Where is the Global Economy Headed?

Updated November 23, 2015

When we want to have a better understanding of where the global economy is headed, it is most advantageous to look at a leading indicator that has a long history of providing us information about the health of the global economy before it happens.  For decades, analysts have used the price of copper to provide that insight, leading to the moniker "Dr. Copper" since the demand for the commodity has closely tracked the health of the economy.  Since the use of copper is pretty much ubiquitous throughout the economy,(i.e. for electronics, per generation, housing etcetera), demand for the metal has generally increased during economic expansions which has pushed the price higher, and fallen during economic contractions, pushing the price lower.

Let's look at a chart that shows the price of copper on the COMEX since 2006:

At just over $2.06 a pound, copper is trading at its lowest level since the Great Recession and less than half of its peak price seen in 2010 and 2011. 

Let's look at Kitco's five year spot copper chart:

Focussing on the tail of the chart, this is what we see:

In the last thirty days, the spot price of copper has dropped from a high of $2.39 per pound to $2.06 a pound, a drop of 13.81 percent in one month.

This graph may help to explain why copper prices have dropped:

In both 2012 and 2013, the growth in copper supply (dark blue) outstripped the growth in copper demand (light blue) and, since 2013, the annual growth in copper demand has dropped from 3.3 percent to 2.7 percent in 2014 and 2.1 percent in 2015. 

Here is a graph showing how the total copper demand in the United States has changed over the past decade and a half:

Since the Great Recession, despite the improvements in the economy, the demand for copper in the United States has pretty much flat-lined.

China accounts for about 45 percent of the world's demand for copper.   According to the International Copper Study Group (ICSG), the refined copper market was roughly in supply-demand balance in July 2015, however, world usage had declined by around 2 percent on a year-over-year basis.  On a year-over-year basis, China's demand did increase by a very small 1 percent while usage in Japan declined by 8 percent and the EU by 6 percent.  Usage in Russia declined by a significant 52 percent following the withdrawal of Russia's cathode export tax in September 2014.  On the other side of the ledger, world mine production of copper rose by 3 percent in the first seven months of 2015 compared to 2014.   World refined copper production rose by 2.5 percent in the first seven months of 2015 when compared to the same period in 2014.  If we look at this forecast from ICSG, we can clearly see that global copper usage is expected to drop by 1.2 percent from 2014 to 2015 with China showing flat consumption in 2014 and 2015 with slight growth in 2016:

With China consuming nearly half of the world's copper, it is no wonder that the price of copper has been under downward pressure.

Interestingly, in a recent Marketwatch article entitled "Why copper can't reclaim its role as a leading indicator", the author quotes Robert Barone of Concert Wealth Management who stated that copper went from "Ph.D. to deadbeat" and that while, during the pre-Great Recession years, there was a strong correlation between economic growth and the demand for copper and increases in its price, that that relationship has changed because copper is functioning like many other base commodities whose price has dropped while stock prices, particularly in the United States, have continued to rise.  I wonder if Mr. Barone has given any thought to the idea that the unprecedented actions by the Federal Reserve and its massive expansion of the monetary base since 2008 have created what could turn out to be a very significant bubble in equities and that copper is still predicting what will happen to the American/global economy?  We've heard the old song that "things are different now" before and, as it turns out, things really aren't different at all.

Only time will tell whether copper has lost its ability to foretell what lies ahead for the economy, however, my instincts tell me that copper is still forewarning us that the global economy is in for a rather rough ride. 

What Are Commodities Telling Us About the World's Economy?

In the mainstream media, we keep hearing about the strength of the United States economy.  Growth is reasonable, headline unemployment rates have reached relatively healthy levels and the dollar is strong.  That said, the world's commodities are having a terrible year.

Let's open by looking at what makes up the Commodity Research Bureau Index or CRB.  The CRB was founded in 1957 and follows the index of commodity futures.  Over the decades, it has been revised several times to reflect commodity market evolution.  It currently consists of 19 commodities with the CoreCommodity CRB Index having the following weightings:

The most recent revision was in 2005; this revision changed from an equal weighting for all components to a four tired group system that was designed to reflect the significance of each commodity as follows:

Precious Metals: 7 percent

Base and Industrial Metals: 13 percent

Energy: 39 percent

Agriculture 41 percent

Here is a chart showing what has happened to the Reuters/Jefferies Commodity Research Bureau (CRB) Index since February 2008:

The CRB Index high point over the last eight years (since just prior to the Great Recession) was 473.9669 in July 2008 and the low point was 200.1563 in February 2009.  The current index at 205.04 is well below the 8 year average of 296.98 and at its lowest level in more than six years.  As well, the CRB has dropped by 44.65 percent from its post-Great Recession high of 370.47 at the end of March 2011.

Here's what has happened to the CRB over the past year:

At the end of July 2014, the CRB was at roughly 298.  On a year-over-year basis, the CRB Index has fallen by 31.2 percent and has dropped by 10.1 percent since the first trading day of 2015.  Obviously, with the weighting given to oil, at least some of this commodity collapse is due to the falling price of oil but there is more to the story than just oil.

I find it particularly fascinating that, even with the world's central banks increasing the world's monetary base through quantitative easing and other imaginative monetary programs, all of that cash seems to have left the commodities markets, seemingly with a preference for both stocks and bonds which have left stock markets overvalued and bond markets extremely fragile, particularly when interest rates rise.

Let's take a look at one key commodity that, while it gets less attention than oil, is often considered to be a bellwether for the world's economy, thus, the nickname "Doctor Copper".  Here is a chart showing what has happened to the price of copper since mid-2005:

Over the past eight years, copper has ranged in price from a high of $4.625 on July 11, 2007 to a low of $1.250 per pound on December 23, 2008 with an average of $3.375 per pound over the entire period.  After the so-called end of the Great Recession, copper hit a high of $4.623 per pound on February 14, 2011.  Copper traded above $3.00 per pound until mid-March 2014 and then began to show greater signs of weakness in December 2014 when it consistently traded below $3.00 per pound.  

Here's what has happened to the price of copper over the past year:

At its current level of $2.38 per pound, copper is down $0.87 per pound or 26.9 percent on a year-over-year basis and is down 48.5 percent from its post-Great Recession peak in February 2011.  "Doctor Copper" is certainly suggesting that the world's economy is heading for a slowdown.

For those of us that watch commodities on a regular basis, the recent very significant decline in the price of many of the globe's key commodities suggests that the world's economy is teetering on the edge of an economic contraction, particularly given that many of the commodities in the CRB index are building blocks of a healthy and growing economy.  Certainly, some of the drop in prices for commodities can be laid at the feet of a strong U.S. dollar which has made it substantially more expensive for holders of other currencies to buy these same commodities, an issue that has put at least some downward pressure on demand.  However, even if things are looking rosy for the United States economy, the flagging economies of both China and the European Continent would suggest that all is not well in this globalized world, just as the world's most powerful central bank is considering a dovish monetary policy stance.

What is Dr. Copper Signalling About the Economy

Updated February 19, 2015

In the past, the price of copper has been a meaningful indicator of economic and stock market health. Because copper is so ubiquitous in both industrial and residential applications, it is often regarded as an indicator that telegraphs where the economy may be headed.  As such, it is often referred to as "Dr. Copper" since, when the price of copper falls, it often signals an economic slowdown as we can see on this chart which clearly shows the price of copper dropping as the Great Recession took hold:

                                                                                               

I'd like to open with a bit of background on the world's copper markets.  Here is a graph that shows world copper production since 1900:

  

Production reached 18.1 million tonnes in 2013, 3.8 million tonnes of which was extracted from low grade and sulphur ores by using leaching (solvent extraction or SX) and electrowinning (EW) processes, recovery techniques that did not exist before the 1960s.

Here is a look at the geographic distribution of copper production in 2013:

Latin American production of copper has surged from less than 750,000 tonnes annually in 1960 to 7.5 million tonnes in 2013, representing 42 percent of total worldwide copper production.  Chile is the world's largest mined copper producer followed by China, Peru, the United States, Australia and Russia as shown on this graphic:

In order to produce a metal from copper ore, it has to be smelted.  The copper concentrate that resuls from leaching the copper ore with ammonia or sulphuric acid is roasted or flash smelted to remove impurities and create refined copper that is 99.5 percent pure.  Here is a look at the geographic distribution of copper smelter production from 1990 to 2013:

Asia now accounts for 57 percent of the world's copper smelter production.

Here is a graphic showing copper smelter production by country for 2013:

In 2013, China accounted for over a third of the world's copper smelter production.  As of 2013, China has eight of the world's twenty largest copper smelting plants.  Copper's biggest market is in China and even a slight decline in Chinese demand for copper can impact its price.    

As we can see on this map which shows the flow of copper ores and concentrate, copper's biggest market is in China:

Here is a graphic showing refined copper usage by region for 1960, 1980 and 2013:

  

As of 2013, Asia's (mainly China's) demand for refined copper has expanded by over 500 percent.   This tells us that and even a slight decline in Chinese demand for copper can have a significant impact on copper's price. 

Like any other commodity, copper is traded on the world's markets, particularly the London Metal Exchange, The Shanghai Futures Exchange and the Commodity Exchange Division of the New York Mercantile Exchange (COMEX/NYMEX).  On the COMEX, copper is traded in lots of 25000 pounds and is quoted in US cents per pound.  Here is a chart showing the average annual copper prices in cents per pound (in red) and copper usage for the years from January 2001 to June 2014:

Now, let's look at more recent data from Kitco showing the five year spot copper price:

The price of copper hit a peak of $4.60 a pound back in early 2011 and has fallen since, however, if we focus on the tail of the curve, we see this:

Over the past six months, the price of copper has dropped from around $3.20 a pound to it current level of $2.60 a pound, the lowest price since mid-2009 as shown here:

Interestingly, if we look at the copper warehouse stock levels in London, the level is sitting just above a five year low as shown here:

After oil, copper is one of the world's most important commodities.  Production of copper is important to many economies around the world that, as in the case of oil producing economies, will be under increasing pressure as existing mines become sub-economic and mine expansions are shelved at current prices.  The copper market is just the latest casualty in what appears to be a significant correction in the world's commodity markets; in this case, copper may well be telegraphing a global economic contraction.