Posts Tagged ‘world bank’


As we slowly move towards a post QE world, or at least post US QE world, things start to look very different. Countries that seemed unstoppable a few years ago look vulnerable. Perhaps the three countries to suffer the biggest knocks in recent days have been Brazil, Turkey and South Africa – all have seen their currencies fall sharply. In two of these countries we have also seen street protests.

Yesterday it was Brazil’s turn to be seen in an unpleasant limelight, as Brazilians took to the street to protest over a multitude of woes – among them the cost of hosting the forthcoming World Cup and the Olympics. Meanwhile credit ratings agency S&P has downgraded Brazil’s sovereign debt outlook – it is still rated as BBB, but now it is under a negative outlook.

Look beneath the surface and the threats to Brazil look worrying indeed.
For one thing, Brazil’s current account has fallen from a small surplus in 2007 to a deficit worth around 2.3 per cent of GDP in 2012. What Brazil needs is more investment, higher domestic savings to partly fund the investment, and a cheaper currency to give exporters an advantage. Alas it also needs much lower inflation. The IMF has forecast Brazilian inflation at 6.1 per cent this year. Interest rates are currently at 8 per cent. To fight off inflation, Brazil needs a strong currency. Do you see the dilemma?

The savings ratio in Brazil is the lowest amongst both the BRICS and in Latin America. Part of the problem is a very generous state pension scheme. This needs to be reduced, but street protestors may not be too happy with that idea.

At face value, government debt in Brazil does not seem so bad. In fact net debt is 35 per cent of GDP. Wouldn’t the US and the UK love it if their equivalent measure was so low? It is just that net debt is made up of gross debt minus assets, and many of the assets that count towards Brazil’s net debt are highly illiquid and risky. Capital Economics reckons a better measure of net debt would be around 50 per cent of GDP.

Brazil is posting a primary budget surplus, meaning government receipts are greater than expenses before interest on debt – but, thank to high interest rates, Brazilian public debt is rising.

And there is a much deeper woe. Commodity prices have been falling of late, and many, including the World Bank for example, are now forecasting a new phase in what’s called the commodity super cycle, as the massive levels of investment into commodities during the up phase of the super cycle leads to greater supply.

The last few years have been characterised by high commodity prices, poor economic performance in the developed world, and cheap money. As we enter a post QE world, it appears we may also enter a phase of lower commodity prices. For Brazil this may be a perfect storm.

This does not mean that the Brazilian growth story is over, but remember markets tend to overreact and Brazil may be one of the big victims of post QE over-reaction.

© Investment & Business News 2013

Something went wrong with the commodity cycle during the year after the financial crisis of 2008, and that something may explain why the recovery took so long. Now there are reasons to believe that this time the commodity cycle is turning.

That is good news for commodity importers everywhere – and that includes the UK. It is not so good for commodity exporters, however – expect tears in Brazil and Russia, for example.

On paper it is supposed to work like this. Commodity price are high, therefore commodity producers – be they oil companies, miners or in the agriculture sector – invest and try new ideas, until eventually supply increases, forcing the price of commodities down.

Cheaper commodities mean that commodity producers invest less, supply falls – or at least fails to keep pace with demand – until price rises, and the cycle begins again. That is how cycles are supposed to work in business, the economy and nature. See: Arctic Hare and Lynx: the business cycle working in nature 

Lots of theories are put forward to explain why the recession of 2008/09 was so nasty, but it is possible that we just suffered a perfect storm: a banking crisis, too much debt, and commodity prices at record highs.

Price collapsed in late 2008, as the theory of commodity cycles said it should have, and the UK, the US and Europe came out of recession. So far, so very predictable.

Then in 2010/11, things went topsy turvy. Commodity prices rose again, oil surged from around $35 a barrel, to over $100 within 18 months. The UK and the EU went back into recession. Some believed it was as a result of peak oil – that is to say that oil production had permanently peaked. Others looked at demographics, at the rising population, and said: “Well, that’s it then. This time it is different, the cycle has broken down forever. We have simply used up too much of this planet’s scarce resources.”

The pessimists may have been overlooking something. The recession of 2008 had multiple causes, amongst them a banking crisis, and the banking crisis meant lack of demand and lack of finance, so the normal rise in investment in commodities – which occurs when prices are at a new high – didn’t happen, not at first, anyway.

It is different now. According to the latest Statistical Review of World Energy from BP, 2012 saw the largest increase in oil production ever recorded.

You don’t need to look far for an explanation. Massive investment in shale gas and oil, especially in the US, into this particular resource is as far as you need to go.

In other words, the cycle is at last working the way it should.

This is how the World Bank put it: “Since early 2011, industrial commodity prices have been weakening, a process that appears to be intensifying in 2013, despite signs that the global economy is gaining strength Indeed, since their peak in early 2011, the price of metals and minerals is down 30 per cent and that of energy is down 14 per cent, with prices off 12 and 5 per cent, respectively, between January 2013 and the end of May 2013.

This price weakness has sparked discussion about whether a super-cycle in commodity prices is coming to an end—particularly within the metals industry, where large increases in supply are coming on stream in response to investments spurred by the high prices of the past several years.”

If the idea that the super-cycle in commodities has turned and prices are set for an extended period of falls is right, then this is good news for commodity importers – such as the UK, US, most of Europe, China and most of South East Asia. It is not so good for most of Latin America, although Mexico is less vulnerable.

But is this really good news? If you still sign up to the idea of manmade climate change, then that means you probably want energy prices to stay high for a little longer, while investment in renewables grows. The shale gas and oil miracle may not be quite so good for Earth PLC, or Gaia.

© Investment & Business News 2013