As large amounts of new capacity come onstream in China, questions are being asked about the ability of its debt-fuelled economy to absorb the increased volumes about to hit the market
It wasn’t supposed to be like this. Early last year, some commentators thought that despite the surge in purified terephthalic acid (PTA) capacity in China, downstream polyester demand growth would be sufficiently strong to prevent a major oversupply shock.
But, as ICIS Chemicals & the Economy blogger Paul Hodges points out in a 28 April blog post, China’s PTA imports halved in the first quarter compared with the similar period of 2013 and were a quarter of 2012 levels. This has involved a decline in volumes from 1.7m tonnes in Q1 2012 to just 400,000 tonnes in the first quarter of this year.
This could, of course, be just a temporary market hiccup caused by lower economic growth in Q1 and the strong possibility that slowing momentum will extend into the second quarter. The base case amongst many petrochemicals producers remains that eventually, at some point this year, the Chinese government will step in with stimulus measures that will restore the equilibrium.
But Hodges’ view is different. What is happening in the polyester chain is, he believes, a reflection of wider problems in China’s economy that will take a lot longer than a few quarters to fix.
And there is plenty of evidence to indicate that Beijing is determined to fix these problems, even if takes several years - and that, as a result, it will not “blink” by launching a big, new stimulus programme.
Hodges’ case rests on the premise that the huge credit boom in China from 2009-2013 led to an unsustainable rise in demand for all sorts of chemicals and polymers which go into finished goods.
Now that new credit creation is slowing down, as the government tries to tackle overcapacity, bad debt and an environmental crisis caused by excessive lending, demand growth looks set to moderate quite substantially.
It was the “wealth effect” of rising property and other asset values, resulting from the credit boom that was at the heart of the surge in chemicals and polymer demand between 2009 and 2013, argues Hodges.
Thus, if we remove this “wealth effect”, we are left with a country where average per capita urban income levels were just $4,769 in 2013, according to the Chinese government’s National Bureau of Statistics (NBS). In rural areas, the NBS number for 2013 was only $1,276.
Take away the temporary sugar high of the credit surge and you could be left with a country that cannot afford as many new cars, washing machines, TVs – and perhaps even cheap polyester shirts – as some people have estimated.
The evidence so far this year suggests that credit creation has slowed dramatically.
When this trend was first detected in January, the consensus view was that the government would relent in February and then, when February was the same, people started saying “March will be different”.
But in March, total social financing (TSF) was down 19% versus the same month in 2013, and saw its lowest-monthly increase since 2005, according to official government data.
Money supply growth was at its lowest since 2001 (TSF is a measure of total new credit creation via the state-owned banks and the privately-owned shadow banking system).
This compares with the 12% increase in TSF necessary for the whole of this year if China is going to achieve 2014 GDP growth of 7.5%, says the government-affiliated think tank, the Chinese Academy of Social Sciences.
It is not only in consumer spending where the impact of China’s much-tougher credit environment seems apparent.
“A network of loan guarantees set up to improve companies’ access to credit in one of China’s richest districts is creating new risks of default as some debts sour,” wrote Reuters in a 27 April article.
“Chinese media have reported on a credit crunch developing among steel and textile manufacturers in Hangzhou, south of Shanghai in Zhejiang Province, as the failure of some to repay loans pushes their burden onto healthier companies,” the wire service added.
This is consistent with reports from the polyolefins sector, where efforts to wind back credit creation, especially via the troubled shadow-banking sector, is said to have forced some plastic converters to close. Plastic converters and most other end-users of chemicals and polymers in China are privately-owned small and medium-sized enterprises (SMEs). The SMEs rely heavily on the shadow sector for financing because they lack sufficient access to lending via the state-owned banks.
And, perhaps, also, the 45,000 tonnes of PTA that China exported in March wasn’t just a case of producers desperate to earn some money because of weaker-than-expected local demand.
“We will now see major exports of products such as PTA, particularly as the currency [China’s yuan) continues to fall. This will make life very difficult indeed for those who assumed that China’s growth was sustainable, and who expanded their own capacity of PTA and other products,” continued Hodges, in the same blog post.
His views are supported by several other commentators. They say that this year’s fall in the value of the yuan against the US dollar has been deliberately engineered by China’s government in order to boost export competitiveness as a means of compensating for weaker growth at home.
By early May, the yuan had fallen in value against the US dollar by around 3% in 2014.
A weaker yuan might go some way towards redressing the problem of rising labour costs in China, which has undermined the country’s export position. This is a particular problem for the labour- intensive textiles and garments industry. Demographics are, as a result, another explanation for the weakness in China’s polyester chain.
A 24 April blog post in the UK newspaper, the Daily Telegraph, reported that China had recently boosted its purchases of US Treasuries in order to drive-down the value of the yuan.
The US Treasury Department appears to have noticed. In a 15 April report it wrote: “China has continued large-scale purchases of foreign exchange in the first quarter of this year, despite having accumulated $3.8trn in reserves, which are excessive by any measure.
“This suggests continued actions to impede market determination.”
Rising trade tensions would be yet another consequence of a China that feels very different from the one to which we have become accustomed.