Macroeconomics

Though the stream of economic data continued as usual during the period under review (February 10-24), it was all but rendered meaningless by the looming threat of war with Iraq.  As none us need to be reminded, whether for good or evil, the world is likely to be a massively changed place once the conflict is over, making historical information much less a reliable indicator of the future than it would otherwise.

Of the data that did become available, only a very small part of it secured our interest. Predictably, US consumer confidence fell again, with the closely-watched University of Michigan Index of Consumer Confidence falling 3.2 points in February to 82.4.   With the private consumer being the driving force behind the American economy, negative numbers such as these are always worrying.  The good thing about statistics however is that where there are bad indicators you can always find good ones too.  On this occasion, the good news was the US house building index, which reached a 17 year high.

In Great Britain - the other strong economy in the Western world - worries about the future of housing prices took hold and on top of the Iraq situation, this could well have a negative impact on consumer spending in the near future.

On the currency front, the US $/€ ratio remained trapped in a range between 1.07 and 1.08. The Yen meanwhile remained under the control of the Bank of Japan while pound sterling came under pressure from the negative economic outlook for the country.  The South Korean Won also came under pressure because of the military posturing of its Northern neighbour while the stock markets fell to a 15 month low. 

Proving what goes around comes around, against the backdrop of the current international instability, the Russian rouble has quietly developed to become one of the world’s firmer currencies.  High oil prices and returning investments that had previously been parked outside the country, mainly in dollars, have returned.  Not only has this increased levels of financial stability but it has also boosting the purchasing power of the Russian consumer. 

The US trade deficit provided probably the most worrisome news of the period.  With a massive $44 billion deficit - about 10% above expectations - we are heading towards further major imbalances between the USA and the rest of the world and there would appear to be no let up in the US consumer’s appetite for foreign products. This gap must close sooner or later and when it does it will be by means of either a sharp correction in the dollar or a significant decline of imports.  Both alternatives are not particularly pleasant for the rest of the world as they will limit export possibilities to the US significantly. Another option would be the revaluation of the Chinese yuan.  In that the yuan is currently pegged to the dollar, however, it is unlikely that the Chinese government would be moved to take this action.

The risk of war aside, in our view these trade imbalances pose the main threat to the world economy for the rest of the year 2003.   Consequently, those businesses dependent on US imports would be well advised to follow these developments closely.

Market Intelligence

As with the wider economic outlook, making predictions in the short term has become extremely difficult for the leather pipeline because everything is likely to be impacted by the Iraq situation.  Even issues of supply and demand are likely to be outweighed by what happens in the Middle East in the coming months.

With regard to the period under review (February 10 – 24) no let up was seen in the firmness of the US and other dollar based markets.  In Europe, cow prices continued to rise in sympathy with their American counterparts.  Steers at the same time felt the pressure brought about by the collective power exercised by the continent’s small pool of big players. Despite the low kill levels, therefore, the key customers in Europe for bull hides found themselves favourably positioned to renew their long-term contracts at slightly reduced price levels.

The kill all over the world remained low and this continued to bolster price levels.  At the beginning of the period, buyers from the Orient were the dominating force in the market and only in the last couple of days has the European industry begun to seriously participate in the buying.

Raw material purchasing became further concentrated among a few leading companies in the world. Speaking to large groups in Asia, Europe and South America we found that all are planning further expansion and growth, no matter what the outcome of the present situation in the Middle East might be, with growth rates in the region of 25-50 % over the next three years being not untypical.

Surprisingly, most said they did not feel driven to do this by the activity of their competitors.  It was simply a case of the market potential being there, waiting to be mopped up.  “This is what we plan and what we are going to do,” said one individual.  “What the others do or intend to do, we don’t care too much. We have the customer potential and the financial resources to do this, and this is what we are going to do. Our strong competitors will do the same in line with their customer potential while the others will disappear or shrink. End of the story.”

Predictably, the boldest intentions were expressed by those in Asia and South America. In Western Europe, conditions are seen as being less favourable and changes here are can be expected  to be triggered more by changes in the meat industry and structural changes in the supply and production chain, rather than by  issues of growth. In Eastern Europe, Russia and the CIS countries growth can also be expected, but it will require an overhaul of the raw material markets first.

Assuming that the raw material supply base will not expand in line with this increase activity and a rise in leather prices is unlikely in the short term, there can be only one outcome - that production will become concentrated into fewer hands.   Though this is nothing new in the wider business world, it is likely to change the face of our industry which has for ages been run by small and/or medium sized operations and retained in the hands of families.  Once this process of consolidation begins to gather pace, so the remaining players in the competition for business and raw materials will themselves be forced to reassess their priorities.  In other words – and as stated in previous editions of Market Intelligence - concentration of ownership is inevitable.   

Coming back to simpler matters and issues of price and business, one can say that despite the general difficulties seen in the consumer markets, the cold winter across almost all the Northern hemisphere has cleaned up inventories of winter shoes nicely.  The demand for long and lined boots has been strong and few complaints heard from suppliers about low sales volumes. The cold and the snowstorms on the east coast of the USA should have enabled retailers to clear their stock in readiness for the next season.  The same has also occurred in markets such as China and Russia, where such items are for function rather than fashion.

So, despite the continuing gloomy outlook of many Western economies, we dare to say that on a world wide basis, the shoe business hasn’t been too bad over the past six months and it is this that has kept demand in the pipeline active. And while everyone continues to complain that leather prices are in decline and customers want to pay less, we gain the distinct impression that - in US dollar terms at least - prices haven’t actually changed.  We also think it is unlikely they will do so in the near future.

The European tanners are now feeling the pain of brought about the strengthening euro, but this has largely been offset by the decline seen in raw material prices since last September.  Nevertheless, this has not prevented a number of tanners from claiming that they are losing revenue in real terms.  Whether this is the reality or simply a ploy to drive down supplier prices, only time (and investigation in future editions of Market Intelligence) will tell.

With regard to the furniture upholstery business, the dominant trend here is the continuing and frequently mentioned shift of production to China. Strong buying interest from Chinese tanners was seen throughout January, prior to the Lunar New Year festival, with US and Australian hides as well as European dairy cows all finding their way in larger than normal quantities to that market.  This was confirmed by shippers and above-average L/C’s opened during the month. Combined with the reduced kill, this has brought hide sellers into a very comfortable position and bolstered prices for the moment.  If the past is anything to go by however, it would be a surprise if this situation were to continue.  Under normal conditions, the furniture production season rolls out in May/June, meaning shipments of hides can be expected to peak by April at the latest, if not before.

Normally, it would be expected that the demand for dairy cows would then be taken over by the garment industry. But with the changes in fashion seen in the recent years, it is hard to see how this will continue.  It would therefore be no surprise to see the demand for cows fade in Asia after APLF, while lingering a while longer in Europe. The seasonality of this business could also be upset by developments in the Iraq conflict.  The automotive market remains reasonably stable though again Iraq is the big uncertainty. The year 2003 is not expected to be a vintage, but if sales come within a reasonable range of last year’s and the popularity of leather with automotive buyer continues, then it would be reasonable to assume minimum steady productions

All the above leads us to the view that major changes are unlikely to occur under normal global conditions. However, since we currently appear to be in a more or less balanced market situation, and a balanced market always reacts more violently to external change than one that is already unsettled, then any changes that do occur are likely to be pronounced.

The split market is presently divided into two parts. One is full hide split for upholstery applications and this remains fully firm with strong demand. Hides which permit ‘split in blue’ and deliver a good quality full hide split always carry a premium as the return for the split these days is strong. Other splits (for shoes etc.) however are finding much more resistance, with more and more suppliers finding that their offerings are not being taken up as quickly and readily as they were in November/December.  However, the comfortable sold positions of many producers and the low stock situation has so far protected the market from a reaction. We expect more split production to shift into upholstery where improving technology is enabling tanners and manufacturers to constantly increase the yield and the specific use of splits.

The lamb and sheepskin market became a little bit more active after the religious holidays. Most of the interest remained at the low end where Turkey with the jungle fashion of the CIS countries is at present only interested in medium and lower quality skins. China’s interest continued to be centred on economical nappa skins, leaving the higher priced lambs and hairsheep struggling. The sacrifice slaughter of the past few weeks meanwhile delivered significantly lower numbers while the threat of war and insecurity in the Middle East negatively impacted on private kills.

With many inquiries already being received for the New Season lamb in Europe, one can at least be optimistic about April onwards and it would appear that the premium tanners have already started in their attempts to secure their supply. Many of them have also said they are expecting normal or even better sales than in 2002.  However, this could be a problem regarding the raw material base, because many in Europe are expecting a lower kill in the coming season.  With the decision to attack Iraq expected within the next few weeks, the coming six to eight weeks will be decisive for the future of the trade.      

In fact, war is likely to break out right at the time when a lot of trips to the Far East take place and when larger decisions are bein gtaken. (i.e. around the APLF in Hongkong).  So a fair amount of disruption is to be expected.  Air fairs are also likely increase further, while people’s natural reluctance to travel at times of international crisis can be expected to result in cancelled meetings.

Excluding external factors, however, it can be seen that supply and demand remains in reasonable balance and this can be expected to continue in the coming four to eight week, keeping prices within normal parameters.  Assuming the normal patterns of the trade, one can therefore expect better supplies for the second quarter with the traditional decline in demand setting in towards the summer.

One can easily see that making plans and projects for coming period depends on many unknown variables.  Unless one is a professional gambler therefore - and its not the time for taking too many risks!

<

Share this story: