Revenge of the old economy

The writer is the Global Head of Product Research for Goldman Sachs.

From energy to other basic materials to agriculture, we want to blame today’s shortages in the “old economy”, primarily due to a series of temporary turmoil caused by the Covid-19 pandemic.

However, with the exception of some labor issues, these bottlenecks have little to do with Covid. Instead, the roots of today’s commodity crisis can be traced back to the aftermath of the financial crisis, declining returns over the next decade, and chronic underinvestment in the old economy.

As infrastructure ages and investment declines, so does the old economy’s ability to supply and deliver the goods that underpin many finished products. After years of neglect, today’s soaring gas prices, copper shortages, and the fight against China’s electricity generation are “vengeance for the old economy.”

In the economic stagnation since 2008, policy makers have focused on recovery efforts through the central bank’s quantitative easing program to support the market. Low-income households faced slowing real wage growth, economic instability, stricter credit restrictions, and increasingly affordable assets. High-income households, on the other hand, have benefited from inflation of financial assets due to quantitative easing.

The resulting disparity has had a major impact on the old economy. In the old economy, prices rise when demand exceeds supply. High-income households may control the dollar, while low-income households control the amount of commodity demand because they tend to consume more physical commodities than services.

As demand for commodities declined, so did the profits of the old economic sector. The decline in returns favors a short-term “new economy” of investing in areas such as technology, and is a long-cycle old economy that previously required a period of five to ten years of sufficient demand. Reduced capital investment.

By 2013, this weakness had receded into China. Capital flight in the old economy has intensified as the world’s manufacturing engines slowed and commodities began to slip historicly.

Indeed, the old economy was overbuilt, in debt, and overly polluted. The old economy, which accounts for only about 35% of the world’s gross domestic product, has generated at least twice the corporate losses, about 90% of non-financial debt, and 80% of emissions. No wonder investors preferred Big Tech over oil and copper.

After the plunge in oil prices in 2015, the market was fed up with the destruction of wealth and almost stopped the flow of transactions throughout the old economy. China has stopped actively stimulating deficit companies such as coal mining. And as climate change comes to mind, investors are putting more emphasis on environmental, social and governance issues and further limiting capital.

The resulting reduction in investment has hindered the growth of commodity capacity. This is especially true for hydrocarbons that are sold by investors for ESG reasons, exacerbating the already growing problem of investment shortages.

A column chart of commodity demand for US households by decile of income (commodity as a percentage of total consumption), showing that low-income households have the greatest impact on commodity demand.

The seriousness of these supply constraints is being emphasized as countries move into a mode of recovery from a pandemic and reveal how much the old economy has expanded.

The pandemic had an even greater impact, putting social needs at the center of the policymaker’s agenda. Such inclusive growth only emphasizes the demand for physical commodities.

The impact on one part of the system has a spillover effect elsewhere. Declining coal production in China has hit aluminum smelting capacity and caused aluminum shortages. As gas availability declined, gas was forced to replace oil, resulting in a shortage of oil. The rolling impact of smaller and more frequent shocks on the stretched system creates the urgent phenomenon that temporary shocks lead to sustained physical price inflation. This is the beginning we are seeing today.

This is where the revenge of the old economy leaves its mark. The period of commodity price pressure reoccurs to meet the widespread demand for inadequate infrastructure.

Commodity prices need to rise significantly to provide investment incentives when policymakers’ goals of broad prosperity and large-scale construction of green infrastructure are achieved. This is needed to compensate for the increased risk associated with long-term fixed investment projects and the inherent complexity surrounding the green energy transition.As us Insisted A year ago, a new product, Super Cycle, was introduced.

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Revenge of the old economy

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