Baltic Dry Index May Be Falling, But Not Because World Trade Is Down

A spate of recent articles reporting the long downward trend of the Baltic Dry Index as illustrating a deteriorating state of world trade is not just misleading, but plain wrong. The BDI is often taken as a measure for the health of world trade and has been on a downward trend this year across all sectors container traffic, dry bulk and oil tankers (oil has been hit the hardest). The impact on shipowners has been severe, pushing many into losses as higher bunker fuel costs have hit head-on with falling freight rates. But contrary to some opinions, this is not due to a contraction in world trade.

The Underlying Factors

Although the IMF cut its global economic growth forecast in September for both 2011 and 2012 to 4 percent, from 4.3 percent and 4.5 percent respectively, growth is still expected by Reuters to remain firmly positive. Shipping space is also in demand and expected to remain in growth mode, according to Erik Stavseth, a shipping analyst quoted in the Financial Times, predicting dry bulk will rise by 5.9 percent for the year as a whole and tanker fleet demand will rise by 2.7 percent.

Source: Reuters

The problem is supply has been rising even faster, hence the fall in rates as more and more ships chase the available cargo.

Stavseth estimates new ship deliveries so far this year have increased the world’s dry-bulk ship capacity by 10.9 percent to 593 million deadweight tonnes, while the world tanker fleet will grow 6.6 percent over the year. Much of this new capacity is coming from China’s growing shipbuilding industry, which outstrips South Korea on tonnage launched, but takes second place in dollars earned as South Korean vessels tend to be more sophisticated ones such as LNG carriers.

WWCD – What Would China Do?

Interestingly, China is responding to the situation. Instead of pretending it is someone else’s problem, Li Shenglin, China’s transport minister, has pledged to slow deliveries from the country’s shipyards and bring shipbuilders under control. Exactly how he proposes to do this is not clear, but as we have seen, Beijing has mixed success in these areas. Gentle pressure had little impact on coal miners, it wasn’t until the government stepped in and forced closures and rationalization that effective control was enforced.

Li is presenting this as China’s wish to “deepen cooperation with the international shipping industry, but the reality is more pragmatic. On the one hand, Chinese shipping lines have been badly hit by the fall in rates. Cosco, the Hong Kong-listed arm of China’s biggest shipping company, last week announced a Rmb 1.63 billion ($257 million) net loss for the third quarter. Cosco, China Cosco’s state-controlled parent, is the world’s biggest operator of dry bulk ships and a significant container ship operator. On the other hand, China must see that if it continues to compete aggressively to produce ships, they will not only end up with loss-making shipping companies — they will end up with loss-making shipyards.

Arguably, the country already suffers from an over-capacity of low-tech shipbuilding, not the part of the market Beijing aspires to. Like rationalization in coal mining, by encouraging the domination of the major state companies, standards can be raised and eventually higher value-added products can be produced. Regardless of China’s motives or the speed of implementation, the probability is that over-capacity is here to stay for the next couple of years — meaning freight costs at least are unlikely to be a major cost problem for Western buyers next year.

–Stuart Burns

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