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crude oil prices

Prospects Weekly: Private capital flows to developing countries eased in October

Private capital flows to developing countries eased in October, but remain close to their highest level in more than a year, led by robust bond issuance by emerging market sovereigns and firms. Business sentiment has strengthened in some countries, including the US and several emerging markets, but remains weak in general amid US “fiscal cliff” and Euro Area risks. In the US, new discoveries and innovations have pushed down domestic prices of natural gas, creating arbitrage opportunities between domestic and international markets.
Private capital flows to developing countries remain high, despite easing in October. Gross international capital flows to developing countries equaled $49 billion in October, the second highest inflow over the past 15 months, but down from the record $71bn of inflows during September. Euro Area debt turmoil in May caused capital flows to slow, but stabilization of financial market tensions and high-income monetary policy prompted the recent uptick in flows. Bond issuance was particularly strong at $32 billion in October, with 44% of the total destined for the financial sector. Notable issues included a $2 billion bond sale by Russia’s Sberbank, a $1.5 billion offering of 10-year sovereign bonds by Chile, and a $500 million sale by Bolivia (its first in nearly a century). New equity issuance and bank lending (especially to Emerging Europe and Latin America) moderated, partly because low bond yields made bonds a more attractive option for some borrowers.
Business sentiment indicators have strengthened in several countries, but remain weak in general amid risks to the global economy. Manufacturing Purchasing Managers’ Indexes (PMIs) for October suggest a strengthening of activity in the US as labor and housing markets continue to improve. PMIs also gained ground and suggest expansion in Brazil, Indonesia, India, Russia, and Turkey. In China, however, both the official and Markit PMI are below or close to the no-growth 50 threshold despite recent accelerations in industrial activity. Similarly, the manufacturing PMI for both core and periphery Euro Area countries points strongly toward further contraction, despite a stabilization and even small gains in industrial activity during recent months. Business pessimism may be reflecting market worries that the U.S. fiscal cliff or Euro Area tensions could flare up dampening demand and prospects—a view seemingly supported by weak sales of capital goods.
The wide gap between U.S. natural gas prices and European natural gas and crude oil prices suggests downside risks on oil prices. The post-2005 increase in crude oil prices induced innovation in both natural gas and oil extraction technologies such as horizontal drilling and hydraulic fracturing. A 28 percent increase in U.S. natural gas production between 2005 and 2011 has depressed domestic prices. Low prices have induced electrical and petro-chemical producers to substitute natural gas for coal, but a similar shift by the transportation industry has yet to take place, in part due to the absence of distribution networks and safety concerns. So far, export licensing requirements have prevented U.S. producers from selling into world markets where natural gas prices are much higher. U.S. natural gas costs only 29 and 20 percent as much as European and Japanese gas. Should licenses become more readily available, the arrival of US gas on international markets could exert significant downward pressures on international prices of both natural gas and crude oil.

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Prospects Daily: Crude oil prices fall from 9-week high

Important developments today:

1. Crude oil prices fall from 9-week high

2. German producer price inflation falls to lowest in two years

Prospects Weekly: Renewed Euro Area tensions cut into capital flows to developing countries in May and June

Renewed Euro Area tensions cut into capital flows to developing countries in May and June, and prompted a sharp downturn in business sentiment worldwide. Together these developments point to slower growth in 2012Q2 and Q3, unless recent improvements in financial markets and policy steps cause business sentiment to strengthen. Falling industrial commodity prices, notably oil prices, may mitigate impacts for importing countries, but will exacerbate strains on government revenues in commodity exporting nations.
Capital flows to developing countries picked up slightly in June after falling sharply in May due to renewed Euro Area tensions. The resurgence of Euro Area turmoil in May caused gross capital flows to developing countries to fall by a revised 45% in May (solid line in figure). The bulk of the decline was in bond and equity issuance, as borrowers may have voluntarily delayed going to market given heightened uncertainty. In June, total gross capital inflows picked up somewhat. Perhaps surprisingly, in the most recent period syndicated bank lending has held up (despite European banking-sector deleveraging). Overall, inflows in May-June are down 36% from the levels observed in the first four months of the year. Should capital flows remain depressed they could contribute to weaker investment and growth in developing countries in the second half of the year.
The financial turmoil in the Euro Area has cut into business sentiment worldwide. Purchasing manager indexes (PMIs) published by national sources and Markit deteriorated further in June. The global indicator descended into sub-50 territory, suggesting that global output shrank in June, with all economic regions weakening (except China whose official PMI improved slightly). A similar decline in PMIs occurred in the second half of 2011, when Euro Area tensions rose in July of that year. Perhaps, reflecting lessons learned from that earlier episode, the deterioration has been quicker and more marked this time around. The decline in sentiment is consistent with a scenario where firms and consumers are holding back on expenditures because of increased uncertainty. Economic outturns for the second and third quarters of 2012 will depend critically on whether confidence remains weak or begins to strengthen in response to recent policy steps.
Euro Area tensions and global growth concerns have accentuated downward pressure on industrial commodity prices, notably oil prices. International prices of crude oil and other industrial commodities have been on a downward trend in recent months, reflecting strong supply growth and weak demand. The initial easing in prices occurred even as global economic activity was firming, but has accentuated with financial market tensions and expectations of weaker growth. As of July 3rd, international crude oil prices were $25 lower than their first quarter highs, and copper and aluminum prices were down 10 percent and 16 percent respectively. Internationally traded wheat prices have strengthened in recent weeks amid concerns that high temperatures may reduce global supplies, especially from key exporters including the United States and Russia. Compared with a year ago, wheat prices are up 15 percent and maize prices are up 14 percent. While lower oil prices will help to cushion the real-income effects of weaker GDP growth in most developing countries – lower oil and metal prices can be expected to cut into incomes and government revenues in exporting countries, exacerbating the downturn in those economies.

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