COVID-19: Impact on Global Shipping and China’s Economy

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COVID-19: Impact on Global Shipping and China’s Economy

Insights from Basil M. Karatzas.

COVID-19: Impact on Global Shipping and China’s Economy
Credit: Wikimedia Commons/ Poomi

Diplomat author Mercy Kuo regularly engages subject-matter experts, policy practitioners and strategic thinkers across the globe for their diverse insights into Asia affairs  This conversation with Basil M. Karatzas – CEO of Karatzas Marine Advisors & Co., a shipping finance advisory and ship-brokerage firm based in New York City – discusses the impact on the shipping industry from the COVID-19 pandemic and China’s economic slowdown.

What are the three key impacts of coronavirus COVID-19 on the global shipping? 

With international transport at the forefront of trade and dependent on travel and human interaction, the shipping industry has been impacted materially both directly and indirectly from the outbreak of COVID-19. Operations of shipping companies and related industries, including terminals, ports, etc., have been affected due to personnel having been advised to refrain from traveling or reporting to work. Lower demand for commodities and raw material, and thus need for shipment, has pushed freight rates lower. Several shipping companies have started warning about reduced earnings visibility and weak future earnings results. Cruise, travel, and related industries, i.e. conferences, etc., have also suffered, and it’s noteworthy that North America’s largest container line conference, Trans-Pacific Maritime TPM2020, was cancelled this week, literally on the eve of its opening.

We hope for an average case scenario where there will be no structural impact on global demand, and that after a few short months of heightened volatility and uncertainty, and hopefully minimal number of deaths worldwide, the world economy and shipping will be allowed to spring back, especially if there is an orchestrated effort of stimulus packages from governments and central banks.

Which segments in the shipping industry has COVID-19 affected?   

Really, there do not seem to be any segments of the shipping industry that so far have been immune to COVID-19. There have been headlines about cruise ships not allowed to port and placed under quarantine for weeks. Commodity vessels, such as dry bulk and tanker vessels, have seen lower demand and lower freight rates. There have been reports that Very Large Containership Vessels (VLCVs) are leaving Chinese ports filled to just 10 percent of their capacity.  With lower demand, crude oil prices have collapsed, which will further exacerbate the bad state of the offshore drilling industry. The shipbuilding and ship repair segments have collapsed as people do not want to travel to China and South Korea; shipping finance and ship brokerage have also been affected as they involve travel and also require some momentum and enthusiasm, which presently are in low supply. The shipping legal profession has been pouring over charter parties and exploring the possibility of whether COVID-19 can constitute force majeure, a variable with innumerous implication to the charter market. Supply chains and logistics have been affected as well; for instance, we understand that the Chinese trucking industry has collapsed too, as the government has imposed travel limitations, which prevents containers-for-export from reaching the loading dock, and containers-for-import keep piling on the dock waiting for discharging vessels.

Given that freight market for dry bulk vessels and offshore drilling assets has already been weak for a while, it will not be surprising seeing COVID-19 catalyzing the filing for bankruptcy protection this year by a few financially unstable companies in these sectors. On a brighter prospect, a slow down for shipping finance and newbuilding shipping activity can be welcome news by keeping tonnage supply from expanding.

Explain what the Baltic Capesize Index indicates about shipping loses worldwide.   

The Baltic Capesize Index (BCI) has moved into negative territory for the first time ever this year, in its almost 30-year history. Implicitly, it is an index about Chinese imports of iron ore, a proxy for industrial activity and production in China. Charter hire rates for Capesize vessels are very low at present, at $2,500 pd today (when it costs $7,000 pd just to operate such a vessel and before counting for the capital costs). The first couple months of a year are seasonally slow for Chinese iron ore imports (timing that encompasses Western holidays and Chinese New Year celebrations); however, this year’s seasonality has been compounded with a slowdown of the Chinese economy (possibly due to tariffs and trade wars with the U.S., as speculated in the Western media) and the outbreak of COVID-19, and these two factors have further exacerbated the seasonal decline.

One needs to keep in mind, however, that the Baltic freight indices only count for freight rates of non-scrubber-fitted vessels (as mandated by IMO2020 with a January 1, 2020 deadline), that is vessels burning Low Sulphur Fuel Oil (LSFO), which has been more expensive than Heavy Fuel Oil (HFO) and effectively has led to a re-basement of the index by a few hundred points.  To the extent that the Baltic indices are leading indicators, even when seasonality, extreme volatility, and adjustment for fuel costs are incorporated, one has to be skeptical of the prospect for growth looking forward, in China and elsewhere, which may partially explain the Fed’s lowering interest rates by 50 base points and high expectations of a massive stimulus plan in China.

Is COVID-19 causing shipping companies to consider relocating operations outside of China? Explain.  

Container exports out of Chinese ports were heavily disrupted due to the disruption of operations in China’s ports as they were short staffed and also unable to receive and forward containers inland. The port of Hong Kong was less disrupted at the time, in terms of port operations and staffing, and saw volumes pick up. It has been a temporary “substitution” that managed to provide certain relief but it would be hard to see this as a permanent solution. However, it’s becoming very clear for shipping and other firms that by outsourcing their production to just one country or manufacturer, they may be exposing themselves to high levels of uncertainty when any part of the supply and logistical chain goes wrong. Labor cost arbitrage and economies of scale should not be pursued blindly and at the expense of eliminating diversification and alternate plans.

How will COVID-19’s impact on shipping affect global trade, logistics, and supply chains? 

It seems that the last couple of years have offered paramount, real-life, global-scale lessons for the student of international trade and supply chains. Substantive threats of trade wars and imposition of tariffs have allowed for an in-depth multidimensional analysis of the global supply chains, OEMs [original equipment manufacturer], subcontractors of several layers, vendors, suppliers, etc. and realization of how interconnected the whole world really is. It had been a great opportunity to see how end-products are getting put together. Now, with disruption of the transport links along the supply chains, one gets to see where the logistical bottlenecks lie and how disruptive it actually can be. A large containership, as efficient as it can be when fully laden, can very easily turn into a “white elephant” just by virtue of another link of the intermodal transport chain being affected.

At the time of this interview, and as this is a rapidly developing story, it is unknown when or how COVID-19 will be contained. We full-heartedly wish for an expedient and effective discovery of a vaccine, but there are no definite assurances for that. The most likely scenario is that there will be a swift positive outcome, before there are permanent and structural changes on demand, and the current situation could be considered a real life “stress test” of the global supply chain and logistics markets worldwide. If so, we expect a strong bounce back of the market as factory floors will have to be provided with raw material to catch up quickly with warehouses low on stock. We wish to refrain from a “black swan” scenario and hope for the very best, but again, global shipping companies should already have such preparedness plans, even given how low the probability for such eventuality may be.