A new up-wave in commodity prices

The upwave will be driven by India and the countries in the Indo Pacific – not just China.

For the last couple of months, I've been putting the view out there that I think the beginning of a new up move in commodity prices is starting. There are two ways you can approach that.

One is the simple argument that we're at the beginning of an extended period of rate cuts by the Federal Reserve. That period of rate cuts has already started. We will have a further 25 basis point rate cut in November and another 25-basis point rate cut in December. Those rate cuts will continue as we go through next year. As a result of that, the US dollar will fall. You'll see the DXY index of US dollars continue to decline. Then after the lag, what you will see is that fall in the US dollars will really start to bite, and commodity prices will go up. That's the simple argument in terms of the world trade cycle.

What I want to look at is the structure of demand and where I think the structure of demand will be coming from. For that, what I want to do is look at not just the Chinese steel industry. It is not the domestic economy that I'm interested in. What I'm interested in is the very rapid growth of Chinese steel exports and where those exports are going.

For the discussion on Chinese domestic demand, I rely on a paper published by BHP. However, for the discussion on Chinese steel exports, I'm relying on the US International Trade Administration and their statistics on Chinese exports (see references).

In 2023, China produced, over a billion tonnes of steel. I mean, you know, imagine how much that would hurt if you dropped it on your foot. Domestic demand was 911 million tonnes, and that's up 50% from the 609 million tonnes 13 years ago.

Now, what's interesting about that is the structure of domestic demand has changed. We think of all that steel going into buildings. Back in 2010, 42% of the steel was going into buildings. That has fallen, pretty much reversing those numbers from 42% to 24%. So, building demand is a much smaller proportion of steel demand in China. What has changed dramatically is a lot more building of machines and machinery in China. This has generated a change of demand from 20% of total production, 13 years ago to 30% now. Steel demand for infrastructure has changed from 13% then to 17% now.

It is true that the Chinese economy is slowing this year. The Chinese government said that we're going to grow at 5%. But the International Monetary Fund in April said that that wasn't going to happen, that we're going to grow by 4.6%. Then that number the International Monetary Fund is forecasting, drops year by year through to the end of the decade to about 3%.

Still, as that's happening, there's still a growth in demand for Chinese steel. That's because there's been a remarkable increase in exports of steel. I want to look at the top ten markets for Chinese steel exports. Now, these are not countries you would think of. You would think of a big demand with going to places like the United States or maybe Germany or France.

That's not where the growth in the world economy is. The growth the world economy is in is a place north of us called the Indo-Pacific. The Indo-Pacific name came from Shinzo Abe, who was the longest serving prime minister, Japanese Prime Minister since World War II. Sadly, he is no longer with us.

The fastest growth last year was in a country called Vietnam. Vietnam absorbed 9.2 million tonnes of Chinese steel, which is 10% of total exports. South Korea absorbed 8.4 million tonnes, which was 9% of exports. Thailand absorbed 4.9 million tonnes, which was 5.3% of exports, and the Philippines 4.8 million tonnes.

That's not the United States. It's not Germany, it's not France. It's countries north of us which are using all that steel because the growth rate is so good, is so strong. The Philippines absorbed 4.9 million tonnes. Indonesia absorbed 4.2 million tonnes. Turkey, not north of us, but to the west absorbed 4 million tonnes, the UAE 3.7 million tonnes. India, even though it has its own steel manufacturing industry which is growing incredibly rapidly, absorbed 3 million tonnes.

Let us look at some of those countries where we saw that rapid demand and look at GDP growth. I want to look at four of them and what the GDP growth is and what the size of those economies are.

First, Vietnam which had the strongest growth. A lot has happened in Vietnam. In China, wages have gone up so much that they've priced themselves out of the manufacturing business. A lot of that manufacturing is now going to Vietnam. So, what you're having is the roll out of factory building in Vietnam as manufacturing moves from China.

What's interesting is that Vietnam has 100 million people, the size of its economy is $US 0.5 trillion, and that economy grew by 6.9% this year. That's the kind of growth rate that China used to have. The IMF thinks it's going to grow by 6.9% next year as well. Another country is the Philippines. The Philippines has 117 million people in it. It also has an economy of just over $US 0.5 trillion dollars. It's growing at 5.7% this year. The IMF thinks it's going to grow by 5.9% next year.

Indonesia is an enormous country with 280 million people, almost as many people as the United States. It produces income of $US1.5 trillion and is growing at 5% this year, a touch faster than China’s annual growth, 5.1% next year. Indonesia will keep growing at that rate because its population continues to grow, unlike China.

India, of course, is the big guy in the Indo-Pacific. It grew by 6.9% this year. It will grow by 6.7% next year, according to the IMF. It of course, has a population of 1.4 trillion people bigger than China. India’s economy this year was $US3.9 trillion. I compare that to a little country in the South Pacific, a small open economy, as economists say, which has only 27 million people in it. You're right, its Australia. Australia has an economy of $US1.8 trillion.

ECONOMIC STRATEGY │ 28 October 2024 3

What you've got here are two stories for recovery in commodities. First, you have a financial story, which is obvious. The Fed is going to cut rates. The US dollar will fall, and after a lag, commodity prices will go up.

Still, what is important is that this commodity market has strong structural demand, and that strong structural demand is coming not from strong growth in China anymore, but from strong growth in the Indo-Pacific. There is particularly strong growth both in Vietnam and in the Philippines and strong growth in Indonesia. Of course, the big guy in the block is the strong growth in India.