Australian agriculture is dominated by exports. Most of our value will be sent to foreign markets and, conversely, most of our inputs will be imported. We are therefore highly dependent on maritime logistics.
Global supply chains have been very efficient over the past fifty years, with “just-in-time management” enabling consumers to access the products they need when they need them. Everything changed in 2020 with the outbreak of COVID-19.
The chart below shows August freight rates for some of the world’s major routes compared to the same period one and two years ago.
Container rates have dropped significantly compared to the same period last year. They remain extremely high compared to two years ago for many major axes.
Let’s dig into the numbers.
In life, not everything is equal. The same goes for freight and routing. There is a big difference in freight rates and whether they go in or out of China.
The table below shows the average container cost to or from China. China has always had a longer term premium. In the past two years, it has passed into the stratosphere.
This is due to the demand for trinkets and gadgets from manufacturing factories in China, as the world struggled with continued lockdowns.
It all comes down to supply and demand. There was huge demand for movement from China, but less from around the world to China.
Container rates are still high globally, but are showing some downward movement. What is the big driver? Inflation is starting to hit hard everywhere in the world, we are witnessing the beginning of a reduction in consumer spending, which is causing a drop in demand for the aforementioned trinkets and gadgets.
There’s the old adage that “high prices are the cure for high prices”. Freight rates for the past two years are unsustainable, but shipping lines are still making good money at current levels.
If, as many are predicting, a major downturn is on the cards, we will see container rates drop. This will be beneficial to reduce the cost of our exports. On the other hand, it may reduce the demand for these exports.
Australia relies heavily on bulk carriers. We export most of our bulk commodities, iron ore, coal and grain. We also import the majority of our fertilizers in bulk.
The price of bulk freight has a significant impact on our competitiveness. Let’s look at what happened.
The Baltic Dry Index (BDI) is used to show the trend of bulk freight costs. The BDI has followed a similar trend to last year and is above the range generally expected over the past 12 years.
The cost of bulk freight, however, deviated from the trend seen last year, when freight costs continued to rise in the second half of the year.
Iron ore is one of the largest commodities transported in bulk, and we see a correlation between ore price movements and the BDI. When iron ore prices increase, we tend to see an increase in BDI and vice versa. The chart below shows the relationship between the two when iron ore is shifted for four periods.
If this relationship holds, we could start to see bulk freight rates begin to decline over the next few weeks, based on the current weakness.
Freight as a leading indicator
While freight indices provide insight into the cost of moving goods around the world in bulk and containers, freight cost has a secondary and potentially more important purpose – as a primary economic indicator.
As mentioned earlier, BDI stands for bulk cargo, which usually requires additional processing. A good example is iron ore, which is shipped to other countries to produce steel. Steel demand is generally related to construction.
A higher BDI signifies an increased demand for bulk carriers and as an indicator of the materials they carry.
Therefore, a higher BDI indicates future economic growth and vice versa.
We see it in the early 2000s during the commodity boom. During this period of accelerated economic growth, there was a massive demand for bulk carriers which drove the BDI to a record high of 11,793.
This boom was followed by a crash, as the global economy slowed.
A slowdown in the global economy would likely lead to lower demand for iron ore, especially in the event of a Chinese slowdown.
During the global financial crisis of the late 2000s, Australia was cushioned by strong demand for Australian commodities from China as it went through a growth phase.
The current environment may not see the same protection offered if the economy slows.
This article first appeared in Food Australia. Data visualization provided by Thomas Elder Markets.
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