Dec '08/Jan '09

A much quieter 2009

Sharp slowdown in economies worldwide will choke raw material demand next year

By P. Diekmeyer

It has been a seesaw year for mining, metals and energy players. Despite the fact that many experts were forecasting slower growth, 2008 started out promisingly enough. Raw materials prices hit record levels, in part due to the hope that growing demand from emerging economies such as India and China would be decoupled from sluggishness in the Western world. Of course, things did not turn out quite as expected. The massive collapse of the U.S. financial sector started a chain reaction that had global repercussions.

To make sense of the current turmoil, we spoke with Bart Melek, vice president and global commodity strategist at BMO Capital Markets. Melek has been following global economic trends for close to a decade.

CIM: These turbulent times must be difficult for forecasters. That said, can you give us sense of the industry mood right now?

Melek: Although developments are unfolding rapidly, as we are speaking [during the last week of November] things look grim. The global economy was already slowing when the near collapse of the global financial system hit in October.

Ironically, given the fact that base metal prices are nearly 50 per cent below levels of a year ago and that prices are below the operating costs faced by many producers, sentiment is not as bearish as you might expect for the long run. The vast majority of the clients, producers and associates we met during the London Metal Exchange Week seemed to accept that it will be rough going as the global recession runs its course during the better part of 2009. However, optimism remained quite high regarding the longer term.

CIM: Raw materials demand is closely tied to global economic growth. What are some of the key trends and indicators that you have been watching?

Melek: Right now, developments in the United States are crucial, because what happens there affects almost everything else. The seizure of short-term credit markets started a long-term unwinding and de-leveraging. As a result, many companies and individuals are having a harder time and investors are forced to shy away from risk. These trends will affect the entire economy. Industrial production will be down, unemployment will rise and construction will take a hit.

The key indicators that we will be watching for, to get a sense of where things are headed, are U.S. employment and consumer confidence indexes. Inflation data are also important because they act as a major constraint on the manoeuvre room of central banks. Fortunately, inflation does not appear to be a threat right now. Quite contrarily in fact, during the next few months, we will be more concerned with the prospect of disinflation. In emerging markets, we will be following data regarding fixed asset investments and industrial production.

CIM: Most raw materials and commodities are priced in U.S.  dollars. What is your view of the greenback’s future?

Melek: To ease current pressures, there will likely be further aggressive interest rate cuts by central banks around the world. However, there will only be modest easing by the Federal Reserve. This means that the U.S. dollar will likely remain firm, which will serve as a considerable negative for commodity prices.

CIM: What effect will economic developments in the richer economies have on raw materials demand in emerging nations such as Brazil, India, Russia and China?

Melek: As the U.S. economy slows, exports to the United States by these countries will take a big hit. These will have a direct effect on commodities demand, because investment in productive capacity will decline as will exports of products containing metals. China has already reacted in a big way with a four trillion yuan stimulus package that is equal to 15 per cent of the country’s GDP.

However, beyond this recession, what is important is the long-term outlook, which we believe is as good as it has ever been. As urbanization projects continue, the middle classes in many of these countries will continue to grow and demand for new products and new cars, such as India’s famous Tata vehicles, will follow suit.

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