Index. Clearly, they are simply trading in tandem on momentum, with no regard for real fundamentals or market sentiment.

This creates a very high risk scenario for chemical companies. As Jakob notes, we are now in "a situation where no single market knows exactly what it is pricing". Real supply/demand balances for crude oil are irrelevant to these computers, and the traders who drive them.

But, at some moment, probably not too far away, fundamentals will reassert themselves. Higher oil prices destroy demand. Already, consumer confidence is falling, even whilst stock markets (normally a positive driver) move higher.

Prudent CFOs and business managers should be alarmed by what is happening, and take the necessary avoiding action. It will all end in tears.

The good news is that the stabilisation seen in Q2 has been maintained. But companies remain cautious on the outlook, to judge from Q3 reports.

CEOs are sceptical about the impact of government stimulus efforts in the West, and fear demand will fall back as these end. The only optimists are in China and India.

Akzo. "Overall we don't foresee a quick recovery."
BASF. "A very slow recovery and an uneven recovery at that."
Bayer. "Too early to speak of a self-sustaining upswing in industry".
Borealis. "We are seeing a slow grind upwards".
BP. "Margins under pressure in Q4 due to new capacity".
Bunge. "Fertilizer business pressured by weak pricing."
Celanese. "See modest recovery of global economies."
Croda. "Tough market conditions".
Dow. "Do not count on material improvements in market conditions."
Dow Corning. "Still feeling the impact of the global economic recession."
DuPont. "Seeing market stabilisation and early signs of recovery".
ExxonMobil. "Earnings down by 19%, mainly due to weak margins".
WR Grace. "Dynamic and challenging market conditions."
Henkel. "We see stabilisation in our markets".
Ineos. "Challenge is the slow return of domestic demand."
Lonza. "Environment of high volatility is expected to continue".
LyondellBasell. "Outlook weakened by signs of declining US PE exports."
Nalco. "Starting to return to a growth path as economies recover."
Occidental. "Continued weakness in the US economy".
PetroChina. "Ethylene output in the 9 month period rose".
Polimeri Europa. "Prolonged weakness in industry fundamentals".
Praxair. "Demand has yet to show meaningful signs of recovery".
Quaker. "Still a great deal of uncertainty in our end markets."
Reliance. "Demand for most petrochemical products remained strong".
SABIC. "Has maintained the same operational levels."
A Schulman. "Signs of economic recovery could prove misleading."
Sherwin-Williams. No real signs of "the rumoured economic recovery."
Shell. ""Affected by the weak global economy."
Sinopec. "Demand upturn of chemical products".
Solvay. "Continued to be affected by the difficult economic environment"
Trelleborg. "Demand in many segments remained weak".
Yara. "Distributors still unwilling to build inventories for the spring".
Yule Catto. "Uncertainty remained about the global economic situation".

"Buy on the rumour, sell on the news" is the classic indication of a weak market. A lack of follow-through buying reveals that market action is not supported by fundamentals, but only by sentiment and momentum.

Friday's 2.8% fall on the US S&P 500, in reaction to Thursday's positive US GDP number, was therefore a clear sign of underlying weakness. Equally, the new IeC Boom/Gloom Index (above) shows no increase in sightings of "green shoots". And the Frugal Index has actually risen.

This conclusion is supported by the generally cautious tone of recent company results. The chemical industry is a well-known leading indicator for the global economy. If a real upturn was underway, the major western companies would have noticed it by now.

This year's speculative boom in China's economy, created by major government lending and stimulus programmes, now seems to be ending.

The evidence for this is in the above chart, showing LLDPE futures trading on the Dalian exchange. This hit 80 million tonnes (MT) in April, versus total global output for this type of polyethylene of only 2MT a year.

But volume has since been falling steadily. Last month, it was back at 13MT. And prices failed to make new highs, even though crude oil prices hit a new 2009 peak at over $80/bbl.

The blog is changing its US auto sales chart, now that a year has passed since volumes collapsed last October. Year-on-year % changes become meaningless as a result.

Instead, it will now show monthly volumes, on a total US basis (blue line) and for the major producers (dotted lines). Key highlights this month are:

• The impact of the stimulus programme has now disappeared. Total US sales were 673k vs 1007k in August.
• Ford, GM and Toyota maintained the same volumes as in October 2008, but Chrysler was down 30%.
• Looking back 2 years to October 2007, total sales were down 30%. Toyota and Ford were down c25%: GM and Chrysler were down c50%.

US autos are a critical market for chemicals. Between 1995 - 2007, over 15 million were sold each year. Last month's annualised sales rate was just 10.5 million. This implies a total market worth only $29bn, versus over $40bn in 2007. This change is one indicator of the 'new normal' that the blog expects for the next few years, as Western consumers spend less and rebuild their savings.

In these circumstances, chemical companies with the best strategy and execution ability will be relative winners, like Ford and Toyota. Those who do not adapt well risk following the fate of GM and Chrysler into bankruptcy.

Recent comments from LyondellBasell's COO, and BASF's CEO, seem worth highlighting as we come to the end of the results season.

Ed Dineen noted that China's polyethylene demand seems partly linked to changes in crude oil pricing, "It turned down somewhat as we saw crude retreat a little, but as crude turned back up toward $80/bbl, we saw the Chinese market react strongly to that".

Secondly, Jurgen Hambrecht worried that although "business had stabilised at a low level", "little attention was being paid to structural overcapacities".

Hambrecht also warned that "the effects of stimulus packages are starting to peter out, many companies are dealing with financing problems, the number of bankruptcies is increasing and unemployment is rising".

Politicians and analysts often focus on selling dreams. Otherwise, we might not be tempted to buy their promises of better times ahead.

But those running businesses have to remain realistic. BASF's CEO, Jurgen Hambrecht, did exactly that in his comments on the outlook. And the above chart, from the UK's National Institute of Economic and Social Research, provides a visual example of the current economic position.

The black line shows the change in UK GDP during the 1930/34 recession. And the thick red line shows how uncomfortably close we are to following its path in the current downturn. Only the 1979/83 recession (green line) comes close to matching it in recent times.

Of course, some countries are currently seeing better economic performance than the UK. But it is still the world's 6th largest economy, and accounts for 3% of global GDP. As such, it is not a bad benchmark.

The blog does expect GDP to begin to recover in most major economies next year. But the chart is a good reminder that it may take some years for many countries to regain the 2007 peak in terms of actual size of GDP.