The US Economic Scenario

Transcription

1 The US Economic Scenario After three years of strong economic growth, the U.S. economy looks like it will grow at a much lower pace next year. The US GDP has considerably slowed down from the strong 5.6% in the first quarter of 2006 to 2.2% in the third quarter. U.S. real GDP growth over the past few years has been driven in large part by consumer spending and residential construction, but these drivers are starting to slow, if not reverse. The decline in new home construction that started a year ago has accelerated in the past two quarters, and further declines look likely in Slower economic growth should cause inflationary pressures to begin to ease. Slower growth and declining CPI inflation should influence the Federal Reserve to cut rates early next year. However, a significant decline in interest rates, whether in the United States or in most foreign economies, does not seem likely unless growth weakens significantly. Indeed, central banks in some countries with abnormally low rates (e.g., Japan) may tighten policy modestly next year. As interest rate differentials between the United States and the rest of the world narrow, U.S. dollar denominated assets should lose some of their relative appeal to foreign investors.

2 A few factors about the US GDP growth rate are worth mentioning. First, growth is expected to slow down to 2.2 percent in Second, the composition of growth is rotating. Over the past few years, real GDP growth has been driven primarily by consumer spending and housing investment. However, at present the former is decelerating and the latter is falling sharply. Our outlook remains for moderate growth. In this we are also supported by the recent FOMC statement which projected the US economy to grow at a moderate pace in the coming quarters. We believe that the drivers for this projected moderate growth would be business fixed investment and government spending supported by consumer spending. While economic growth is moderating, concerns about inflation remain especially at the Federal Reserve. The core (ex-food and energy) CPI has increased at a 2.8 percent annual rate during 2006; a rate slightly under that is expected for The PCE Deflator which remains the Fed s preferred measure of inflation has remained above the targeted inflation boundary of 2.0 percent. However, we expect the core PCE deflator, as a result of the lagged effect of past tightening measures by the Fed, to average 2.3 percent growth next year. This pace remains above the ceiling of the Fed s target range. In recent quarters labor compensation has risen at a pace above that of productivity gains, which has put upward pressure on unit labor costs. This upward pressure is typical for this phase of the business cycle. We expect the Fed to remain on the sidelines for now. However, we project that slower growth in the first half of next year will finally induce the Fed to ease modestly.

3 Rest of the World Our Projections The Euro zone is currently enjoying its strongest year of real GDP growth since However, economic growth should slow to 2 percent next year from 2-¾ percent this year due in part to the 150 basis points of tightening that the European Central Bank (ECB) has undertaken over the past 12 months. However recent indications from the ECB suggest that the Bank is not satisfied with the current rate of deceleration and is looking forward to further rate increases. Japan has enjoyed solid economic growth over the past four years, although the economy has slowed a bit this year. The year-over-year growth rate in industrial production rose to 7.4 percent in October from 5.2 percent in September. With deflation fading as a threat, we expect that the Bank of Japan, which ended its zero interest rate policy earlier this year by raising its major policy rate by 25 basis points, to slowly guide short-term interest rates higher over the course of Looking to major developing countries, the Chinese economy has grown roughly 10 percent per annum over the past few years due in part to very rapid rates of capital accumulation. Because the Chinese government became concerned earlier this year that investment was growing too rapidly, which could cause future problems if the projects turn out to be unprofitable, it implemented a number of tightening measures to rein in excess investment. Therefore, we project that Chinese real GDP growth should slow somewhat in 2007, but it should remain quite robust relative to the standards of most other economies. Turning to the Indian scenario, the Indian economy has grown very strongly over the past few years mainly due to the high savings rate leading to strong investment spending. The average growth rate of the Indian economy has been around 7% over the past few years. The recent rise in the inflation index suggests that the Indian economy has been growing faster than its long-run potential. We expect that the real GDP growth in India will slowdown somewhat in the next year owing partly to the global slowdown and partly due to the lack effects of interest-rate hikes. As the growth slows inflationary pressures are expected to come down. We expect that the rupee will be somewhat stronger against the US dollar in the year This will be partly due to the $160 billion of foreign exchange reserves that India currently possesses, and partly due to the strong foreign funds flow that had expected to continue, attracted by the strong Indian growth

4 Metals and Energy Bullion Gold prices started moving up from 7690 in January, 2006, reached a high of in mid May and is currently trading in the range of The main factors that pushed bullion prices to record highs were the geopolitical tensions prevailing in Middle East and high inflation. Faced with high inflationary pressures, the Fed started resorting to higher interest rates (currently the rate is 5.25%). As the interest rates went up, bullion prices started taking some correction as higher rates made dollar denominated assets more attractive than bullion. Now the clock has turned full cycle and all indications point to an economic slowdown in the US due to which we strongly believe that the Fed will be left with no other option other than to cut rates by the first half of The lagged effect of the previous rate hikes is being felt now, with GDP growth slipping from a strong 5.6% in the first quarter to 2.2% in the third quarter. The US housing sector is also down by 23 percent from its highs registered in April. Another factor that is expected to support gold prices in 2007 will be central bank purchases, especially from China and India and Russia. The Iran nuclear issue is also rekindling the geopolitical tensions in the Middle east, which has the potential of further driving up bullion prices Crude With below-trend growth expectations for the first half of 2007, and a slowing of growth expected globally, there will be some real downward price risks to energy prices.

5 We see the price of crude hovering around the $62 level next year, down a bit from the average price in Aside from the dynamic of slowing but not collapsing demand we would also have to consider the effect of the production cut that OPEC is implementing. As this article goes to press, OPEC has already implemented a production cut of 1.7 million barrels per day of which half a million barrel cut will be effective from the 1 st of February. Base Metals Metals prices are likely to be a relative mixed bag next year, since inventories are tight across nonferrous industrial metals. Copper prices are expected to ease a bit as the U.S. housing market cools. Aluminum prices could decline somewhat on the back of lower natural gas costs, and steel prices are poised to fall because of easing demand and an increase in global supplies. Zinc prices are poised to rise, and are subject to significant upside price risks, because of especially tight supply constraints Copper The main reasons which pushed up copper prices in 2006 are the very low levels of LME warehouse inventory and the sparkling growth in the US Housing sector. In the months of June and July, LME monitored copper warehouse inventories had dropped to tonnes whereas the inventory levels have now climbed back to over tonnes on the back of slower copper demand especially from the United States. We expect that the US economy will maintain its downtrend till at least the first three to four months of Moreover as long as the interest rates are high, we foresee no visible chance of a pickup in the US housing market, which consumes around 46% of the total copper consumed in the United States. Hence we maintain a bearish outlook on copper prices

6 Aluminum Aluminum prices are up mainly due to the shortage of LME aluminum stocks and steady demand of aluminum used transport, construction, packaging and consumer goods. Aluminum hit a high of $3130 per tonne on May 11. The demand for aluminum is expected to continue into 2007, with forecasts of a global aluminum market deficit of metric tonnes for Zinc The main reason as to why zinc prices went up is the steel galvanizing demand from China. The Olympics preparations in China have increased the Chinese steel demand. China has been a major driver behind the demand supply gap in zinc, as they have progressed from a major exporter of refined zinc to a major net importer. As zinc supply shortfall worsens and LME inventories continue to decline, the price of zinc increased. Agri Commodities Refined Soy Oil Refined Soy Oil prices in domestic market have increased to Rs /10 kg, up by 37% from Rs /10 kg. Major factors supported this move are: Strong international markets. Crude Palm Oil futures on BMD have touched 8 year high of MYR 1995/ton following reports of supply disruption due to flooding of palm plantations in Indonesia. Increasing export of palm oil from Malaysia also aided bullish sentiment to domestic soy oil market. Till November 2006, palm oil export from Malaysia has increased by 8.5%. Soy complex on CBOT also posted higher gains due to shift in acreage from soybean to corn. On domestic front, lower production estimates of groundnut and mustard seed led to a sharp rise in demand for soy oil as an alternate edible oil. Groundnut production is estimated to be lower by 20% compared to last year. Declining acreage under mustard is resulting to lower output.

7 During October 1st to December 22nd period, area brought under mustard seed cultivation is down at 6.54 million hectares compared to 7.18 million hectares planted in the same period last year. Present Bull Run in Refined Soy Oil is expected to continue for first half of We project Refined Soy Oil prices will cross 500 levels in first half of Chili During January 2005 spot prices at Guntur market was around 2600 per quintal. November 2006 spot prices were around Rs per quintal. About 30 to 35 percent of the crop was (September 2005) damaged due to floods in major producing regions of Andhra Pradesh. Lower inventories in major markets like Madhya Pradesh, Karnataka, Gujarat coupled with lesser availability in Guntur market. Huge export orders from Bangladesh, Srilanka, China and Mauritius Area under Chili is estimated to be around 1.3 lakh ha with production estimated to be around 10 lakh MT. High spot prices during prompted many farmers to cultivate Chili in large scale. Prices are expected to come down in near term (Feb 2007) as a result of higher production estimates. Pepper Pepper prices hovered around Rs to Rs per quintal till June 2005 Started rising by July and reached a high of over Rs per quintal by October. Pepper eased from November due to corrections and currently spot prices quoting around Rs per quintal in Cochin spot market. In India, Production was down by 40% as a result of erratic rain and disease attact to pepper plantations in Kerala region.

8 Lower crop in major producing countries like Vietnam, Brazil and Malaysia due to unfavorable weather conditions. Fresh export orders are expected immediately after December (fresh buying from international traders expected in January) Pepper production in India is estimated to be around 35,000 40,000 MT compared to 55,000 MT previous year. Rains & disease have affected the crop According to IPC (International Pepper Community) world pepper production is estimated to be % lower in 2006 World pepper production for 2006 is projected to be 2.65 lakh MT, against the estimated production of 2.9 lakh for (Normal world production ranges from Lakh MT) Prices are expected to go up sharply in 2007 after opening of international markets (After New Year holiday). Turmeric Turmeric prices were up in January 2006 with spot prices quoting around Rs per quintal Prices started crashing after January due to huge crop arrivals in the market (arrival season January to March) Prices crashed to 1900 to 1850 levels during November December 2006 Turmeric prices are expected to fall further as a result of lack of buyers in the Nizamabad spot market. Production is estimated to be around 3.1 to 3.3 lakh tons (nearly same as previous year production 3.3 lakh tons). Good stocks in all major markets (Nizamabad, Erode, Sangli and Warangal) (nearly 5 to 8 lakh bags)

9 Castor Average prices during January 2006 remained lower at around Rs.300 per 20 Kg due to harvesting season, but it touched high of 400 levels during October,2006 Total area sown under castor in 2005 was 9.48 Lakh Ha with total production of 9.1 Lakh Ton In 2006, due to better price realization in cotton and pulses, farmers had shifted from castor thus reducing the total area under castor Floods and drought in Gujarat and Andhra Pradesh respectively had also adversely affected the crop Total estimated area in 2006 is around 8.9 Lakh Ha down by 0.6 Lakh Ha and production is also estimated to be lower at around 7.2 Lakh Ton For 2007, prices are expected to be around Rs.340 levels due to above mentioned adverse situations. Potato Average prices remained at around Rs per Quintal in Agra market during January, 2006 which is normally harvesting season During lean period that is November,2006 it had posted highs of Rs.600 due to lesser available stocks In 2005, area sown under potato was around 15 lakh Ha and production was 25 million Tons. Demand remained at same level in 2007 at around 25 million Tonnes. Present estimated area is up by 15-20% to lakh hectare and production is about million tones In 2007 January, prices will remain under pressure due to arrival pressure

10 Mentha During January 2006, Mentha prices were around Rs Kg Area under Mentha cultivation was around 0.8 Lakh Ha in 2006 and production remained at Ton Due to better price realization in Mentha previous year, Mentha was sown over a considerably larger area this year Area is expected to be around 1.25 Lakh Ha(1.5 times higher than the previous year) Production is also estimated to be higher around Ton Lower than expected export demand this year In 2007 prices will remain around Rs per Kg. Chana Prices of Chana touched historical high of Rs.3350 levels in spot markets in September from Rs levels quoting in January February Lower output of lakh tones during rabi 2005 season against normal production of lakh tones and better demand led to sharp rally in prices However, prices declined sharply from these historical higher levels to Rs per quintal by the end of December with increased area and production estimates Imposition of stock limits by various governments also supported bearish trend in Chana prices in the last 2-3 months Higher prices of Chana led to increased area during rabi season to 75 lakh hectares against 70 lakh hectares in previous year. Production for rabi 2006 estimated at lakh tones against lakh tones in last year. Bearish trend may continue further and spot prices may touch Rs levels in peak arrivals period (March April). After the end of arrivals, prices may pick up and move upwards with increased demand mainly in festival season (August September)

11 Urad Urad desi contract was introduced in the month of July 2006 in place of Burmese based Urad. These Urad desi prices also touched historical high of Rs.4100 in the month of September from Rs however, declined towards Rs.3200 levels by the end of December. Production of kharif Urad estimated at 8.15 lakh tones stagnant from previous year and higher demand led to sharp rally in prices. However, declined demand after major festivals in September and arrivals of rabi crop pulled prices down Rabi crop output estimated at 2.8 lakh tones stagnant from previous season Arrivals may increase in January February and imports from Burma seen during March April These increased arrivals and lack of demand may keep prices low in the first half of next year Tur Desi Tur variety was introduced in place in Burmese based lemon tur in August month Prices moved towards Rs levels in spot markets from 1800 levels due to delayed arrivals and lower production (23 lakh tones compared to 24.3 in last year) estimates for kharif season Prices declined from these levels towards Rs.1800 levels on increased arrivals from Andhra Pradesh and Karnataka Arrivals continue till end of January in southern states, which may hold prices steady. However, overall sentiments in Tur are bullish in 2007 due to lower output and better demand. Tur prices are under priced compared to Chana and Urad and demand may be higher as a substitute to other pulses

12 Guar Seed Guar seed prices moved up towards Rs.2300 levels in spot markets from Rs.1600 levels, but touched Rs in futures trade in May June Low production ( lakh tones) and better export demand led to sharp rally in prices However, prices declined due to higher sowing area estimates and favorable weather conditions Prices once again moved up towards Rs.2200 in November, but not able to sustain at these higher levels with low demand at these higher prices Production estimated at lakh tones in kharif 2006 against lakh tones in last year Prices may remain under pressure due to increased arrivals in January February, however long term sentiments are firm with higher export demand during April May

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