by Jerome a Paris
Mon Jun 27th, 2005 at 05:32:50 AM EST
with oil prices now hovering above 60$, some industrial sectors are beginning to squirm seriously:
Energy prices appear to have reached a tipping point for many industrial users, as inflation outstrips companies' capacity to absorb higher costs by increasing the prices they charge consumers.
More below the fold. (See also Rimjob's earlier diary - Oil Prices Break $60 Mark In Morning Trading )
Previous "countdown" posts:
Countdown to 100$ oil (2) - the views of the elites on peak oil
Countdown to 100$ oil (1)
Financial Times
FedEx, for example, the US <u>delivery group</u> that has been a leading beneficiary of booming global trade, broke its winning streak by warning that this quarter's earnings would be hit by jet fuel costs despite an automatic surcharge for customers.
And the <u>metals industry</u>, which had been enjoying its best growth for years, is now squeezed between the high cost of energy-related inputs such as electricity and coal and slowing demand from leading customers.
Corus, the Anglo-Dutch steel producer, last week warned it may have to shut its aluminium plant in Voerde, Germany, because of high electricity costs. Alcoa, the world's largest aluminum maker, warned of 6,500 jobs cuts and plant closures in Germany and the US because of a drop in its prices and higher energy costs.
Energy prices have hit German business on two fronts by weighing on the already feeble domestic demand while eating away at companies' margins, especially in the large industrial sector.
The affected sectors are not very surprising: transport and metal bashers are big energy users. But as they are vital sectors for the rest of the economy, it is unlikely that the pain will not be passed on pretty quickly to others.
Very heavy energy users like aluminium producers (which actually use electricity rather than oil) can decide to arbitrage their production: when they have access to cheaper energy under long term contracts, they can decide to stop producing aluminium because they make more money re-selling that energy on the open market instead of using it. This reduces demand and acts as a brale on energy price rises - or it triggers price rises on the aluminium market... Using electricity, they also often have the possibility to arbitrage between different fuels: fuel oil if they use it, natural gas, coal, or via the wholesale electricity market.
But the transportation sector has no alternative to oil. Despite the ferocious competition in that sector, the regularly increasing price of its most fundamental input can only lead to increased prices for transport, which translates into inflation for consumers and into increased costs for all industries that move things around, which is pretty much everybody.
As the stories above note, the stock market is beginning to notice:
Growing fears that high energy prices will eat into corporate earnings as companies prepare to report second-quarter results, have left global equities struggling in recent days.
US crude for August delivery surged to a new record of $60.50 a barrel, triggering losses in markets across Asian countries, most of which rely heavily on oil imports. Exporters and energy-intensive companies such as airlines were among the hardest hit.
(...)
"The surge in oil prices is different to last year's," said Leo Doyle, strategist at Dresdner Kleinwort Wasserstein. "It is now expected to last. Eventually the effect on growth will unwind but we now estimate that the 0.6 per cent drag on eurozone GDP growth this year will not improve much for 2006."
Asian currencies also weakened on higher dollar demand for oil imports. Japanese yen, Korean won and Taiwanese dollar all fell against the US dollar.
(...)
Energy prices have hit German business on two fronts by weighing on the already feeble domestic demand while eating away at companies' margins, especially in the large industrial sector.
Increasing oil prices are temporarily creating additional demand for dollars, thus strenghtening the currency in the short term, but as they are likely to make the US trade deficit increase even more (10$ more on the barrel for a full year increase the deficit by close to 45 billion dollars; at current prices, the annual oil import bill is about 250 billion dollars), this is unlikely to last.
The oil price increase is creating several dangers for the US economy:
- by biting into corporate profits, it kills the only metric that has made the US economy look good in recent years, and increases the chances of a stock market decline;
- by increasing the costs for consumers, it bites into demand for other goods, thus threatening economic growth altogether, debt bubble or no debt bubble;
- they also threaten to re-ignite inflation, thus making interest rate increases (whether by the Fed for short term rates or by the markets for long temr rates) more likely, and threatening the whole debt-supported US economy;
- by sending record amounts of dollars to oil producers, it increases the volume of dollar reserves that are held by countries that have an interest in maintaining the value of the dollar (the Asian consumer goods exporters). Oil producers don't care about the dollar as much, as their exports are not dependent on any exchange rate, and their spending is mostly done in euros. Russia or Iran have little incentive to hold on to their dollars...
Oh well, still 40$ to go...
