Jeff Rubin, one of the world’s most prominent experts on the future of oil, explains why the end of cheap supply means the end of easy answers to renewing prosperity—and the end of globalization as we now know it. Rubin was the former Chief Economist at CIBC World Markets (for almost 20 years), is a frequent columnist for The Globe and Mail, and is the bestselling author of Why Your World Is About to Get a Whole Lot Smaller, and The End of Growth. In this article, Rubin examines how China’s economic slowdown will effect Canada.
If beaten up Canadian investors are looking to assign blame for the bruising suffered by their portfolios of late, they could do worse than point an accusatory finger at China. The resource super-cycle that drove valuations so much higher over the last decade is now hobbling along at a snail’s pace and China is a big part of the reason why.
A slowdown in China’s economic growth is exacting a heavy toll on resource-based economies like Canada’s. Domestic coal mines are being shuttered due to tumbling coal prices. In Ontario, hopes to mine chromite deposits in the so-called Ring of Fire are fading as steel markets continue to weaken. At the same time, British Columbia’s plans to ship liquefied natural gas to Asian markets are being scuttled as LNG prices come off their highs. Similarly, lower oil prices are prompting Big Oil to shelve plans for multibillion-dollar oil sands projects in northern Alberta.
Seeing a simultaneous pullback in spending on big resource projects isn’t a coincidence. Look around the world at what’s happening in the resource space and it’s easy to see that new sources of supply aren’t helping prices. Consider the oil market, for one, where prices are now treading at four-year lows. Part of the reason for the decline is all of that new oil flowing from fracked shale formations in places like North Dakota, Texas and southeast Saskatchewan. It’s often said that the best cure for high prices is high prices and that’s exactly what’s happened to oil after the big run-up to $147 a barrel. Indeed, an extended super-cycle made new sources of supply economically viable in nearly any resource market you care to name.
While supply is certainly part of the equation, the much larger culprit behind today’s weakening commodity prices is actually demand. Over the last decade, new projects were developed based on a belief that global demand would continue to increase at more or less that same pace as it had prior to the last recession. Even a quick glance at what’s going on globally shows that’s just not the case.
A slowdown in many of Asia’s major economies is a big part of the reason why. After three decades of averaging annual economic growth in the double digits, China has come to be a dominant player in most resource markets. Until recently, Chinese demand only ever seemed to push prices higher. However, such an out-sized reliance on a single market is a double-edged sword. One look at commodity prices these days shows the blade is now slicing in the other direction.
Consider coal, for example. China consumes more coal than any other country in the world. No surprise, then, to see that coal prices have fallen in half as its economy has slowed down. For oil, where Chinese demand is a little more than 10 per cent of the global total, prices have dropped by about a quarter. If China’s economic growth continues to grind, lower prices for coal, oil, and a raft of other commodities remain vulnerable to further declines. The official word from China’s National Bureau of Statistics says its economy grew at a 7.3-per-cent annualized pace in the third quarter. It’s the slowest rate in more than five years. It’s also widely speculated that even those modest numbers might be artificially inflated to serve Beijing’s political interests. Veracity of the data aside, the idea of immutable Chinese economic growth that so dominated the thinking of resource markets in recent years is now off the table. The Conference Board of Canada recently forecast that China’s economic growth will slow to an average of less than 5 per cent over the balance of the decade and then further downshift to less than 4 per cent between 2020 and 2025. If that’s the new speed limit for China’s economy then investors may be a long way from seeing the bottom in resource prices.
That’s a particularly challenging outlook for Canadian investors and the TSX, which is weighted so heavily towards energy and resource stocks. The energy sector, for example, has underperformed the TSX Composite by more than 11 per cent in the last year. If the broader market is going to rebound to new highs, it will have to rely on strength from other parts of the economy to get there.
In light of the Harper government’s love affair with the energy sector in general and the oil sands in particular, an end to the global resource super-cycle is more than a little chilling for Canada. Ottawa has bet heavily that Asian demand would continue to support ever rising oil prices and, by extension, bitumen production. What happens to Canada’s economy if that doesn’t come to pass?