What Does The Falling Renminbi Hold For Commodity Prices?

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The answer as you can imagine is not a simple one, it will impact prices in a number of ways and different commodities will be impacted in different ways.

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So far, it has been seen as a bearish development mostly for macro reasons – that Beijing felt the need to allow the currency, the yuan/renminbi, to fall to bolster export industries, particularly manufacturing. It is certainly true that real GDP growth is slowing and is probably already under 7%.

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Oversupply of aluminum could get worse with a devalued renminbi.

Worse, most of the sub-indexes in China’s General Manufacturing Purchasing Managers’ Index have weakened this month, with output, new orders, new export orders and employment all deteriorating. Up to now, the employment prospects for China’s 10 million new entrants each year had held up well, but some indicators show the job market is weakening according to the Financial Times.

Woeful PMI Numbers

The paper reported the Caixin China General Manufacturing PMI, dropped to 47.1 in the first three weeks of August, down from 47.8 in July, sending domestic stock markets plunging by as much as 5.6% in the course of the day. Nor is it just indexes falling. Growth in investment and manufacturing has slowed to its weakest level in more than a decade, while there are growing signs that consumption is struggling to pick up the slack.

This year sales of smartphones in China have started to fall for the first time, the FT reports. Meanwhile, car sales fell 3.4% in June against the year before, the first decline since early 2013, in addition retail sales grew by close to their slowest pace in a decade last month, leading some to hope Beijing will announce some form of stimulus soon.

Seen against this backdrop the decision to weaken the renminbi and help those exporters makes good sense from Beijing’s perspective and you may think an uptick in China’s manufacturing sector would be good for metals prices, but that may not be the case.

Production Vs. Consumption

China may be the world’s largest consumer of many metals, but for some metals it is also the world’s biggest producer. A weaker currency raises the cost of imported raw materials, making domestically produced resources more attractive. For China, it could mean a boost for coal, iron ore and aluminum production. Unfortunately, these are all commodities in which the world is already in oversupply.

More competitive exports of these items will only drive down global prices further. According to another FT report, China accounts for more than half of the world’s production of aluminum and steel and over 70% of thermal and metallurgical coal.

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As the FT observes, aluminum prices hit their lowest level in six years this week, while coal futures are at a 12-year low. A weaker currency effect, therefore, could temporarily send prices even lower as supply keeps growing. Even where China is a net importer, a weaker currency, as the falling renminbi is, will boost substitution of imported commodities to the benefit of domestic producers further increasing global supplies.

So contrary to a weaker renminbi being a boost for export-dependent manufacturers, and hence metals demand, it is entirely possible oversupply in many metals will be exacerbated rather than reduced.

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