By John Richardson
HERE is a five-point guide to what will happen in China after the Lunar New Year is over (most of China will be only holiday from 18-24 February):
- The People’s Bank of China (PBOC) now seems almost certain to further reduce interest rates and the bank reserve requirement (RRR). If you recall interest rates were cut last November and this January the RRR was lowered for the first time since May 2012. Why? Because China’s growth in broad money supply – M2 – slowed last month to its lowest level since records began. This was despite the traditional surge in January lending. Bank lending always spikes during that month as the lenders – fearing government credit creation cutbacks later in the year – squeeze as much lending as possible into the first month of the year in order to protect market share.
- Further cuts in interest rates and the RRR (the RRR is percentage of assets that banks have to lodge with the PBOC, China’s central bank, as a guarantee against their lending) will not reboot the economy. This would not represent “monetary easing” in the conventional meaning of the phrase. Instead, it would be purely a further defensive measure to compensate for capital flight – the reason why M2 growth in January, which started to decline from the second half of last year, fell to a record low.
- Any further “monetary easing” will crucially, also, not change the psychology of banks, companies and individuals. They know that more hard times are ahead and so the appetite for both lending and borrowing will remain subdued.
- But this does not mean that domestic petrochemicals supply will automatically rebalance to reflect this lack of appetite for further risk. Instead, I think the government will continue to direct preferential finance and other subsidies to the petrochemicals business. Why? Because this industry is a great way of protecting jobs and adding more value to the economy as it moves away from an over-reliance on basic manufacturing. Here is the thinking: Before we imported most of our raw materials – including purified terephthalic (PTA), polyethylene (PE) and smartphone components – because we were essentially on outsourcing destination for the West. What we mainly did was process raw materials, assemble finished goods and the re-export those goods to the West and other developed markets. But why should we do this in the future when we have substantially raised our own production in petrochemicals etc. using our own intellectual capital? Cutting back on output would hand market share to our overseas competitors, whilst in the process we would also sacrifice jobs and value added manufacturing.
- The odds on an eventual Yuan devaluation also seem to have shortened with the news of January’s growth in money supply. China has to do something to compensate for the domestic deflationary impact of capital flight. As it cannot change US Fed policy, its only option could end up being devaluation. A currency devaluation would, of course, be an effective subsidy for petrochemicals producers, enabling them to raise their share in export markets. But even if this doesn’t happen China will, for the reasons I’ve given above, push hard on petrochemicals production and exports after the Lunar New Year.
This, of course, has huge implications for global trade balances. I maintain the view that petrochemicals companies globally need to go back to the drawing board and think again about what these profound changes will mean for the viability of their business models.
Today we just look at what this means for the PTA business. In later blog post during the Lunar New Year business lull, I will crunch the data for PE, polypropylene and polyvinyl chloride.
The above chart shows that:
- China’s PTA capacity rose from 31.3 million tonnes/year in 2013 to 41.9 million tonnes/year in 2014 – a 39% increase. Between 2010 and 2014, China’s PTA capacity has risen by an astonishing 179%.
- On paper at least, even more capacity is set to be added. By 2016, China is forecast to have 51.1m tonnes/year of PTA.
- The gap between China’s capacity and real consumption is set to widen.
The final trade data for 2014 indicates the major change in China’s import and export flows of PTA that has already taken place.
- Imports fell from around 2.7 million tonnes in 2013 to 1.2 million tonnes in 2014. This represents a 56% reduction.
- Meanwhile, exports rose from 127,000 tonnes to 464,000 tonnes – a 265% increase.