Macroeconomics

In addition to the familiar topics that we have been reporting on constantly in recent months, the announcement that the UK prime minister will step down was added to the list, as was the brutal assassination of the former Japanese prime minister, Shinzo Abe. The almost daily shootings in the US, which cost so many innocent lives, and the ever widening social split of the once largest and strongest democracy in the world are only mentioned in passing, as is the provocative behaviour of the Russian foreign minister at the G20 meeting of foreign ministers in Indonesia.

The meeting of the G-7 in Germany gave the impression of a strong and stable unity, but however strong these countries may still be today, they no longer represent the same power bloc that they once did. The civilised and liberal west may celebrate itself as a strong and united entity; NATO may also be gaining strength and members, but overall it cannot remain hidden that global stability is suffering significantly at the moment. Painful as it may be, this is of course exactly what the autocrats take note of with glee and continue to foment in every way; that includes cyberwar, intelligence activities and other tactics for destabilising democratic countries. Since the population in the repressive, autocratic states does not (yet) have the strength to resist these developments, a short-term change in the trend is hardly to be expected. 

At the moment, the resulting economic consequences dominate world events. Food and energy prices and availability determine the respective regional and national situations. The shortage of Russian natural gas is redirecting LNG supplies and flows in the direction of those that can pay the highest price. The situation is not much better for food, although here it is not only the price but the availability too that is playing the decisive role. In any case, both developments will create considerable social tensions, which will not only be reflected between the richer and poorer countries, but also between the different social classes in the various nations.

The situation will be handled differently by the respective governments and thus also be felt completely differently in many regions. In countries like China and India, to name just two major examples, energy prices are massively subsidised by the state, so that the full impact is not yet felt by the people. Up to a certain point, this is also practised with food, but this will in no way solve the problem in the medium or long term. Only a quick end to the war and a rapid normalisation of trade relations can solve these fundamental problems and shifts in such a way that medium- and long-term distortions could still be avoided. Unfortunately, this does not look like happening soon.

The fundamental lessons of the past and of general economics allow no other conclusion than that the world economy is heading for a very deep recession. In addition to rising energy and food prices, the fight against inflation also requires a significant increase in interest rates, and the US is taking the lead here at the moment. All of this adds up to a truly toxic mix for further economic development and, above all, for the prosperity of small and middle incomes. Rising interest rates will first bring developing and emerging countries into financial difficulties and the rising prices for energy and food will make life considerably more difficult for many people. The lack of purchasing power of the masses will have a negative impact on the demand for goods and services and in the worst of all cases, which now no longer seems so far-fetched, we are heading for a recession combined with stagflation. This is not the first crisis the world has had to go through, but a V-development with a very fast recovery, as we have seen in the recent past, now seems very unlikely.

The stock markets are resisting a crash with all their might. Even though the trend is still negative, investors keep flocking back and ensure at least short-term recovery phases.

The situation is similar on the energy market. Weakening prices do not prevail as a trend and are repeatedly replaced by quick recoveries. The oil price continues to hover in a range between $100 and $110 per barrel.

Gold is still unable to establish itself as a safe haven and continues to fall back in the wake of rising interest rates. In the meantime, it has clearly moved away from the level of $1,800 per ounce and at the moment further falling prices seem more likely, with interest rates rising at the same time.

The US dollar benefited from the unstable situation in Europe and the simultaneous significant increase in expectations of sharply rising interest rates in the US. With fluctuations, the US dollar has risen in recent weeks and it seems very likely now that the markets want to test parity with the euro at least once.

Leather Pipeline

In regions of the northern hemisphere, the eight weeks of the holiday season now begin. Most of the industry will head for the beach or the mountains in August. This means that in July they are still working off the last orders of the current season or are already producing for the first deliveries after the holidays.

This limits activities in the raw material market, but it is not a matter of big deals out of conviction or need and, thus, a reliable indicator of how leather demand and production in tanneries will develop in the last four months of the year. The classic cycle would mean that after a slow start in September, leather production would accelerate significantly in the last quarter and continue through the Christmas break into next spring. This usually offered a reliable planning basis for the winter half of the year. So much for what happens in normal times. In basic terms, it will also be like this from October 2022 to April 2023, but the extent of production and leather demand is, in our opinion, extremely uncertain this time.

There is a lot of talk and a lot of speculation. The optimists expect a positive development of the market and the pessimists see the end of the leather world coming towards us. As always, the truth will probably once again lie somewhere in the middle. We tend to be very cautious about leather demand for the coming season, as outlined in recent issues.

So, if there are currently no real new insights into leather demand for the next few weeks, perhaps it is appropriate to use the time to look at the possible scenarios for the raw material market. Even though energy and chemical prices have been in focus in recent months, raw material prices still remain the biggest factor in the calculation. This is particularly important because we have learned all too often that the market for raw hides is rarely exactly aligned with the demand for leather. This, too, is easy to explain because, in the end, a tanner’s transport times and stockpiling play a major role in the timing and quantity of purchases. Leather demand is therefore not reflected 1:1 in rawhide demand and, depending on the region, there is always a lead time of between three and nine months in which action is taken without taking current data into account.

What can we summarise at this point in time as known and as a reliable basis for an assessment?

First, the hide market moved downwards in price almost according to the textbook in the second quarter. This movement has been accelerated and deepened by the general problems of the world economy. Raw hide prices fell and almost returned to summer 2020 levels, in many cases not far from historical lows.
Prices in the various global origins moved disproportionately apart, no longer reflecting the differences that could be justified by qualitative differences.

Transport costs and times, as well as currency developments, have also played a weighty role in purchasing decisions. The strong US dollar, which strengthened by 5%-15% against most currencies over the period, also had a strong influence on price developments in the different regions. Also, lockdowns in China limited interest in commodities from the world’s largest market.

Availability and rapidly rising costs for chemicals and energy made many tanners think about a ‘make-or-buy’ decision up to semi-processed materials. This was exacerbated in some regions by potential difficulties with water supply.
Stocks of raw materials, semi-finished products and finished leathers were very unevenly distributed, both regionally and between individual plants within the chain.

Demand and prices for gelatine and collagen rose steadily from the beginning of the year, offering new and different calculation bases and at the same time a secured price level for lower-quality raw hides.
So much for the past and the basis for assessing how the market could develop in the coming months.

First of all, hide demand is more volatile than supply. There are essentially two types of buyers. Large-scale industrial production, who must ensure security of supply for their factories and thus cover their needs much more regularly making planning in terms of quantities easier. Here, the market is cyclical; purchases are made relatively regularly and excess quantities, which are controlled according to the market price situation, are within quantity tolerances that the market can compensate for without much problem. In the long term, the only question in this area is whether or not their industrial customers use leather and in what quantities. Fluctuations in demand then occur from season to season and not from week to week, or month to month. Raw material demand is determined by planning and budget, not by order to order or emotional mood.

For smaller and medium-sized productions as well as traders, purchasing decisions are much more short-term and much more influenced by emotional moods and individual random events. While this is less noticeable in Europe among tanners that can obtain regional supplies at relatively short notice, this structure plays a much greater role among tanneries that source their goods from much longer supply chains. The same is true for traders, many of whom still subordinate their success to the idea that they have a better individual market assessment than the market as a whole. It is very difficult to quantify the exact share of these buyers in the total demand, but the exact number does not matter much because even small quantities can change market events very quickly at short notice.

We have left out the small specialised companies with their special quality requirements from this analysis for the time being, because in our opinion they do not play a decisive role for the general global market price development. What would this market structure then mean for price development in the coming months? After two major components for the price development changed in the second quarter, the market assessment has become somewhat easier in our opinion. First of all, the oversupply, which already resulted from the first quarter, has been noticeably reduced. Consequently, this was accompanied by significantly falling prices. The markets with the largest supply of goods (especially the US) corrected prices faster and more significantly than others, which initially led to a significant widening of the price spreads between the various origins. But this difference has been somewhat equalised again in recent weeks.

If we look at the sales of goods in recent months, we can see that many leather producers outside China took advantage of the attractive prices that were offered to them. It can therefore be assumed that the stocks of industrial buyers outside China have been significantly replenished in recent weeks. Owing to the closures in China and the high level of uncertainty about the future of the pandemic policy there, buyers in the world’s largest markets had held back disproportionately. This caused them little concern insofar as they saw commodity prices continuing to fall and thus did not see any market risk. Further price reductions might be possible. 

This has changed in recent weeks as demand has slowly increased and prices have stabilised. In China, one must now decide whether one wants to take advantage of the favourable raw material price level, despite the difficult outlook. Other questions centre on when to expect a local normalisation of leather demand. As it looks at the moment, decisions have not really been finalised, but there is a clear sense in the market that there is a fear of missing out.

Smaller tanners, who in our opinion tend to decide more emotionally and according to short-term demand, lack the positive impulses, but even they are aware that if they miss the attractive price levels, their competitiveness for the next season could be severely endangered and, because of the longer delivery times, the ‘right’ time could easily be missed quickly.

In our view, these two factors mean that the market is showing the basis for a short-term recovery reaction at the moment. This has little to do with the long-term trend in leather demand and thus would not suggest a real longer-term rerating of raw material prices. Nevertheless, no one would be surprised if, under current conditions, prices initially bounced some time in summer. For the hides that are more likely to be found in lower-quality mass production, the development will be driven more by emotion than by a real and sustainable improvement in the supply and demand situation.

In the medium and long term, which is to say basically for the whole of next season, it is not only too early to make a forecast today, but the problems of general economic development will play a very important role. Interest rates, food, security of supply and energy prices will play a decisive role not only for demand but also for financial stability in the leather industry. Sectorally, some areas may be able to decouple, but without a real easing it remains difficult to expect a positive business development.

A short-term price recovery in the summer would not be surprising, but at the same time no one could be surprised if towards the last quarter the basic factors (again) gain the upper hand.

The split market has tended to remain undersupplied in recent weeks. In particular, the global demand for gelatine and collagen remains a very important factor. The sharp fall in rawhide prices diverted some raw material from the leather industry to collagen production. On the one hand, this secured the price level for cattle hides, but on the other hand it also brought a moderate easing in the lime split sector, although this then also triggered further supply uncertainty for split supplies for leather production. This partly led to well-known names from the split sector showing interest in tanning raw hides only to obtain wet blue splits and simply storing the grain for the time being.

For lambskins and sheepskins, the market situation is changing very little at the moment. Many Turkish tanners are benefiting from the significant devaluation of the Turkish lira and from their ability to continue to supply finished goods to Russia. The availability of cheap raw materials and the relative strength of the Russian rouble make the business better than expected and certainly quite profitable if one ignores the risks involved in this trade for the time being.

For the next few weeks we foresee little activity in the general leather market and the usual summer calm. We explained at the beginning of this report what possible developments could occur in the raw material markets. We do not expect any major events or movements, but overall a clear decrease in price pressure and possibly even discussions about price increases in Europe. In the US, official price quotations will certainly continue to be played with, but we lack sufficient arguments for predicting really sustainable, rising prices after the corrections that have taken place.

Share this story: