Commentary

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Several sources are leading on news that President Trump has twice rejected a Chinese proposal to cut steel overcapacity, despite the endorsement of some of his top advisors.

An agreement reached between U.S. Commerce Secretary Wilbur Ross and Chinese officials last month agreed a cut of 150 million tons per annum of capacity by 2022 was vetoed by the president, apparently because he preferred a more “disruptive strategy,” according to Reuters and the Financial Times.

The articles suggested the 22% rise in steel imports through July of this year compared to a year ago, reported by the American Iron and Steel Institute (AISI), spurred calls for action from U.S. steel producers to apply tariffs. Those calls may have influenced Trump’s position, as may the input of Steve Bannon, since fired, and Peter Navarro, an economic assistant to the president on trade matters.

The rejection of a deal brokered by Ross’ team seems to have undermined his position and probably leaves little room for further negotiation. The Chinese have gone away to consider their options, but rumors reported in the Financial Times suggest retaliatory action seems the most likely.

But while picking a fight with China probably makes for good headlines, at least as far as U.S. imports are concerned, is it the primary antagonist?

Not if you look at the AISI data.

Their findings suggest Taiwan and Turkey were the countries making up much of the increase. There was a sizeable increase from other countries, too, meaning Germany, up nearly 60%, and Brazil, up 80%, on three-month rolling average measures.

At 83,000 tons, China’s share of finished steel imports is a fraction of South Korea’s 352,000 tons, Turkey’s 245,000 tons or Japan and Germany’s about 138,000 tons.

Unless the administration plans on tackling these suppliers, picking out China seems a bit like fiddling while Rome burns.

We would hope that Trump’s presidency ends much better than Nero’s both for the man and the country, but picking fights that have a pragmatic strategy rather than catching headlines would be a good first step.

The Trump administration is right to worry about the loss of American jobs and to explore the reasons for trade imbalances.

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But they are wrong for taking a blanket pop at free trade agreements and saying just because there is a trade imbalance that it is the fault of the agreement.

An article in Bloomberg reporting on recent discussions between U.S. Trade Representative Robert Lighthizer and South Korean Trade Minister Kim Hyun-chong this week illustrates the problem.

Lighthizer vaguely stated the U.S. administration is seeking “substantial improvements” that address the trade imbalance, adding that the U.S. wants to see the free trade agreement (FTA) deal “fully implemented.”

The Korean side and most independent observers are perplexed at what the U.S. actually expects to achieve.

Emissions Standards Too Strict, U.S. Argues

Bilateral trade has surged since KORUS, as the Korean-U.S. trade deal is known, was implemented five years ago. Although there is a trade imbalance, the reality is no two countries will have exactly balanced trade. Balances have more to do with relative competitiveness than a rigged system.

Bloomberg reports that South Korea is the U.S.’s seventh-largest trading partner, while the U.S. is South Korea’s second-biggest partner, after China. U.S. figures indicate its goods deficit with South Korea was $27.7 billion last year, or about $4.4 billion more than the number Korea came up with. The U.S. has cited non-tariff barriers in South Korea’s auto market as an example of the unfairness of the FTA, saying that South Korean emissions standards are too strict.

Honestly, can the U.S. (or anyone else) criticize another country for being too strict on emissions?

Japanese and European manufacturers meet the standards. Perversely enough, U.S. manufacturers comfortably meet the Korean standards — supporters say the FTA has helped U.S. automakers to surpass Japan to rank second in imported autos since 2015.

So, how are emission standards a barrier?

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An interesting article in the Financial Times explores the decline of global capital flows since the financial crisis and how the nature of capital flows has changed markedly since 2007.

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The article draws on research by the McKinsey Global Institute looking at how bank lending, particularly European cross-border bank lending, has shriveled up and been partially replaced by company fixed-asset investment. That, we would normally say, is a good thing. Foreign Direct Investment (FDI) is usually a more productive commitment by companies in factories and other facilities.

But the concern is the main factor behind the expansion in FDI has been the flow of investment booked in “financial centers” — the polite phrase for low-tax countries such as Ireland, the Financial Times says.

A lot of this money represents tax-motivated profit shifting that simply shows up on balance of payments as FDI flows.

Cross-border capital flows are down significantly from where they were when the global financial crisis began, the Financial Times reports. The $4.3 trillion that flowed around the world last year was only a third of the peak of $12.4 trillion in 2007. While no one is suggesting a return to those levels would be a good idea – much of that liquidity resulting from savings in China and other emerging market economies and the wealth of oil exporters found its home in U.S. property, helping build a bubble that led to the financial crisis — but nor is it healthy that firms are squirreling away billions off-shore to avoid tax at home. Think Apple’s massive off-shore war chest, as an example.

Another major change that the world is only just catching up to is the shift in capital account balances.

At the time of the financial crisis, China had the world’s biggest surplus while the U.S. had the largest surplus on its current account – mainly trade. Now, it is China and Japan, as the graph below shows, and politicians in the U.S. are only just catching up to the idea that Germany is the mercantilist of the second half of this decade, not China. It should be said, however, that all imbalances have declined relative to GDP.

Source Financial Times

Finally — and this will not come as any surprise — the role of mature economies is waning compared to emerging markets.

Developed economies are sending significantly less money overseas in the form of FDI than they did before the crisis. Their share of global FDI has also been falling as China’s role has grown. This is already causing a reaction in the U.S. and Europe to Chinese firms buying up famous and occasionally strategic firms and assets, and may yet lead to legal barriers being raised to prevent further encroachment.

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Popular wisdom suggests a currency devaluation results in a boost to exports and the economy. The devaluation of the currency allows manufacturers, in particular, to sell their products at lower prices in export markets and therefore achieve growth at the expense of their competitors.

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Many countries have been trying to quietly engineer just such a devaluation.

Some have done it overtly, like Japan, and others simply by being part of a bloc, such as Germany – it being widely accepted that the Deutschmark, if it still existed, would have Germany at an exchange rate like Switzerland or Norway, rather than the more competitive Euro.

So when Britain inexplicably voted to leave the European Union and the Pound sterling dropped in minutes on the news, many held the near 17% devaluation as a panacea for Britain’s economic ills, as the onset of a renaissance for manufacturing companies able to aggressively export to the world while simultaneously undercutting competitors.

The reality has proved somewhat otherwise.

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Life sometimes springs happy coincidences on us.

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Sustainable supply chains have become increasingly important, as companies assess the economic damage to their brand of exposure to bad news from their supply chains.

Social media has made the dissemination of such information faster, easier and instantly global in nature, rather than being limited to those who read the papers or are industry insiders.

A chance introduction to Daniel Perry from EcoVadis one evening earlier last week was an education in how sophisticated the assessment and auditing of supply chains has become — and not just for Fortune 500s in the public eye. Supply chains have also become more complicated for small- and medium-sized enterprises (SMEs) keen on growing the bottom line, but also on building an ethical business.

Where was the coincidence, you may ask, apart from the one data point of meeting Perry?

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You would think that a stiffening of Washington’s backbone when it comes to Russia would be welcomed by Europe. After all, it was Germany’s Angela Markel that has led the tough stand taken against Moscow following the Russian-sponsored uprising in eastern Ukraine and annexation of Crimea.

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But on the contrary, cross-party support in the U.S. House of Representatives led to a 419 to 3 vote in favor of new financial sanctions against Russia this week, a move that has faced fierce criticism from Bonn and considerable debate about the wider implications.

The EU probably does not care about the inclusion of North Korea in the proposed sanctions, although it has taken a distinctly different and more tolerant line on Iran (the third regime included in the action).

But it is Russia that is really raising the hackles in Bonn according to Carnegie Europe, a Brussels-based think tank.

Impact on Europe

A post on the site reports the action could not only severely impact many European companies who have already invested heavily in projects, particularly in the oil and gas sector, but that it could also precipitate a political divide among Europe’s partners. Seen in the context of this development, President Donald Trump’s focus on Poland during his recent visit to the continent for the G-20 summit takes on a more sinister slant — at least, that is the view many Europeans are taking.

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Aluminum may have been the best-performing metal on the LME this year, but copper is making a good showing, too, with the price hitting a 4 1/2 month peak last Friday.

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Supporting the price earlier this year was a long strike at Chile’s Escondida, the world’s largest copper mine. However, as that dispute was settled workers contracts have come up for renewal at other mines in Chile and Peru, causing if not out-right strikes then the fear of supply disruption.

Workers at Chile’s Zaldivar mine came out on strike after talks failed while nearby Centinelais is also in negotiations with the threat of strike action.

According to Reuters together the two mines produced 340,000 tons of copper in 2016. Unionized workers in Peru, the world’s second-biggest copper producer, began a nationwide strike on Wednesday protesting against labor reforms, Reuters reported.

Meanwhile, recent data from China show the economy picked up in the second quarter and the expectation that the world’s largest copper consumer is likely to hit growth targets for 2017 set earlier this year have only added fuel to the fire in supporting prices.

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I could be committed for heresy for what I am about to write, but it isn’t a foregone conclusion that Britain will leave the European Union (EU).

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On the balance of probabilities, a break with the EU is more likely than not. In recent weeks, however, the realization of what leaving the single market will mean to voters’ pockets, not to mention the fiasco of the Conservative government in-fighting, has encouraged some to think a rethink may yet prevail. A second referendum is, while not likely, at least not impossible.

I say heresy because the debate is becoming increasingly acerbic.

Leave supporters, in particular, shout shrilly anytime the topic is raised that “we cannot thwart the will of the people” and to even suggest a rethink is “anti-democratic.” As Gideon Rachman wrote so eloquently in the Financial Times this week, this sounds rather like a third-world dictator, who having unexpectedly achieved a vote in his favour says — “one man, one vote, one time.”

In other words, once a decision has been taken by referendum, it cannot be revoked.

But as Rachman observes, this denies the fact that the electorate was, putting it politely, profoundly misled during the campaign.

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Despite U.S. oil stocks falling 7.6 million barrels, the biggest drop since September, a recent Financial Times article reports, quoting U.S. Energy Information Administration data, that the oil price is struggling to get back to $48 per barrel, let alone the heady heights above $50 it achieved in May.

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U.S. refineries are running flat out to meet summer demand, drawing down on U.S. stocks — but still, the price is not responding.

Meanwhile U.S. exports are booming. Rather than being constrained by OPEC cuts, global production is rising. Ironically, even Saudi Arabia is pumping above its target, reporting to the cartel that last month it raised output to 10.7 millions barrels per day, a 190,000 b/d increase on the previous month and 12,000 b/d above its own target.

The Kingdom claims it needed to increase output to meet peak electricity-generating demand experienced during the summer months, but the Saudi increase contributed to total OPEC overproduction of 393,500 b/d from last month, according to the Financial Times.

Source: Financial Times

Iraq, Nigeria and Libya are all pumping more oil than at any time this year and Iran is close to its own year’s highest output, too.

In addition, Canadian oil sands production is rising, Production is predicted to be higher still next year as new projects come on-stream (despite the low prices), making many projects marginal or even loss-making, debts must be repaid and oil sands producers are hanging in there hoping for firmer prices.

News south of the border is not encouraging, though. U.S. tight or shale oil production has continued to rise this year, although at a more gradual rate than seen over the last 12 months. Nevertheless, shale oil producers have become adept at squeezing profits out of production, even at sub-$50 per barrel prices, and show no signs of backing off at current levels.

Long-position holders are hoping OPEC may take further action to curb supplies, but members are sticking to their mantra that they expect stocks to decrease and, therefore, prices to rise, as the current restrictions bite.

But as the Financial Times notes, OPEC’s own monthly report indicates the group still faces an uphill struggle to balance output under the terms of its supply deal, what with cheating and non-OPEC production.

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A balanced oil market seems a distant dream for producers.

The jury may be out on whether the recently concluded Group of 20 (G20) summit’s protectionist slant will hurt India or not (though everybody is near-unanimous that where overproduction of steel was concerned, China’s had it coming for a long time).

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The G20 leaders at the July 7-8 summit in Hamburg, Germany, had agreed to address “growing overcapacity and rock-bottom prices in global steel markets.” This, after pressure was applied by the U.S. administration, which managed to get some strongly worded language inserted into the G20 communique, even setting deadlines for G20 members to address the issue of excess steel production.

The communique urged world leaders to seek the removal of “market-distorting subsidies and other types of support by governments and related entities,” according to a copy obtained by news agency Bloomberg.

The statement called on all G20 members to “fulfill their commitments on enhancing information sharing and cooperation by August 2017, and to rapidly develop concrete policy solutions that reduced steel excess capacity.” All the data and proposed policy solutions will also be compiled as a report and published by the OECD’s Global Forum on Steel Excess Capacity in November this year.

Some last-minute maneuvering by the Trump administration saw such strong language being inserted into the communique to fight protectionist measures and ensure reciprocity in trade and investment frameworks. Many saw this as a departure from attempts to include similar language at the G20 finance ministers’ meeting in March, barely a month before the U.S. had launched investigations to determine whether cheap steel imports posed a threat to U.S. national security, startling many sector experts.

Calls to lower overcapacity are largely aimed at China, producer of half of global crude steel output until May 2017. Even though China has insisted it had clamped down on polluting and unviable steel capacity, the impact on steel production has been negligible so far, experts say. (Stuart Burns wrote on the subject of capacity cuts last week.)

Even at the 2016 G20 summit, European and U.S. leaders asked China to accelerate capacity cuts, blaming its big exports on slumping prices and accusing it of dumping cheap metal in foreign markets.

Data for global crude steel output in 2017 through May showed output grew 4.7%, while U.S. output was up by only 2.2%. In comparison, steel output in the European Union (EU) rose by 4.1%. China’s output was up by 4.4%, although May saw output grow by 1.8%.

India’s steel industry has come to rely on exports since its domestic demand had not kept pace with the increase in capacity. While some in India say the country needs ready access to global steel markets, any such protectionist move could put pressure on growth.

On the other hand, other experts were of the view that the move could resolve a large part of the non-performing assets problem in the Indian banking sector. At the moment, a number of Indian steel companies were facing bankruptcy and their lenders were looking to sell their assets.

Any move by G20 companies to support the world steel prices would eventually help Indian companies’ realizations from exports.

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