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Chemicals confirm deflationary pressures are building around the world

Economic growth
By Paul Hodges on 16-Jul-2023

Everywhere is crowded today. 2 years of lockdown restrictions mean people are desperate to see friends and family, and to travel again. Cafes, restaurants and planes are all crowded as a result.

Add to that the disruption caused first by the pandemic itself, and then by Russia’s war, and it’s no surprise that inflation has taken off.

Taylor Swift’s sell-out concerts are just one example. A note published Friday by the US Federal Reserve highlights the extraordinary effect of her tour:

  • 44k+ hotel rooms are being occupied every night, with $39M+ in total hotel revenue
  • Add to this, $16M+ in local spending on restaurants etc

The concerts highlight how supply and demand became completely unbalanced. Inevitably, it was supply that suffered first.

But now, things are starting to change. Markets adapt after all, once the initial shock has worn off. And the chemical industry is warning of a major change on the horizon.

It’s coming up to earnings season, and the number of warnings is quite extraordinary, as the chart shows. As Joe Chang, editor of ICIS Chemical Business comments:

“What is striking about this earnings warning season is not only the sheer number of downward profit revisions and their magnitude, but the diverse set of companies sounding the alarm.”


In one way, we are simply seeing a repeat of the old saying, “What goes up, comes down“. High prices encourage more supply to be produced. And they discourage demand by reducing affordability.

So far, so normal. “Nothing to see here, move along please“.

But in reality, there is something to “see here” as the chart confirms. For the past 20 years:

  • The world’s major central banks have been engaged in an increasingly desperate attempt to compensate for today’s ageing populations and low birth rates
  • They have effectively tried to “print babies” to compensate for these structural issues by reducing interest rates to zero and handing out $73tn of virtually “free money”

It began with the US subprime bubble. They ‘doubled down’ on their printing after the Great Financial Crisis. And then, the printing finally peaked during the pandemic.

But at the end of the day, as all normal people know, you can’t “print babies”.

Instead, what happened was that they destroyed the market’s key role of price discovery.

And companies reacted by building more and more capacity, in the belief that demand was essentially unlimited.

The central banks thought they were doing a wonderful job. Some even imagined they had managed to abolish recessions.

But in reality, a whole generation grew up imagining that interest rates were always near zero, and that debt didn’t matter:

  • You could pay whatever you liked for a house, as the monthly payment would stay low
  • And then you would always be able to sell it for a profit and spend the gain

But, of course, the world is not really like that. If it was, people would have worked it out long ago.

And now, the chemical industry is warning that the Stimulus Bubble is bursting. There is simply too much supply and too much debt. So companies are being forced to issue profit warnings.

Even more worrying is that the deputy governor of China’s central bank has been forced to deny that deflation is now underway in China, after their $49tn of stimulus spend:

“China’s economy [is] not in deflation and won’t show signs of deflation in the second half of this year”.

But as the chart shows, China’s Producer Price Index has been a very reliable indicator over the years. China is, after all, the manufacturing capital of the world. And its real estate bubble is giving every sign of bursting.

And so it seems likely that the chemical industry is right to be giving advance warning that deflation may be around the corner.