By John Richardson
AS RECENTLY as mid-2023, “the rise of China’s middle class” was widely assumed by economists, financial analysts and petrochemical and other company executives to guarantee that the country’s economic boom would continue unabated.
This was reflected in the upbeat overall tone of the international media’s coverage of China despite plenty of evidence to contrary.
This included a Pew Research Centre study which found that just 23m Chinese citizens earned more than $50 a day in 2020. As long ago as 1998, World Bank data show that China’s births per mother fell below the population replacement rate of 2.2 and have stayed there ever since. This meant that a demographic crisis was inevitable.
As an ex-journalist, I know how this works. My old profession is not employed to “make the news” but is instead paid to “report the news”.
The job of a news reporter is to record and then print what people say rather than to comment. In other words, reporters report the popular mood.
I must stress, though, that great publications such as the Wall Street Journal, the Financial Times and the New York Times have long made space in their columns for external experts who question China’s “economic miracle”.
Further, a good number of columnists working for newspapers and wire services (columnists are allowed to comment) have long challenged conventional opinions on China.
As I said, however, the overall tone was upbeat. But since mid-2023, the change in the mood music recorded and played back by the international media would be remarkable if it wasn’t for our understanding of the law of tipping points.
Tipping points are defined by the Merriam Webster dictionary as “the critical point in a situation, process, or system beyond which a significant and often unstoppable effect or change takes place”.
This new very gloomy mood music reflects the warnings that fellow ICIS blogger Paul Hodges and I have been making since 2011.
We couldn’t, of course, say when the structural imbalances would lead to lower economic growth in China.
All we could say is that this would eventually have to happen. The “when” arrived in late 2021. I see no reasonable scenario where weaker growth is reversed over the long term.
The change in the media tone is, I think, a good thing. It should help move the petrochemicals industry towards better strategic planning.
Sure, Beijing may go for another round of large-scale economic stimulus in 2024 that would result in petrochemicals pricing, spreads and margins rallying (as the summary below of recent media articles on China says, though, this is seen as unlikely).
But because we have gone beyond a critical tipping point, few people are likely to see this as anything but a temporary halt in the long-term trend. So, don’t accept the international media to again sound like Vivaldi’s glorious Summer movement from his Four Seasons composition.
And as the two naphtha-to-polyolefins spread charts tell us, any rebound in the spreads would have to be huge and sustained for a return to the Old Normal. Barring capacity closures on a huge scale, there can be no return to the Old Normal of strong petrochemicals industry profitability this year. And very probably in 2025 and beyond as well.
No new stimulus “bazooka” and a “vicious circle” of declining births
What follows is a summary of some of the international media articles on China’s economic prospects in 2024, in chronological order. This illustrates my point about the change in the mood music.
“Defaults by Chinese borrowers have surged to a record high since the outbreak of the coronavirus pandemic, highlighting the depth of the country’s economic downturn and the obstacles to a full recovery,” wrote the Financial Times (FT) in a 3 December 2023 article.
The increasing numbers of defaulters would add to the difficulty of shoring up consumer confidence in China, the world’s second largest economy and a crucial source of global demand, the newspaper added.
Bloomberg wrote in this 20 December article: “China’s central government is borrowing more to help diffuse a $9.3tn time bomb in hidden local debt. The resulting shift in fiscal power has its own risk: demotivating regional officials.”
Some analysts warned that this could diminish the flexibility of local government officials to introduce new policies to boost growth, the wire service added.
In the same article, Bloomberg also wrote: “A national property tax could replace land sales as a major source of local revenue. But that levy is deeply unpopular with the nation’s powerful middle class, and weak consumer demand dragging on growth makes it unlikely such a policy will be implemented anytime soon.”
This underlines the long-held views of Michael Pettis, a professor of finance at Peking University’s Guanghua School of Management, where he specialises in Chinese financial markets.
He argues that China needs to increase domestic consumption growth to 6-7% per year from today’s levels of below 4% if it is to adequately replace investment (read “overinvestment”) as a driver of GDP growth.
Achieving this increase would require a significant rebalancing of wealth through measures such as a national property tax and higher business taxes. He says rebalancing would be politically very difficult.
The 28 December Lex column in the FT wrote that China’s fertility rate was estimated to have touched a record low of 1.09 in 2022 with births below 10m for the first time.
Last year, births were expected to register a third consecutive year of decline with the number births at below 9m, Lex added.
“It is a vicious cycle. An economic slowdown should mean young couples delay having children. The resulting decline in fertility rates eventually pushes the economy’s productivity rates lower,” said Lex.
The article added that Beijing expected a shortage of nearly 30m of manufacturing workers by 2030.
China’s big banks had plans to cut deposit rates for savers, paving the way for potential reductions to loan rates for households and businesses, said the Wall Street Journal (WSJ) on 31 December.
“Still, officials have telegraphed that stimulus will be measured rather than aggressive, reflecting caution over already-high levels of debt as the economy contends with a drawn-out real-estate crunch and a global economy beset by war and slowing growth in the US and Europe,” wrote the newspaper.
The WSJ quoted Rory Green, head of Asia economics at GlobalData.TSLombard as saying that China’s growth would “not collapse but neither will it reaccelerate. What comes next? Another year of muddling through.”
Kevin Lam, senior China economist at Pantheon Macroeconomics was quoted in The Guardian on 1 January this year as saying: “Overall, the impact of the recent fiscal stimulus is yet to be felt in the economy. We are still not seeing the reconstruction-related demand being filtered through to the manufacturing sector.
“Externally, demand conditions from China’s key trading partners – the US and EU – are expected to be sluggish in the near term, thanks to elevated interest rates prevailing in those economies,” he added.
He said that Pantheon continued to expect China to rely on fiscal policies, mainly through fixed-asset investment to stabilise growth, but didn’t expect “bazooka stimulus” on the same scale as during the Global Financial Crisis.
The WSJ wrote on 2 January: “Gone is the booming China that inspired many young people and entrepreneurs to take risks and bet on the future. Home prices are falling, youth unemployment is at a record high, private investment is shrinking, the financial system is drowning in debt and deflation is setting in.”
Beijing’s state-led economic approach had helped some sectors such as electric vehicles, with Chinese-made EVs, which benefit from government subsidies, now being sold globally, the newspaper said.
But the WSJ quoted Goldman Sachs analysis which found that three of the main industries China has given priority to—electric vehicles, lithium-ion batteries and renewable energy—accounted for only about 3.5% of China’s gross domestic product.
These industries weren’t nearly big enough to replace China’s property sector, which once accounted for more than 20% of the economy before weakening after a government crackdown on excessive borrowing, the newspaper argued.
Implications for China’s polyolefins market
I think that China’s polyethylene (PE) demand growth averaged 2% across the three grades in 2023. I see this year’s growth at between 1-3%, and at the same levels up until 2030.
This would compare with annual average growth of 9% between 2000-2022. This was during China’s golden era when the economy was boosted by a more youthful population, admission to the World Trade Organisation (which greatly boosted exports), and very big economic stimulus that was unrestrained by today’s debt concerns.
The decline in my forecast growth is of course because of the macroeconomic reasons outlined above.
Drilling down by grade into what appears to have happened in 2023, high-density PE (HDPE) demand growth looks as if it was flat over 2022 with low-density PE (LDPE) consumption seeing another year of decline at minus 5%.
But linear-low density (LLDPE) demand looks as if it might have risen by 7%. I believe this could be down to overstocking given the weakness in the other grades of PE.
LLDPE net imports appear to have grown by 17% in 2023 despite a 6% rise in local production.
Meanwhile, HDPE net imports headed in almost exactly the opposite direction as they seem to have been down by 17% with local production increasing by 8%.
I see China’s PP demand growth as being flat in 2023 over 2022. This is again based on annualised January-November net imports and the ICIS assessment of local production, including what I have been told was lower-than-usual production at China’s powder-based plants. This was apparently the result of poor economics.
And I again see this year’s PP demand growth at between 1-3%, and the same up until 2030. This would compare with actual average annual growth of 10% between 2000 and 2022.
In 2023, the January-November data suggest a 15% decline in full-year 2023 PP net imports over 2022.
But local production growth may have been flat despite a 12% scheduled increase in capacity. This would be the result of lower run rates at the powder-based plants, leading to an overall PP operating rate of just 77% in 2023 compared with 83% in 2022.
If you are an ICIS customer, please contact me a john.richardson@icis.com for the data behind the above charts.
Conclusion: We should have known better
Please don’t blame the media. As I said, reporters were only doing their job in accurately recording yesterday’s mood music.
The C-suites of petrochemical companies could and should have seen beyond the newspaper headlines.
But as with the failure to see inside collateralised debt obligations before the Global Financial Crisis, we failed to adequately plan for the China crisis because misleading collective wisdom, the fear of standing out from the crowd and the flaws of the quarterly financial reporting system.
The failure to see what was coming in China largely explains today’s vast global petrochemicals oversupply – along with the failure to see that China was aggressively pushing towards much-greater petrochemicals self-sufficiency.
We must take economic analysis back in-house as we build new business models. These models must be centred on much more proactive responses to the big picture challenges.