The COVID Commodity Supercycle Part 3
But, what if demand is robust and due to businesses confidently investing in future production capacity? Is this enough for a new supercycle? Let us run through a thought experiment from another perspective – sources of demand growth. After all, high levels of demand are needed to drive a new supercycle.
Chinese demand and economic growth is frequently cited as a main driver of the next commodity supercycle. This is due largely to the fact that Chinese demand drove the previous supercycle, which peaked around the time of the Great Financial Crisis in 2008.
Firstly, while it is possible that China can drive the next commodity supercycle, it is not likely. This is due to the fact that the Chinese economy, in driving the previous supercycle, greatly developed its economy, industrial productive capacity, and national infrastructure.
From the chart above, after the decade from 1997 -2007, where economic growth trended strongly higher, GDP growth in China has trended in the opposite direction. During Covid, growth rates even dipped into negative territory for a short while, which was the first time in about 30 years.
Clearly the Chinese economy has developed to a point where incremental growth is no longer as easy to come by. There simply aren’t as many new buildings, factories, homes, or roads left to construct. While China can, and still does export a lot of goods, the Chinese government recognizes the need for change, which is part of the reason why they want to restructure the economy by placing more emphasis on services over manufacturing.
Consequently, it is far more likely that the next commodity supercycle is driven by demand from somewhere else. Somewhere that is still relatively underdeveloped, and thus still has massive potential for growth from further industrialization, infrastructure and residential construction, as well as the development of its consumer markets.
Of course, a new commodity supercycle need not be driven by demand coming from just one place. It can also be driven by demand coming from all over the world for a type of product; renewable energy, electric vehicles, and sustainable battery technology all come to mind.
However, it is important to note that none of these sources of demand have much to do with the explosive commodity rally over the past year. Record prices are currently being set in “old school” industrial commodities such as iron ore, timber, and copper. While copper is widely used in building sustainable technologies, steel (from iron ore) and timber are not. Hence, if one is looking for a unifying theme behind the commodities rally, a supercycle driven by demand for sustainable technologies is not it, at least not yet.
Also, the fact that “old school” raw materials are rallying points toward more than one single source of demand. Timber in the US is most probably driven by the hot domestic housing market; and steel, along with copper, by the world’s economies emerging from Covid’s economic shadow. It is also important to remember that Covid has severely disrupted commodity production as well as the supply chain that takes them to end users – supply issues were, and still are, a big contributing factor to the rally.
From this perspective, we can see that each individual commodity faces its own set of supply and demand dynamics. Furthermore, these dynamics have been greatly influenced by the pandemic’s effects, and the policies that were put in place to deal with it. As a result, Covid is more of a unifying theme behind the commodities rally than a new supercycle driven by Chinese demand, or by a shift towards sustainable technology!
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