Iron Ore Price Boosts Revenues… for now

Don’t be surprised to hear the government brag about national revenues. The high iron ore prices last year may have added as much as AU$4 billion to the nation’s bottom line. Research by Curtin University showed that the iron ore price averaged AU$15 higher than forecast in the May 2016 budget.

This is one of the moments when the government needs to keep their mouth shut, and say nothing but ‘thanks’.

While government revenue may have scored a surprising boost, it won’t last long. The iron ore price began falling back in March this year. In saying that, it won’t stop the government bragging about the AAustralian economy…a little like counting your chickens before they hatch.

It didn’t stop the International Monetary Fund.

One month before the national budget was due, two headlines caught my eye:

‘IMF paints a rosy picture of Australia ahead of federal budget’

The Sydney Morning Herald

‘Iron ore price in free fall’

Shortly after reading that, I uttered words that I’m not allowed to publish. What annoyed me was the timing of the articles. Each of those headlines made their appearance on the web within hours of one another.

The IMF said in April that everything is OK as far as Australia’s economy is concerned. In fact, based on recent commodity prices, the IMF reckons that gross domestic product will rise 3.1% this year. That’s much higher than the original forecast of 2% the IMF made in December last year.

The IMF also bumped up the 2018 growth forecast from 2.75% to 3%. But the good news doesn’t end there.

They reckon inflation will reach 2% by the end of this year. And unemployment will drop from the current 5.9% to 5.2%.

Let the good times roll…

Why the IMF forecast on the iron ore price is out of whack

The problem with the forecast is that it’s based on past performance, and not what’s happening today.

You know how every ad for a superannuation fund comes with the caveat ‘past performance is no guarantee of future performance’? Someone should air that sound bit of advice in the direction of the IMF.

I’m sure the RBA is rubbing their hands with glee at the thought of higher inflation. At last, those low interest rates are doing something other than stoking the price of Aussie property prices.

As for employment? I don’t even believe the figures from the Australian Bureau of Statistics (ABS). I reckon that, were the ABS to announce an unemployment rate of 5.2%, they’d have to change the methodology.

However, one thing the IMF made clear was that global conditions are ‘brightening’. To top that off, high iron ore prices will supposedly support the higher growth figure.

Clearly, the IMF wrote their report in February, and are only now getting around to publishing it.

Source: Business Insider

Click to open new window

The graph shows the iron ore spot price in US dollars. On the far right, you can see the spot price is in freefall. That’s exactly how described the recent iron ore price action.

The iron ore spot price peaked at US$95 in February. Since then, the price has tumbled to US$63 — a 30% fall in two months. Most people wouldn’t call that rosy.

There are a couple of reasons the iron ore price is falling. One of them is that iron ore had a stellar — and perhaps unjustified — run-up on the back of Chinese infrastructure spending. There’s the very real chance that steel is being produced just for the sake of producing something.

Normally, increased steel production would support a higher iron ore price. Yet Umetal’s recent survey of China’s 42 largest ports shows that iron ore stockpiles reached 133 million tonnes last month — the highest ever on record.

The large stockpiles may cause some investors alarm. However, this is more cyclical than anything. China tends to build up reserves during the Northern Hemisphere winter, using up those reserves in the summer months.

What will be worth watching, though, is how quickly these stockpiles are used.

Furthermore, some analysts aren’t convinced the higher iron ore prices are here to stay. David Pleming, from HSBC, says he expected a ‘massive fall’ in the iron ore price this year.

After a survey of their analysts, FocusEconomics have a median forecast price of US$57 for the final three months of this year.

What the ridiculously-rosy outlook from the IMF does show is how profoundly sensitive the Aussie economy is to commodity prices.

Granted, I haven’t seen the full basis for the IMF data. But if they are just pushing the idea that higher commodity prices equal higher growth for Australia, I’m not buying it. The recent 30% decline in the iron ore price suggests that the IMF report is going to fall wide of the mark.

The IMF needs to remember that past performance is no guarantee of future performance.

While we’re on the subject of future performance, my college Vern Gowdie has some insight into the direction of the Australian economy. Or in his words, the end of the Australian economy. He’ll also be presenting at the Doomers’ Ball tonight. But if you can’t make it to hear him live, you should check out his analysis here.


Shae Russell,
Editor, Strategic Intelligence

Since starting out in the financial markets over a decade ago, Shae has extensive experience across various aspects of the industry. Shae cut her teeth in the derivatives industry, teaching clients basic trading techniques with technical analysis.

Joining Fat Tail Investment Research eight years ago, Shae has worked across a number of publications, such as Australian Small-Cap Investigator, Gold Stock Trader and Microcap Trader. She’s spent the past two years however, honing her macro analysis skills alongside Jim Rickards, showing Australians how to invest and profit form global macro trends.

Drawing on her extensive experience, Shae is a contributor to Money Morning, and lead editor of sister-publication Markets & Money, where she looks at broad macro trends developing around the world, combining them with her distaste for central banks and irrational love of all things bullion.

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