Macroeconomics

Market statistics have remained on a good level during the past two weeks with the majority of figures pointing towards an ongoing recovery of the global economy in the coming months and in 2004.

In the US, third quarter growth increased 1.6% to 8.2%, unemployment figures fell to their lowest levels in three years and durable goods orders rose 3.3% in October. Germany’s IFO index, meanwhile, rose for the seventh consecutive month, climbing by more than one point to 95.7. Spain and Britain registered economic growth rates of 2.9% and 3.1% respectively. 

GNP went up 2.2% in Japan compared with 1.6% in the European Union. These figures demonstrate that both regions are however well behind the US and the emerging markets of Asia and South America which have had strong expansion for several years.

The US economy has been generating widespread interest in recent weeks, however it should be noted that China has become the driving force of many countries’ exports markets. It could well be that in the future China will become the leading exporter to Western Europe and Japan.

What should be treated with caution is the US dollar. As regular readers are aware, we have already warned against the consequences of a sharp correction of the dollar and the difficulties this would cause to those who have to protect against fluctuations. The dollar has already gone into decline and may fall further. The US economy has great importance in the world market and could pull other economies behind if unstable, particularly Europe.

Market Intelligence

The last two weeks have not delivered any major surprises. Prices in the US traded as expected and neither buyers nor sellers showed a willingness to give up their positions. Towards the end of the period it seemed that buyers had shifted position the most, resulting in an increase in business transactions and increased price levels. 

It seems that tanners, particular in Asia, are realising that packers can hold out for longer than buyers – this is proved by the fact they are not showing any signs of weakness even after consecutive weeks of relatively low sales. In that, trading volumes have increased however sellers have been able in some cases to put their prices up. In particular, Chinese buyers have been extremely active, with the furniture buyers leading the way.

In the last week European professionals have reported a flurry of interest from Asia. However this will unfortunately be offset by the fact that the dollar value has fallen to a record low against the euro.

In brief, very few changes have been made to general price structures during the past few weeks and most market decisions are expected to be made in the coming weeks.

There are still some questions however that remain unanswered. When we look at the macroeconomics we can only find positive signs for the consumer markets for 2004. Therefore, under normal conditions one should expect that tanners will be in a position to make decisions about the raw material supplies.  We need to ask:

• Why are hide prices not higher and why haven’t they gone up significantly?

• Is the leading indicator function of the hide market still intact and will hide prices rise during the 6-12 months before the economy picks up?

• Why are tanners so cautious? Are they really being more cautious or are they just better organised?

It seems that we are entering a period where decisions need to be made with great care. 2003 was a year of massive structural change - the shift of production from Europe to China reached full speed; the Iraq war and the SARS crisis in the first quarter created problems no one was able to forecast or handle, and lastly the US dollar lost a great deal of its value against the euro as well as against other currencies.

Current price levels show that the US market has not changed much from the beginning of the year and that some prices have actually increased. In Europe, however, the situation is different. From the beginning of the year to the present, the price of main grades (dairy cows and bulls) has declined on average between 25-30% and the euro has gained roughly 17% on the dollar. This demonstrates that hides have lost more value than they should have done.

The European market has found it difficult to compete with emerging the leather markets, such as China. This has caused hide prices to fall at a very high rate compared with their value and the comparable markets. Analysts however believe that it is only a question of time before European hides will return to their correct value.

If one studies price history we could say that prices are in fact low. In the US they are actually higher than average and in Europe prices are low when valued against the euro. However when converted into dollars they are not as cheap. As the global economy has only just started to pick up, the retail industry has not caught up yet meaning that price levels have no reason to be higher yet. We should also not forget that the product structure has changed.

If the leading indicator function is still intact the question we need to ask is “why has the hides market reacted in a lesser way than other commodities?” The answer is that 2003 has been an unusual year. Even after the end of the SARS crisis there were more supplies available than was expected and the figure was above average. This was due to the fact that a large kill took place in the US – this also impacted on the decline in production suffered in Europe.

We also need to consider the fact that we are in a period where the leather industry (particularly in Europe) has started to become inventory conscious. In the past, tanners were willing to run larger inventories for a variety of reasons. Restricted cash situations, an uncertain future and reduced supply chains combined to reduce short term demand in 2003. This could turn the opposite way in the future, as with the shift in production to Asia, the delivery chain is getting longer and consequently needs more volume to be filled up and kept rolling. Consequently there is no reason to believe that the indicator function should be lost.

The leather industry has and is still in the process of evolving from a traditional to a mature market. As a consequence, larger companies are getting bigger, others are becoming niche producers and the rest are disappearing. Many suppliers agree that their client portfolios have fallen significantly in recent years and a smaller amount of the large suppliers are serving fewer large customers. Companies are managing inventories on both sides thus securing a regular system of outflow and intake. Although both sides are trying to optimise their prices, inventory management has become as important as the search for the best buying or selling price. As a consequence almost none of the key players are willing to carry speculative stocks. Intentional buffers are no longer being created in the chain and new positions are not being built.

The packers have realised that enlisting security measures whilst shipping products is essential and many have learnt that maintaining a level of long term average pricing is more profitable than always attempting to get a top price. The larger tanners on the other hand are more interested in long term price stability as their finished product needs to meet a target price - market volatility is their biggest enemy. Due to changes that have been made in the market, units have grown bigger, producer-to-producer business has increased and volatility has declined.

Business is getting harder for the smaller tanners on a day-to-day basis. They need to react quickly to short term market requirements and it is difficult for them to obtain a regular and steady influx of raw materials and their customer demands are also more specific. The companies which operate on a more infrequent basis find their costs are higher and those which do not operate in the luxury sector or produce specialist products find that their prices are compared with the high volume producers. In addition, the small tanners are disadvantaged by the fact that they generally do not obtain competitive raw material prices.

In the past few weeks the split market has slowed further. Supply and demand has remained stable with only south China suffering from some regional difficulties. The demand for splits in the rest of the world is stable and shipments are sufficient to cope with the requirement – buyer’s fears that there could be a shortage have also finally faded. The determining factor for the split market is resting on the outcome of the situation in south China. If it normalises and sellers regain confidence the market should regain stability. But if it retains its vulnerability the lower end of the split market will face difficulties.

Sheep and lambskin business has remained stable, with demand for cheaper nappa skins continuing to hold firm. The double-face lambskin business, meanwhile, has become almost not existent. The situation in Turkey, meanwhile, is uncertain following the recent terrorist attack on Istanbul. We are not optimistic, as the country is dependent on visitors from abroad - the coming months will tell whether trade has been affected.

The coming weeks will be determined by the final round of activity that will take place before the long season. In Europe there is a long production break and prices will be affected by supply and demand, including the period covering January and February. Asian buyers have been more active in recent weeks and this trend is expected to continue as the weeks preceding Christmas will be busy. Tanners will need to replenish stocks to cope with demand and it is possible that some Asians will wait to make their purchases during the festive season when the rest of the world is on holiday.

As far as prices are concerned, we could see a reduction in the cost of European males, due to timing and the need for some sellers to make sales. The sale of dairy cows seems to be well cushioned and even moderate price increases would not be a surprise. A great deal is dependent on currency rates. However, we expect on the whole that the market will remain moderately stable until the end of the year.

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