China and India Growth Story To Continue

Written By Russell Tym, Authorised Representative of MoneyLink Financial Planning, AFSL No 247360

Last week BHP Billiton announced the biggest profit ever by an Australian company, $13.7 billion. This was the total market value of the company just three years ago. It is now the world’s largest mining company.

Rio Tinto, the third largest miner, recently announced a half year profit of $5.1 billion, not far behind BHP when annualised. Woodside Petroleum produced a 24 per cent profit jump to $543 million. Many other mining companies are also enjoying boom times.

Can these profits continue? BHP, Rio and Woodside are optimistic, saying they can sustain profits and increase them. Many share market analysts are more pessimistic, expecting commodity prices to ease back soon, eroding the miners’ windfall gains.

Global stock broking and funds management firm Merrill Lynch agree with the companies, forecasting continued strong profits. They say demand created by the urbanization of China will keep commodity prices high. China’s economy grew 11.5 per cent last year.

Merrill Lynch believes the China story has many years to run. They also expect India to follow closely on the path to industrialisation, further boosting demand for raw materials.

Many countries have transitioned from rural communities based on subsistence farming to urban, industrial societies. Merrill Lynch has studied past urban transformations and says the big ones have added greatly to global economic output and growth.

Japan industrialised from 1946 to 1970, boosting global incomes. The United States urbanized from 1900 to 1920. As far back as the 1850’s and 1860’s Britain traveled the industrialization road from small farms to urban society.

Demand for and production of steel both remained high right through the Japanese growth period. Its price won’t fall back to past levels any time soon says Merrill Lynch.

City dwellers working in industrial production and tertiary industry earn higher incomes, have higher living standards and boost the wealth of their country. Only 30 per cent of the Chinese population currently lives in cities, compared to an average 75 per cent in developed countries.

It will take another twenty years for China to catch up to the urbanization and living standards of the developed countries. China and India currently have 9 cities with populations over 5 million and average incomes above $US5,900. By 2025 there are expected to be 31.

Currently 78 cities have more than 1.7 million people earning average incomes above $US3,000. There are expected to be 220 such cities by 2025.

China’s growth is being aided by its Government’s policy of holding its currency artificially low, making its goods cheap for other countries to buy. It is building huge trade surpluses and reserves as a result.

Merrill Lynch says the rate of new mineral discoveries is slowing despite increased exploration spending. No new world class deposits have been found since 1985 and only one new large deposit since 1999. In the 1980’s there were an average of nine major discoveries annually.

Merrill Lynch also expects oil prices to remain high. They say OPEC’s spare capacity is declining and the best exploration prospects are in unsafe third world countries.

New investment in oil production facilities remains low and few new refineries have been built since 1980.

The current oil supply is so tight any minor disruption causes prices to spike. A local war, a burst pipeline, a strike or a hurricane will do it. Chinese and Indian demands are likely to keep prices high.

Merill Lynch says BHP and Rio Tinto are earning so much profit they will be debt free by 2008. Companies like Woodside and Oil Search also have huge potential with new fields and exploration areas coming on line in the next few years. 

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