By John Richardson
THE result of this year’s US presidential election may well be determined by one issue – trade – as yesterday’s first presidential debate perhaps indicated.
These are incredibly dangerous times for the global economy, and with it, of course, the chemicals industry. It is not just in the US, but also in Britain and across the rest of Europe that the public and politicians seem to be turning against open markets.
The immediate two dangers are as follows:
- Western economies continue to threaten to penalise China over allegations of currency manipulation.
- The US and the EU will initially also refuse to grant China “market economy” status by the 11 December deadline. Granting China this status, which is due to happen by end-2016 under WTO rules, would make it harder for manufacturers in the West to win anti-dumping protection against Chinese imports.
How will China respond? It might argue that the recent fall in the value of the yuan is the result of market forces. There is a good argument to be made that capital outflows resulting from economic reforms are behind a weaker Chinese currency.
China will also contend that it has done everything that it needed to do to win market economy status.
Unless compromise deals can be brokered, then we will move into the next phase: Protectionist measures, and round after round of currency depreciations that badly disrupt global petrochemicals trade.
Threats of trade retaliation can be starting points for constructive negotiation. But I would wager that in today’s economic, political and social environment there is a big risk that threats will backfire.
This year’s annual report from the UN Conference on Trade and Development (UNCTAD) should also be factored into the risks ahead.
UNCTAD calculates that corporate debt in emerging markets has risen from 57% to 104% of GDP since the end of 2008. This is the result of the outflow of lending from the West to developing markets as investors have chased any kind of return, even if the risks of no return are great, because of record-low interest rates in the US and Europe.
UNCTAD details what could happen if these capital flows go into reverse:
If the global economy were to slow down more sharply, a significant share of developing-country debt incurred since 2008 could become unpayable and exert considerable pressure on the financial system.
There remains a risk of deflationary spirals in which capital flight, currency devaluations and collapsing asset prices would stymie growth and shrink government revenues. As capital begins to flow out, there is now a real danger of entering a third phase of the financial crisis which began in the US housing market in late 2007 before spreading to the European bond market.
What might trigger the global economic slowdown that UNCTAD warns about? The global trade war that I describe above.
What would happen to China’s One Belt, One Road (OBOR) plan if the worst comes to the worst and the West ends up in a trade war with the rest of the world? :
- OBOR becomes even more important to the developing world. Whilst the West will be withdrawing capital, China will be making more investments.
Let’s all hope the worst-case outcome doesn’t happen. But even if we avoid a trade war, the OBOR will still be seen as an important solution for emerging markets.
The reason is that OBOR seeks to address demographic challenges that are being overlooked by most Western politicians and policymakers. Demographics drive demand.
Crucial to addressing demographic challenges is meeting the Basic Needs of developing countries, such as water, transportation and electricity supply.
Not everything that China is doing is perfect, as is the case with every other country. But the OBOR does promise to tackle some of these infrastructure shortfalls.
It is now worth thinking about what this means for petrochemicals investment opportunities.
As I discussed on Monday, as the mood towards free trade in the West soars, China is in effect busy building a new trading bloc that will include up to 65 countries, 40% of global GDP and 4.4bn people.
Petrochemicals companies cannot do anything about the big political picture, of course. But they can better-position themselves for long term investment by doing a SWOT analysis of this 65-country region in order to work out where there are shortfalls in Basic Needs. If you want to win in the New Normal, you have to in effect create your own demand by working with NGOs and governments to address deficits in Basic Needs.
More conventionally, you will also obviously have to consider where the petrochemicals deficits will lie. For instance, again on Monday I detailed how the OBOR is set to be short of linear-low density (LLDPE) capacity over the next ten years.
What about feedstocks? In a world of abundant oil, gas and oil-refining capacity feedstock availability will become less and less of a challenge.
Returning to the subject of LLDPE, the charts at the beginning of today’s post show demand and capacity in 2020 and 2026 in all the 65 OBOR countries – and in what I believe will be the core countries that seem certain be part of the OBOR.
As you can see, what I assess as the core OBOR countries will still comprise most of global consumption and capacity.
Major LLDPE producers that I think will make up this core include Saudi Arabia and Singapore. Big consuming countries include India, Indonesia, Turkey and Vietnam.