As was the case at last year’s event, speakers and attendees at this year’s Market Outlook Workshop were consistent in their concerns about the low price of oil and the high U.S. dollar. But another topic wove throughout the presentations—that of the skilled labor shortage that threatens to disrupt manufacturing around the world.
Oil and Gas
The big question—have we hit bottom for oil prices? According to John Spears of Spears and Associates, the answer lies in the difference between supply and demand. Because production has slowed in the U.S. and Canada and world oil demand is expected to rise 1.5% in 2016 and 1.6% in 2017, oil prices are expected to gradually rise in the next two years.
However, because Saudi Arabia is standing firm and continuing to produce basically at a rate that ensures its position as king of the oil producers, U.S. oil production is projected to drop 9% in 2016. Approximately 1,800 oil wells are in the “fracklog” waiting to be completed once oil prices recover sufficiently (above $50/bbl). The good news is that U.S. producers will need to start increasing production by the second half of 2018 to fill an emerging gap between demand and supply.
Canada is in a slightly worse situation. Canadian rig activity is projected to fall approximately 39% in 2016 before rising about 30% in 2017, and if Alberta goes ahead with plans to double its carbon tax to C$30 per tonne by 2018, there could be an additional negative pressure on production there.
Bottom line for valve manufacturers—there is not going to be a quick turnaround in demand for equipment for oil production until approximately 2018.
When considering the opportunities in LNG, Ken Medlock of the Center for Energy Studies at the Baker Institute pointed out that, when it comes to energy policy, it is important to remember the most populous countries in the world are not as high up in the economic food chain. He pointed to the “earth at night” map that is classically used to demonstrate access to energy around the world.
“Eastern China has really brightened up but it’s still not as bright as Japan, the U.S. and Europe. It will get brighter over time and lighting will get brighter inland. Per-capital income inland is 1/20th of what it is on the coast,” noted Medlock. “And while India is well lit, it is not [lit] as intensely as the rest of the world and the per capita income of India today was what China’s was in 1990.”
To meet the needs of the developing world, Medlock said natural gas will be a significant proportion of the global energy mix for the next few decades. And even though shale has been paradigm shifting for both natural gas and crude oil markets, it has been a US-centric development. “Questions remain regarding the opportunities for shale and other frontier resources outside the U.S., and it’s very important to remember that natural gas is also produced in Canada and Mexico. It is an integrated market, and all decisions about production and distribution have to bear that in mind.”
Medlock stressed that natural gas markets are transitioning, and he urged attendees to not be “myopic.” Price depends on multiple factors, and weather is the biggest short-term driver. Ultimately, fundamentals win. If it’s a cold winter, we need more natural gas. Also, Medlock agreed with other presenters that ultimately, energy efficiency will play an important role in balancing demand for natural gas in an increasingly environmentally sensitive world.
“Sorry to say it,” said Kevin Geraghty of Nevada Energy. “But coal and nuclear in the U.S. are basically dead. New coal and nuclear essentially exist in only one scenario—if the price of oil skyrockets.”
According to Geraghty, electricity demand has not bounced back post-2008 recession. “Everybody talks about environmental laws, the administration, new gas discoveries and lower cost renewables as a driver, but it’s really about efficiency gains. The U.S. residential sector and industrial sector is getting better at efficiency,” he said. “The U.S. power market is flat, with less than one percent annual growth expected.”
“If you want to sell valves, pumps and pipes to the electric generation market, you will have to go international. Coal is still cheap and they are building plants in developing countries,” said Geraghty. “And nuclear generation is still growing in the developing countries. That is where you will find opportunities.”
Mark Eramo of IHS Markit pointed out the rapid decline in crude oil pricing combined with a pause in demand is causing causes supply chains to “pause.” While lower prices can stimulate chemical demand in some markets, falling prices and lower margins are forcing a re-assessment of capital spending for petrochemical manufacturers.
“The old assumptions that guided investment decisions are no longer useful,” said Eramo. “The new reality of structural changes in China, a lower global economic growth outlook, the lifting of sanctions against Iran, non-conventional technology and logistics are all having an impact. As a result, we expect slower chemical industry investment to levels not seen since 2000.”
Where investment decisions in 2016 are generally on hold, this could lead to supply limitations in the 2020+ time-period as demand growth accelerates.
Glen Ives reported that the biggest hope for the mining industry is in smart automation. Referring to “Industry 4.0,” he said that since 2010, we are in the fourth industrial—which is basically the era of smart automation. In this scenario, manufacturers are increasingly using cyber-physical systems. Governments, private companies and industry associations have been focusing on Industry 4.0 and investing in this kind of automation is what will drive businesses, including mining, forward.
As was mentioned in other talks other industries in the Market Outlook workshop, the decline in China’s growth is having an impact on mining, and Ives expects that structural change in China will likely translate into a sustained drop in commodity demand. The decline in production means less to invest in new exploration, which in the future could lead to supply shortages. “To stay afloat in the current supply-demand paradox, miners need to be able to slow production over the short-term while maintaining the long-term pipeline,” said Ives.
The Global Outlook
Simona Mocuta began her presentation saying, “I wanted to be not so much of a Debbie Downer this year, but BREXIT has tempered my optimism. The status of the economy of the world today should be better, but it could be worse.”
The headwind of political uncertainty in many countries is affecting the world economy. “We are in a world where policies are generally ineffective, and maybe even harmful or destructive. Politics is a big negative to economic performance in an indirect way—politics direct policies that effect how growth and inflation work,” said Mocuta.
“2016 marks the fifth year of sub-par growth worldwide and 2017 will be the sixth year. It is not a great picture, but there is also a lot of discussion that the next recession is right around the corner,” Mocuta noted. “But it is the fear of a recession that is in the consciousness. Many people have lost the ability to think that things are going well!”
Yet there are many positive signs, despite BREXIT, Japan’s huge workforce problems and China’s relative slowdown. The Eurozone recovery has gained a little traction, and while there are no signs of a sharp growth acceleration, there are positive signs. “There has been a let-up in the fighting in Ukraine, a (temporary) resolution of the Greek crisis, lower oil prices and a fall in the euro.”
The State of the U.S. Economy
Dr. Lynn Reaser of the Fermanian Business & Economic Institute at Point Loma Nazarene University began her presentation by saying, “The U.S. is the lead dog right now, outperforming the world economy, which is downright sluggish.”
The major tsunami that is covering the world is interest rates. “We are in a period of negative interest rates—something that we’ve never dealt with before,” she said. “It used to be that the zero line in interest rates was sacred, that you couldn’t go below zero. But just as many of the other laws of economics have been broken, there are negative rates in Switzerland, Japan and Germany. A 10-year treasury in the U.S. is only about 1.5%.”
“So investors are chasing yield, trying to get a return on their money somewhere,” said Reaser. That means they’re bringing money here to the U.S., so it’s putting a downward pressure on the interest rates on treasury bonds. That is also forcing the dollar up, and distorting the stock market. Yesterday, all three stock indexes hit record highs and people are asking if there is a danger of a crash.”
A higher dollar is not good for exports, and there is a real problem of lagging productivity in the U.S. Also, even though credit is available for businesses, they generally are not spending on capital improvements.
Reaser was cautiously optimistic about the U.S. economy, but warned that it would remain sluggish for a while. Positive signs for the valve industry come in the form of firming energy prices, increasing commercial construction and water system upgrades. Constraints on the valve industry result from firms limiting capital spending, higher steel prices and rising wages and skill shortages. “Don’t let anybody in your company retire,” she joked.
The Human Factor
The problem of filling job vacancies was addressed in depth by Ben Dollar of Deloitte in his report on the competitiveness of U.S. manufacturers compared to those in China and other developing countries. He pointed out that manufacturing is still largely considered dumb, dirty and dangerous in North America, and educators and manufacturers have not done enough to steer youth toward the skilled trades and training to become machinists, welders, plumbers, carpenters and electricians. “Those skilled tradespeople are the lynch pin in effective manufacturing and we are not producing nearly enough of them in North America,” he said.
When comparing across nations, global CEOs point to talent, cost competitiveness, and workforce productivity as the top three drivers of manufacturing competitiveness. While all North American nations are among the top 10 current and future rankings on competitiveness, the 2015 Manufacturing Institute and Deloitte Skills Gap study confirmed there is still a significant shortage of talent in U.S. manufacturing, and it is only projected to grow over the next decade.
While the U.S. economy is growing, albeit sluggishly, it is nevertheless tied to a questionable world economy, politics and the problem of skilled worker shortages worldwide. It will take a concerted effort on the part of industry and the educational institutions to steer the incoming workforce toward skilled trades and STEM subjects.
Look for a comprehensive report on the entire workshop coming in the fall 2016 issue of VALVE Magazine.