Mont Belvieu Propane Prices Could Face Pressure with Tariffs

Recently released analysis of U.S.-China trade relations by IHS Markit, namely escalation of the ongoing trade dispute, finds that both countries have responded with tariffs that could derail a global economic boom that has benefited the world petrochemical industry, which has enjoyed significant profitability across many sectors.

Noted is that U.S. industry, in particular, has experienced a renaissance in productivity and profitability due to its abundant supply of advantaged shale gas feedstocks, which has enabled the industry to invest significantly in capacity and new production, much of which is intended for export to feed hungry Asian and Chinese markets.

“While the U.S. represents a country with many resources, including available investment capital, low-cost energy and feedstocks, as well as chemical technology, China represents the primary hub for future chemicals demand growth as it seeks to back-integrate within various value chains to maintain an acceptable level of self sufficiency in base chemicals,” the consultancy writes.

“China requires these basic chemicals, which serve as the building blocks used in the manufacturing of durable and non-durable consumer goods. These consumer goods are manufactured in China and are sold all over the world, and increasingly are consumed domestically, as China’s urbanization levels continue to rise.”

IHS adds that trade between the U.S. and China is a key and essential connection between the two countries. In 2017, the U.S. imported $505 billion in goods from China, and China imported $130 billion in goods from the U.S. The trade deficit of $375 billion was one of the key issues raised by the 2016 Trump presidential campaign, and now President Trump has made trade with China a major issue in 2018, with numerous tariffs imposed across many business sectors. The Chinese quickly responded in kind, with more tariffs on U.S. imports, many of which take aim at the petrochemical and plastics sectors.

The IHS Markit economics team states that a potential trade war between the U.S. and China—which pits the world’s largest developed country and consumer against the world’s largest developing country and supplier— is one shock that could derail the global economic boom. On March 22, 2018, based on a U.S. Section 201 investigation into China’s alleged intellectual property rights violations, the U.S. imposed a 25% tariff on $60 billion worth of imports from China. China responded within hours with a tariff plan of its own. China outlined tariffs to be carried out in two phases covering 128 products worth about $3 billion. On April 4, 2018, China announced additional retaliatory tariffs on U.S. products, including a proposal to impose a 25% tariff on U.S. exports of 106 products worth about $50 billion a year, including several key petrochemical and plastics products such as propane and polyethylene.

Regardless of any Chinese tariffs in place, U.S. propane production will likely continue to increase since LPG is produced as a by-product of refining and natural gas processing, IHS observes. In the near-term, Mont Belvieu propane prices could face downward pressure if China reduces import volumes from the U.S. In 2017, the U.S. exported 3.4 million metric tons of propane to China, according to the consultancy, adding that while the additional propane volumes produced in the U.S. could be used as olefins cracker feedstock, this will not be enough to offset the “lost” volumes to China. Therefore, U.S. LPG volumes will need to be exported to an alternate market location.

Noted is that unlike ethane, propane is a much more liquid market and fungible. The expectation is that the China tariff will result in a propane trade rebalancing. For example, northeast Asia current takes large volumes of LPG from both the U.S. and the Middle East. The market reshuffle is likely to result in Japan and South Korea taking more LPG from the U.S., while China will take more from the Middle East.

“Of course, there are likely some constraints in the near term, due to term-contract obligations and other considerations,” IHS comments. “Further, we expect price signals to incentivize such a rebalancing act. For example, the U.S.-Asia arbitrage will likely increase for Japan and [South] Korea, whose traders will view U.S. propane as an attractive sourcing option. With that said, the arbitrage is not expected to increase the level of Japanese and Korean demand for U.S. propane that the 25% tariff increase would require to offset the lost demand from China.”

Summarizing, IHS asserts that the global propane market is efficient enough to find a “new norm” if the proposed tariffs are implemented. There are likely to be short-term inefficiencies before achieving a “steady state new norm” caused by short-term contractual obligations and the allowance of enough time for pricing signals to incentivize the global rebalancing of the market.

(SOURCE: The Weekly Propane Newsletter, April 23, 2018)