In Commodity News 15/04/2015
The unimaginable has happened: Oil prices have dropped to less than $50 a barrel in recent trading days. Of all the oil-producing countries in the world, it seems like Russia took the biggest hit, with its economy largely reliant on the world’s most vital commodities—metals, energy, and agriculture.
While commodity exports provide high returns, well-paid jobs, and foreign cash, the good times do not last forever. There are bound to be some bad times, and for a huge country like Russia whose economy is not diversified, these bad times are really, really bad.
Russian Commodity Market
Russia is regarded as one of the world’s leading producers of minerals. In fact, the country ranks first in the production of chromium, nickel, and palladium. Russia’s Norilsk Nickel remains to be the top nickel and palladium mining smelting company in the world, as well as one of the top ten copper producers. The Kun-Manie nickel exploration project by Amur Minerals Corporation (OTC: AMMCF) is also dubbed as one of the top 20 largest nickel deposits in the world.
Though production has not yet started, explorers have estimated 830,000 tons of nickel deposits in the Kun-Manie project, located in the Amur region of the Russian Far East. Amur Minerals is awaiting the final authorization from Russia’s prime minister before commencing production.
Russia is also the second largest generator of aluminum, platinum, and zirconium. Mining activities contribute to about 20 percent of Russia’s industrial output, and minerals represent 15 percent of the country’s total exports. Ferrous and non-ferrous metals represent the majority.
The country also controls the world’s largest supply of natural gas, the second largest supply of coal, and the eighth largest supply of crude oil, accounting for 13 percent of global oil output. Since its land is near the Arctic, Russia also has access to tons of untapped reserves. Gazprom, a state-owned Russian company, is the largest gas exploration and production company in the world. Other state-owned energy companies include Lukoil for crude oil production and Rosneft for oil exploration.
As for the country’s agricultural industry, sunflower oil remains to be its most profitable crop, although there is also production of wheat and barley. Majority of the large farms are state-owned, and private household plots produce a high percentage of potatoes and vegetables for personal consumption and sale at local markets.
Bad Times Come in
When Russia invaded Ukraine’s Crimea region in February 2014, the geopolitical conflict between the two countries heated up, and the effects were evident in the commodity markets. Oil and wheat prices surged to record highs in anticipation of global supply disruptions. Gold prices also jumped as investors fled to safety. The United States put sanctions in place, with US President Barack Obama authorizing sanctions on individuals who threaten the sovereignty of Ukraine. Visa restrictions were also put in place on a number of Russian officials allegedly tied to the Crimean invasion.
It went downhill from there. Oil prices plunged by almost 60 percent since June 2014, hit hard by global oversupply, weak crude demand, and strong dollar. The decision of the Organization of Petroleum Exporting Countries (OPEC) not to cut production further pushed oil prices to less than $50 a barrel. Russia needs an oil price of at least $100 a barrel to keep its economy afloat.
Russia’s ruble currency also tumbled together with the oil price, and though this phenomenon offset the damage to net oil exporters, it was still extremely painful for the Russian economy. Businesses suffered as well, as the falling ruble made their debts increasingly difficult to service.
With the Russian economy remaining largely monopolistic, half of Russia’s economy had no competition. Investors find it risky to invest in a country where politicians and oligarchs exhibit a high amount of control over the country’s commodity industry. Russia’s economy is expected to shrink by five percent in 2015, and the government’s debt is likely to be downgraded to “junk” status.
Learning from Others
Russia is not the only commodity-rich country in the world affected by the oil crisis. Iran is negotiating on a nuclear deal in order to lift United Nations sanctions. Venezuela, which has the world’s largest crude oil reserves, is on the verge of defaulting, with Venezuelan President Nicolas Maduro embarking in a short notice world tour to scramble for loans and promises of $100 oil. Brazil and Norway both had their growth forecasts cut, and Argentina, Venezuela, and Brazil are expected to fall into recession in 2015.
But other oil-producing countries seem to be doing better. Chile, which used to be under the mecy of market forces, is forecasted to expand by three percent this year. Metal exporter Peru also has a growth forecast of five percent. Latin America as a whole is set to grow by two percent, while no Middle Eastern nation is in danger of recession. In fact, Saudi Arabia will even grow by 4.5 percent in 2015.
Some African countries did not fare quite as well, with oil exporter Nigeria losing 13 percent of its currency vale in 2014 and copper producer Zambia asking for assistance from the International Monetary Fund. Nevertheless, African currencies remain strong, and those in danger of economic shrinkage are only countries hit by the Ebola virus. Sub-Saharan Africa is even expected to grow by five percent this year.
Based on the aforementioned facts, it seems that countries that survive the oil crisis are those with benign business environments that encourage foreign direct investments (FDI). FDI helped African economies diversify. Russia’s FDI slumped in 2014, making diversification at present harder than ever. Russia also faced a brain drain when the government tried to move away from oil and gas in the past decade.
Russia also has a habit of splurging when the economy is good, and saving when the commodity prices take a nosedive, hence hurting the economy. Other countries have learned how to spend money wisely. For instance, both Zambia and Chile implements a counter-cyclical fiscal policy—that is, saving during the good times and spending during the bad times—to salvage the economy. The Middle East broaden their tax bases, unlike Russia that cuts public spending in order to boost domestic demand, inflicting further damage on the economy.
The oil price is already outside of Russia’s control. Even if it stabilizes soon, the sanctions would still continue to hurt Russia’s economy. Russia could only hope that the oil prices start picking up, and once it does, the country should not repeat the same mistakes again.