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Political Shifts Threaten Free Trade Development

Posted on September 30th, 2016 by in Chemical R&D

Trade image

The global economy has been impacted significantly in recent months by political mood shifts in major economies.  Brexit, the upcoming US election and the dampening public sentiment in EU member countries all paint an uncertain future for free-trade relationships. Meanwhile, China’s effort to restructure its economy could lead it to be more selective of its trade partners and the extent to which it is self-sufficient in certain markets.

By John Richardson, ICIS

The assumption that global free trade will continue to grow has successfully underpinned the strategy of petrochemicals producers for many years.

Companies have been able to operate existing plants and plan new capacities in just about any location secure in the knowledge that the future promises lower rather than higher trade barriers.

This has enabled them to easily, and very profitably, export volumes surplus to the levels of demand in their local markets.

But there is a risk that global free trade will start to unravel as a result of a significant shift in the political mood.

An important example of this change in mood was of course the UK’s Brexit vote in June to leave the European Union.

Those negotiating the exit from the EU face what might turn out be an impossible task: securing Britain’s continued unfettered access to the European single market without the UK being forced to still comply with EU rules on free movement of labour.

The dilemma is that EU leaders are insisting that Britain adheres to the free movement of labour rules if it wants to maintain its current level of access to the single market.

Those who voted to leave Europe largely voted on concerns over levels of immigration. So, if negotiators concede to the EU request then political unrest in Britain seems a strong possibility.

The alternative is for Britain is to reject some or all of the EU rules on free movement of labour, whilst seeking to replicate the single market free-trade advantages through new bilateral and multi-lateral trade deals.

But these deals could take many years to negotiate, assuming of course it is even possible to fully replace all the benefits of the single market.

Then we have to worry about the result of next year’s French presidential election and the political sentiment in other mainland European countries. To what extent might this sentiment unravel free-trade agreements within the rest of the EU and between the EU and its external partners?

More immediately, there is the result of the US presidential election in November.

No matter which candidate wins, the political climate in the US seems to indicate that further trade liberalisation will be difficult. And in the worst case scenario for US businesses built around easy access to overseas markets, existing free-trade deals could also be unravelled.

We then have to think about how China might react to a redrawing of the global free-trade map. It is already in a very difficult position as it tries to restructure its economy.

China’s No1 priority is jobs, both the quality and quantity of jobs. Here is its position:

* It has to create millions of new jobs in higher-value manufacturing and service industries if it is going to escape its “middle-income trap”.

* These jobs can only be created if it has sufficient access to overseas intellectual property, and new trade barriers could make this impossible.

* China is firmly committed to getting rid of employment in oversupplied industries. But it has to very carefully calibrate the pace of these job losses if it is going to maintain social stability.

* Free trade matters here as well because China is controlling the speed of job losses by increasing the exports of its manufacturing surpluses. Exports have risen in industries such as steel, in some petrochemicals and refinery products.

How might China react if other countries and regions erect new trade barriers? It could close some or all of its domestic markets to these countries, whilst building closer relationships with the countries and regions that maintain free-trade relationships.

Even better-placed might be the countries and regions that both stick with free trade and cooperate with China’s economic reform programme. For example, signing up to China’s One Belt One Road, or New Silk Road, initiative could end up being a smart decision.

China is crucial to this story because of the size of its deficits in some petrochemicals– most importantly polyolefins.

Chinas polyethylene market


The above chart shows ICIS Consulting’s newly-updated estimates of China’s polyethylene (PE) production, consumption and imports in 2016 and in 2020. These estimates can be found in its Supply and Demand Database.

Imports, are you can see from the chart, are expected to increase by 2020. They are expected to be around 11.5m tonnes in that year versus 2016’s 9.8m tonnes.

China could thus remain by far the biggest importer of PE in the world, well ahead of not only other countries, but also regions such as Europe, Latin America and Africa.

Polypropylene (PP) is a different story as imports are expected to fall to 3.6m tonnes in 2020 from 3.9m tonnes in 2016. But China would again still retain its place as the world’s biggest PP importer.

But what if China decides to move much more aggressively towards polyolefins self-sufficiency in response to a breakdown in global free trade?

Its self-sufficiency has of late already been on an upward trend, mainly as a result of new coal-based capacity that was sanctioned during the 2009-2014 economic stimulus programme.

China has abundant local supplies of coal if it decides to choose this root to further increase its domestic capabilities, provided it can overcome environmental concerns.

There are other reasons why China might also opt for greater polyolefins self-sufficiency via coal.

These include creating new downstream jobs in plastic processing in the western, less-developed, provinces of China where most of the country’s coal reserves are located.

At the level of specific grades of polyolefins, though, the future might turn out to be more complex. If China doesn’t have access to the technologies necessary to make higher-value grades then its self-sufficiency options in these grades will of course be more limited.

Sure, you can very effectively argue that time is running out for China to announce and build a big raft of new polyolefins projects by 2020. But about what after 2020?

The political mood might obviously shift again, back towards the global consensus that has pretty much been in place since the end of the Second World War: Free trade is on balance good for economic growth.

But it is dangerous to assume that a return to this consensus is inevitable. What you could instead see is resentment towards free trade increasing if growth remains stuck well below the levels that prevailed before the Global Financial Crisis.

Politicians and central bankers have spent seven years trying to restore many of the world’s economies to where they were before the crisis, and yet there are very few signs of success.

A breakdown in free trade is not just a threat to petrochemicals producers. The buyers of petrochemicals are also exposed to this risk.

You could be a buyer in a country that gets caught up in a trade war with its major trading partners. You might then find it much harder, perhaps even impossible, to import the raw materials that you require from these trading partners.

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All opinions shared in this post are the author’s own.

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