Macroeconomics

Recent elections in Europe, most recently in Italy, have solidified a trend towards populists and nationalists. The appeal of balancing opinions, discourse and debate for the purpose of compromise is fading. Instead, voters are looking for easy answers and simple solutions, no matter how wrong they may be, as long as they are easy to understand. Many may lament this and fear the further development it could trigger, but autocrats should be pleased. After all, it shows that their activities of recent years have fallen on very fertile ground.

In the economy, the fight against increased energy prices and inflation rates dominates. The Eurozone has now reached 10% inflation, levels we haven’t seen since the 1950s. Statistics are a complicated and sometimes a misleading tool. One should be guided by the numbers, but not blinded by them. The end of rising prices for the consumer is still a long way off, even if perhaps the statistical rates could fall in the foreseeable future.

In absolute terms, prices for the consumer will continue to rise for some time, because so far the movement has not yet spread beyond the producer and wholesale sector to the consumer. We are in a very toxic overall situation at the moment.

On the one hand, there is a lack of purchasing power, on the other hand, there are also considerable stocks of consumer goods that retailers have yet to sell. As a consequence, considerable price markdowns are conceivable, which will help the consumer on the one hand, but lead to the expectation of considerable losses along the production chain. The traditional stationary retail trade is also suffering from the increased energy costs and there could be a large number of insolvencies.

What is certain, however, is that the steady growth in production and consumption of consumer goods will not come to an end, even if it is interrupted for a time. Especially in the highly affluent countries, people are not prepared for major losses and what social tensions this may trigger in the coming years is also completely unknown territory.

In the meantime, the negative underlying conditions are also increasingly reflected in the financial markets. The stock markets, which were stable over the summer, are now in clear reverse and the losses of some indices have now reached up to 25% in the last six months. At the moment, almost all stocks led by tech stocks are being punished almost equally by the markets. In many cases, this may seem exaggerated on the basis of the fundamental data, but this by no means signals that the trend will come to an end.

The currency markets were also very turbulent. The US dollar is again seen as an anchor in these difficult times. On the one hand, it is supported by interest rate expectations, as the FED leaves no doubt that it will take a hard line against inflation. On the other hand, the US is also benefiting from significantly lower energy costs and from the fact that in any case you will not be directly affected by a possible expansion of the war in Ukraine. The political changes in Europe play another significant role. The US dollar therefore gained significantly in value against the euro. Sterling is also struggling as financial markets view the new prime minister’s economic policies with some doubt.
Gold has remained under pressure in the wake of the firmer dollar, falling as low as $1,600 in places, ignoring the high inflation that normally supports the gold price. The oil price stabilised in a range between $80 and $90 per barrel.

Leather Pipeline

We said last time that the Lineapelle exhibition in Milan ought to bring some clarity on what the levels of production and sales of leather would look like in the coming season. To a large extent, this expectation has been fulfilled, although many questions remain unanswered. In addition, the fair in Milan is of course only a reflection of a certain market segment and by no means covers the entire scope of worldwide leather production.

For what Milan represents, one had to be very satisfied with the results. As difficult as the environment for consumer goods may be, it also became clear that wealthy consumers obviously have not yet allowed themselves to be negatively influenced in their buying behaviour. It should be noted, however, that at the fair in Milan one only experiences the reflection and the expectation of producers; no one can say today whether the wealthy and high income groups will not eventually be infected by the general mood and limit their spending, not because they have to, but because they want to.

At the moment, high-end suppliers of quality and luxury goods are still firmly convinced that their clientele will pursue the opposite strategy. No matter the general environment and the general mood, there are people who will continue to indulge in pleasure, enjoyment and beautiful things if they can. Christmas sales and consumer behaviour in China before the Lunar New Year will give an initial indication of what to expect in this sector in the coming year.

For the time being and for the days in Milan, the impression of the fair definitely served to brighten the mood. Many exhibitors and visitors made a confident impression. Nevertheless, it cannot be mentioned often enough that in Milan it is essentially a small club that meets and perhaps sets the trend direction, but still only represents a small circle in the entire global leather business. But for exhibitors and visitors, it was a small break from the bad news.

With regard to leather as a product, every Lineapelle is once again a reminder of what the leather industry is capable of. Again and again, one finds new and highly attractive articles that are then processed into beautiful shoes, bags or other products made of leather. For anyone who is not yet completely jaded, it always triggers enthusiasm to see what can be made from this by-product that nature provides us with.

Let us put the enthusiasm in the background a bit and deal with the dark sides of the business too. At the fair in Milan there were of course also representatives of the sectors that have to deal more with mass-produced articles. The tone of their statements was completely different. Depending on location and market, there are a large number of products already in the supply chain, and it is clearly difficult to create sufficient added-value from them. In some cases, production costs already exceed possible market revenue.

Where this is not the case today, producers are dealing with possible cost increases that will hit them in the coming months and if the negative expectations materialise, while at the same time buying restraints tighten, then many more may be caught up in this squeeze. Again, Christmas sales, energy prices and general cost trends and competition for consumers will determine the situation in the coming months.

Nike’s quarterly report may serve to illustrate the current problems. The company had to report a 44% increase in inventories because, on the one hand, business in China was extremely poor in the third quarter and, on the other hand, problems in the supply chain have meant that too many products have not arrived in time and cannot be offered at full price anymore. Much also has to do with the fact that the war in Ukraine, the pandemic policy in China and the changed situation in the consumer goods markets were not expected by the major consumer goods manufacturers. 

Planning in the fourth quarter of 2021 for sales growth in the current year that has not materialised means many consumer goods manufacturers are currently plagued by significantly high inventories. Instead, many are encountering significantly cooled consumer product sales. In order to reduce inventories and create space and liquidity for new, attractive products, substantial discounts have to be granted. The response they meet with among buyers will also become clearer during the Christmas shopping season.

With regard to commodity markets, the world is divided according to qualities and product groups. Raw hides that are of high quality or are used for niche markets can still defend their prices very well owing to the overall positive environment. The clearly limited production of these goods means that those who need them have to accept the stable, high-demand prices of the suppliers.

For the other types of goods, the world looks quite different and with the combination of reduced demand and increased costs, it is no longer possible to place the currently produced quantities in the leather industry. Unless a rapid improvement in the situation is expected, alternatives will have to be looked at. In many countries, these hides have gone into collagen and gelatine production. However, it seems doubtful that these markets can show consumption growth in the short term. Serious studies and expectations assume an increase in the demand for collagen of up to 10% at the most, and in the case of gelatine it must always be borne in mind that there are many other alternatives available that may be used immediately if hide prices are no longer attractive.

Despite the increased costs of obtaining, processing and transporting hides and skins, which should normally tend to prevent price declines, we see the demand problem as dominant. From what we know and from the information we can gather, we have to assume that there are already considerable unsold stocks of medium- and lower-quality hides, in addition to current and future production.

There is no doubt that we are now at the beginning of more active production season and under normal circumstances one would have to assume that the demand for raw material would increase over the next six months. At the moment, however, there is much to suggest that we are seeing the usual harmonica-effect for the bulk of the raw material, and that either a significant backlog of material has already built up along the chain, or will build up in the near future. At the moment, it does not look as if further price cuts could much effect on demand. Only a rapid easing of geopolitical tensions and an equally rapid fall in energy and food prices could perhaps provide the trigger to bring about a rapid improvement. Current events, especially in connection with the war in Ukraine, do not give the impression that this is likely in the short term.

The split market is not changing much at the moment. If there is reduced production of leather, the supply of split for is reduced too. At the same time, however, the already very low prices for whole hides are putting pressure on revenues; it seems relatively unlikely that the split market will really be able to defend itself against this. 

We see little change in sheepskins. Much of what we are saying about cattle hides has already been shown in recent years for sheepskin. A significant proportion of sheepskins and goatskins are no longer collected or processed. In the case of special articles and high-quality skins, this is not noticeable at all and the prices represent a fair value.

We expect that we will now enter a decisive market phase for the cattle hides in the next few weeks. In Europe, we can expect a significant increase in the kill until mid-November. The supply of raw material will undoubtedly increase while in other major production regions at least no significant decrease is expected. On balance, therefore, a slight overall increase in raw material supply worldwide can be expected in the coming months.

Irrespective of the prices, the only question that really needs to be asked is whether the leather industry can increase its production. If it cannot, this will trigger a further increase in supply overhang. Will consumer demand for goods recover quickly and clear the logjam in the supply chain, or will consumers be forced to remain cautious? We admit that we remain worried rather than optimistic at this point in time.

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