The end of the commodities super-cycle has been predicted before — but could this time really be different?
Many thought the collapse in prices after the Lehman Brothers crisis was the end of the boom that started earlier in the decade, but prices bounced swiftly back, some to near-record or even record highs. Two factors have driven the volatility and significance of commodity prices in recent years.
First, one country has become a disproportionately large consumer, tying the fortunes of nearly all commodities to that country — no prizes for guessing which one. China accounts for as much as half the world’s demand for some commodities, such as iron ore. It has the power to shape almost single-handedly the direction of the commodities super-cycle, and by extension the price of iron ore and others.
The other factor is the value of commodities. As an FT article points out, quoting Glenn Stevens, governor of the Reserve Bank of Australia, “Five years ago, a ship load of iron ore was worth about the same as about 2,200 flat screen television sets. Today it is worth roughly 22,000 flat screen television sets.” In proportion to the products that commodities go toward making and to the balance of payments of major producers and/or consumers, commodities have taken on vastly more significance than they did just a decade ago.
As an EIU report advised, the rally in risky asset markets fueled at the start of this year by the European Central Bank’s unlimited provision of long-term liquidity to the region’s banks proved short-lived. It started to fade in March in the face of risks to the global outlook. Fears about indebtedness in Greece, Spain and even Italy have depressed sentiment among investors and the relentless slowdown in Chinese consumption figures during 2011/12 has made many question the legitimacy of the super-cycle story.
This flight to safety has meant risky (for which read commodities as well as shares) assets have been sold and the proceeds plowed into negatively yielding 10-year US treasuries, German bunds and Japanese or Swiss deposits.
Many bulls are pinning their hopes on China launching a new stimulus package, much as they did in 2009. Billions of dollars were poured into infrastructure investments and the housing market picked up from its already frenetic pace to suck in commodities from around the world. Although the Chinese have said they will increase infrastructure spending this year, the reality is it will be selective and modest compared to 2009.
The housing market is still in the latter stages of a bubble deflation and, apart from some social housing, is not going to provide the impetus it did in 2009. Beijing has been trying to steer the economy towards greater reliance on consumption and less on investment and exports, but the process is a slow one.
Yu Song of Goldman Sachs is quoted as saying, “Over the past years the share of household consumption as a percentage of gross domestic product has not been rising”; Beijing’s re-engineering of the economy is going to be a long, slow process.
So will China be the driver of commodities demand it was in the last decade?
Make sure to read our conclusions and forecast next Monday.