Energy, Politics & Money - 18 July 2023
Providing independent, objective, & neutral analysis of global developments curated from sources covering the world of energy, geopolitics, & investment.
In this roundup, we take a very close look at China’s economic outlook. The country faces significant structural challenges – a bursting property bubble, an imbalance between investment and consumption; a mountain of local government debt; the Communist Party's tight grip over society, including private businesses; and demographics, as in a shrinking workforce and consumer base while the cohort of retirees is expanding.
EPM is of the view that many of the challenges China faces are no different from many developed economies, who face similar or other significant structural challenges. In our view, what China needs to do next, is develop the science & technology side of the economy, which is where real, sustainable growth is created. And, in this area, in EPM’s view China is actually doing better than most developed economies, thanks to its industrial policy approach and forward-looking nature.
The evidence in support of this assessment is abundant. Chinese R&D is cutting edge, judging by the number of patents and its share of high impact research papers. For example, decades ago China identified green technologies as a major growth area, as a result of which it is now leading in solar, batteries, and EVs, and on path to a similar position in wind and green hydrogen. While of course it has monopolized much of the minerals supply chain these technologies require. The US and the EU are playing catchup in all these areas.
In conventional energy we believe China is currently preparing to corner the market for LNG through long term contracting of volumes, which will make for example the EU dependent on China when it looks for spot volumes. As such, we agree with the assessment that Chinese growth will decline significantly, and is likely to struggle to hit the 5% target. But we believe many developed countries will struggle as much. As far as Europe is concerned we have little to no hope, due to a complete lack of independent, strategic thinking on the continent. The US has a bigger chance of succeeding in keeping up with China, or even outperforming it, as it has independent strategic thinking, a creative mindset, and a government that is aware of what it takes to be successful. But it too faces structural challenges, among which is the polarization in its society and the decline in trust between the population and the state institutions.
Furthermore, we look at:
China’s boosting of Brazilian crude imports, in response to Saudi’s production cut and associated price hikes
The details of the weakness in China’s real estate sector, what this says about consumer and investor sentiment in the country, and why this limits the ability of government stimulus to effect a meaningful change
The chemicals industry, historically an early warning of coming recessions, has entering a phase of low profitability to weak demand
The efforts by the US semiconductor industry to prevent further US government sanctions in the semiconductor area on China
The UK’s support package for the SMR industry
Ford’s cutting of prices on its F-150 Lightning trucks, following improvements in scale and battery raw material costs
General Energy News
Chinese oil refineries, led by heavyweight Sinopec, are set to boost Brazilian crude imports in the third quarter to replace some of the Saudi Arabian supply it cut after the kingdom hiked prices, writes Reuters. China, the world's top crude importer, has booked nearly 1 million barrels per day of Brazilian crude for August and September delivery. The volumes are significantly higher than the average in the first five months of the year, when China imported an average of 729,125 barrels per day. The increase in Brazilian crude purchases comes as Chinese refiners cut volumes from Saudi Arabia, its second-biggest oil supplier, which has hiked most of its crude prices for July and August after the OPEC kingpin volunteered to cut more output.
Macroeconomics
China’s economy remains troubled, as we discussed here at EPM yesterday. Seasonally adjusted gross domestic product grew just 0.8% on the quarter in April through June, down from 2.2% in the first quarter when the end of the country's zero-COVID policy gave the economy a boost. Real estate in particular is going through a rough patch, which is very bad news for China’s overall economy due to its oversized share in overall economic activity. Prices for existing homes in China are tumbling even in major cities as an influx of sellers and a dearth of buyers, writes Nikkei Asia. The most recent drop stems partly from a rush into the market by homeowners who viewed the return of normal economic activity after strict lockdowns as a chance to sell. But because the overall economic recovery in China has been sluggish, the job market is weak and profits at private-sector companies have failed to bounce back.
In the private sector, which employs around four-fifths of Chinese workers, 28.1% of companies were losing money at the end of May -- the highest share in comparable data dating back to 2001. Another Nikkei Asia report looks at the market for new real estate and found a similar issue. Sales of new homes by floor space in January through June slid 2.8% on the year, while inventories were up 18% at the end of June from a year earlier. In response, investment in new development has continued to fall as demand has dried up, which affects the broader Chinese economy.
EPM readers should at this moment remember that real estate and related industries have been estimated to generate about 30% of China's GDP. Uncertainty about the future has encouraged consumers to keep saving while steering clear of big purchases like homes, resulting in a lack of demand. In our view, the biggest threat to China’s economy is now consumer and investor sentiment, i.e. pessimism about the outlook. This can not be undone by government stimulus. In a pessimistic climate, much of the resulting additional money will go into savings rather than investment and consumption, namely.
China’s current economic weakness led Reuters to speculate that it may “never become rich”. Second-quarter growth of 6.3% underwhelmed, considering the low base caused by last year's COVID-19 lockdowns. The April-June data puts 2023 growth on track for roughly 5%, with slower rates thereafter. But China's annual growth averaged around 7% last decade, and more than 10% in the 2000s. Prompted by such loss in momentum, economists no longer ascribe weak household consumption and private-sector investment to the pandemic's effects, blaming structural ills instead, Reuters says. These include the burst of a bubble in the property sector, which accounts for a quarter of output; one of the deepest imbalances between investment and consumption; a mountain of local government debt; and the Communist Party's tight grip over society, including private businesses. And China's workforce and consumer base are shrinking while the cohort of retirees is expanding.
EPM sees this point of view as valid. Indeed, China faces these significant structural challenges. Just as most of the developed economies, we hasten to add, however. As many countries before it, China has used “easy money” to turbocharge the economy over the past 20 years, as is evidenced by the below graph on the development of debt in the country versus GDP growth. Everyone knows, and those that didn’t know were reminded by the Global Financial Crisis of 2008, that eventually this “development strategy” experiences a day of reckoning – it is not sustainable.
In our view, what China needs to do next, is develop the science & technology side of the economy, which is where real, sustainable growth is created. In this area, in the EPM view China is actually doing better than most developed economies, thanks to its industrial policy approach and forward-looking nature. The evidence in support of this assessment is abundant. Chinese R&D is cutting edge, judging by the number of patents and its share of high impact research papers. Decades ago already China identified green technologies as a major growth area, as a result of which it is now leading in solar, batteries, and EVs, and on path to a similar position in wind and green hydrogen. While of course it has monopolized much of the minerals supply chain these technologies require.
The US and the EU are playing catch-up in all these areas. In conventional energy we believe China is currently preparing to corner the market for LNG through long term contracting of volumes, which will make for example the EU dependent on China when it looks for spot volumes. As such, we agree with the assessment that Chinese growth will decline significantly, and is likely to struggle to hit the 5% target. But we believe many developed countries will struggle as much. As far as Europe is concerned we have little to no hope, due to a complete lack of independent, strategic thinking on the continent. The US has a bigger chance of succeeding in keeping up with China, or even outperforming it, as it has independent strategic thinking, a creative mindset, and a government that is aware of what it takes to be successful. But it too faces structural challenges, among which is the polarization in its society and the decline in trust between the population and the state institutions.
Recognizing the urgency needed, China's top economic planner pledged on Tuesday that it would roll out policies to "restore and expand" consumption without delay, writes Reuters.
The chemical industry is warning of a major change on the horizon, writes Paul Hodges for ICIS. It’s coming up to earnings season, and the number of warnings is quite extraordinary. This means, he says, the chemical industry is warning that the Stimulus Bubble is bursting. There is simply too much supply and too much debt. So companies are being forced to issue profit warnings.
Geopolitics
U.S. chip company executives met with top Biden administration officials to discuss China policy, writes Reuters. The most powerful semiconductor lobby group urged a halt to more curbs under consideration. Secretary of State Antony Blinken, Commerce Secretary Gina Raimondo, National Economic Council director Lael Brainard and National Security Council director Jake Sullivan were among other government officials meeting with Intel, Qualcomm and Nvidia. The chip industry is keen to protect its profits in China as the Biden administration considers another round of restrictions on chip exports to China. Last year, China accounted for $180 billion in semiconductor purchases, more than a third the worldwide total of $555.9 billion and the largest single market.
Climate Politics
The UK announced a funding package to support nuclear power generated by small modular reactors in a bid to boost energy security while lowering the nation’s reliance on fossil fuels. The government will provide grants totaling £157 million ($205 million) for companies to accelerate their nuclear business in the UK, as well as develop new reactors, writes Bloomberg.
The Electrification of Transport
Ford cut the prices of its F-150 Lightning trucks, including a 17% cut for the base model, writes Reuters. The company says it was able to cut prices following improvements in scale and battery raw material costs. Ford shares sank after the price cuts, writes the Financial Times.