Hot Spot. How China affects commodity prices

Whether it’s a global commodity super-cycle or a worldwide rout, it is often explained in terms of the ‘China factor’. Most commodity commentators devote a lot of attention to China because it is not just a large importer of many materials, it is also a prodigious producer of some.

So can we quantify the China effect on different commodity markets?

Consider Chinese demand first. The consumption boom across many metals in the past two decades was driven largely by China. A World Bank report shows that China consumed about half the 91 million tonnes of metals produced globally in 2012. This was up from a mere 4 per cent in 1990. In the same period, metal consumption at the OECD countries, for instance, remained unchanged.

Similarly, in coal and oil too, China’s share in global consumption is very significant. In coal, in fact, data from British Petroleum Statistical shows that it is about 50.5 per cent. In crude oil, China’s share is about 12 per cent, next to the US which consumes about 20 per cent of the global demand.

China dominates the global market in some agri commodities too. The country’s share in global soyabean imports is almost 60 per cent, thanks to the country’s large poultry industry which uses soyabean meal.

In cotton and rice, again, the country’s share of global imports is large.

The dragon economy’s rising demand for various commodities in the last two decades was driven by increasing industrialisation and economic growth. Between 1991 and 2011, China recorded an average 9 per cent GDP growth every quarter.

Industrial production also leaped ahead at an average 12-13 per cent. This made China one of the world’s largest consumers of most industrial metals.

By April this year, China’s consumption of the total refined copper produced globally was 53.5 per cent, shows Bloomberg data. In zinc, China took up 45 per cent. Chinese demand accounted for 59.7 per cent of total aluminium supplies and 39 per cent of lead supplies.

This is indeed why metal prices are plummeting on news of China’s slowdown.

The Bloomberg Metals index is down 13 per cent so far this year.

The Chinese government’s various measures to rebalance the economy are seeing growth falter. China’s industrial production in June was up 6.8 per cent year-on-year, lower than the 9.2 per cent growth in June 2014.

Reports hold that the slowing growth in the construction sector following the government’s cutback on infra spending and tighter bank lending is what is causing a decline in the Chinese demand for metals.

It is noteworthy that, in the recent June quarter, China reported GDP growth at 7 per cent, down from 7.5 per cent in the same quarter last year. In good times, the country has reported growth of even double digits in the June quarter — China’s GDP grew at 10.3 per cent in the June 2010 quarter.

Its impact on demand apart, China is also a big influence on the global supply of several commodities. The excess production capacity that China has built in steel, aluminium and cement over the last decade is also a worry now.

With slowing domestic economy, the concern is that all the excess industrial commodities output will flow overseas, aggravating the global glut.

In steel, for instance, China has more than 300 million tonnes (30 per cent) of excess capacity, says a report.

In the last three years alone, China is estimated to have added about 40 per cent of the new steel capacity globally. The Chinese government has been hard selling the idea of ‘capacity cooperation’ to the EU countries, as also Africa, Indonesia and Latin American countries for some time now.

By this, the government intends to transfer the whole production line in sectors such as steel, nonferrous metals and construction material where there is overcapacity, outside the country. This will get the country foreign currency earnings from the otherwise idle capacities.

However, the China effect is good news for India and other commodity importing countries. Lower price of metals and minerals, including coal, will help users of these industrial materials such as power generators and cement and steel manufacturers earn better profit margins.

It may also help to bring down inflation in consumer prices to an extent.