(The opinions expressed here are those of the author, a
columnist for Reuters.)
By Clyde Russell
LAUNCESTON, Australia, March 24 China's apparent
new-found willingness to allow market forces to play a bigger
role in its financial arena will ultimately be positive for the
One of the persistent "known unknowns" - to quote former
U.S. Defense Secretary Donald Rumsfeld - in China's commodity
space is how much demand has been linked to financing deals, as
opposed to actual consumption.
This has particularly been the case for copper, with
so-called dark copper stocks - those outside the warehousing
systems of exchange operators - said to account for as much as
30 percent of Chinese demand for the industrial metal at varying
points in the past few years.
This year the practice of importing commodities and then
using them as collateral to access credit is said to have spread
to iron ore, with January's record imports being driven by
financing rather than demand for steel-making.
This is backed by the rapid rise in inventories of iron ore
at Chinese ports SH-TOT-IRONINV, which hit a fresh record high
of 106.35 million tonnes in the week to March 14, and are now 42
percent higher than the low of 2013, reached in mid-April.
The jump in inventories has been accompanied by a sharp fall
in the Asian spot price of iron ore .IO62-CNI=SI, which hit a
2014 low of $104.70 a tonne of March 11, 22 percent down from
the end of last year.
While iron ore has recovered somewhat to $110.70 a tonne on
March 21, the market is still cautious over the overhang of
inventories and muted demand growth for steel.
In copper, the London price fell almost 13 percent
from the end of last year to a closing low of $6,415 a tonne on
March 13, with concern over the potential for a rapid sale of
copper related to Chinese financing deals weighing on sentiment.
While the risk is there that inventories of copper and iron
ore will be sold off quickly in order to exit financing deals,
the more likely scenario is for a more gradual process.
What is still to become clear is whether the Chinese
authorities are determined to stamp out, or at least scale back,
the use of commodities as collateral.
The first-ever domestic bond default, a missed interest
payment from Shanghai Chaori Solar Energy Science and Technology
Co this month, has heightened speculation that
Beijing will allow heavily indebted companies to go under,
rather than always bailing them out.
If this is the case, no doubt there will be losses for
creditors, pressure on some bank balance sheets and a general
loss of confidence among investors.
It could also be argued that this is a necessary step to
ensure the longer-term health of China's financial, corporate
and commodity sectors.
For commodity producers, traders and consumers, it would be
a tremendous advantage if the vast majority of China's purchases
were actually for consumption and maintaining a reasonable level
Removing speculation would tend to reduce volatility and
prevent rapid price declines and increases that have roiled
markets such as iron ore in recent years.
If the Chinese authorities are also willing to allow weaker
companies in industries like steel, aluminium, manufacturing and
construction go bankrupt, it would provide some of the
much-needed consolidation these sectors require.
This isn't a process without risks, as Beijing would have to
withstand anger from investors that lost money and from workers
who were fired.
It also begs the question as how large a company has to be
before it will be saved, what constitutes too big to fail in
It's likely large, state-owned enterprises would be bailed
out, but it's also likely that regional and local governments
will be keen to rescue smaller companies that are judged
important to that region.
Nonetheless, once processes start they are often difficult
to control and manage, and it seems that what is starting in
China is a more realistic assessment of the risks associated
In the current situation, it may take a month or two for the
market to work out how much copper and iron ore is likely to be
sold out of inventories in China, and this may weigh on prices
and import volumes.
But with the seasonal uptick in demand looming as summer
approaches, it's possible that prices for copper and iron ore
will stabilise in coming weeks, before starting to trend higher,
assuming China's economic growth target of 7.5 percent for this
year looks like being achieved.
(Editing by Richard Pullin)