Chinese Commodity Consumption is Deteriorating Fast

(Newswire.net — October 28, 2015) London, London — China is Making Waves for All the Wrong Reasons

The hullabaloo surrounding commodity prices is fast gaining momentum, bolstered by continuing weakness in China, excess production capacity around the world and high inventory levels. What we are seeing is the net effect of a protracted period of economic contraction in the world’s second-largest economy and it is the emerging market economies that are paying heavy penance for it. In September, Chinese imports contracted by 20.4% year-on-year, while exports declined by 3.7% year-on-year. The import figure is particularly important with regards to China since China is a massive consumer of energy, mining and agricultural stocks.

The vast majority of these resources are the primary exports of emerging market countries like Brazil, South Africa, Russia, India, Venezuela, Turkey and others. We have seen sharp reductions in production in all of the aforementioned countries since many of them have China as their biggest trading partner. Already companies like Glencore PLC announced the shuttering of several copper mines across Africa, owing to weak commodity prices. Several other mining giants like Anglo American, Rio Tinto and BHP Billiton will be considering the temporary closure of less profitable mining operations in an attempt to reduce output and raise the equilibrium market price.

Why is Chinese demand tapering off?

This is indeed a question that analysts, commodity brokers, traders and investors are turning over in their minds on a daily basis. The fact of the matter is that the Chinese economy is in a state of flux. It is changing from an export-driven powerhouse to a consumer-centric economy which focuses on urbanization, infrastructure growth and development and the services industry. In this vein, China’s voracious appetite for steel, copper, silver, oil and other commodities typically used in the manufacturing and production process for export purposes is slowing. True, the rapid growth of urban sectors in China is counterbalancing the loss of export potential to degree – but the pace of infrastructure development is far slower than the slowdown in China’s demand for these commodities. Since urbanization is taking place at such a slow pace, we are seeing many ghost cities emerging throughout China. The housing bubble is a real phenomenon and the property market has contracted sharply as a result of it. Whenever China sneezes, the rest of the world catches a cold – at least the Asia/Pacific region and Europe too. So far the US has been able to guard against Chinese economic weakness to a degree.

Grim Reality for Chinese Steel Producers

If we consider how China is rebalancing its demand, the commodity consumption growth year-on-year paints an interesting picture. We have seen an uptick in the consumption of motor gasoline between 1996 and 2015, a sharp decline in the demand for copper since 2008/9 and a dramatic reduction in the demand for steel since 2008/9. This data points to a grim reality: steel demand is contracting at a rate of knots. In fact, those involved in the steel industry in China are heavily bearish on this commodity’s prospects moving forward. The contraction in demand is sharper than the production cuts, and this is leading to an oversupply. Oversupply always reduces commodity prices further – in much the same way as inventory levels do.

As a case in point, Chinese steel demand contracted by 8.7% in September (year-on-year). And between January and September 2015, steel output contracted by 2.1%, while steel exports expanded by 27%. Chinese steel mills are under tremendous pressure, and most of them are losing money. If this pattern continues, analysts are expecting a 20% contraction in production. And what lies at the heart of the problem in China is a reduced willingness by banks to extend credit facilities to manufacturers, producers and entrepreneurs. This is precisely why China is considering introducing additional monetary stimulus to kickstart the economy.

 

Brett Chatz is a graduate of the University of South Africa, and holds a Bachelor of Commerce degree, with Economics and Strategic Management as his major subjects. Nowadays Brett contributes from his vast expertise for the globally renowned spread betting company –InterTrader.