It is perhaps understandable that much of the reaction to Andrew Mackenzie’s first speech in Australia as BHP Billiton’s chief executive should be focused on his optimistic forecasts of global demand for commodities. There was, however, another dimension to his outlook.
Mackenzie’s assessment in a speech to an Asia Society lunch in Melbourne that global demand for commodities would grow by up to 75 per cent over the next 15 years, driven by the continuing urbanisation within China and the growth in Asia’s middle class, is in line with the generally bullish views on demand held by BHP, Rio Tinto and the other big miners.
China’s growth has, of course, been slowing as it attempts to get some financial imbalances under control and to make a transition from an export-driven economic model to one with a higher proportion of domestic consumption.
As Mackenzie said, however, while the percentage growth rate for some commodities (and for China itself) might be slowing, absolute demand levels (and the absolute size of China’s economy) are still rising off a larger base. BHP expects stronger demand for commodities used in energy, energy transfer and food production.
As he also says, only a relative handful of countries can deliver the volume of resources required to support Asia’s growth and Australia was one of them.
The other dimension to the commodities picture, however, is the supply. As Mackenzie said, China is now a low-cost producer of metallurgical coal, competing against Queensland’s Bowen Basin producers; the US is an increasingly competitive supplier of thermal coal displaced by the shale gas revolution, competing against NSW’s Hunter Valley mines; the US, Canada and Africa are vying with the raft of Australian LNG producers to supply gas into Asian markets.
A couple of weeks ago Goldman Sachs’ chief economist in Australia, Tim Toohey, made the point on the ABC’s Inside Business program that his bank’s economist were forecasting global demand for iron ore growing at around 3-3.5 per cent over the next few years but with supply to grow at 9-10 per cent.
Goldman has predicted a market in oversupply by the first half of 2014 and an excess of supply of about 200 million tonnes in 2015 and it has painted a broadly similar outlook for most of the other key commodities.
In oversupplied commodity markets ultimately the low-cost producer wins (albeit that there can be some distortions to markets from producers who operate for cash rather than profit). In the past the Australian iron ore and coal producers were at the low end of the global cost curves and had the advantage of their proximity to Asia and lower shipping costs to protect their market shares and maximise their volumes, if not the absolute size of their profits.
That’s not necessarily the case today, given the massive cost escalation that occurred during the resources boom and its impact on the coal producers in particular.
While withdrawal of higher cost supply will be part of the eventual response to oversupplied markets, and indeed some coal mines have closed, the longer term response that minimises the damage to jobs and economic growth and maximises Australia’s share of the seaborne trade in commodities is to make the industry more competitive.
As Mackenzie said, the larger part of the productivity challenge rests with the industry and its management, which have responded already with mine closures and large-scale cost-cutting and labour-shedding as they try to wind back the indulgences of the boom period. BHP has itself taken out about $US2 billion of annualised costs, if not more, and is attacking the capital intensity of its portfolio.
The significant value in the decline of the Australian dollar this year will also help companies like BHP and Rio that have the larger part of their operations in Australia and therefore have predominantly Australian-dollar cost bases but US-dollar revenues.
Ultimately, however, the future competitiveness of the resources sector is also influenced by the overall competitiveness and productivity of the Australian economy, which means there is also a role for governments and other institutions in helping to ensure that the sector, despite the fall back in commodity prices and the deceleration of investment, is still able to maximise its contribution to economic growth.
There’s been a lot of talk about productivity at government levels in recent times, but little action.
To take full advantage of the still-substantial growth occurring within the region rather than relinquish it to competitor economies there is a continuing need for a raft of productivity-lifting actions from the resource companies themselves, but also for real action from the tiers of government.