Macroeconomics
Of all the developments during the period under review (April 5-19), two stand out. The first and most obvious was the ratcheting up of violence by Iraqi insurgents and President Bush’s corresponding reaffirmation of his country’s military presence in Iraq. The rights and wrongs of the situation apart, one cannot help but think the US has stirred up a hornets’ nest of terrorism, with all negative implications that has for levels of consumer confidence and the world economy in general.
The second development was yesterday’s warning from the World Bank that the ongoing recovery in the East Asian economy could be jeopardised by China going too far in its attempts to slow its economy. Though this in itself was not particularly significant, it served to underline the level of growth taking place in the region.
In its half yearly regional update, the bank forecast China’s growth would fall to 7.7% in 2004, as opposed to 9.7% in the first quarter and Beijing’s own target of 7%. However, it also warned “a key risk at the regional level is that attempts to slow China’s economy could overshoot – with obvious implications for regional trade and growth.” If the Chinese economy did come in for a ‘hard landing’, growth in countries such as Taiwan and South Korea, which are heavily dependent on China as an export market, could be slowed significantly, the Bank warned. As it was, the bank was able to report robust growth in the East Asian economy, raising its forecast for the region’s growth ex Japan to 6.3% for the full year.
The danger of not getting the balance right was also highlighted by the International Monetary Fund, this time with regard to the US Current Account Deficit. At a time when the world economy was surging and many countries were experiencing current account surpluses, a disorderly retreat by the US from its current massive deficit could see the world economy being seriously wrong footed when the next downturn in the cycle arrives, the IMF cautioned. Accordingly, the US was advised to start reducing its deficit now, ‘while the going was good’. Elsewhere, the global economic picture was predictably mixed with the appearance of yet another pessimistic outlook on the German economy, again from the IMF, and, interestingly, figures showing that the Argentine economy is racing ahead, a far cry from the bleak picture of two years ago.
Market Intelligence
This will be again be shorter Market Intelligence as nothing occurred during the review period to signal any change to our previous outlook. Nor can any deeper analysis be made as there was no sign of any new mega trend that might fundamentally change the leather pipeline.
So let’s start with a recap of market activity in the weeks following APLF. Activity was no more than steady and focussed on items that were already the centre of interest, namely dairy cows and bulls (dairy steers). This was even less of a surprise given the strong demand being experienced by furniture leather tanners and new entrants in the automotive leather sector in China, and the fact that they are currently enjoying the highest season and shortest pipeline. Consequently, whatever was available at a reasonable price and/or fitted into the calculations of these Chinese operators was bought. In addition to the standard articles from Europe and the USA, low grades or anything else that was really cheap was snapped up for a pittance.
Besides the cheaper origins such as Brazil and Africa, Russia also offered very cheap products that are being hoovered up by the Chinese. Even head hides - a product that has suffered many years’ neglect and which is usually rendered – is experiencing something of a comeback, being one of the easy sellers in cheap leathers. Unsurprisingly, packers and processors in the Western world who normally have to pay to get rid of these items are very happy with the current situation. Damaged or even hide pieces are finding takers in the current ‘bargain basement’ climate, if the price is low enough.
Almost all volume business is now concentrated on cheap material. And while there is interest in top quality material and its suppliers have come through the worst to report good demand at reasonable prices, this part of the industry is so small as to be negligible in its effect on the wider picture.
Of more significance is the fact that medium to higher end hides are not finding enough customers who can afford the present price levels. The way in which the market has developed in the past six to 12 month reflects this and remains an important factor for planning purposes.
But such a trend cannot go on forever, and the main issue is not if but when it will end. While it is premature to talk of rising prices in the medium/high range, cheaper hides prices have started to pick up. But this is not a sign of better prices ahead, simply confirmation that the demand for leather on a global basis remains intact with consumers in the United States and Asia being the main engines for growth.
Expectations of cheap finished product out of China, improved finishing technology and the oft-quoted purchasing power of the bigger retailers have squeezed raw material prices to the point they are now meeting the targets set by the finished product producers. In this respect, we do not concur with the more widely held view that that hide and skin prices are just a reflection of demand. It should be borne in mind that hides and skins are not produced in their own right but are a by-product of beef production. As such, supply is an ever-present major influence. The raw material market is fragmented more than ever before and only certain parts of it can be analysed in the way it used to be. There are today far fewer different price levels and leather types in existence for a multilevel price situation to prevail, as it once did. Cattle hides are today categorised into different quality levels that command a certain price. They no long find individual isolated price levels and this is something that many hide suppliers have failed to grasp. Raw materials no longer react in line with historical patterns.
When overlaid on the present market situation, this means that while some hide grades still have room to decline, others may have already bottomed out. But we do not believe that the hide market in general is on the way up. We have already stated that inflation must return for this to happen. Most commodities, in particular metals as well as oil have already seen substantial price increases and sooner or later this will be reflected in wider global prices, which in turn means inflation. We will deal with this subject in a bit more in detail in a future edition of Market Intelligence.
In Europe at least, the split market showed further signs of weakness and we have heard of important suppliers reducing their asking prices voluntarily. Not that this would make any difference in Asia where European splits have been too expensive for some time. However, the trend of steady if not firmer prices that has been in place for some time must surely now be in question and we would not be surprised if the same thing started to happen in other major supplying origins for splits. In the final analysis, we see this simply as a price correction in line with full hides, as splits were previously reaching unjustified and unsustainable levels.
The lamb and sheep skin market did not register any particular interest. While cheap merchandise and skins with a return from wool found enough buyers at slightly rising prices, medium priced skins for nappa struggled to find takers and the new season for lambskins in Europe has not yet really started.
In fact, the first on the market were quite high, at about four to five dollars up on those carried over from the previous season. This may well have been early-season hype, but we do not believe in the end that these prices can be afforded by the tanning industry. We will have to see if the general shortage of raw materials again starts to drive the skins market to unrealistic prices. If it does, it would again pave the way for big problems at the end of the season.
For the next two weeks we would be very surprised if the market did anything other than follow the existing pattern, for which read continued price pressure on hides which remain overvalued. This is particularly the case with the US steer market and some medium price items from Europe. Dairy cow hides should see their final lap of interest, if only because they are in their high season of demand, which always finishes quickly. Come June or at the latest July, the production season is Asia is going to slow down which is when garment leather production usually takes over, absorbing the dairy cow hides over the summer. But we don't believe this will happen this year which means only a persistently strong demand for furniture will offer the hides the necessary support they need to maintain their present levels, or even to rise further. Whatever, cheap materials will remain in good demand, even if we do not expect to see too many rises in the near future, as this material is highly price sensitive.
For a long time we have predicted only minor price variations and some will argue that this was incorrect given that some hide types have lost more than 10% of their value over the same period. But this would be to ignore the influence of currency fluctuations and that in general, price rises in one type of material were balanced out by falls in another. Consequently, we stand by our original outlook.
