Premier Li Keqiang confirmed a change in attitude last week when he said people should be prepared for bond and financial product defaults as the government proceeded with financial deregulation. He spoke in the wake of the country’s first corporate bond default and the failure of a significant steel mill to repay loans that fell due.
Slowing economic growth, chronic overcapacity and rising debt service problems in key industries are becoming more common, raising the risk of chain defaults involving suppliers and purchasers. Overcapacity recently prompted a senior executive in the Chinese Iron and Steel Association, Li Xinchuang, to say the problem was so severe it was “probably beyond anyone’s imagination”.
In an industry survey by the State Council, 71 per cent of respondents said overcapacity in iron and steel, aluminium, cement, coal, solar panels and shipbuilding was “relatively or very” serious.
Last week’s market scare, however, was focused on copper, which has fallen nearly 15 per cent this year, and by more than a third from its 2011 peak. Falling prices have embraced a swath of both ferrous and non-ferrous metals, sending ripples from Perth to Peru.
The underlying reason for the base metals shake-out is the mirror image of the prior boom, in which China’s voracious appetite raised its consumption to about 40 per cent of global production. Its per capita consumption is far higher than any other emerging country, regardless of income per head.
In short, what China gave producers and miners on the way up, it is taking away as the commodity composition and intensity of GDP growth tail off.
Large swings in market prices are happening also for murkier – and largely speculative – reasons that hinge on the use of copper and ore as collateral for loans, and as a means of raising finance abroad and bringing it onshore to spend or lend. As the authorities clamp down on credit creation and shadow financing, falling prices, including that of collateral, will expose participants to losses, and markets to the risk of distress selling.