China stimulus plans, not rates, key for commodities

BEIJING/SINGAPORE - China's third interest rate cut in six weeks will be much less of a boost to commodities demand in the world's fastest-growing consumer of raw materials than a hefty infrastructure spending programme.

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By (Reuters)

Published: Thu 30 Oct 2008, 7:48 PM

Last updated: Sun 5 Apr 2015, 2:27 PM

Slowing exports are already eating into the country's huge hunger for commodities -- copper consumption growth next year is seen falling to 6 percent, one third the rate in 2007 -- and even a major fiscal package will likely only slow the decline.

While China's decision to cut interest rates a third time by 27 basis points on Wednesday -- followed by a half-percentage point cut by the US Federal Reserve -- added to a risk revival that sent the dollar tumbling and buoyed commodity markets, its impact on real demand may be modest.

For commodity analysts, the question is when Beijing will make good on its pledge to ramp up spending on roads, rail, airports and power that could provide a more material boost for raw materials, supporting a nascent recovery in prices.

Beijing has revealed few details so far on any overarching public spending scheme, only announcing recently a 2 trillion yuan ($292 billion) approval for railway construction under its 2006-2010 plan, 800 billion yuan more than initially earmarked.

‘You can expect the Chinese will do everything in their power to keep growth high even at the expense of other costs,’ said Al Troner, head of Asia Pacific Energy Consulting (APEC), referring to public spending and inflation, which has only recently slowed.

Prices for oil, copper and a host of other commodities have at least halved since hitting peaks in July on fears over a global economic slowdown and falling demand.

Many analysts are counting on emerging economies, particularly China, to weather the storm better than others, lending support to weakening demand momentum.

But recent signs are not good. Aluminium smelters have shut swathes of capacity, steel mills are on the brink of going broke and refiners have curbed production and halted fuel imports due to hefty inventories. Beijing wants to see those plants humming.

‘China has excess capacity in some heavy industries including steel, cement and aluminium, and the government wants to use that excess capacity to build up infrastructure,’ said Wensheng Peng, economist at Barclays Capital in Hong Kong.

Peng sees the economy growing at 8.5 percent next year from 9.7 percent this year, largely due to declining exports.

NOT ENOUGH

Ben Simpfendorfer, China economist at RBS in Hong Kong, said Beijing might choose to devote less resources to public spending this time round versus the decade-ago economic slowdown, and lean more towards the private sector to ease national coffers.

‘We need to see public infrastructure spending in the scale of 1.5 percent GDP (next year), but even that will only help cushion, not offset weaker private investments,’ he said.

Simpfendorfer forecast that the Chinese government may only pump additional funds equivalent to 1 percent of GDP into public spending next year, or about 250 billion yuan.

This is lower than the extra 1.3 percent GDP worth of funds that the government spent on public projects in 1998, when economic growth last slowed to 8 percent, as Beijing looks to the private sector to share the burden, he said.

‘What they want this time is not just more bridges, they want factories to upgrade capacity,’ he said, pointing to government interest to switch to a tax regime where firms may deduct taxes incurred when buying machinery and other capital assets.

MIXED EFFECT

Regardless, not all commodities will be given equal support from public spending -- the railway project will boost steel demand, but copper consumption will continue to falter if the automobile and housing industries continue to slump, and if weak power demand growth dampens investment in the power sector.

More fuel-efficient growth and a greater surplus of power generation capacity could keep oil demand in check.

The International Energy Agency expects oil demand in the world's number-two consumer to expand by 5.2 percent or 420,000 bpd next year, down from 6 percent this year, but would still account for two-thirds of 2009 global demand growth.

And neither massive infrastructure plans nor incremental rate cuts would eliminate the problem of tighter credit.

At the company level, executives face the double-whammy of falling demand and lower prices for their products, which have forced many producers to shut down, and increasing difficulty in securing credit for material purchase.

‘Many economists believe that with government policies supportive of domestic consumption and investment, the economy will be able to maintain a robust pace of growth despite the external slowdown,’ a commodities trader in Singapore said.

‘But if you ask a manufacturing firm in the coastal region, the answer will be more pessimistic.’

(Reuters)

Published: Thu 30 Oct 2008, 7:48 PM

Last updated: Sun 5 Apr 2015, 2:27 PM

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