THREE HEADWINDS FOR THE GLOBAL ECONOMY

In the past few months or so, several headwinds have emerged in the world economic arena. We have seen a sharp increase in commodity prices, including natural gas, crude oil, and coal, which has reached US$240 a tonne from about $70 last year. The result has been an electricity generation deficit in the biggest emerging economies such as China and India.

The energy crisis has been hitting China particularly hard. Production shutdowns in several provinces, combined with the debt troubles of the property sector, supply chain problems and continuing coronavirus trouble led to weaker growth in the third quarter of just 4.9% from a year earlier. And given how modest the countercyclical support has been so far, the next quarter will almost certainly be worse.

Consequently, the energy crisis, supply chain problems and a pronounced China slowdown are certainly not a good combination for emerging economies going forward.

Commodity prices have shot up amid a supply-demand imbalance stemming from the resumption of economic activity, and thus energy demand, in dozens of countries that have been getting to grips with Covid. And with the coming winter expected to be colder than usual, fuel demand will only increase.

On the supply side, production is gradually increasing. The Opec+ alliance is increasing its oil output by a modest 400,000 barrels per day, while Saudi Aramco, the Saudi oil company, expects short-term demand to increase by 500,000 bpd. The fact is, many oil producers don’t want to commit to big investments in new production since everyone knows that the days of fossil-fuel energy are numbered as the world seeks out more environment-friendly options. In the United States, the world’s biggest oil producer, only 445 oil rigs were operating as of Oct 15, compared to 1,100 in 2018.

The energy crisis that is unfolding around the world is affecting the manufacturing sector and consumers alike. In the US, gasoline prices currently average $3.35 per gallon (equivalent to 29.50 baht a litre), up from $2.20 in the same period last year. Prices of various products in stores are climbing as a result of supply chain disruptions and/or increasing transport costs.

In Europe and the United Kingdom, energy shortfalls are partly the result of more ambitious attempts to reduce carbon emissions. Generating electricity using conventional fuels such as natural gas has become much more expensive, and there just isn’t enough wind power or other sources yet to make up shortfalls. As a result, electricity prices in October increased by more than 60%.

POWER RATIONING

Meanwhile, China and India are facing severe shortages of electricity. In China, authorities in Beijing have ordered the governments of more than 20 provinces, including Guangdong, Liaoning, Jilin and Heilongjiang, to cut the use of coal and natural gas to produce electricity. Those provinces have been forced to turn off public lights at night and ration electricity during the day. Some factories with 24-hour shifts have had to cease production at night.

Various research houses have projected that power cuts are likely to reduce China’s growth rate. Nomura Research has lowered its fullyear growth forecast to 7.7% or 7.8% from 8.2%, while Goldman Sachs lowered its forecast for next year to just 5.5%.

In the short term, the Chinese government is considering easing rules on coal imports from Australia as well as allowing power prices to rise by as much as 20% against a benchmark, double the level of the current cap, which would make it profitable for electricity producers to boost supply.

The International Energy Agency (IEA) expects coal demand to grow at least 4.5% from 2019, while rising natural gas prices and an expected harsh winter in North Asia have led to higher demand for coal, as a substitute, to increase as well. This situation may drag on until the end of this year, with an impact on economic growth as well as inflation. The economy is slowing down while inflation is increasing, a condition known as stagflation.

In the US, the Consumer Price Index (CPI) recently rose to its highest since 2008, at 5.4% per year, with more persistent (rather than “transitory”) elements such as rent and wages continuously increasing. With that in mind, the Federal Reserve will have to signal a faster and stronger approach to so-called tapering of the massive asset purchases that have helped revive the US economy.

But the economy had begun to show signs of slowing down. Non-farm payrolls in September recorded their slowest increase this year, while wage pressure continues to build up. With that in mind, we view that the global economic recovery will falter in the last quarter of the year, and slowing momentum will continue into next year. Global economic growth in 2022 is expected to subside to 4.9% from an expected 5.9% this year.

CHINA LOOMS LARGE

We see three headwinds going forward: a China slowdown, emerging market turbulence and the fear of global stagflation. Looking at the first risk, we see China growth will definitely slow due to three factors: government policy to emphasise quality growth over quantity growth, which implies continuous tightening regulation in key sectors such as real estate, e-commerce and fintech sectors; the energy crisis, which will continue into next year, though less intensified than this year; and a snowball effect due to the two previous factors, such as a consumption slowdown due to declining wealth as a result of real estate curbs, or production problems due to energy and supply chain problems.

Turning to the second and third risk factors, we see that as a result of the China slowdown, supply chain problems and the tightening cycle of leading central banks such as the Fed and the ECB, will create turbulence in capital flows, as well as an economic downturn, among emerging economies, especially those that have weak fundamentals, as well as those that have strong economic dependency on China.

The risk of inflation turning from “transitory” to “permanent” is real. If high prices for commodities, especially energy, do not subside in 2022, the global economy may face the risk of rising persistent inflation going forward (not our base case, though).

If that is the case, global central banks may need to raise interest rates higher and faster than the market expects, which may create a condition of persistent global stagflation.

Given how these three headwinds are materialising, businesspeople, investors and policymakers had best beware.

If high prices for commodities, especially energy, do not subside in 2022, the global economy may face the risk of rising persistent inflation going forward.