Shipping faces rough seas ahead

As coal imports shrink in India, shipping companies are losing their bargaining power with customers

Fortunes of the global shipping industry, and in turn of shipbuilders, have a strong correlation with how well or badly the world economy fares. The forecast by the World Bank that the global economy will grow 2.7 per cent in 2017, down a notch from 2.8 per cent projected in June, and then 2.9 per cent in 2018, therefore, leaves a subduing impact on shipping.

As if that is not enough, protectionist pronouncements by President Donald Trump and uncertainties in global trade caused by the United Kingdom’s decision to leave the European Union will negatively impact movement of goods and services among nations. Worryingly for shipping, burdened as it is with considerable surplus capacity, particularly in the dry bulk segment, world trade volume expanded an ungenerous 1.2 per cent in 2016. This was the third lowest in the past 30 years.

The shipping industry is now resigned to the phenomenon of global trade continuing to grow at a rate lower than world gross product growth. Besides tepid growth in trade volume triggered by factors such as non-tariff barriers climbing to a post-2008-09 financial crisis high, the shipping industry is affected by China migrating from an investment-led to a consumer- and services-driven economy and quite a few countries earnestly pursuing the goal to become less and less dependent on coal to run power plants. To cite one example, UK’s coal imports in 2016 were down 80 per cent when energy generation from coal hit zero for half a day since the country commissioned its first coal-fired generator in 1882. This then translates into contraction of cargo volume of a major component of the dry bulk sector of shipping.

Caught out by the length and severity of the downturn in freight rates, reflected in the Baltic dry index (BDI), the highly fragmented dry bulk ship-owning companies have lost their bargaining power vis-a-vis customers of shipping.

A tough ask

Where then lies redemption for dry bulk shipping? According to Denmark based Baltic and International Maritime Council (BIMCO), the return to profitability of the dry bulk sector will depend mainly on ship owning companies delivering “zero supply side growth,” meaning capacity-wise ship demolition is at least equal to new vessel deliveries.

Reacting to the BIMCO return-to-profitability model, industry officials say if the world achieves at least 2 per cent trade growth along with zero tonnage accretion, then better times will progressively return to shipping companies in the next few years. But since in an environment of growing protectionism, it is highly unlikely that international trade will register annual growth of 2 per cent or more, the recovery in dry bulk shipping will be postponed well into the 2020s.

Incidentally, merchant shipping accounts for around 90 per cent of cargo movement among countries.

What needs consideration in this context is that the demand for dry bulk commodities such as iron ore and coal in some advanced economies is unlikely to return to pre-economic-crisis levels. The 40 per cent growth in dry bulk trade since 2007 was largely on account of emerging and developing economies in Asia. In this group too, some are investing heavily in renewable energy to reduce dependence on fossil fuels. Take India, for instance, whose coal imports fell 8 per cent in 2015-16 to 199.9 million tonnes. Union Power & Coal minister Piyush Goyal says in the next two or three years, the country will stop importing thermal coal leading to a saving of  ~40,000 crore in foreign exchange.

The target of zero thermal coal import results from two factors. One, according to the new draft energy blueprint, 57 per cent of the country’s total electricity capacity will be based on non-fossil fuel by 2027. Two, as India is looking at a “world beyond fossil fuels,” the plan says unambiguously that beyond the half-built coal-based power plants already under construction, it does not require any more such units.

China, which is the world’s largest energy market, plans to plough $493 billion into renewable power generation by 2020. As president Xi Jinping gives a big push to building solar and wind power capacity and orders closure of polluting thermal power plants, the country’s coal imports will continue to shrink. Xi’s statement at the Davos World Economic Forum that honouring Paris agreement on climate change is “a responsibility we must assume for future generations” is an indication of the clean-up Beijing will pursue with gusto. Seaborne trade in coal taking a major knock both in India and China, therefore, underpins the need for stepping up demolition rates in dry bulk shipping sector.

A buyer’s market

The shipping industry, which has faced headwinds for far too long, has seen large capital erosion of fleet owners, including a few in India. It’s a buyer’s market for shipping with users in a position to drive down rates that leave hardly any margin for fleet owners.

BIMCO says: “The full restoration of shipping markets (to the point of profitable working) will need several years of solid improvement to lift fleet utilisation rates. Sector capacity almost everywhere must be reduced.”

Dry bulk shipping is the worst suffering section of the industry. BIMCO says for its revival, it must start replicating the steps that are giving relief to the industry’s container segment.

The container section came in for big-ticket reforms in 2016 going well beyond an all-time high scrapping of capacity, low new building orders and mergers and alliances. The collapse of Hanjin Shipping of South Korea last year was the largest ever in the container shipping space and its consequences are still reverberating through the international supply chain. BIMCO describes all the market recovery steps as “biting the bullet” by container ship owners. This is the road that dry bulk segment needs to aggressively pursue in the current year and beyond.

The shipping situation continuing to remain difficult is a natural provocation for vessel owners to seek government support. But direct official subsidies will not do the highly globalised shipping industry any good since such intervention will be against the principle of free trade and also “undermine the level playing field” for shipping business across the globe.