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US Chemical Industry Outlook:

Trade and Domestic Demand

18 June 2001 00:00 Source: ICIS Chemical Business

The speed by which the economic slowdown has overtaken the

US has been unprecedented. A loss of consumer and business

confidence, the drop in equity markets and higher energy prices

caused the US economy to decelerate more rapidly than

previously expected. The economic slowdown has the signs of a

classic inventory correction, which has now largely played itself

out. Concerns over job losses, however, are negatively affecting

consumer expectations and the fear is that the capital spending

slowdown will spiral downward, dragging the consumer sector

with it. Other risks include potential financial crises overseas, a

prolonged high dollar, rising energy prices and another large

drop in equity values.

We expect that growth in US gross domestic product (GDP) will

weaken from 5.0 percent in 2000 to only 1.8 percent in 2001.

Economic growth will be particularly weak in the first half of 2001

and perhaps into the third quarter. The Fed's moves to cut

interest rates, however, should prevent the economy from

entering a protracted decline. Moreover, housing and light

vehicle markets have held up rather well, and refinancing activity

is improving consumer balance sheets. Given inherent lags, a

recovery during the second half of 2001 is expected. Aggressive

monetary easing will rebound by the fourth quarter. We

anticipate that economic growth will advance up to 3.3 percent in

2002. Inflation will remain modest, but the unemployment rate

will move up. The deteriorating labor market should dampen

consumer spending in the quarters ahead. Important end-use

markets for the chemical industry, largely in manufacturing, have

been adversely affected, such as steel, apparel, textiles and

forest products as well as technology sectors. With overinvestment in the technology sector and continued weak capital

spending, a recovery is not expected until next year.

The Energy Situation

It has been more than 20 years since the last major run-up in

energy costs, but imbalances in natural gas supply and demand

have resulted in natural gas prices rising from $2.30/mm BTU in

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early 2000 to $10.50/mm BTU by year-end, breaking the

historical parity with low-sulfur fuel oil prices. Although spot

prices have since receded at about $4.00/mm BTU, they are still

50 percent higher than a year ago. The resulting higher natural

gas liquid (ethane, propane, etc.) feedstock costs have placed

much of Gulf Coast-based petrochemical production in a

position of diminished competitiveness vis-ê-vis other major

producing regions. In the US, 70 percent of ethylene is derived

from natural gas liquids; in the rest of the world, 70 percent is

derived from naptha and gas oil, both of which are derived from

oil.

Because of the relative resource abundance, the US has

historically held a strong competitive position in world

petrochemical markets and has always run a strong surplus in

petrochemical and derivatives trade. In 2000, exports of such

products totaled $35.9 billion with a surplus of $10.5 billion, a

level that offsets deficits elsewhere in the chemical industry.

To understand the dynamics at play, we constructed a model of

ethylene production using publicly available data and

information that shows the relative position of major

petrochemical producing regions as of May 2001 (Figure 1,

right). It reflects natural gas prices of $4.25/mm BTU and crude

oil at $28 per barrel.

Spring 2001

As Figure 1 shows, US-based production costs using ethane as

a feedstock were at Northeast Asia levels during the spring 2001

and are clearly disadvantaged vis-ê-vis US-based production

using naptha as well as naptha-based production in Western

Europe. Just three years ago, Gulf Coast ethylene production

ranked behind only the Middle East and Alberta, but well ahead

of Western Europe, the other major exporting block. Ethanebased production in Alberta has been disadvantaged as well

although to a lesser extent.

Those ethylene plants that have feedstock flexibility have already

switched to naptha, which is now viewed as the feedstock of

choice. More than 15 percent of Gulf Coast ethylene capacity has

been idled at some point. The same has occurred in ammonia,

methanol and methyl tertiary-butyl ether. As a result of this

diminished competitiveness, petrochemical exports will

deteriorate during 2001. This is particularly the case with organic

intermediates and to a lesser extent, plastic resins and other

derivative exports.

Trade with East Asia will be particularly affected as Middle East

producers capture increasing market share. Competition with

Western Europe, which currently enjoys some advantage, and a

favorable euro/dollar relationship is also a factor. Coupled with a

slowing of global economic activity, all of this will most likely

push petrochemical and derivative exports down to $34 billion. If

current conditions continue, the surplus could fall to $2 billion in

2002. This will hinder any anticipated recovery from our $6.3

billion trade surplus in 2000, which was down from the peak

$20.4 billion level of 1995.

The monthly global

ICIS Petrochemical

Index (IPEX)

Published at

the

beginning of

each month,

the global IPEX provides a

capacity-weighted

measure of the average

change in petrochemical

prices over time.

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Of major concern is that a warmer than usual summer would

engender increased demands for electricity, which is

increasingly generated using natural gas fuel. This could result

in another spike in natural gas prices and would retard additions

to natural gas inventories, making the 2001/2002 heating

seasons a repeat of this past season. The run-up in feedstock

and other energy costs could not have come at a worse time as

demand has been falling due to weak end-use markets in

manufacturing.

The Trade Situation

As a result of the surge in imports, the chemical trade surplus

fell from $8.3 billion in 1999 to $6.3 billion in 2000. This is a

pronounced decline from the record surplus of $20.4 billion in

1995. Most of the decline in the surplus can be traced to rising

imports from Western Europe alone. Trade balances with

Central/Eastern Europe and the Middle East also deteriorated

during 2000. Reflecting the growing petrochemical industry in

the Middle East, the US posted its largest and second only trade

deficit ($365 million) with the region. Offsetting these declines

somewhat were improvements in the trade surpluses with

Canada and Mexico, Latin America and other Asia/ Pacific

nations.

Looking at trade on a product basis (Figure 2, below), the trade

deficit in electronic, fine and other specialty chemicals rose from

$2.0 billion to $5.7 billion. A trade deficit in inorganic chemicals

reached $945 million. A surge in pharmaceutical exports served

to reduce the pharmaceutical deficit to $1.8 billion in 2000.

Partially offset by a $950 million trade surplus in crop protection

chemicals, the overall life sciences deficit was reduced to $840

million. With strong gains in export values, the overall balance in

basic chemicals rose from $10.6 billion to $11.6 billion in 2000.

Significant improvements were made in bulk petrochemicals

and intermediates, plastic resins and other industrial chemical

trade surpluses.

However, recent declines in the dollar vis-ê-vis the euro bodes

well for enhanced export performance. However, with higher

energy prices limiting growth in overseas economies, the global

economy is not maintaining the momentum seen in 2000. As a

result, the picture for 2001 trade is mixed. We expect exports to

increase 9 percent to $87 billion in 2001, a lower pace than what

was expected several months ago. In addition, imbalances in

natural gas supply and demand have resulted in feedstock

costs that have placed much of Gulf Coast-based petrochemical

production in an uncompetitive situation vis-ê-vis other major

producing regions. As a result of this non-competitive situation,

this segment's exports ($35.5 billion in 2000) will deteriorate

during 2001. This is particularly the case with plastic resins and

other derivative exports to Asia.

Into the second quarter, the industry faces a number of

challenges. Reflecting pressures on competitiveness due to

higher energy prices, a dollar trading at historically high levels

and dampening world demand, the US chemical industry posted

a trade deficit in January 2001. Trade date in February and March
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showed some recovery as exports of basic industrial chemicals

were up relative to imports. The trade balance with respect to

specialties is down significantly in the first quarter of 2001 from

first quarter 2000, but will likely improve in the second half

(Figure 3, above left)

The trade situation for the remainder of the year will depend on

several factors. A declining value of the dollar would aid exports,

but this is unlikely given increasingly weak global demand,

which will deter exports. Also, higher energy prices have placed

petrochemicals and related segments of the US chemical

industry in a non-competitive position. We anticipate that exports

will increase 9 percent, approaching $87 billion in 2001. And

with imports gaining over 15 percent, the trade balance will fall to

$2 billion. Additional momentum is expected in 2002 with

exports increasing over 5 percent to $91.5 billion and the trade

surplus improving slightly to $4 billion.

US Chemical Industry Outlook

Domestic business conditions suffered during the first quarter

and continued during the second quarter (Figure 4, above).

March shipments in the US chemical industry were up only 1.7

percent from the levels of a year ago. Reflecting a still slumping

manufacturing sector, overall shipment volume was off 1.7

percent.

Overall, volume will fall 0.3 percent this year. Assuming a more

favorable macroeconomic environment, a 2.5 percent gain in

volume is expected during the recovery in 2002. Shipments will

approach $498 billion in 2002.

T. Kevin Swift is senior director and team leader policy,

economics and risk analysis with the American Chemistry

Council. Martha Gilchrist Moore is senior economist policy,

economics and risk analysis with the American Chemistry

Council.

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Texas ethylene plant
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