“Consensus wisdom” is a handy way of keeping up with events. Nobody likes to be the person who says “I don’t know” when the boss asks a question about something important. But unfortunately, “consensus wisdom” is often wrong, as Ipsos MORI confirm in their new ’Perils of Perception‘ survey, As the authors note:
“It highlights how wrong the public across 40 countries are about key global issues and features of the population in their country.”
The chart above highlights one of the key results, which has major implications for companies and investors:
It shows the actual percentage of wealth owned by the poorest 70% of the population in each country
It also shows people’s perception of the percentage owned by this poorest 70%
Only 3 countries have an accurate perception – the UK, Australia and Belgium
India is the most inaccurate, with a 29 point gap between perception and actual
Other major countries are nearly as bad – the US has a 21 point gap, Russia and China have a 17 point gap, Brazil and Germany have a 15 point gap
As Ipsos MORI note, the problem is that middle class people usually think:
“The rest of the population is more like them, than they really are….On average, just 15% of total wealth is owned by the bottom 70% across these countries – but the average guess is almost twice that at 29%. (My emphasis)
“Some countries are incredibly inaccurate: Indians think this group owns 39% of the country’s wealth when actually only 10% do. The US is also significantly out: Americans think the bottom 70% own 28% of the country’s wealth, when it’s actually a quarter of that at 7%.
The Ipsos data helps to explain why companies and investors are often wildly over-optimistic when planning new investments. This has become a major problem in the Emerging Markets (EMs), where many senior executives have assumed after visiting the chosen country that vast numbers of people are becoming “middle class”:
They stay in good hotels, company-chosen for safety and service, with other guests from similar backgrounds
Their local colleagues and partners are usually middle class and suffer from the over-optimism recorded by the polls
They rarely visit areas where most people live, as colleagues and the hotel often tell them these are “too dangerous”
The past few years of high profile stimulus policies has only added to the confusion.
Most visitors were immediately impressed to find an expensive new airport when they landed. They were similarly upbeat to find shopping malls filled with western luxury goods. Naturally, they assumed this meant the economy was booming. And, of course, the major international banks were happy to supply them with imaginative and glossy reports on the country’s potential, in the hope of winning lucrative project work.
In reality, however, they have been fooled. This appearance of “middle class living” was financed by debt, not wages:
Average GDP/capita in the world is just $10k according to the IMF
Wealthy G7 countries such as the US are at $56k, with the UK at $44k, Germany at $41k and France at $38k
The EMs are very much poorer, and will take decades to catch up, even if they continue to do well
Russia is the richest BRIC country at $9.2k, followed by Brazil at $8.7k, China at $8.1k and India at just $1600
The end result, unfortunately, is that many companies have effectively been wearing rose-tinted spectacles when making investment decisions. They now face a very difficult time as these plants all start to come online.
President-elect Donald Trump has made it clear he will impose tariff barriers to force US manufacturers to reshore production back to the US. In turn, many EMs will no doubt put up trade barriers to protect their own industry. Supply chains will be hit from two angles at once. Not only will imports from the EMs reduce, but exports to the EMs will also decline:
Ford’s decision this week to abandon its planned $1.6bn Mexican investment is a clear sign of what is to come
They were at least able to cancel. If it had already been built, it would probably now become a “white elephant”.
Unfortunately, this creates a further problem for “consensus wisdom”. Much of what appeared to be true during the SuperCycle is no longer correct. As I noted on Monday, economic criteria are no longer the key to future profitability.
The next 12 months are therefore likely to see more change than we have seen in the past 20 years. Companies and investors that fail to quickly realign their perceptions with reality will risk finding life very difficult indeed.
Many commentators were shocked by China’s weak trade data on Monday – with imports falling 12.5% versus July 2015, and January – July imports down 10.5%. But they were no surprise to anyone focused on developments in the chemical industry, which has once again confirmed its status as the most reliable leading indicator for the economy.
The chart shows net trade data in H1 2009 – 2016 for PVC – one of the most traded chemical products, used in construction for doors, windows, cables and other key areas. China’s own production has almost doubled over the period to 8.3 million tonnes, whilst its demand has only increased by around a third. As a result:
□ China has swung from being the world’s largest importer in 2009 to one of the leading exporters in 2016
□ NE Asia has been the main loser, with its exports to China falling by two-thirds to 187kt: NAFTA exports have fallen by more than a third to 130kt
□ China’s own exports have also started to surge, up from just 30kt in 2009 to 575kt this year
The data also confirms that China is now well on the way to reaching its ambitious targets for self-sufficiency (as set out in the current 5-Year Plan to 2020). For ethylene (the raw material for PVC, alongside chlorine) the aim is to reach 62% by 2020, compared to 49% in 2014.
Unfortunately, however, many commentators still remain in denial about these developments. Their shocked reactions to the trade data confirm their continuing failure to appreciate that China’s economic policies have never been based on Western concepts of cost-curves and corporate profitability.
As the chart above suggests, China is instead focused on avoiding social unrest, and preserving the Communist Party’s hold on power. It follows Deng Xiaoping’s policy, which aimed to keep living standards rising in order to maintain the Party’s role in government.
This policy makes perfect sense for China, as it seeks to avoid a return to the chaos of Mao’s ‘Cultural Revolution’:
□ It means that maintaining employment is a key objective, along with steady growth in incomes
□ Western concepts of focusing on corporate profitability and shareholder value are much less important
□ Productivity improvement is therefore critical to economic progress. New data shows, for example, that factory workers now have an average of 10 years schooling, compared to 8 years just a decade ago, helping to enable productivity to double over the same period
The other key change in recent years has been President Xi’s decision to move away from the stimulus policies followed between 2009 – 2013, in response to the financial crisis. China had provided around half of the total stimulus during this period. Inevitably, therefore, this triggered the Great Unwinding of global stimulus.
Unfortunately, as shown by this week’s reaction to China’s trade data, consensus thinking still fails to recognise the impact of these New Normal developments. But this failure also creates a major opportunity for those individuals, companies and investors who prefer to trust their own judgement on the outlook for China and the global economy .
Be very careful what you wish for. That is the key message coming out of close analysis of China’s latest trade data.
Recent media reports were upbeat at news that China’s exports had increased, as it appeared to suggest Western demand was returning. But it seems nothing could be further from the truth.
One major concern is that part of the increase was due to the final convulsions of the collateral trade, as I will discuss tomorrow. Property developers are clearly making last desperate efforts to raise cash by any possible means
A second critical issue is that the data confirms that China is now becoming a major exporter of high value products, such as PVC and PTA, for the first time in history.
CHINA IS BECOMING A MAJOR EXPORTER OF PVC
PVC highlights the change underway, as data from Global Trade Information Services shows. PVC is one of the world’s major plastics, used in drainage pipes and windows by the construction industry. As recently as 2009, when its stimulus programme began, China was the world’s largest importer.
Its net imports in 2009 totalled nearly 1.5 million tonnes, coming mainly from Asia and the US. But since then it has been busy expanding its own production. By 2012, its domestic output had jumped 70% from 9MT to 15.25MT. As a result of this, and the start of the housing market slowdown, its 2012 net imports halved to 665kt.
Since then, further major change has taken place as the chart shows, based on January – September data:
- Critically, China is no longer a net importer of PVC
- Its total imports have fallen to just 608KT in 2014 (red column) versus 816kt in 2012 (blue column)
- Its total exports have risen from 285KT to 949kt over the same period
- As a result, it has become a net exporter of 341kt
This change in policy by China was confirmed a year ago at the 3rd Plenum. And its impact has been building since May.
- The big loser so far has been the USA, despite its cost advantage due to shale gas developments
- China’s imports from the US are already down 34% versus 2012 levels
- And at the same time, China has been gaining export market share, partly at US expense
- It has sold 364kt into India so far this year and 175kt into SE Asia
- Exports to the Former Soviet Union have doubled from 124kt in 2012 to 277kt this year.
It also seems highly unlikely that China will change course. Most of its PVC production is coal-based, and it is strategically important for the country to maximise use of this resource, given its wider energy deficit. PVC production also maintains employment in the coal regions – which is critical for social stability.
PTA DEVELOPMENTS CONFIRM THE TREND TO EXPORTS
Developments in PTA, the raw material for polyester, confirm the major change now underway:
- China was importing 6.5MT of PTA as recently as 2011, but volumes more than halved to just 2.76MT in 2013
- In January – September 2014, import volumes have more than halved versus 2013 to under 1MT
- China has also begun exporting PTA for the first time in history, with volume of 340kt by September
- On current trends, China could also be a net exporter of PTA by this time next year
Companies and investors seem so far to have preferred to ignore these developments. But China’s drive towards self-sufficiency is unlikely to reverse. And social stability means it has to replace its lost export-oriented jobs in low-margin textile and other industries via a move up the value chain.
Thus very soon, one suspects, the Western media will be reporting howls of pain instead of cheers as China’s export surge continues.
Chemical production is currently the best leading indicator for the wider economy, as financial markets have lost their power of price discovery due to the impact of central bank stimulus.
The above chart, based as always on the excellent American Chemistry Council (ACC) data, continues to flash the orange warning signal first seen last month. The key issue then was the very worrying slide in operating rates during the seasonally strong Q2. As the ACC had noted then, ”growth stalled in Q2“.
Today, it seems the weak performance is continuing with production slowing almost everywhere:
- Global growth peaked at 5% in April, but has since fallen to just 3.3% (black line)
- N America improved in August, but as the ACC comment, ”even with a competitive edge and some-what stronger recovery, production has been limited by weakness elsewhere in the globe (green)
- Latin America has fallen very sharply, down from 1.2% growth in March to a 3.9% fall in August (red)
- W Europe has fallen from 4% growth in May to 2.9% in August (light blue)
- Central/Eastern Europe has collapsed from 2.4% growth in February to a 3% fall in August (orange)
- Middle East/Africa has slowed from 8.4% growth in February to 6.7% in August (dark blue)
- Asia has slowed sharply from 8.3% growth in March to 5.6% in August (purple)
Some individual countries have also seen very sharp falls. Germany, for example, has gone from 4.8% growth in February to a fall of 3.5% in August. India has crashed from 12.9% growth in January to 3.4% in August. Japan has fallen from 9.2% growth in March to just 0.8% in August. Mexico has gone from 1% growth in April to a 2.8% fall in August. Russia has gone from 4.2% growth in January to a fall of 10.4% in August.
Only one major country has maintained a relatively strong growth level – China. It peaked at 11.1% in April, and saw 8.8% growth in August. But, of course, this stability is due to its shift to become an exporter, rather than importer, following the loss of its downstream markets in the West. This confirms the blog’s conclusion yesterday when discussing Sinopec’s financial performance.
“China is now well on the way to becoming a major exporter of many key petrochemicals. And it will continue to reduce its import needs from Asia and other regions as fast as possible.”
The sharp global slowdown now underway confirms that companies and investors have been the victims of a collective delusion in recent years. We accepted the assurances of the central banks that they could easily restore growth to previous Boomer-led levels, despite the ageing of the global BabyBoomer population.
But central banks can only print money, they can’t create babies. And only babies, when they grow up, can create sustained demand growth.
Chemical production data doesn’t lie. It makes clear that we are instead heading for an abrupt change of economic course as we enter the New Normal.
Polymer traders must be already counting their end-of-year bonuses, as the value of the US$ rises whilst crude oil prices weaken. The biggest bonuses will likely go to polyethylene (PE) traders competing with US producers.
The reason is that US ethylene spot prices are currently at record levels. An astonishing 10% of US ethylene capacity has been out of action since March due to outages. And as ICIS’ John Dietrich notes, 14% of capacity will be down in October due to further planned turnarounds.
These supply outages have pushed US PE export prices to their highest level since August 2008, despite the slowdown in global demand. And US competitiveness is being further reduced by the changes underway in oil and currency markets, as the chart shows:
- US HDPE export prices have risen 13% this year, up from $1477/t to $1675/t today (purple line)
- The US$ has risen from €0.72c in May to €0.78c today versus the euro (green)
- It has also risen from ¥101 to ¥109 since July versus the Japanese yen (brown)
- Brent oil prices have fallen from $114/bbl in June to just $98/bbl today (blue line)
US PE EXPORTS HAVE BEEN BADLY HIT
Unsurprisingly, US polyethylene exports are being badly hit. Overall they are down 10% so far this year versus 2013 as the second chart shows, based on Global Trade Information Services data:
- Exports have fallen to most major regions – down 7% to LatAm, 64% to ME; 30% to SEA; 24% to NEA
- Only China volumes are up, due to average export prices there being just $1673/t versus $1751/t globally
- And most interestingly, US imports from Europe have been increasing – up to 36KT by July versus 6KT in 2013
US ETHYLENE OUTAGES CREATE OPPORTUNITY FOR EUROPE AND ASIA
The major oil and currency moves have only taken place in recent weeks, so have not yet appeared in the trade statistics. But last week’s ICIS pricing reports for polyethylene give a clear picture of current developments. European producers have seen a rush for export cargoes, causing markets to temporarily tighten. As Matt Tudball reports:
“Traders are re-exporting cargoes of HDPE film out of Europe because the weaker euro is offering better arbitrage opportunities in other markets. As a result, the European market has tightened, causing prices to rise according to market sources.”
European end-user demand remains weak, so this tightness will likely be only temporary. European cracker producers are no doubt already ramping up output as fast as possible, to take advantage of this unexpected windfall.
They are ideally placed to boost exports, with the euro down 8% since May. Today’s lower oil prices will further boost their export competitiveness.
As a result, it seems almost certain that Q4 will see a major rise in exports to the US itself, where US ethylene consumers are being squeezed by lack of supply and record high price levels. As one buyer told Dietrich, “We’re not making a pound more than we need to. It’s bad business to be in the spot market.”
Asian producers and traders may also decide to join the party. Asian domestic prices are under major pressure due to China’s slowdown, as Chow Bee Lin reports:
“A slew of lower-priced domestic cargoes offered to the spot market weakened the appetite for imported PE resins. Most traders and downstream manufacturers stood on the sidelines as they were bearish about the outlook. Meanwhile, a Middle East producer slashed its price offers significantly, which negatively affected market confidence in the week. In line with this, traders are expected to cut their price offers to the spot market”.
Market conditions like this are a gift to traders. And Q4 is likely to be the gift that goes on giving, as favourable exchange and feedstock movements look likely to continue.
TIME TO LOOK AGAIN AT US ETHYLENE EXPANSION PLANS
The irony of the situation will not escape blog readers, however:
- The US is planning to ramp up ethylene capacity by over 40% due to the possible shale gas cost advantage
- This has always seemed a badly flawed investment proposition to the blog, as it has argued over the past year
- It does not believe there can possibly be a market for the scale of new capacity being planned
- And, of course, today’s ongoing supply outages mean that the US is actually losing global market share
Senior executives need to urgently review their expansion plans before it is too late, and refocus instead on the transition taking place to the Boomer-led New Normal.
Their current problems confirm that access to low-cost supply is no longer sufficient to guarantee future profitability. Instead, securing demand outlets in a low growth world must take priority, if they want to create sustainable profitability.
The US PVC industry is hitting new problems, to add to the post-2006 collapse of the US housing market.
Yet only 10 years ago, it was riding high. Demand into housing (the main outlet) was at record levels thanks to subprime lending, and PVC production had just hit a record 7.3 million tonnes.
Even after the financial Crisis, global markets picked up the slack left by the US housing downturn. Exports zoomed to over 40% of total output, allowing production to recover to 6.7MT.
But now further change is underway, as the chart above shows of net H1 PVC exports versus H1 2013, based on Global Tade Information Services data:
- Every single export market has seen volumes fall, some by massive amounts
- Total export volume is down by 19%
- Exports to Latin America were down 10% despite the boost from the World Cup and the 2016 Olympics
- Exports to the Middle East were down 14%, as Saudi volumes fell 31%
- Exports to China were down 23% and exports to the Former Soviet Union were down by 2/3rds
Of course, there must have been some volume reduction due to unexpected ethylene shortages. And optimists might hope that the US housing market may see a further boost. But most of the lost volume is secular and not cyclical.
Brazil went into recession in H1, and Argentina is in the middle of a prolonged default debate, which makes its economic position likely to become worse, not better. Even worse is the position with China, which has switched from being a major importer, to a major exporter:
- Its net imports were 432kt as recently as January-July 2012
- But this year, its net exports reached 210kt in the same period
US CAUSTIC SODA EXPORTS DOWN 16%
PVC is, of course, a major application for chlorine. And chlorine’s co-product, caustic soda, has also seen US net exports decline across the board in H1. This confirms the downturn is secular, and not just due to temporary developments.
Total net exports of caustic soda were down 16%, a very similar volume to the PVC decline:
- Exports to Latin America were down 10%, and down 14% to the Middle East
- Exports to China were down 23%, and down 67% to the FSU
- As with PVC, exports to China and the FSU will likely be even lower in H2
Yet whilst this decline is taking place, producers are still lining up to expand. Maybe they know something about future demand that has escaped the blog.
But it can’t help worrying, as it wrote back in March, that they have fallen into a major trap. They hope that the Boomer-led SuperCycle will return, making advantaged supply once more the key focus.
Yet all the evidence suggests we are now moving into a Boomer-led New Normal, where advantaged demand positions will be key to future growth and profit.