Materials Risk
Euro Breakup - Drachma by end 2012?

Despite reports that a number of Britain’s biggest bookmakers had stopped taking bets on ‘Grexit’ there are still a number of markets available from other bookmakers (Paddypower and Stan James) and through betting exchanges (InTrade). The first observation is that the markets are defined in very different ways and so comparing odds between bookmakers/exchanges is a bit like comparing apples and pears. Announcing an intention to leave is very different to actually leaving, let alone introducing a new (or old!) currency! Greek currency on 31 December 2012? Euro 4/7 Drachma 11/10 Any Euro country announcing intention to drop Euro before… End 2012 3/2 End 2013 Evens End 2014 1/2 Eurozone to breakup by 2015? Yes 1/5 Probability of country leaving Euro by end 2012 Germany is the third favourite to be the first country to leave the Euro at 12/1. Angela Merkel’s election defeat on Sunday (13 May) taking place in North Rhine-Westphalia (Germany’s most populous state) is likely to lead to increased pressure on the current policy of austerity. However, its a stretch to see a complete collapse in German political support that would result in it leaving the Euro any time soon. First country to leave the Euro? Greece 1/4 Spain 7/1 Germany 12/1 Italy 12/1 France 14/1 Ireland 14/1 Portugal 14/1 Finland 18/1 Austria 22/1 Cyprus 22/1 Belgium 25/1

The probability of a country announcing its intention of leaving the Euro before the end of 2014 spiked upwards following the Greek election rising to 56%, the highest probability since early 2012 (see Intrade market here). Citigroup estimate the probability of a Greek exit from the Euro at between 50%-75% over the next 12-18 months. Probability of country leaving Euro by end 2014As Ed Conway tweets, Greek share prices have plunged to the same level that Merkozy suggest a country might leave the Euro.

See also 'Euro Breakup: Is Business Too Complacent?'

Economic risk sentiment changes away from Greece and towards oil

The chart below shows global web searches through Google for ‘greek default’ and ‘petrol prices’. As the blog Sober Look explains there has been a noticeable shift in public perception of risk during February with fear of a greek default replaced with concern over rising oil prices (manifesting in higher petrol (gas) prices and fears over the impact on economic growth).

google trends greek default vs petrol prices

However, as Materials Risk has highlighted in its Friday links Don’t pay attention to the news!” there is a danger for investors but also for businesses and policymakers in their attention being drawn to the latest dire economic news item with quanitifiable impacts and away from the underlying but perhaps unquantifiable risk lying beneath them. As The Economist points out this week when it questioned why a room full of CFO’s were so sanguine about a Greek exit from the Euro sometimes theres “nothing to fear but the lack of fear itself”.

Chart of the week: The power of the weather to skew statistics; US industrial production down due to mild weather reducing demand for coal
Friday links: Don’t pay attention to the news!
China economic and environmental briefing: China welcomes the Dragon… But has this one lost its fire?

This week marked the release of the first piece of economic data illustrating the strength of China’s economy in the year of the Dragon. HSBC’s Flash PMI, published on Tuesday (coming a week before the official Chinese government PMI) gives an early indication of the strength of the country’s manufacturing sector. The PMI index rebounded slightly to 49.7, up 0.9 from January as factories begin to start work again but importantly marks the fourth consecutive month where manufacturing activity is contracting.

The PMI data also showed export orders falling to an 8-month low. Only two weeks ago Chinese customs data revealed that the country’s exports fell 0.5% in January from year earlier levels, the first decline in more than two years. So how much of this weak data can be attributed to the Chinese New Year? Well in 2012, the Chinese New Year holiday fell on 23 January, the earliest since 2004 pointing towards January’s economic activity being more subdued than normal. Now almost one month since then, reports of labour shortages abound as migrant workers fail to return to work, this exacerbating the impact of the Chinese New Year on economic activity well into February. Cities such as Beijing, Shenzhen and Guangzhou are still short of hundreds of thousands of workers, Shandong province alone is missing one-third of its workforce.

While weaker manufacturing output and export order books can be seen as a reflection of the broader slowdown elsewhere in the world, particularly Europe, the 15.7% fall in imports in January can not just be attributed to weak overseas markets and the Chinese New Year. Softer domestic demand is likely to have been a factor as the property market and domestic investment cools.

What can China do to help support the domestic Chinese economy? Well to a large degree that depends on what will happen to inflation. Chinese inflation jumped to 4.5% in January, up from 4.1% in December and breaking a streak of five consecutive months of lower inflation. In the short term inflation is likely to moderate further over coming months as the impact of the Chinese New Year falls away. Indeed the Peoples Bank of China, the country’s central bank took the opportunity to lower the reserve requirement ratio of banks by 50 basis points (as of 24th February), potentially freeing up $64bn of new lending. As an analysis from The Economist pointed out, China of all the emerging economies is in the top 5 in terms of capacity for further monetary and fiscal policy easing, so called “wiggle room”. Expect more signs of easing in coming months.

Attention in recent weeks has also focused on the countries wage levels, especially the company Foxconn, who as a key supplier to Apple recently raised salaries at their Chinese factories by 25%. The Chinese government, as a matter of national policy, has been increasing minimum wage levels by 15 percent to 25 percent annually for the past three years with different provinces able to alter their wage according to local needs. Although wages are increasing at a faster rate in the coastal manufacturing areas than the interior, rising living costs in cities such as Shanghai mean that many migrants find they are better off staying closer to home.

US scientists have used satellite data to create the first estimates of ground level particulate pollution in China. Particulate concentrations are the highest in Shandong and Henan provinces. Unsurprisingly, less developed western provinces such as Tibet and Inner Mongolia have the lowest fine particulate matter concentrations. Beijing, Shanghai and Guangdong province have experienced slight decreases in particulate levels over the last three years, although concentrations have remained fairly steady over the last nine years. Indeed the decline since 2008 will be partly due to economic activity in certain regions but also due to government efforts to shutdown ageing and inefficient manufacturing facilities.

What is the main economic risk your business is planning for in 2012/13?

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Friday links: No Greek fairytale

- The Uptick’s Downside

- How an economist says “I love you”

- IMF China Economic Outlook

- Just as Greece complies at last, Europe pulls the plug

At Materials Risk we are always keen to ensure we provide our readers with content appropriate to their needs. We would be very grateful if you could help by taking part in our poll 'What is the main economic risk your business is planning for in 2012/13?'

Chart of the week:skyscraper booms vs economic crisis; time to be wary of China and India?

skyscraper index vs economic crisis

At Materials Risk we are always keen to ensure we provide our readers with content appropriate to their needs. We would be very grateful if you could help by taking part in our poll 'What is the main economic risk your business is planning for in 2012/13?'

KPMG expect the unexpected: what lessons can be learnt for commodity risk management?

A new report from KPMG identifies 10 global megaforces that are expected to significantly affect businesses activity in a range of different industries over the next 20 years. With businesses operating in an ever more interconnected world where supply chains are stretched across continents and vulnerable to disruption changing consumer demand, government policy and volatile resource and environmental factors can significantly impact a businesses bottom line.

The KPMG analysed more than two dozen forecasts from international agencies, think tanks and national agencies to identify those changes likely to have the greatest impact on business. The ten ‘megaforces’ identified were climate change, energy and fuel, material resource scarcity, water scarcity, population growth, urbanization, wealth, food security, ecosystem decline and deforestation.

Although all inter-related, the report identifies climate change as one global megaforce that directly impacts all other ‘megaforces’ listed previously. The six types of risk to business from climate change identified included; physical risk, regulatory risk, competitive risk, social risk and litigation risk. In terms of a businesses ability to commodity risk manage, physical risks are key. Physical risks from climate change include contamination of groundwater supplies, water shortages, lower agricultural yields and extreme weather. It should be noted that all of these are happening right now and are impacting businesses bottom line.

The KPMG report expects commodity markets for energy and raw materials (the key area that Materials Risk aims to help business to manage) to become more volatile and unpredictable because of higher demand and changes in the location of consumption, supply and production uncertainties and increased regulatory interventions related to climate change. Resource scarcity and volatility are difficult business challenges but they may also offer opportunities, if successfully managed to reduce risk and become more successful relative to the competition. The report concludes that “Companies need to develop resilience and flexibility for this unpredictable future and build capacity to anticipate and adapt. Good management used to be about preparing for the expected, now it is just as much about preparing for the unexpected. To thrive, or even just to survive, businesses increasingly need to understand the root causes of what affects their operations, not just the symptoms”.

To get businesses thinking about the risks their company is exposed to and understanding the root causes of what affects their operations, the authors developed a nexus approach; described below. Although illustrating an increasingly complex world the report suggests that to begin to understand will help identify risks and foster innovation.

1) The Footprint Nexus: the forces driving the escalating “footprint” of mankind on the planet
2) The Erosion Nexus: the resulting changes in the natural systems on which we depend
3) The Innovation Nexus: the opportunity to address sustainability challenges through business innovation

The report concludes with an analysis of the current readiness to these ‘megaforces’ on a sectoral basis. Although several industries have made successful strides in reducing their exposure to climate and commodity related risk more can and needs to be done.

kpmg building business value readiness chart

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