Energy, Politics, & Money - 2023.08.21
Providing independent, objective, & neutral analysis of global developments curated from sources covering the world of energy, geopolitics, & investment.
In this roundup, we look at:
The physical supply – demand balance for heavy sour crude, which is tightening due to Saudi production cuts, Russian sanctions, and new refining capacity coming on stream in both the Middle East and China
The exceptionally low diesel inventories globally, which creates a risk of extreme price volatility, and the socio-economic implications this would have
The risk of contagion resulting from the liquidity crisis at Chinese property developer Country Garden, and who is most exposed in the troubled Chinese real estate market
The outlook for the US economy, where the savings built up during the Covid years have been drawn down to keep consumption going amid inflation, but is now nearly depleted
Another round of military drills around Taiwan by China’s People’s Liberation Army, this time in response to Taiwanese Vice-president William Lai Ching-te’s “stopover visits” to the US
An analysis of the Camp David meeting last Friday between the presidents of the US, Japan and South Korea, which in the EPM view very clearly places the Asia-Pacific region on a path toward war
US foreign policy towards BRICS, where we review the suggestion that the US establish a “BRICS dedicated foreign policy”, but also explain what we at EPM believe the US will opt to do in order to avoid BRICS from strengthening further
China’s plan to set up a recycling system for ageing wind turbines and solar panels, which is likely to make China the global center for recycling
The UAE plan to create a multibillion-dollar fund to spur clean energy investments across the world, which focuses on private, for profit lending just as EPM foresaw, and what this will mean for the global energy transition dialogue
What Europe’s achievement of 90% full gas storage means for the outlook of electricity prices across the continent this winter
General Energy News
As Kuwait’s Al Zour refinery ramps up, the country is lowering its crude oil exports, writes Reuters. Kuwait's crude shipments shrank by about 10% to 1.61 million barrels per day (bpd) in January-July from the same period in 2022. Exports to Taiwan, China and India dropped more than 17% during the same period, while volumes for Pakistan, the Philippines and Thailand fell to zero. This is leaving Asia’s refiners on the hunt for heavy sweet crude oil barrels, as Saudi Arabia is operating under a voluntary production restraint, and many in Asia do not have access to discounted Russian barrels to compensate. Kuwait's joint venture 230,000 bpd Duqm refinery in Oman is scheduled to start operation by end-2023, which could reduce Kuwaiti crude exports by a further 100,000 bpd to 200,000 bpd in 2024. At the same time, over 1 million barrels per day (bpd) of new Chinese refining capacity is coming online. The 320,000-bpd Shenghong refinery and PetroChina's (601857.SS) 400,000-bpd Guangdong plant started commercial operations earlier this year, while Yulong Petrochemical's 400,000-bpd refinery is scheduled to start trial runs in the fourth quarter. Both are designed to run predominantly heavy sour crudes.
In part as a result, all over the world prices for diesel are high relative to crude oil, writes Bloomberg. A switch to lighter crude — a result of cuts by Saudi Arabia, Russia and others — has led to yields of diesel-type fuel being lower than normal. In the midst of the existing supply crunch, markets are closely watching China as its refiners await a fresh round of fuel export quotas from the government, which will allow them to keep shipping fuels. While ample Chinese flows could help to ease the current tightness, there’s a possibility they could offer thin relief this time. The low inventory levels leave the world susceptible to extreme price shocks, in case of a supply disruption or increased demand (for example as a result of a colder than normal winter). Last year, high diesel prices spurred trucker strikes across Asia, pressuring governments trying to stave off inflation from rising energy costs. In the US, farmers and trucking companies that purchase in bulk stand to hurt even more from the rising costs.
Macroeconomics
More on China’s real estate problems. According to US money manager T. Rowe Price Group and investment bank Jefferies Financial Group, the liquidity crisis at Chinese property developer Country Garden Holdings could spill over to its peers, as the values of their collaterals decline and homebuyers become more cautious about purchases, particularly in smaller cities, writes the South China Morning Post. Developers that are privately run and have high exposure to China’s third and fourth-tier cities will bear the brunt of any contagion risk after Country Garden, once a top industry player, missed US$22.5 million in coupon payments last week. Meanwhile, Japanese bank Nomura says the ripple effect from slumping home prices might be bigger than expected, triggering more defaults by developers, falling government revenues, declining wages for government and property sector workers, and weak consumption.
Ray Dalio has shared his perspective on China’s economic challenge in an update on LinkedIn. Those who study China’s past dynasties can see that what is now happening has happened repeatedly in China’s history, he says. The current Chinese leadership is aware of this, and of what worked well in the past and what did not, he also says:
President Xi has made clear, circumstances are creating ‘a once-in-100-year storm’ that is on the horizon. Like such storms in the past, this will pose a threat to the leadership’s ‘Mandate of Heaven’. That, as in past times, is leading to ‘legalist’ (i.e., the dominant leader’s strict controls with strict punishments) policies, including the need to control the elites and take care of the masses.
As to what needs to be done, Dalio says there is an obvious need for a big debt restructuring of the sort that Zhu Rongji engineered in the late 1990s, just much bigger. Though this is never easy, Dalio says it is easier for China to manage because its debt is in its own currency (rather than foreign currency), and owned by its own people (rather than foreigners).
As to the US economy, the excess cash US consumers built up during the pandemic is dwindling, writes Bloomberg. How they respond will help determine whether the world’s largest economy can dodge a recession, it says. Over the past two years, consumers have drawn down the more than $2 trillion in extra savings they accumulated during the pandemic in order to keep spending in the face of sky-high inflation. That’s enabled the economy to push ahead even as the Federal Reserve jacked up interest rates at the fastest pace in four decades. Now, consumers are becoming more dependent on their paychecks to maintain their standard of living. Some analysts believe this will cause a reduction in spending, which would lead to a US recession. Others believe that the strength of the US job market will come to the rescue, pushing up wages to enable continuation of spending. EPM does not believe the in latter scenario. The US job market has been tight for longer, and if that really translates into (significantly) higher wages, US consumers would not have had to tap into their savings over the past two years. As such, we believe a reduction in consumption is coming.
In an opinion piece for Project Syndicate, Mohamed El Erian says there are significant structural shifts on the horizon for the global economy. These include the necessary transition to zero-carbon energy, the artificial-intelligence revolution, and various other innovation-driven changes. Add in geopolitical tensions and the retreat from economic and financial globalization, and a wide range of potential scenarios for the future opens up, he says. Given this current state of affairs, he says, analysts should focus on the US Fed performance, to understand where the global economy is most likely heading next. In other words, will the Fed bring inflation back down toward its target without causing a sharp increase in unemployment? The US economy has maintained robust growth above that of other major economies, despite its notably higher interest rates and significant external headwinds. This gives El Erian hope that the soft landing can be achieved, but he recognizes this is far from certain.
Famed investor Jeremy Grantham of GMO is less optimistic. The slow-moving influence of rising interest rates will end up torpedoing the economy, he says, according to Bloomberg. As higher rates continue to depress the market, particularly real estate, the US economy will see “a recession running perhaps deep into next year and an accompanying decline in stock prices.”
Geopolitics
Following angry statements by Beijing over stopovers in the United States by Taiwanese Vice-president William Lai Ching-te, China’s People’s Liberation Army staged a military drill near Taiwan as a “severe warning to separatist forces”, writes the South China Morning Post. The drill was launched a day after Lai, the ruling Democratic Progressive Party’s presidential candidate, returned from a sensitive trip to Paraguay last week, during which he “stopped over” in New York and San Francisco, and featured both the Chinese naval and air forces.
The New York Times has an analysis of the Camp David meeting last Friday between the presidents of the US, Japan and South Korea. In a statement following the meeting, the countries criticized China’s “dangerous and aggressive behavior” in the South China Sea and reaffirmed the “importance of peace and stability across the Taiwan Strait.” In response, they agreed to hold annual talks, expand joint military exercises, and establish a three-way hotline for crisis communications. As EPM has mentioned previously, what this effectively does, is, firstly, base the collaboration between the countries on a mutual enemy / opponent, China. Secondly, by bringing Taiwan into the discussion, it broadens the issue of Taiwan. In origin, from back in 1949, this is an internal Chinese issue. Then it became an issue between China and the US, because of the strategic competition between China and the US, and because of Taiwan’s strategic location off the coast of China and its unique position in the critical semiconductor industry. The Camp David agreement now makes Japan and South Korea part of the issue. Thirdly, it focuses minds on a military response to China’s rise.
Taken all together, very clearly this places the mentioned nations on a path towards war. This is also how China sees it, says the New York Times. China’s president Xi Jinping has accused the United States of leading Western countries in the “all-around containment, encirclement and suppression of China.” How could he see it otherwise, we at EPM ask? After all, the Camp David agreement follows a string of moves by the Biden administration that are economic containment or military encirclement focused, including a clampdown on China’s access to advanced chip technology; a three-way security agreement with Australia and Britain; the strengthening of the so-called Quad grouping of the United States, India, Australia and Japan; and an increased American military presence in the Philippines. Lastly, China’s defense minister, Li Shangfu, visited Moscow last week and there warned against “playing with fire” when it came to Taiwan. He added that any effort to “use Taiwan to contain China” would “surely end in failure.”
And as if China needed further evidence in support of its position, Reuters writes that as part of a broader US government effort to tighten oversight of certain exports to China, the Biden administration has tightened controls on the export of materials and components for nuclear power plants to China. The Bureau of Industry and Security (BIS), an arm of the Commerce Department, now requires exporters to get specific licenses to export certain generators, containers and software intended for use in nuclear plants in China. The Nuclear Regulatory Commission (NRC), the federal agency responsible for nuclear energy safety, also requires exporters to get specific licenses to export special nuclear material and source material.
Last week EPM analysed BRICS, and our main point was that the way it is commonly portrayed is false. Analysis by Tufts University’s Rising Power Alliances project confirms our point of view. It says that the common portrayal of BRICS as a China-dominated group primarily pursuing anti-US agendas is misplaced, writes The Conversation. Rather, the BRICS countries connect around common development interests and a quest for a multipolar world order in which no single power dominates. But, it says, that doesn’t mean the US should ignore it. Today, BRICS is a formidable group – it accounts for 41% of the world’s population, 31.5% of global gross domestic product and 16% of global trade. As such, it has a lot of bargaining power if the countries act together – which they increasingly do. At the same time, however, overall trade among BRICS remains low, with only 6% of the countries’ combined trade, and absence of support for China’s proposal to establish a BRICS free trade agreement. As such, the authors suggest a US BRICS-focused foreign policy – without going into too much detail of what this policy should look like.
In EPM’s view, the US will not follow this advice. Fundamentally, namely, a US BRICS-focused foreign policy strengthens the BRICS block through formally recognizing it. What we believe the US will instead, is try to weaken the block, in two ways. On the one hand, by strengthen its relationship with important BRICS members, primarily India and Brazil, such that these countries become less supportive of BRICS. On the other hand, by encouraging the entry into BRICS of countries that are allied to the US. The US can then use its influence in these “new BRICS members”, such as Saudi Arabia, to misguide the focus of the bloc and slow down or even prevent decision-making during its formal gatherings.
Energy Transition & Technology News
China, the world's biggest renewable equipment manufacturer, will set up a recycling system for ageing wind turbines and solar panels, writes Reuters. China has ramped up its wind and solar manufacturing capabilities in a bid to decarbonise its economy and ease its dependence on coal, and it is now on track to meet its goal to bring total wind and solar capacity to 1,200 gigawatts (GW) by 2030, up from 758 GW at the end of last year. But as older projects are replaced and decommissioned, waste volumes are set to soar, with large amounts of capacity already approaching retirement age, posing big environmental risks. To cope with the challenge, China will draw up new industrial standards and rules detailing the proper ways to decommission, dismantle and recycle wind and solar facilities. The state planning agency said that China would have a "basically mature" full-process recycling system for wind turbines and solar panels by the end of the decade. China would need to recycle 1.5 million metric tons of PV modules by 2030, rising to around 20 million tons in 2050. Another Reuters analysis says this leaves China well positioned to become a global hub for the recycling of several forms of outdated green energy equipment. The sheer scale of China's wind and solar farms will provide any nascent recycling specialists with a steady flow of worn-out parts and panels in need of overhaul, especially with several utility-scale sites from the early 2000s now approaching their end of life. This will enable development of knowledge, technologies and scale. China's recyclers also have strong international supply lines thanks to the country's vast export-oriented manufacturing sector and resulting dominance in global shipping container trade.
Climate Politics
The United Arab Emirates is considering creating a multibillion-dollar fund to spur clean energy investments across the world that it plans to unveil at this year’s U.N. climate talks in Dubai, writes Politico. The fund could amount to tens of billions of dollars, with a sizable slice of the money coming from the UAE’s sovereign wealth reserves. While its exact design is not settled, one person who had seen the UAE’s plan described the initiative as an investment fund to develop climate transition projects around the globe, ranging from greener cement-making to clean energy to electric vehicle charging infrastructure. The person said the goal of the fund was to help attract massive amounts of private capital to climate-friendly initiatives. EPM notes that this aligns with the view we expressed earlier, which is that efforts are underway to move away from the original promise of $100 billion in aid for the developing world to support their decarbonization, toward a focus on private, commercial loans. (Politico says “The ‘prevailing view’ of the UAE government and sovereign wealth funds is that anything less than commercial terms is ‘charity’ and shouldn’t be a priority”.) We foresee that this, “we will help you to decarbonize but we want to make money doing that”, will not go down well with the leaders of the developing world, countries such as China and India – or at least it should as this is certainly not in there interest!
The Global Energy Crisis
The EU's reserves of natural gas hit a historic high Thursday, filling up well in advance of the winter heating season, writes Politico. Gas Infrastructure Europe says that member countries' gas stores are now at 90.12 percent capacity, ahead of the 90 percent filling target that Brussels is legally required to meet by November. However, the cost of gas still remains higher than before the war, when it fluctuated around €20 per megawatt hour, meaning bigger bills for households and lower productivity for European industry. And, Politico quotes an analyst as saying, “The fact European storages are nearly full earlier than normal doesn't necessarily mean the price will come down further, unfortunately. Stored gas can only get you so far through a winter and if that winter is cold there's a certain amount of risk [of further elevated prices]”.