Energy, Politics & Money - 02 July 2023
Providing independent, objective, & always politically neutral analysis of global developments curated from sources covering the world of energy, geopolitics, & investment
In this roundup of the weekend’s news and analysis, we look at:
India’s imports of Russian oil hitting another record in June
China’s continued efforts to lock in LNG supplies through longer-term contracts with exporters, and what this will mean for India and Europe who are more exposed to the spot market
The decline in factory activity across Asia
PIMCO’s expectation that the global economy is in for a harder landing than commonly assumed (exactly what EPM has said consistently since the beginning of this year)
The roadblocks faced by China’s “dual circulation” economic development strategy
The main challenge facing India as it tries to achieve “developed” status
John Mearsheimer’s view on the most likely trajectory of the Ukraine war moving forward
The small modular nuclear reactor industry challenges with cost-overruns and project delays (which is a long standing tradition in the nuclear industry)
The startup of two new green hydrogen projects in China, with a combined capacity of 30,000 tons per year
The “shift right” of European politics, and what this could mean for environmental / climate policy in the EU
General Energy News
Crude oil has started the second half of 2023 with little change, as traders focus on challenges to demand and a complex supply outlook, writes Bloomberg. Brent crude for September settlement held at around $75.40 a barrel after capping a string of four quarterly losses last week, the worst run for the global benchmark in data going back more than three decades. WTI for August delivery eased 3 cents to $70.61 a barrel. So far this year, prices have retreated by about 12% as China’s recovery lost steam, traders feared a potential recession in the US, and robust exports from Russia and Iran kept supplies ample.
India’s imports of Russian oil hit another record in June, writes Bloomberg. The volume climbed to 2.2 million barrels per day, exceeding the combined shipments of Saudi Arabia and Iraq. State-owned Indian Oil Corporation has been the biggest buyer of Russian crude over the past two months, followed by Reliance Industries.
China is continuing to lock in longer-term contracts for LNG supplies, writes Bloomberg. The government continues to back efforts by state-owned buyers to sign long-term contracts and even invest in export facilities in third countries, in order to bolster energy security through the middle of the century, it says. So far this year, 33% of long-term LNG volumes signed went to China. This is great for LNG exporting countries such as Qatar, as it provides them security of offtake and pre-agreed pricing formulas. But it also means that China’s role in the global LNG market is set to increase. EPM notes that as China swallows up the LNG volumes available under contract, other major importers such as India and Europe will be more exposed to the spot market. We expect that China will use a significant amount of its contracted volumes for re-sale on the spot market, providing it leverage over these economic blocs.
Macroeconomics
In the current moment, Asia’s factory activity is on the decline, primarily due to low demand from China and western markets, writes Reuters. Japan’s factory activity slips back into contraction in June on soft orders, it says, while it also writes South Korea’s factory activity suffers longest downturn in at least 19 years.
The Financial Times writes that PIMCO, the world’s largest active bond fund manager, says markets are too optimistic about the outlook for the global economy – echoing exactly the EPM view since the beginning of this year. It now says the central banks’ ability to dodge a recession as they battle inflation in the US and Europe is overrated. PIMCO says it is now preparing for a “harder landing” than other investors. PIMCO also notes that when rates have risen in the past, a lag of five or six quarters for the impact to be felt has been “the norm”.
When we at EPM take a step back and look at the bigger picture, we note China’s growth model is undergoing fundamental change. After decades of relying primarily on external demand to drive growth, the government has embraced a “dual circulation” model, driven by both internal and external demand. The goal is to make China’s economy more resilient and less vulnerable to external shocks, but the structural transformation has run up against major roadblocks, writes Project Syndicate. Its foreign-trade-to-GDP ratio has declined from a peak of 67% in 2006 to around 35% today, but China still relies on the jobs provided by its export industries. As China built up its manufacturing sector, it also invested heavily in expanding its construction and financial industries, thereby laying the foundations for a dynamic real-estate market. Over the last decade, the nominal average annual growth rate of the construction sector and the financial and real-estate industries reached 13%, 14.8%, and 10.5%, respectively. In 2021, China’s construction sector contributed 13.8% to national GDP, with the real-estate industry’s value-added reaching 6.8% of GDP. Today, real-estate assets account for about 70% of household wealth, and real-estate loans account for 27% of total bank credit. This is the root of China current economic problem, in the EPM view. A lot of real-estate developed borrowed using USD denominated bonds, and they have now been affected by the rising interest rates in the US. Their impeding collapse earlier in 2022 has affected the real-estate market, affecting not only household wealth, but the broader banking system, and even government income as in 2021 direct real-estate taxes accounted for 16.9% of national tax revenue, and 24% of local-government tax revenue. In the EPM’s view, the Chinese will need to intervene forcefully to prevent this situation from causing an implosion of the economy, and we believe it can and will. In parallel, it will need to strengthen export incomes, as that is the sustainable pathway to wealth creation. There, the US – China confrontation will be a major hindrance, as the US is trying to limit China’s access to international markets and its ability to compete there.
East Asia Forum carries an opinion piece that looks at the weakness of the Indian formal institutions of relevance to the economy. Indian market reforms replaced state-led planning with deregulated markets. Industrial decontrol stimulated private entrepreneurial dynamism. But the reforms failed to create effective institutions of economic governance for policymaking and regulation that are necessary for efficient markets, it says. Several ‘independent’ regulatory bodies were established in infrastructure and natural resource sectors to support private sector participation in areas run by government monopolies. Their evolution has been stunted, however, by the lack of a strategic roadmap. Turf wars occurred between government departments, new institutions and private stakeholders. The new institutions lacked independence, clout, professional expertise and financial resources. Political figures remained influential in regulatory decisions. The result is a corporate sector that is buoyant, but dominated by just five major business houses. This industrial concentration has increased since 2015. In the EPM view, this situation will hold back India’s development, and result in growth rates that are below potential, i.e. below targeted and commonly assumed rates.
Geopolitics
In a Substack post, John Mearsheimer, one of America’s leading political scientist and international relations scholars, has set out what he believes is the most likely trajectory of the Ukraine war moving forward. He believes peace is unlikely, as both sides in the conflict see it as “existential”. So, there will be fighting until one of the two sides clearly has the winning hand, and Mearsheimer believes this will be Russia. The Ukraine war, he says, is a war of attrition, in which artillery plays the crucial role of “wearing the opponent down”. And Russia has the better ability to keep this kind of war going – it has more people, the industrial base to produce artillery shells, and the natural resources. The West led by the United States can not provide Ukraine the edge it needs, as it too struggles to increase production of ammunition. As to what a Russian victory will look like, Mearsheimer says it will not occupy all of Ukraine – nor should it want to as that will likely expose it to a longer-term rebellion. It is likely to occupy a larger part of Ukraine than it does today, and it will aim to occupy all of Ukraine Black Sea coastline including Odessa. Once achieved, it will then try to “freeze” the conflict. Ukraine will then become a dysfunctional rump state. Another possible, though less likely outcome, in the view of Mearsheimer, is that Ukraine achieves a breakthrough and puts Russia on the defensive. This possibility creates the possibility of a nuclear war, he says, as the Russian elite will not hesitate to use nuclear weapons to ensure its survival.
Energy Transition & Technology News
In a bit of an ironic turn of events, Bloomberg writes that the small modular nuclear reactor industry, which promised to end the nuclear industry’s long history of cost-overruns and delays, is now facing… cost-overruns and delays. IAEA Director General Rafael Mariano Grossi said at a meeting in Vienna
With higher interest rates to deal with and inflation pushing up the cost of steel, copper wire and just about everything else that goes into building an SMR, we know that even the most promising projects are having to tell their investors and buyers that prices have risen substantially.
Nuclear energy costs in the US currently level out to an average of $373 a megawatt hour. That’s significantly higher than solar or onshore wind at $60 and $50 a megawatt hour, respectively. US SMR developed NuScale originally foresaw average generation costs of $55 a megawatt hour in 2016, which was slightly lifted to $58 five years later. But new estimates show costs surged to almost $120 a megawatt hour this year.
Two renewables-based hydrogen projects are starting operations in China's northwest Xinjiang and Inner Mongolia provinces, with combined annual hydrogen production capacity of 30,000 mt/year, project developers Sinopec and Three Gorges Corporation said, writes S&P Global. Both projects will utilize solar photovoltaic power to electrolyze water and produce green hydrogen. To put the 30,000 mt/year capacity into context, in 2022, 307 MW of electrolyzers were installed globally, which translated into 40,000 mt of hydrogen produced annually from water electrolysis, S&P Global says.
Climate Politics
In a revision of the country's energy and climate plan, Italy now aims to get 65% of its electricity from renewables by 2030, up from a previous target of 55%, writes Reuters. Renewables are expected to cover 40% of gross energy consumption in all the sectors - including power production, housing and transportation - by the end of the decade versus 30% in the old plan. For heating and air conditioning, renewable sources should provide 37% of consumption and 31% in the transport sector. The ambition is that hydrogen produced without carbon emissions will cover 42% of industrial needs by 2030.
The Electrification of Transport
Both Tesla and BYD set fresh sales records in the second quarter of 2023, writes Bloomberg, proving the strong demand for EVs globally. Tesla delivered a record 466,140 cars worldwide. BYD posted a sales result of 700,244 new-energy vehicles, half fully-electric sales and the other plug-in hybrids.
Other
Across Europe, governments are shifting right, writes Politico. In some places, far-right leaders are taking power. In others, more traditional center-right parties are allying with the right-wing fringes once considered untouchable. Elsewhere, hard-right parties are securing more parliament seats and regional offices. It’s a development that will reshape Europe, Politico says, and it will, among other things, affect how climate change is handled. This is evidenced by the right wing of the European parliament being able, for now, to block the nature restoration law — a key plank of the EU’s plan to become climate neutral by 2050.