A lot of attention has been paid to the drop in oil prices to $28 per barrel as of today which is indicative of the increase in supply from US shale producers and the fall in global demand especially from China. However there is another indicator that shows the global economy is in pause mode and that is the Baltic Dry Index which measures the cost of shipping raw materials – iron ore, coal, metal etc.
In mid January this year the index fell below 400 (see graph) for the first time since records began in1985. In June 2015 the index was comfortably above the 1000 mark and in 2010 approximately 4000, therefore transport costs are at a very low level.
Why are shipping costs at such low levels?
It comes down to simple supply and demand. On the supply side shipping companies have increased their dry bulk capacity as the cost of borrowing money is at very low levels. On the demand side it was assumed that global trade would keep expanding but according to a World Bank report global trade has slowed down sharply in recent years to around 3% and it predicted to slow further.
Cost for ship owners
Owners of the largest container ships (known as capsize vessels) reckon it costs $8,000 per day for running costs. However in today’s market, users of these ships only pay around $5,000 in fees which makes it uneconomical for ship owners to offer their service. With this is mind shipping bankruptcies are bound to feature this year and unless China produces a new growth spurt the Baltic Dry Index will keep heading south.
Baltic Dry Index – Jan 2009- Jan 2016
At the most basic level, demand for air travel is stimulated by economic activity and economic and social linkages between countries and cities. Travel is also stimulated by economic linkages (i.e. international trade) and social linkages (i.e. international migration). In general, there will be greater demand for travel between countries that have larger economies and populations. In addition, destination attractiveness is a key driver of demand for leisure travel.
There are many other factors that affect demand for air travel. When the economy grows, greater economic activity stimulates business travel and leisure travel increases as people’s income increases.
- Demand is stimulated by lower prices, both airfares and the price of tourism expenditure (e.g. accommodation and food) ‘on the ground’ at a destination.
- Demand for travel to any particular destination also depends on the price of travel to alternative destinations. Other factors that affect demand include distance, safety, and other one-off events such as health and terrorism scares.
The concept of elasticity is very useful for understanding demand drivers. Elasticity measures the responsiveness of demand for air travel to changes in some other variable such as prices or income. A price elasticity of -0.5, for example, means that a 10% increase in price leads to a 5% reduction in the level of demand for travel. Or an income elasticity of 1.2, for example, means that a 10% increase in income leads to a 12% increase in the level of demand for travel.
Many studies have attempted to estimate various demand elasticities for air travel. In terms of price and income elasticities, a meta-study by Gillen et al (2008) summarised 254 different estimates from 21 published studies and found an overall median price elasticity of -1.1, indicating that demand for air travel is relatively sensitive to price changes.
As would be expected, the results also indicate that travel for business purposes is less price sensitive than travel for leisure purposes with business short/medium hail elasticities between -0.8 and -0.6 and long haul elasticities between -0.5 and -0.2, compared to -1.5 to -0.9 for short/medium haul and -1.7 to -0.5 for long haul leisure travel. Gillen et al also report a median income elasticity of 1.4, suggesting that demand for air travel is relatively sensitive to changes in income. The table below represents the median for each market segment – Source: Air Travel Demand Elasticities: Concepts, Issues and Measurement.
Given that someone has decided to travel, their choice of airline and airport, when such a choice exists, depends on a number of micro-level factors including purpose of travel, ease of access to the airport, flight frequency, expected delays, and departure/arrival times (Ishii et al, 2009). Thus the demand faced by a particular airline depends on macroeconomic factors as well as other factors more directly under its control.
Source: The New Zealand Aviation Operational Environment: A Guide for the Tourism Sector 2010
Listening to “From Our Own Correspondent” on the BBC World Service I came across an interesting piece by Kate Adie on Global Trade. With the downturn in global trade the international transport industry has been very much affected. Those that have been associated with the distribution of goods get an early indication of the slowdown in global growth. The obvious indicators are: idle cranes, queues of merchant ships dwindle etc. But what about the speed of cargo ships and the length of ladders to climb aboard?
When the world economy was “steaming” ahead the captain of a merchant ship said that they cruised at 20 knots but when the economic crisis of 2008 arrived we slowed to 16 knots. A harbour pilot summed up the state of world trade by the length of the ladders that he climbs on the sides of ships.
A long climb up the ladder signifies that the ship is high in the water and exports are correspondingly low.
A short climb up the ladder signifies that the ship is low in the water and exports are correspondingly high.
The seafarers say that they take air to China before they load up with goods for the US.
The New Zealand Parliamentary Library “Monthly Economic Review” published a feature on taxes and levies on petrol.
Taxes and levies on a litre of petrol in New Zealand account for approximately 43 percent of the overall price.
July 2014 – Retail price = 223.9 cents per litre
A forecast $1,702 million is expected to be raised through the excise duty on petroleum in the year ended June 2015. This includes:
– $936 million in petroleum excise duty on domestic production
– $766 million on petroleum imports.
The following diagram shows the taxes and levies on a litre of petrol (including GST).
Deep Sea and Foreign Going is an account of a 5 week trip from Felixstowe in the UK to Singpaore. Rose George explains how on a train journey that most items of clothing, electronics, food etc are brought to the UK by ship. The reason being that shipping has become so cheap that it makes sense to import items. She uses the example of cod – it is less costly for Scottish cod to be sent to China to be filleted and then exported back to UK restaurants than it is to pay the (small) salaries of Scottish filleters. Some interesting facts from the review of the book in the Guardian Weekly:
* Containers are the largest man-made moving objects on the planet;
* Triple-E class boats are around 400 metres in length and can carry 18,000 boxes;
* In 2011, 360 commercial ports in America took in international goods worth $1.73tn – 80 times the total value of all US trade in 1960;
* Even in the UK, whose sense of itself as a seafaring nation has long waned, the shipping industry employs nearly 635,000 people;
* Port authorities inspect less than 10% of boxes, making them of great interest to counterfeiters and drug barons.
BBC business correspondent Alastair Fee boards a Chinese container ship off the coast of England and reports on the enormous size of it – holds 13,500 containers. And they are getter bigger. More than 40% of the UK’s sea trade comes into the Southampton Dock and to meet increasing demand from container ships a new 500 metre birth is being dredged. However trade goes the other way as in 2012 the demand for cars from the growing Chinese middle class saw over 20,000 BMW Minis make their way to Chinese ports.
Some alarming figures have been banded about with regard to America’s infrastructure. It is estimated that over 700,000 bridges are rated as structurally deficient. In 2009 Americans lost approximately $78 billion to traffic delays – inefficient use of time and petrol costs. Also crashes which to a large extent have been caused by road conditions, cost a further $230 billion.
According to the American Society of Civil Engineers the US needs to spend $2.2 trillion bring their infrastructure up to standard. The Congressional Budget Office estimated in 2011 that for every dollar the federal government spent on infrastructure the multiplier effect was up to 2.5. Other indicators state that every $1 billion spent on infrastructure creates 18,000 jobs, almost 30% more than if the same amount were used to cut personal income taxes. – The Economist
Positive Externalities from infrastructure.
Investment in infrastructure has a lot of positive externalities – faster traveling time for consumers and companies, spending less time on maintenance. Research has shown that the completion of a road led to an increase in economic activity between 3 and 8 times bigger than it initial outlay with eight years after its completion. But what must be considered is that now is the best time to invest in infrastructure as it is very cheap – much cheaper than it will be when the economy is going through a boom period.