Over the last year, political volatility and uncertainty has increased to very high levels.
Policies that aim to reduce rather than encourage international trade have been flagged in many countries. More may follow.
Such policies are harmful for consumer purchasing power and productivity growth. By extension, they lower business confidence and hinder job creation relative to the alternative outcome under a more open and pro-growth trade regime.
Accordingly, these trends lower the achievable ceiling for global economic growth while they remain in place.
Countering these unwelcome trends, we observe promising reform signposts in two of our key end-use markets, India and China. In the US, we are seeing a willingness to re-invest in basic infrastructure and to pursue tax reform. In Australia, governments appear to be making an effort to consider how the national electricity market can be reformed to enhance supply security in a market context. And from a cyclical perspective, the rally in commodity prices off the early 2016 lows has allowed some key emerging markets, and resource rich regions within advanced economies, to exit stagnation. That has removed what was a considerable drag on global growth, and the world economy is enjoying a nice run at present as a result.
On balance, relative to our previous forecasts, we feel this combination of factors will lead to a somewhat slower rate of expansion in the world economy over the remainder of this decade than we previously envisaged, notwithstanding the recent improvement.
All other things being equal, this will lower the rate of growth of minerals and energy demand for a period of time. The ultimate outcome for our portfolio will also depend upon changes in the composition of global economic activity; changing intensities in metals and energy use; and the rate at which ongoing trends in technology, substitution and efficiency progress.
Both the Chinese and Indian economies face questions around policy design and execution.
China’s growth model is transitioning and policymakers are trying the find the right balance between fundamental reform and support for employment at a time when global trade is subdued and protectionist tendencies are on the rise.
India faces the more basic question of providing the right conditions for the twin development levers of industrialisation and urbanisation to thrive.
It is encouraging that the leadership of both countries have been engaging in internal reforms aimed at tackling their respective challenges and raising the confidence levels of private investors. And they are doing so at some political risk.
The recent pro-reform victory in India’s Uttar Pradesh state election gives us confidence that their unilateral reform drive will continue. In China, the supply side reform of the coal and steel industries is proceeding in earnest, while guidelines for the resolution of local government debt have been issued. Fiscal and state-owned enterprise reform are likely to come next.
We firmly believe that China will double its accumulated stock of steel in use, which is currently between 5 and 6 tonnes per capita. That stock is about half of the current US level and less than half the German, South Korean and Japanese levels.
The exact path that China will take to double its steel stock has become less certain. That is particularly so when one considers that the steel trade has been a major focus of protectionist actions.
Among the range of possibilities we consider, our base case remains that Chinese steel production is yet to peak. The most likely timing of the peak is the middle of next decade. The compound annual growth rate we assume is close to 1%. Machinery, autos, direct and indirect exports, rising intensities in buildings and emerging replacement demand for buildings and structures will contribute positively to the run-rate in the first half of the 2020s.
Notably, the annualised steel production run-rate hit 848Mt in March 2017, comfortably above the historical annual high of 823Mt achieved back in 2014.
In the US, the combination of an overdue infrastructure investment push, and a steep reduction in the tax burden on both households and businesses, if enacted, should support domestic demand in coming years.
An improving US economy is traditionally of great benefit to the rest of the world, particularly manufacturing exporters in Europe and Asia. However, the strength of any positive spill-overs to other regions will be diluted if the US’ openness to trade is materially curtailed.
In Europe and Japan, where the limits of monetary policy effectiveness have probably been reached, populations are ageing and public sector finances are extremely stretched; any upside on growth will have to come from external demand.
At a global level, the absolute gaps between the growth rates of household consumption and business investment; between services and manufacturing activity; and between asset and goods prices persist, as they have done throughout the current run of modest global growth outcomes in the 2¾% to 3½% range. In recent quarters though, these gaps have narrowed somewhat, with business confidence, capital goods orders, up-and-downstream inflation and international trade all showing signs of improvement.
We expect world GDP growth in CY2017 to come in at the upper end of the recent range, a modest improvement from around 3% in CY2016.
In terms of the key end-use sectors that drive demand for our diversified portfolio of commodities, they are expected to follow quite disparate paths. A dynamic segmentation of our sales by commodity, region and end-use sector is available here.
Infrastructure investment is expected to enjoy a good year, led by China, India and the US.
Housing construction is unlikely to be able to repeat its 2016 performance in China and the cycle is quite mature in the US. In India the sector is still reeling from demonetisation. Autos could also be a weak spot, with US and Indian passenger sales declining and Chinese subsidies having pulled demand forward to last year.
Commercial vehicles demand is mixed, with Chinese truck demand picking up, but sales are contracting in most other major markets. Shipbuilding remains weak.
Capital goods are set for a reasonable performance, on the back of replacement demand in China and the upswing in US onshore oil and gas investment. Consumer durables should replicate their steady 2016 performance.
Industrial power demand and petrochemicals output could improve slightly from last year, while miles driven (a major determinant of global oil demand) should rise, led by the populous emerging markets.
Across our diversified portfolio of commodities, there will be wins and losses from that mix. Overall, we see slightly lower growth in demand for iron ore, met coal and copper eventuating versus CY2016; while demand for our petroleum commodities will remain healthy.
Looking further ahead, the basic elements of our positive long-term view remain in place. Population growth and rising living standards will continue to drive demand for energy, metals and fertilisers for decades to come. New demand centres will emerge where the twin levers of industrialisation and urbanisation are still immature today. Technology will advance, creating both opportunities and threats, and climate change responses will evolve. Against that backdrop, we are confident we have the right assets in the right commodities, with demand diversified by end-use sector and geography.