One pillar
of this year’s blistering commodities rally -- Chinese demand -- may be
teetering.
Beijing aced
its economic recovery from the pandemic largely via an expansion in credit and
a state-aided construction boom that sucked in raw materials from across the
planet. Already the world’s biggest consumer, China spent $150 billion on crude
oil, iron ore and copper ore alone in the first four months of 2021. Resurgent
demand and rising prices mean that’s $36 billion more than the same period last
year.
With global
commodities rising to record highs, Chinese government officials are trying to
temper prices and reduce some of the speculative froth that’s driven markets.
Wary of inflating asset bubbles, the People’s Bank of China has also been
restricting the flow of money to the economy since last year, albeit gradually
to avoid derailing growth. At the same time, funding for infrastructure
projects has shown signs of slowing.
Economic
data for April suggest that both China’s economic expansion and its credit
impulse -- new credit as a percentage of GDP -- may already have crested,
putting the rally on a precarious footing. The most obvious impact of China’s
deleveraging would fall on those metals keyed to real estate and infrastructure
spending, from copper and aluminum, to steel and its main ingredient, iron ore.
“Credit is a major driver for commodity
prices, and we reckon prices peak when credit peaks,” said Alison Li, co-head
of base metals research at Mysteel in Shanghai. “That refers to global credit,
but Chinese credit accounts for a big part of it, especially when it comes to
infrastructure and property investment.”
But the
impact of China’s credit pullback could ripple far and wide, threatening the
rally in global oil prices and even China’s crop markets. And while tighter
money supply hasn’t stopped many metals hitting eye-popping levels in recent
weeks, some, like copper, are already seeing consumers shying away from higher
prices.
“The
slowdown in credit will have a negative impact on China’s demand for
commodities,” said Hao Zhou, senior emerging markets economist at Commerzbank
AG. “So far, property and infrastructure investments haven’t shown an obvious
deceleration. But they are likely to trend lower in the second half of this
year.”
A lag
between the withdrawal of credit and stimulus from the economy and its impact
on China’s raw material purchases may mean that markets haven’t yet peaked.
However, its companies may eventually soften imports due to tighter credit
conditions, which means the direction of the global commodity market will hinge
on how much the recovery in economies including the U.S. and Europe can
continue to drive prices higher. Some sectors have seen policy push an
expansion in capacity, such as Beijing’s move to grow the country’s crude oil
refining and copper smelting industries. Purchases of the materials needed for
production in those sectors may continue to drive prices higher.
Some sectors have seen policy push an expansion
in capacity, such as Beijing’s move to grow the country’s crude oil refining
and copper smelting industries. Purchases of the materials needed for
production in those sectors may continue to see gains although at a slower
pace.
One example of slowing purchases is likely to be
in refined copper, said Mysteel’s Li. The premium paid for the metal at the
port of Yangshan has already hit a four-year low in a sign of waning demand,
and imports are likely to fall this year, she said.
At the same time, the rally in copper prices
probably still has a few months to run, according to a recent note from
Citigroup Inc., citing the lag between peak credit and peak demand. From around
$9,850 a ton now, the bank expects copper to reach $12,200 by September. It’s a
dynamic that’s also playing out in ferrous metals markets.
“We’re still at an early phase of tightening in
terms of money reaching projects,” said Tomas Gutierrez, an analyst at
Kallanish Commodities Ltd. “Iron ore demand reacts with a lag of several months
to tightening. Steel demand is still around record highs on the back of the
economic recovery and ongoing investments, but is likely to pull back slightly
by the end of the year.” For agriculture, credit tightening may only affect
China’s soaring crop imports around the margins, said Ma Wenfeng, an analyst at
Beijing Orient Agribusiness Consultant Co. Less cash in the system could soften
domestic prices by curbing speculation, which may in turn reduce the small
proportion of imports handled by private firms, he said.
The wider trend is for China’s state-owned
giants to keep importing grains to cover the nation’s domestic shortfall, to
replenish state reserves and to meet trade deal obligations with the U.S.
No Disaster
More
broadly, Beijing’s policy tightening doesn’t spell disaster for commodities
bulls. For one, the authorities are unlikely to accelerate deleveraging from
this point, according the latest comments from the State Council, China’s
cabinet.
“Internal guidance from our macro department is
that the country won’t tighten credit too much -- they just won’t loosen
further,” said Harry Jiang, head of trading and research at Yonggang Resouces,
a commodity trader in Shanghai. “We don’t have many concerns over credit
tightening.” And in any case, raw materials markets are no longer almost
entirely in thrall to Chinese “In the past, the inflection point of industrial
metal prices often coincides with that of China’s credit cycle,” said Larry Hu,
chief China economist at Macquarie Group Ltd. “But that doesn’t mean it will be
like that this time too, because the U.S. has unleashed much larger stimulus than
China, and its demand is very strong.”
Hu also pointed to caution among China’s
leaders, who probably don’t want to risk choking off their much-admired
recovery by sharp swings in policy.
I expect China’s property investment will slow
down, but not by too much,” he said. “Infrastructure investment hasn’t changed
too much in the past few years, and won’t this year either.”
Additionally,
China has been pumping up consumer spending as a lever for growth, and isn’t as
reliant on infrastructure and property investment as it used to be, said Bruce
Pang, head of macro and strategy research at China Renaissance Securities Hong
Kong. The disruption to global commodities supply because of the pandemic is
also a new factor that can support prices, he said.
Other policy priorities, such as cutting steel
production to make inroads on China’s climate pledges, or boosting the supply
of energy products, whether domestically or via purchases from overseas, are
other complicating factors when it comes to assessing import demand and prices
for specific commodities, according to analysts.
Bloomberg