Global commodity shock enters next phase with recession test

European natural gas prices to extend gains on Russia supply disruptions, winter demand.
Image: Bloomberg

Commodities will get intense scrutiny for the rest of 2022 after a first half dominated by the supply turmoil and inflationary shocks unleashed by Russia’s attack on Ukraine. Here, we look at what the rest of the year holds for raw materials from crude oil and natural gas to grains, gold, and iron ore.

The second half will be about how consumers, businesses and governments cope with the shockwaves to commodity flows. Either the global economy can withstand the sky-high prices needed to maintain tight supplies — especially for energy — or soaring prices will be cured by recessions.

In natural gas, Russia’s supply cuts open a troubled new era for Europe. In oil, OPEC’s next move is crucial, and in food, there are some signs of prices cooling. The fate of China’s beleaguered property sector will be crucial for metals, while central bank moves to crush inflation pose a broad headwind.

A hard winter

“Even if we don’t feel it yet, we are in a gas crisis,” Germany’s Economy Minister said. Russia’s squeeze on flows to Europe risk a historic global shortage – and higher prices still — with peak demand looming this winter. Consumer nations are preparing to run economies without the fuel, and competition for liquefied natural gas between Europe and Asia will intensify — all the more so if a key US export plant stays shut.

Expensive gas will increase power bills for households and businesses, and a full-blown crisis would shut industries from chemicals to fertilisers, fanning the flames of global inflation. Germany is preparing to trigger the next stage of its emergency plan, and gas rationing across Europe is a real prospect. In Japan, one of the world’s top LNG importers, the government is trying to curb consumption and is considering unprecedented moves to procure more fuel.

Feeding frenzy

Is the global food crisis past its worst? There’s growing talk that grains and cooking oil prices have peaked — and maybe global food costs have too. More supply is on the way, with winter wheat harvests getting under way in the northern hemisphere, and spring wheat, corn and soybeans following later. The focus then turns to production in Australia, Brazil and Argentina. Barring weather woes, output could rise as farmers plant more in response to elevated prices.

Global stockpiles will remain crimped in the coming season — and millions of tons of grains are stuck in Ukraine — but they may not get substantially tighter. Some Ukrainian cargoes are reaching Europe, while Russia is heading for a bumper crop. Palm oil, the world’s most consumed edible oil, just slumped to its lowest level this year as top producer Indonesia ramps up exports, while wheat, corn and soybeans have tumbled from their highs. Global food costs have already fallen from their all-time peak in March, and more declines could follow.

Refined products from gasoline to diesel are the oil market’s hot spots right now, and the big question for the second half is whether demand can be sustained amid rocketing prices. A cocktail of fuel subsidies keeping consumption afloat — together with limited refining capacity — has powered rallies that have outstripped crude prices. US gasoline at $5 a gallon has caught political attention, which could trigger policy actionahead of the November mid-term elections.

There’s little consensus on what’s happens next in crude, but we can expect louder discussions about how much OPEC and its allies can or will pump — especially if prices stick above $100 a barrel. While Citigroup Inc.’s veteran oil-watcher Ed Morse sees crude easing to the $80s by the fourth quarter on “strong headwinds to growth”, Goldman Sachs Group Inc. is among notable bulls, with oil prices needing more gains to normalise “unsustainably low” inventories.

The China factor

Tumult in Europe and the Federal Reserve’s hawkish turn have left issues in China arguably less decisive than usual for commodities markets. But the top importer of energy, metals and crops will still be a key factor in coming months, especially if the economy ramps up to meet President Xi Jinping’s goal of 5.5% annual growth. That would lift demand, but metals markets in particular show why bets on any massive stimulus boost may prove risky.

The heart of the problem is China’s ailing property market, which has been in a long-term downturn since Xi warned that housing was “not for speculation.” There are few signs that the government is close to reversing its squeeze on a sector that was absolutely pivotal in rebooting iron ore and copper markets after previous downturns. Extra infrastructure spending just isn’t enough to offset the loss. That puts Xi’s growth goals at risk, which means iron ore might struggle to match this year’s highs.

Golden mean

After spiking to a record after Russia’s invasion, gold is back to where it started the year, and consensus forecasts for the fourth quarter put prices just a smidgeon above where they are now. If that looks a bit boring, remember that the powerful forces keeping the precious metal in check speak directly to the dynamics shaping wider commodity markets. Certainly, gold faces some intimidating headwinds: outsized interest rate hikes from the Fed and other central banks; a strong dollar; and struggling physical demand in top consumer China.

But doubts over the Fed’s ability to fight inflation without a US recession are lending support, and a hard landing for the global economy could revive haven demand. In that sense, gold will be the measure of whether central banks can rein in price pressures without crushing growth. The tried and tested haven asset has been above $1 800 for most of the first half and might end the year there unless there’s another major shock.

© 2022 Bloomberg

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