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October 30, 2015
China chemicals prospects depend on world growth
By: Paul Bjacek

China has been the center of discussion on global economic performance, and for chemicals/natural resources performance in particular. Some economists blame China for lackluster world economic growth and, therefore, chemicals and natural resources demand, negatively impacting commodity prices. China equity markets have also plunged 32 percent since June this year1. Key questions for chemical producers are:

  • Will China no longer be able to import and consume chemicals at past growth levels?

  • Will the construction bust mean long term stagnation?

  • How are market requirements changing?

  • How does China compare in prospects for growth in specialties and commodities chemicals to competing emerging markets?

  • What actions should chemical companies take?

Of course, there are tactical questions as well, such as how the next five-year plan, the “Made in China”2  initiative and China government sustainability intentions will affect chemicals demand, but none of these can overcome the underlying issue of how China performs in the context of the overall world economy. A 30,000-foot view is the best starting point.

Will China no longer be able to import and consume chemicals at past growth levels?

We pointed out in a past blog3 that China’s performance was related to the weak world economy, as well as a shift in China’s competitive basis (to durable versus non-durable markets). The relatively weak performance of China is still mostly based on poor world economic performance, specifically because China is a key input-output machine of consumer goods. When the world consumes less, the engine slows, especially as its competitive differential4 with other regions slows. Figure 1 shows changes in total world merchandise trade versus changes in China’s total trade. China’s decline in trade is clearly related to world trade, as China is only responsible for about 12 percent (1Q 2015) of world trade. The economies of Europe, the U.S. and Japan have much to do with the slowdown, relating to the credit crisis, high government debt/spending and overall continuing uncertainty (including regulatory policy). In fact, the recent devaluation of the Yuan is consistent with needing to get a greater share of overall weaker global merchandise goods market.

Chinese personal consumption, although much hope is placed on it, is still not a growth driver for China. Figure 2 shows changes in components of China’s GDP. Clearly, investment is still a driver. Net trade is also responsible for growth in a significant way. While personal consumption is still small, as a GDP component it has been growing at a slightly elevated pace of about 8.7 percent per year (in real local currency) over the past five years, which is about 0.8 points ahead of investment growth. Therefore, future chemical demand growth will likely be primarily linked to manufactured exports.

Will the construction bust mean long term stagnation?

While it is true that much of residential construction of the past few years is left unoccupied, residential construction is only one component of the total construction market and has declined from 54 percent of the total construction market in 2000 to an estimated level of 35 percent in 20155, as shown in Figure 3. This occurred while the overall construction market continued to grow steadily, with non-residential construction recently leading the pace.   Also, while there has been overbuilding in cities, industrial infrastructure spending is still needed. This change in construction shares may impact the nature of chemicals used in construction, but overall chemicals demand prospects in construction remain positive.

How are market requirements changing?

In a past blog on this topic, we observed that durable goods were taking a greater share of manufacturing output. However, that process stalled at a high of 51 percent in the third quarter of 2011 and dropped to 43 percent in the first quarter of 20156. This is in line with a deceleration of world economic growth. In other words, the slowing of the world economy is also affecting China’s progress on creating higher value goods. Comparatively, Mexico and India (Figure 4) are bucking this trend and are showing greater development progress, likely due to greater ties with the U.S. market and an improved investment environment, respectively.

Furthermore, durable goods markets tend to have sophisticated global competition (in developed nations), with expertise at using technologies to stay competitive (e.g., robotics and automation in automobile and appliance manufacture). Therefore, China’s growth in durable goods industries would not necessarily be as rapid as the labor intensive non-durable goods industries that drove its manufacturing growth in the early 2000s. 

Linked to this trend is the development of specialty chemicals markets. In theory, specialty chemicals should gain in growth over commodity chemicals as industrial markets evolve in value addition. For instance, the manufacture of automobiles should foster the development of automotive paints, engineering plastics and fuel/lubricant additives.  However, China’s progress on this has been very slow, particularly as compared to its BRIC peers, as shown in Figure 5. China’s estimated investment in specialty chemicals account for 27 percent of total country chemical investment in the first quarter 2015, compared to 41 percent for India and 76 percent for Mexico. Also, BRIC peer countries have been ramping up specialty chemical investment shares at a faster pace. Chemical import data reflect the same trend.

Part of the reason for the disparity is that China continues a focus on back integration, which can also be termed as “raw material security,” distorting the natural progression of a focus on downstream value. This stems from a desire to claim the value in the feedstock chain, sometimes with economic, environmental and safety costs7. China has made gains in its efforts to back integrate, as shown in Figure 6, with imported chemicals’ share of domestic consumption declining from 18 percent in the first quarter of 2006 to 14 percent in the first quarter of 2015.

What actions should chemical companies take?

Based on this analysis, some broad recommendations include:

  • Have a critical, but open-minded understanding of future China government policies and programs to shape the future industrial landscape.

  • Be patient with the China market. It still represents the largest growing commodity market in the world. Producers should continue to develop the commodity (including “commodity specialties”) market in China in preparation for a future return of better world economic growth that would re-energize China growth.

  • Global diversified and specialty chemical companies should not place all their bets on just China, realizing that the specialty chemical market is still not the most evolved. Prudent planning is needed.

  • Consider India, Mexico and other emerging regions as well since they have good prospects for volume and value growth in both specialties and commodities.

  • Align global investment plans to factual growth, value and risk analyses, positioning for flexibility in the ever changing geo-economic markets.

Figures


Co-Authored by: Jerry Palmer, Managing Director - Chemicals

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Sources for Figures:

Figure 1 – Accenture Research analysis of IHS Global Trade & Information Services data; Figure 2, 3, 4, 5 – Accenture Research analysis of Oxford Economics data; Figure 6 – Accenture Research analysis of Oxford Economics and IHS Global Trade & Information Services data.

Footnotes:

Shanghai Stock Exchange Composite Index, June 12, 2015 to August 21, 2015, Bloomberg, http://www.bloomberg.com/quote/SHCOMP:IND
2 "Made in China 2025" initiative:  This initiative is set to promote breakthroughs in 10 key industries where China wants to be a leader in the future, including information technology, robotics, aerospace, railways, and electric vehicles. To achieve this, Beijing plans, among other things, to continue a trend of state-directed innovation, proposing to establish 15 manufacturing innovation centers by 2020, which would be expanded to 40 by 2025.
3 “China’s changing raw materials demand – A new basis of competition,” Bjacek, May 10, 2013; https://www.accenture.com/us-en/blogs/blogs-china-changing-raw-materials-demand.
4 See past blog on changes to regional competitiveness.
Based on Oxford Economics data, June 2, 2015.
6 Based on durable and non-durable goods figures form Oxford Economics.  Automotive vehicles were added to durable goods.
That is, used of technologies that are no longer feasible in advanced developed regions due to environmental and safety considerations.
8 What we mean by “commodity specialties” are products typically classified as specialties, which have commodity characteristics, e.g., residential paints, certain pesticides, etc.

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