Commodity market focus shifts from supply to demand


  • In 2022, commodity markets struggled with supply concerns
  • Many of them broke into the global inflation the increase is still hitting the markets
  • The response to that increase now threatens demand

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2022 was all about supply in commodity markets, with Russia’s invasion of Ukraine adding to supply chain concerns already heightened thanks to the ravages of Covid. In contrast, 2023 could well see the focus shift decisively to demand as central banks attempt to reverse decades of extraordinary monetary expansion in their efforts to cool inflation.

With commodity prices broadly elevated, if not off recent highs, here we’ll take a look at the key issues likely to move the complex as a whole over the coming twelve months. Of course, this comes with a caveat. The “commodity market” ranges from investment products such as gold through to industrial metals, energy and on to e.g. wheat and coffee. Obviously, at times these will all have their own drivers, their own divergent impulses, their own stories. But there will be clear themes that affect them all. Here are the likely top three:


Can central banks hit inflation but miss their economies?

In 2022, inflation returned to dominate global economic discourse in a way that no one who could not remember the 1970s will remember. With consumer price increases typically reaching four-year highs around the world, central banks applied the monetary brakes and will continue to do so into 2023.

The US Federal Reserve increased borrowing costs by four and a half percentage points in 2022, in no fewer than seven separate rate hikes. Other central banks, both major and minor, have also tightened policy, bringing a clattering end to a long era of ultra-cheap money and quantitative easing.

Has this worked?

Well, there are some encouraging signs that the worst of inflation may be behind us. But price increases remain above target everywhere, and while they do, central banks have no option but to continue processing. Whether they will be able to tame inflation without causing terrible damage to their heavily indebted economies is arguably the biggest question hovering over all markets now, and commodities are no exception.

Weaker demand may not be all bad. Some markets, such as industrial metals, have been structurally pressured by supply difficulties. Lower demand may make their balance a little more comfortable.

However, taming inflation without causing long-term damage to aggregate demand – eliminating all markets – would be a slightly less than miraculous achievement, and commodity markets will be aware of this as we move into 2023. It is clear that a number of economies are headed for a recession where the only question among economists is how severe these recessions will be.


How long will the war in Ukraine continue?

Russia’s invasion of Ukraine in February 2022 has become a military quagmire for Moscow and a huge millstone around the neck of commodity markets, especially in Europe. Prices have risen across the board since Russia’s attack, and although there has been some decline, they remain high.

Russia has come under massive sanctions, and Europe, for its part, is struggling to reduce its crippling dependence on Russian energy. Other buyers are interested in picking up discounted Russian oilbut they may well be limited in their ability to do so in a market so heavily geared to supply Europe.

The conflict has also strained exports of key agricultural products from Ukraine, a major producer which, to take just one example, is China’s largest supplier of corn. Increasing production elsewhere may help lower prices, but in the complex context of commodity markets, this may not be straightforward. Russia itself is a major supplier of fertilizer raw materials, and although the country remains under sanctions, exports of these will be well below pre-invasion levels. The conflict also means that freight forwarders are starting to avoid Black Sea ports and rail hubs where they can, and this shift away from long established routes inevitably puts upward pressure on prices.

Shortly said war in Ukraine has been a huge disruptor to commodity markets far beyond the borders of the two countries most directly involved. With no sign of letting up, it unfortunately seems to remain a key theme.


China’s change in relation to Covid

While most of the world moved away from lockdowns and patient isolation and tried to find ways to live with Covid, China maintained its draconian zero-tolerance policy, imposing long quarantine periods on both infected citizens and foreign travelers.

This policy has been significantly modified in the face of rare and clearly effective popular protests, and more restrictions appear to be being loosened. But reports of a huge rise in Covid-related hospitalizations and deaths among China’s elderly have the world wondering whether the world’s second-largest economy will have to lock down again. At least it can undertake its emergence from “zero-Covid” restrictions far more cautiously.

There are also doubts about the effectiveness of Chinese anti-Covid drugs compared to their Western counterparts.

Of course, China’s Covid response means deeply for commodity markets, with the country both a key destination and producer of many raw materials across the complex. There’s hardly an industrial commodity that China isn’t the biggest consumer of, so any weak demand there can’t help but shape the market overall.

The repeal of the zero-Covid policy could see a rapid return of commodity demand to China, but only if the policy change is managed effectively. This is perhaps the biggest wildcard in commodity markets right now and will be closely watched as 2023 gets underway.

–by David Cottle for DailyFX

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