China, Copper and Caveats on the US

Be prepared for surprises in 2023. The first surprise will come from China. We saw in Australia, and particularly in Victoria, what happens when you lock people up for long periods to try and eliminate COVID. When they are released, the initial shock is the fear that comes from widespread infection and, sadly, deaths but that passes relatively quickly. In its wake comes unprecedented levels of consumer spending. It is like a cork coming out of a bottle and, given China had the biggest lockdown and the world’s largest population, the world will see a spending spree in China of great magnitude.

At the same time, prior to the release of the Chinese population from “COVID prison”, the government took some long overdue steps to pump money into the apartment building industry to enable contracts to be completed. This will take a lot of pressure off the Chinese banking system and reduce anger in the population. 

Chinese Travellers

But the combination of the memories of the property debacle and the horror of the COVID lockdowns mean the Chinese are going to want to travel overseas where they have the funds. I would expect a big rise in Chinese tourism in the next 12 to 18 months despite the testing requirements which, in any event, are likely to be abandoned within a year. In addition, the lockdown has really underlined to the Chinese middle class that they have no freedoms. Where they can escape, many more will be looking for migration.

China will release the clamps on Australian exports not just because they like Anthony Albanese more than Scott Morrison but because they will need our minerals and goods, including wine and lobsters. It means there will be a strong demand for all Australian exports to China although there may be some effort to curb the price of iron ore. The China boom will not continue forever at its frenetic pace, but it means that it will be very hard for Australia to go into recession. It may also make it harder to reduce inflation (and therefore, interest rates) both in the US and Australia.

Nickel and Copper

But there is a second trend that will be longer term. Around the western world and in China there is the most frenetic desire for electrification. There are two significant problems.

The first is a shortage of nickel but China is investing heavily in Indonesian nickel so I suspect the nickel boom will not be as big as the super nickel bulls forecast.

But copper is a different story. The demand will be huge and there simply is not the supply available in the short to medium term. BHP picked this and they are securing OZ Minerals to lock in the development of a massive copper province in South Australia for an attractive price.

There is every chance that in the next couple of years copper will double in price and may even go much higher. Most of the market action so far has been in the majors but in due course it will spread to the smaller companies including the explorers.

And, of course, on the subject of minerals we should not forget gold which is rising strongly on the back of central bank buying, short covering and the desire of many to be less dependent on paper currencies given the huge amounts of debt in the US.

Mortgage Belt 

Of course, we should not forget that our mortgage belt is going to be hit very hard and face a miserable time, however, the fact that the US downturn is beginning to impact inflation means that the very high interest rates predicted for the US may not eventuate. That will take some pressure off the Reserve Bank of Australia to undertake major interest rate increases. The Commonwealth Bank says that there will only be one increase that will take the official rate above 3.1 per cent. The pain in the mortgage belt will cause the central bank to hold back further rate rises unless inflation breaks out again.

In the US, the economic decline is more severe than is apparent from the official figures. Here in Australia, we learned about the extent of the US decline from our Chinese suppliers who told us how their US demand had evaporated. We are seeing that decline translated into retrenchments by over-extended US companies that are short of cash. But if you look deeper into the US figures it is clear that the decline is also starting to reduce key elements of the US inflation rate. This will become more apparent in the next month or so and I suspect that the market is right in buying US bonds and pushing the yields down in anticipation that the rate increases forecast for 2023 are likely not to take place as the slowdown does its job. But I must add vital caveats to that US scenario.

Caveats

The first is the likely flow-on impacts from the China outlook I described above. I also fear the Ukraine war is going to be an elongated affair which will continue to sap the world’s strength.

The third caveat is that the US House of Representatives is very unstable, and the election of Kevin McCarthy as Speaker carried conditions which will make it difficult for the House to pass the necessary debt level increases without spending cuts that the Democrats will not agree to.

There is a real danger of a stalemate which could have disastrous impacts on the US and the world. I am not qualified to assess the level of this danger but all those punting on a revival in the world need to appreciate this possible major threat.

We won’t escape a European downturn but already markets are suggesting that there will not be carnage. Gas prices have started to fall, and the European community is beginning to adjust to its new situation and that is being reflected in the stock market.

So, Down Under we are looking at a better position than it seemed likely in 2022 but we have an inexperienced government capable of messing it up. Let’s hope that doesn’t happen.