End of the commodity super-cycle and implications for Asia
In conclusion, we consider some geopolitical implications. The fact that one of the key discussion items between Japan and the US during PM Abe's inaugural visit to Washington in February was about clearing regulations to allow natural gas exports from the US to Japan illustrates the importance of shale developments. Given the cost savings involved, Japan's eagerness is understandable, and would clearly further solidify Japan-US cooperation.
Beyond the issue of natural gas production, a lacklustre price outlook for oil has a range of implications. If the US oil production surplus, for instance, ultimately leads to the Brent benchmark falling precipitously with WTI to a level below the fiscal and budgetary level for key oil producers in the Middle East, the economic strain could ultimately lead to potentially widespread social unrest in that region.
Large scale spending on social programs in the Middle East has increased the breakeven oil price for many countries in recent years. According to our EM research team, the average GCC breakeven price last year is estimated to be around USD80/bbl (Brent basis), a 60% increase since 2008. This rising trend is likely to remain in place. And while USD80/bbl is the fiscal/budgetary breakeven, indications are that OPEC members are more comfortable with prices at around USD100-110/bbl. Similarly, the relationship between European energy importing economies and Russia could be altered fundamentally if price weakness continues in the oil and gas sector. Russia's pricing power would be weakened, with adverse budgetary implications.
We have already pointed out that major Asian commodity producers like Australia, Indonesia, and Malaysia could see their investment, exports, and growth prospects dampened. Consequent fiscal stress and overall economic weakness could have adverse implication for the political incumbents in these economies. The end of the commodity super-cycle would warrant a wide range of economic and political changes, in our view.
Eoin Treacy's view The increased volatility that has gripped markets over the last week has accelerated the pace of the corrective phase we have been speaking about for the last few months. However, despite deteriorating sentiment, the medium to long term outlook for stock markets remains bullish. Once this corrective phase has run its course, valuations will have improved and when support has been found we will be presented with an attractive entry point.
The confluence of the rise of the middle class, technological innovation and lower energy prices in real terms represents a powerful force for productivity gains and stock market value creation. However as this report points out, benefits will not be evenly distributed. In a steady to lower commodity price environment, commodity consumers are likely to benefit.