In the June 2020 Resources and Energy Quarterly (REQ) we pointed out that “unlike downturns in previous decades, this downturn was not due to the bursting of excesses built up in the financial system…or in equity markets…. It also differs from the 1970s recessions…which helped contribute to stagflation and forced a wholesale restructure of the world’s energy system.” An inference was that the current downturn would likely be sharp but short relative to those earlier episodes, particularly if COVID-19 containment measures were successful, and large fiscal and monetary stimulus took effect. And, so far, the downturn in output of the world’s industrial sector — the main consumer of energy and resource commodities — has indeed been sharp but relatively short.
Probably the most notable development since the last REQ has been the sharp rebound in the Chinese economy — the world’s biggest consumer of resource and energy commodities. The rebound is the result of the almost complete eradication of COVID-19 in China, the subsequent easing of containment measures, and policy efforts to offset the impacts of the global COVID-19 pandemic.
The other notable development of the past several months has been the spread of COVID-19 in the United States. The high prevalence of COVID-19 in the US compared to other major economies has contributed to recent US dollar weakness; this weakness has boosted the US dollar price of commodities but had an adverse impact on the local currency returns of our exporters as the A$/US$ has risen. The US share market appears to have shrugged the effect on the US economy of the COVID-19 outbreak. But the large US ‘tech’ companies — which dominate the US share market — have benefitted disproportionately from a surge in domestic and offshore investor interest as the pandemic forces people around the world to work, learn, shop and socialise online.
In the outlook period, resource and energy commodity exports are likely to remain a major source of support to the Australian economy as it recovers from the largest global contraction since World War II. In line with IMF forecasts, we assume the world economy contracts by about 5 per cent in 2020, but grows by 5.4 per cent in 2021. Iron ore earnings remain extremely high, after setting an all-time record in 2019–20: strong demand from China has added to the impact of supply problems in Brazil, where COVID-19-related workplace issues have derailed efforts to recover from shutdowns in the wake of the Brumadinho tailings dam collapse. After topping $102 billion in 2019–20, Australian iron ore export earnings are forecast to be $97 billion in 2020–21. Gold has lifted even higher since our last report, and export earnings are on track to set a new record (of about $31 billion) in 2020–21. Base metals have recovered further, and the prices of copper and nickel are now back to pre-COVID-19 levels. Both have relatively constrained long term supply prospects against a backdrop of healthy demand, especially for use in new age technologies.
The prices of energy commodities are steadily recovering, as global demand recovers and supply cuts cause markets to tighten. Data show that China took advantage of low prices to stockpile oil and LNG in the June quarter 2020, helping to put a base under prices. The ‘baseline’ forecast scenario adopted for the oil price in the June 2020 REQ appears likely to be the most accurate of the four scenarios we constructed. As a result of the direct (but lagged) link between oil prices and LNG contract prices, Australian LNG export revenues are still forecast to fall sharply in 2020–21. Spot LNG prices are recovering strongly as (mainly US) supply is cut back and demand picks up. Coal prices have steadied at low levels, and are likely to edge higher through 2020–21 as supply cuts and rising demand depletes inventories.
Resource and energy exports are forecast to be $256 billion in 2020–21, but fall to $252 billion in 2021–22. Resource and energy exports are therefore expected to continue to make an important contribution to the Australian economy during the outlook period. The forecasts have notable risks on both sides: on the downside, a COVID-19-induced, protracted economic slump in the US would hurt Asia (and thus Australia) as its major supplier of manufactures. An upside risk is potential for a successful COVID-19 vaccine and/or treatment that would boost business and consumer confidence, and lift economic activity once a sufficient number of vulnerable people have been inoculated.