The Coronavirus, Oil, and Global Supply Chains

by Amy M. Jaffe

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As nations prepare for a possible health emergency, world leaders are realizing that the new coronavirus is going to be harder to contain than previously hoped. Mobilization is continuing, and concerns are mounting about both health and economic consequences. Washington, like other global capitals, is starting to worry about the economic effects of the coronavirus. Today’s reports that the city of Milan, Italy’s financial hub and its second largest city, was close to lockdown as a result of hints of a spread of the coronavirus in northern Italy was further evidence that the disease, and its economic consequences, are not under containment. Italy’s largest bank, UniCredit SpA, is among Italian firms encouraging its employees to work from home. South Korea has also been hit with the coronavirus outbreak as well as declining imports and exports to and from China. Automobiles are one of South Korea’s major export sectors and car manufacturing has been struck by the economic disruption in China. In both South Korea and Japan, major financial institutions are asking employees to work remotely from home.

A telling economic indicator that the coronavirus is starting to take a global economic toll and not just a toll on China is falling prices in global oil and gas markets. Prices for liquefied natural gas (LNG) were already on a downturn from rising supplies and mild winter weather, but now have fallen to near rock bottom levels, with a few U.S. producers willing to pay potential users to take their surplus domestic natural gas away. Oil also started dropping again on Monday as it became clear that disruptions to global shipping and trade could go beyond China.

Eighty percent of the world’s goods move by ship, and demand for shipping is starting to slip noticeably. To name one example, in the Persian Gulf, February loadings of large crude carriers dropped dramatically to single digits, down from the usual thirty tankers or more. A Citi update on the coronavirus this week noted that overall Korean exports are down by almost ten percent so far this month while imports are lower by fifteen percent. The bank predicts worsening trade effects on South Korea for March. The Port of Long Beach is also reporting a significant drop in container ship volumes by as much as forty percent.

Demand for marine fuel globally was expected to average around 4.2 million b/d, according to statistics from the Organization of Petroleum Exporting Countries (OPEC). Aviation oil use is another 6.6 million b/d. Total transportation oil use averages around 58 million b/d, of which thirty nine percent reflects usage related to freight including twenty three percent from trucking, OPEC estimates. So far, analysts are only projecting a loss of 135,000 b/d of jet fuel demand in Asia. That could prove optimistic if travelers globally lose confidence in the safety of air travel as locations with coronavirus outbreaks continue to proliferate. In sum, the full influence of coronavirus disruptions on oil markets is likely yet to come.

But perhaps, more important and lasting than the instantaneous loss of the economic value of trade and tourism, is the realization by leaders from around the world of how vulnerable their economies are to global supply chains. The Donald J. Trump administration was already focused on reducing the dependence of the U.S. defense industry on Chinese magnets, rare earth minerals, and other metals processing inputs and manufacturing. Now, some conservative voices are getting louder, including President Trump’s trade advisor Peter Navarro, who recently called on the U.S. pharmaceutical and medical supply industry to reduce its dependence on imports. In an unrelated move, Congressional Republican Senator Marco Rubio and Democratic Senator Chris Murphy sent a letter to the U.S. Food and Drug administration asking if it is prepared to screen the safety of pharmaceutical, food and medical supply imports from China. On the flip side, China could not be in a position, or willing, to export any vital medical equipment. Gordon Chang, a professor of American studies at Stanford with a focus on American-Chinese relations including the history of Chinese railroad workers in America in the nineteenth century, published a blog today warning that the economic chaos from China could make itself felt to American consumers by April.

A possible unintended consequence of the coronavirus could be a tightening of supply chains back to a national economic champions policy in major economies. Since China’s vast population has served as an economic engine to the entire global economy in general, and oil, in particular, such a change would be dramatic. Already, the United States and Europe have focused on the risks of relying too heavily on Chinese equipment to establish Fifth Generation (5G) telecommunications networks. Earlier this month, U.S. Attorney General William Barr floated the idea that the U.S. and its allies should take a “controlling” stake in European telecom firms Nokia and Ericsson as a way to prevent Chinese firm Huawei from dominate 5G wireless markets. The Europe Commission has also approved $3.5 billion in state aid towards the European Battery Alliance aimed at making the continent independent in raw materials, processing facilities, battery manufacturing plants, and recycling facilities needed for the electric car industry. If the economic after-effects of the spread of the coronavirus cripple major economic supply chains of more crucial industries, expect to see an acceleration of such trends.