Dry bulk shipping weekly analysis (Part 6: Producer inflation)

Market Realist

Continued from Part 5

The significance of inflation

Analysts keep an eye on China’s inflation numbers because they show what policymakers may (or will) do with the country’s monetary policies. 1 When inflation rates are high, policymakers will tighten monetary policies to lower spending in the economy, which often slows down manufacturing activity. As China’s manufacturing activity is a key driver for dry bulk and oil trade, lower economic growth means lower revenues and earnings for shipping companies.

(Read more: Dry bulk capacity growth slows further, encouraging sign for later half of 2013)

Producer prices tick up in July

Consumer price index (CPI) grew 2.7% in July—unchanged from June’s data. On the other hand, the year-over-year change in producer price index (PPI) rose to -2.3%—higher than June’s -2.7%. The consumer price index reflects the price of goods that consumers in China spend on average, whereas the producer price index reflects the wholesale prices received by domestic producers of goods and services.

Analysts widely consider the two indexes because a high inflation rate (although often suggesting strong demand and economic growth) will lower the purchasing power of money and lead to hyperinflation (extremely high inflation that’s gone out of control). This can lead to an economic collapse down the road, because either goods will become too expensive to purchase or money will become worthless. When money is worthless, the financial system collapses.

(Read more: Supramax price rises first time since mid 2010, signs of shipping recovery)

Positive conclusion from low inflation

July’s tame growth in the CPI was positive for monetary policy, while an uptick in PPI growth shows demand isn’t collapsing like it did in 2011. Because PPI is already near a cyclical low, if there’s a financial problem, the central bank can intervene to hold the economy from falling off the cliff. While cheap credit is definitely history, as China reins in on shadow banking activity—which Diana Shipping Inc. (DSX)’s CEO recently said in its second quarter earnings call—the probability that issues within China’s financial sector will spillover to other parts of the economy is quite limited.

This bodes positive for  dry bulk shipping companies such as DryShips Inc. (DRYS), Diana Shipping Inc. (DSX), Navios Maritime Partners LP (NMM), Safe Bulkers Inc. (SB), and Knightsbridge Tankers Ltd. (VLCCF). A crash like the one we saw in 2008 is unlikely to happen.

(Read more: Why the Baltic Dry Index has decoupled from the Chinese market)

Learn more about indicators that drive the dry bulk industry

Continue to Part 7: Australia’s exports or go back to Part 1 to see the list of indicators.

  1. Monetary policies are tools that central banks use to increase or decrease demand for loans through changes in the base interest rate or the bank’s ability to lend out money.

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