After last month’s setback, global stock markets began March with renewed jitters. The culprit this time was President Trump’s threatened tariffs of 25% on imports of steel and 10% on imported aluminium. The news alarmed investors, who fear the move will spark retaliatory measures from China and other major producers that could escalate into a full-blown trade war.
The commodities markets are also concerned. As China is the fastest-growing market for US crude oil, liquefied natural gas (LNG), propane and also agricultural, forestry and fishery products, the consequences of a trade war would go way beyond base metals.
As analysts have noted, back in 2002 Trump’s predecessor George W Bush attempted a similar policy when he imposed tariffs of up to 30% on imported steel. Bush’s policy lasted for 20 months and sparked complaints to the World Trade Organisation that the US had violated international trade.
Overcapacity of steel has been a global problem for several decades and as previously, any protectionist move by the US is likely to trigger retaliatory measures. European Commission president Jean-Claude Juncker has already spoken of tit-for-tat tariffs on US products, from Florida oranges and Kentucky bourbon to Levi’s blue jeans and Harley-Davidson motorbikes.
Oil and US ambitions
While steel is currently the centre of attention, precious metals and oil have traditionally been the commodities most likely to move markets. Rising prices benefit producers, with more than half of Australia’s annual revenue coming from iron ore, gas and other commodities, but negatively impact others.
High oil prices, for example, is bad news for industries ranging from plastics manufacturers to airlines and other fleet operators. Commodity price charts reflect demand for oil from emerging industrial markets such as China, India and Latin America.
Two oil price spikes in the Seventies caused by geopolitical conflict shook the world and the major economies of the West. It furthered the cause of American energy independence and the US has become the world’s third-largest producer of crude oil after Saudi Arabia and Russia and is second only to Russia as an exporter of refined products.
The sharp fall in oil prices that occurred from mid-2014 onwards partly reflected growing US output. This was coupled with flat demand in much of the world as economic growth weakened in the wake of the global financial crisis and the reluctance of the major oil producer’s cartel, Opec, not to cut back its own production to bolster prices.
Lower oil prices also resulted in subdued inflation – and even brief deflation – in much of the world and a severe temporary dent in Russia’s economic growth.
The commodity market live has generally seen softer prices this month, although the global scenario for 2018 is still good with oil prices edging modestly higher. However, further ahead risk analytics group Verisk Maplecroft foresees clouds on the horizon.
Over the next three years, it expects the stability of many producing countries with flows of upstream oil and gas investment to worsen. Chief among these are Russia, Kazakhstan, Egypt, Uganda, Kenya and Ecuador. Also at risk of deteriorating political stability are Algeria, Vietnam and Colombia.
“We don’t see increasing instability necessarily ending in coups or significant political upheaval, but a less predictable above-ground-risk environment is likely to emerge,” says head of financial risk at Verisk Maplecroft, James Lockhart-Smith.
Crops and stability
Corn and soybeans has so far attracted less attention, but drought conditions in South America are fast eating into global reserves of both commodities. Poor growing conditions in Argentina, the world’s third-largest producer of both crops, have exacerbated the impact of dry weather in the US Plains states and South Africa.
With Argentina’s regional economy suffering, the country’s recovery from recession could be set back. After a -2.2% contraction in 2016, good wheat and corn production helped propel growth of 2.8% last year and early estimates for 2018 had pencilled-in a figure of 3%-plus. The drought also undermines the policies of Argentina’s president Mauricio Macri, who has either abolished or lowered tax on exported crops since taking office two years ago.
However, the misfortunes of Argentina’s farmers are to the benefit of their peers in the US Midwest, who are releasing their stores of grain to take advantage of rising prices.
Food security is recognised as being closely linked to political stability. The conflict that has raged in Syria since 2011 was triggered in part by several years of intense drought that saw agricultural production slump, a mass migration from the country’s rural areas to the cities and previously wealthy farmers become dependent as the country was forced to import basic crops.
A shortage of corn is also likely to affect demand for and pricing of ethanol, the increasingly popular alternative fuel of which it is the main ingredient.
Commodity demand is driven by three main drivers. First is the world’s growing population, which now stands at over 7.3bn and is projected to surpass 9.7bn by the mid-21st century. Second is the increase in the numbers moving up to the middle class, with this phenomenon most evident in Asia and third is the trend towards greater urbanisation.
China’s courtship of African countries in the 21st century was initially to secure supplies of the basic commodities to sustain its economic boom. In recent years, China’s growth has cooled and more business-focused and transparent investment policies in Africa have emerged.
Two years ago, president Xi Jinping heralded a new era of “real win-win cooperation” between China and Africa. The new policy aims at creating mutual prosperity and promises investors the ability to “do good while doing right”.
The policy also dovetails neatly with China’s ‘Belt and Road’ initiative, which plans to invest as much as $8 trillion in infrastructure projects across Asia, Europe and Africa. This will require massive amounts of commodities such as base metals for new transport links, power stations, dams and buildings.
Global initiatives to reduce damage to the ecology and combat global warming could also be a factor in driving up prices of items ranging from palm oil and soy to timber and cattle. Large areas of rainforest are annually cleared to make way for new plantations producing these ‘soft’ commodities, but companies are under increasing pressure to halt this policy of deforestation.
Timber, although a widely-used raw material, isn’t among the more widely-traded commodities, but its importance to the construction industry makes it almost as important as gold or oil. Future shortages and rising prices would benefit those countries that are major producers and their currencies are likely to appreciate.
One long-standing prediction has been that commodity trading will extend to include water, no longer a resource that is cheap or free to access. Talk of future ‘water wars’ has become less fanciful as the imminent exhaustion of Cape Town’s water supply is decreed a national disaster in South Africa.
Economist Dr David Byrne says that political sensitivities keep the cost of water low to ensure universal access. “However, the bigger question becomes, in the long run, how hard do we stick to those beliefs?”
Unlike commodities, there’s no global market or any agreed universal trading price for water, but water-rich countries might be tempted to create both. In that event, the domestic price of water could escalate.
“Areas such as China and India, or in the longer term, Africa are developing rapidly,” says Dr Byrne. “They have booming populations that require fresh water to live and they might be willing to pay exorbitant amounts for fresh water from places like Canada – even though it is regulated.”