Growing consumption and commodity prices

Commodity markets remained on fire for most of 2006 as fast growing economies like China and India voraciously consumed metals, cement and energy as also farm produce. Many analysts expect this trend to continue in 2007, though not at the same pace as in the past year. It also means inflationary worries will continue to haunt growing economies as rising input prices will ultimately reflected in manufactured goods too.

While almost all kinds of commodities were in demand throughout the year, oil clearly was the show stealer. Fuelled by a combination of factors such as rising demand, supply disruption, speculation and a fear that the world may be running out of its primary source of energy, crude oil prices soared to nearly $75 per barrel.

But oil prices were not the only ones to snake up. Bullion prices shot up with gold touching a record $855 per ounce in international markets. Similarly, steel and cement prices also rose, mainly driven be massive construction activity in China and India.

One should borne in mind that the price rise in commodities happened essentially because of demand supply mismatches. Metal prices rose mainly because of demand from China. The world’s most populous country consumed at least a third of the world’s additional production of steel, copper and oil in 2006 over the previous year as its economy grew at a searing 10%.

In India, which saw inflation rising to nearly 5.5% by December as the economy clocked a growth rate of more than 8% oil prices were held down by the government but prices of metals, bullion and farm produce rose. The rise in agriculture product prices was mainly due to shortages.

Another factor that has contributed to higher commodity prices in India is freight. Transporting goods within the country is costlier by about 30% as compared to last year traders say Shipping rates are also higher, making exports expensive.

Edible oils will be classified as chemicals as per the International Maritime Organization Convention and will have to be transported by single hulled or double hulled vessels. This would curtail the availability of vessels for shipping edible oils, pushing up freight rates and affecting imported oil prices. Thus edible oils, especially soy oil, are likely to move northwards.

It also expects the rally in agro products to spread to other commodities too on international developments. Agricultural commodities left behind so far are more likely to gain place in the near future. As the search for alternative fuel sources continues unabated and as more corn and soy beans are diverted for the production of bio-fuel, the focus would largely shift to agricultural commodities in 2007.

Metal prices are also unlikely to soften. Growth in India and China will put relentless pressure on prices. The only mitigating factors could be slowdown in the US, Japan and the UK.

China is furiously building sports complexes, hotels and residences as it prepares to host the Olympic Games in 2008. The construction activity is fuelling demand for commodities such as steel and aluminium. India too is witnessing unprecedented construction as it tries to build woefully inadequate infrastructure. However, the biggest boom is in housing and commercial real estate.

However, a slowing US economy will weaken the dollar, which means demand for gold and silver would increase. Gold prices are expected to be higher, mainly because the dollar will fall.