Guo Yingfeng: The Global Supply and Demand Pattern of Bulk Commodities is Facing a New Round of Restructuring

—By Guo Yingfeng (Associate Researcher, China Center for International Economic Exchanges) 

As of the evening of May 31st, WTI crude oil futures extended their decline to 3%, quoting at $67.33 per barrel. International oil prices have shown a significant downward trend recently. According to the World Bank's Commodity Markets Outlook released recently, since January this year, commodity prices have fallen by 14%, a 32% decrease from the historical high in June 2022; it is expected that by the end of this year, commodity prices will decline by 21% year-on-year, marking the largest drop since the outbreak of the pandemic. The prices of bulk commodities are expected to remain stable in 2024. Looking at the specific price trends of bulk commodities, it is anticipated that energy prices will decline by 26% this year. Among them, the prices of natural gas and coal in Europe and the United States are expected to fall by about 50% and 42%, respectively, and Brent crude oil, priced in US dollars, will decrease by 16% compared to the average price of the previous year. Non-energy bulk commodity prices are expected to decline by 10% in 2023 and 3% in 2024.

The current round of decline in commodity prices, represented by energy, is a normal response to the restructuring and improvement of the global supply and demand pattern after the fluctuations in commodity prices influenced by the Russia-Ukraine conflict during the special period of the global COVID-19 pandemic. Under the impact of the COVID-19 pandemic, the prices of global oil, natural gas, and coal rose, fundamentally due to the ongoing supply-side shocks causing energy shortages, and the recurrent nature of the pandemic has prevented the production capacity gap from fully recovering. In 2022, the Russia-Ukraine conflict led to a sharp expansion of geopolitical risks, disrupting the global energy market supply, and Western countries' energy sanctions continued to drive up crude oil prices, affecting other commodity prices as well. In 2023, the new demand pattern in the global energy market and other non-energy bulk commodities is being reshaped, and new market expectations are forming. The current market expectation has shifted to a cyclical demand downturn, becoming the most significant factor affecting global commodity prices. Under this trend, the factors currently influencing prices of energy-dominated bulk commodities mainly include the following aspects:

First, the global economy is in a downturn, and the weakening demand is the most direct manifestation of the decline in commodity prices. The latest World Economic Outlook report released by the International Monetary Fund (IMF) predicts that the global economic growth rate will be 2.8% in 2023, a 0.1 percentage point reduction from the forecast in January, intensifying concerns about the global economy. This concern continues to reduce market demand, with energy demand being the most affected, and energy prices will weaken accordingly. Specifically, the downward trend is significant in developed economies in Europe and the United States, with the Purchasing Managers' Index (PMI) of manufacturing contracting continuously. Energy demand continues to be under pressure, negatively affecting the economic development of emerging economies.

Second, geopolitical risks are gradually decreasing. Currently, the structural impact of the Russia-Ukraine conflict on the global supply and demand of commodities is gradually diminishing, and a new regional energy supply structure is meeting new demand patterns.

Third, the effects of the Federal Reserve's tightening monetary policy causing a decline in commodity prices are gradually being released globally. The current global decline in energy prices is largely due to the restraint of commodity prices by the Federal Reserve's tightening monetary policy. This policy effect is reflected not only in the decline in energy prices domestically in the United States but also in the spillover effects of the Fed's rate hikes on other major economies. Other European and American countries and most emerging market countries are forced to follow suit in their monetary policies. In this situation, the impact on global commodity prices is accompanied by the overall effects of global monetary policy.

Based on the above analysis of the reasons for the current decline in commodity prices, we can make predictions about the future trend of global commodity prices, assessing whether commodity prices will continue to decline or begin to rise, and analyzing different influences.

Firstly, the overall trend of the global economy and corresponding market expectations is a fundamental factor in whether global commodity prices will decline or rise in the coming period. If the economic growth of European and American countries and major emerging market countries is generally better than expected in the coming period, there is a possibility that market demand expectations will heat up, interrupting the overall trend of global commodity prices. Currently, the economic indicators for the first quarter of 2023 in developed economies in Europe and the United States are generally better than expected.

Secondly, the geopolitical uncertainty risk brought about by the Russia-Ukraine conflict is gradually decreasing, but the occurrence of new risk factors cannot be ruled out. The current world economic development is showing a differentiated trend, and countries around the world still face a very complex world political and economic landscape, especially in some hotspots where risk factors still exist. If sudden events occur, a new geopolitical energy and food supply-demand pattern will be formed, affecting the volatility of energy prices.

Furthermore, the tightening monetary policies of the Federal Reserve and other European and American economies, whether to exit or maintain, and how long it will continue, will disrupt the current global commodity prices. On the one hand, it is directly reflected in the inflation indices of various countries, and the tolerance of inflation indices by various countries is a direct basis for judging the trend of commodity prices. On the other hand, it is reflected in the negative impact of monetary policy on other events. For example, if Silicon Valley Bank in the United States goes bankrupt due to excessive rate hikes by the Federal Reserve, allowing such financial institution bankruptcy events to occur could easily trigger systemic financial risks, exacerbating the current downward risks of the global economy and continuously increasing the magnitude and duration of the decline in commodity prices, especially those represented by energy.

In addition, the supply and demand of commodities will also respond to the fluctuations in prices, thereby affecting the stability of commodity prices or international society. Firstly, it is reflected in the supply of major energy-producing countries. Taking oil and natural gas as examples, if Russia and OPEC respond to excessively low oil and natural gas prices by cutting production, energy supply may be lower than expected. Secondly, the spillover effects of the tightening monetary policy of the Federal Reserve exacerbate the external debt crisis of commodity-supplying countries. Some emerging market countries are heavily dependent on the export income of commodities. The continuous decline in prices of commodities such as oil and natural gas will exacerbate the risk of external debt repayment in their own countries. If the risk spreads and exacerbates global economic and political turmoil, it will also have an impact on the current dollar settlement system.

(The original article was published on 21st Century Business Herald on 1st June, 2023)