The inflation in China's mainland cast a shadow over Chinese economic performance.

MARKET WATCH NO. 27, 2008


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Date：2008-7-9 10:33:00
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TO THE POINT: The inflation in China's mainland cast a shadow over Chinese economic performance. Most recently, it was further jacked up by rising electricity and refined oil prices. The mainland refined oil prices were edging up in line with international levels, putting more pressure on consumers. One-year iron ore prices also lifted substantially up 96.5 percent. China Development Bank was determined to buy more Barclays shares, ignoring market uncertainties. Merrill Lynch warned of risk growth in 2009.

By LIU YUNYUN

Chain Effects of Oil Price Hikes

Chinese mainland refined oil price hikes have caused a series of chain effects on both major oil consumption enterprises as well as people’s lives, resulting in jitters about inflation.

Beginning on June 20, the benchmark gasoline and diesel oil retail prices were marked up by 1,000 yuan ($145) per ton, while the price of aviation kerosene was up by 1,500 yuan ($218) per ton.

The Central Government controls refined oil prices. The last time such hikes took place was last November, when international crude oil price reached around $90 per barrel. The international oil price has surged nearly 50 percent since then.

Inflation is expected to go up along with oil prices. Merrill Lynch & Co. Inc.published a report on June 20, arguing that, although the National Development and Reform Commission (NDRC) forbids price increases in public utilities and taxies, the impact of such hikes will be quickly passed on to consumers through other channels, especially food prices in urban areas. Merrill Lynch thus raised its annual consumer price index inflation forecast in 2008 to 7.5 percent from the previous 6.9 percent.

Impact on listed companies: Share prices of two mainland oil giants-China Petroleum & Chemical Corp. and PetroChina Co.-climbed upon the news. The markets expected the price hikes would cover some of their losses in the refined oil section, though it was still one third less than that of the international prices.

Other A-share listed companies were not so optimistic. Some complained the price hike would push up their production costs, and pose a negative impact on their revenue. For instance, Jiangsu Qionghua Hi-tech Co. Ltd. published a notice on June 23, noting this round of price hikes would add 1.15 million yuan ($164,000) to their costs in the second half of this year.

On airlines: Chinese airlines will have to bear the biggest burden. Tianxiang Investment Consulting Co. Ltd. estimated in its June 20 report that airlines’ profitability will deteriorate. The whole aviation industry is expected to spend an extra 10 billion yuan ($1.43 billion) on fuels. Earnings per share of Air China Co. Ltd., China Southern Airlines Co. Ltd., and China Eastern Airlines Corp. Ltd. will go down 0.15 yuan, 0.75 yuan and 0.45 yuan respectively, according to Tianxiang Investment Consulting.

However, National Business Daily cited an anonymous NDRC official stating that the government would come to the rescue. It was reportedly to raise fuel surcharge up to 50 percent of the original prices to offset losses incurred by airlines. Tianxiang argued the surcharge hike could only cover 60 percent of the cost surge.

On public transportations and railways: The prices of public transportation, taxi and railways were forbidden to rise, according to an NDRC emergency notice on June 23. It ordered local governments to strictly check the chain effects of oil and electricity price hikes.

The NDRC urged operators to find other ways to increase profitability, and vowed to cut tolls for vehicles carrying agricultural products.

Compromising on Iron Ore

China’s leading steel mill, Baosteel Corp. Ltd. agreed with Australian suppliers to an increase of 96.5 percent on iron ore prices, much higher than the 65-71 percent increase set with Brazilian suppliers. The agreement was reached after months of arduous negotiation as suppliers required higher freight fee.

Analysts expected the earnings of Chinese steel mills would go down, but the mills would quickly pass the cost surge onto consumers to offset the rising cost. The move would eventually jack up the runaway inflation.

Baosteel agreed on June 23 to pay 96.5 percent more to Australian Rio Tinto’s Pilbara Blend Lump for 12 months beginning April 1, 2008. In February, Baosteel had agreed to pay 65-71 percent more to Brazil’s Cia Vale do Rio Doce for ore fines.

The Australian side argued the shipping cost from Australia to China was much lower than that from Brazil to China, thus demanded a higher shipping fee from the Chinese side.

Baosteel stated in a notice to Xinhua News Agency that the iron ore price was set after “friendly negotiation,” and showed “both sides’ commitment to safeguarding sound market order and maintaining long-term friendly cooperation.”

Major suppliers are calling the shots in deciding iron ore prices, posing enormous pressure on domestic steel makers. Judging by Japanese experience, the Chinese companies should buy stocks and aim to become one of the major shareholders of suppliers, therefore they will be able to share the profit of rising iron ore prices, said Shan Shanghua, Vice Secretary of China Iron and Steel Association.

CDB Defied Market Turbulence

Amid global financial market turmoil, China Development Bank (CDB) stated it would increase its presence in the British bank Barclays Plc by acquiring more of Barclays shares.

Barclays, Britain’s fourth largest lender, announced on June 25 it would raise approximately 4.5 billion pounds ($9 billion) through the issue of 1.58 billion new ordinary shares.

CDB did not reveal how much more it would spend on Barclays. But a CDB official said the decision was aimed at consolidating the bank’s position as Barclays’ biggest shareholder and showing its confidence in the British bank’s strategy and prospects, according to Xinhua News Agency.

Barclays Chief Executive Officer John Varley said in a press conference he would use half the proceeds to bolster the bank’s capital adequacy, while the rest will be used for other business opportunities, including possible acquisitions, increasing consumer lending in Asia, and investment banking in the United States.

However, the depressing international financial markets had increased uncertainties for this transaction. CDB became a major shareholder of Barclays last year, and is now holding 3.1 percent of Barcalys’ shares. CDB bought Barclays shares at about 7.2 pounds, but the latter’s share prices has dropped half to around 3.3 pounds at present.

Xi Yangjun, financial professor at Shanghai University of Finance and Economics, believed it was a golden opportunity to buy Barclays shares. “The bank’s share price is at a very low level, mainly because of the subprime mortgage crisis. But the bank’s internal management did not show any problem,” said Xi.

Easing Energy Tension

China’s first coalbed methane (CBM) pipeline is expected to function at the end of this year, after which CBM will run from Shanxi Province to the east part of the country.

China National Petroleum Corp. (CNPC) announced the pipeline, 35 km long, would be capable of carrying 3 billion cubic meters of CBM each year.

CBM is a new energy source with no pollution and high in caloric value. It is a form of natural gas extracted from coal beds. In recent decades it has become an important source of energy in the United States, Canada, and other countries.

CNPC stated that natural gas supplies will fall 60 billion cubic meters short of demand in China by 2010. “The project will make use of CBM in a more economic way and supplement sources for the west-east gas pipeline and ease the gas supply strain,” CNPC said in a public statement on its website.

From BEIJING REVIEW:
http://www.bjreview.com/business/txt/2008-06/30/content_130473_2.htm