Surging commodity prices looks set to give Australia a welcome income boost

Photo by David Rogers/Getty Images

It’s been a whale of a year for many commodity prices, particularly for bulks in which Australia dominates.

Spot coking coal prices have gone nuts recently, surging over 170% to $US250 a tonne since the start of the July, with thermal coal also chiming in of late, rising by a still-impressive 55% to $US95 a tonne over the same period.

And iron ore, Australia’s largest goods export by dollar value, has also found some renewed vigour following an explosive move higher in the second quarter of 2016, hitting a fresh six-month high of $US63.07 on Wednesday, extending its gains this year to 45%.

These are all massive moves, and of importance to Australia. It’s good news, and not just for the mining sector after what has been a tough four years.

By value, iron ore, coking coal and thermal coal account for 15.5%, 6.5% and 4.5% of Australian exports by dollar value, accounting for a combined total of 26.5% of all exports, including services.

And this share looks set to increase as the recent price surges feed into contract prices and official data from the ABS.

As a result of the surge in these commodity prices, Australia’s terms of trade looks set to record a large and rare increase in the third quarter, as demonstrated by the chart below from the Commonwealth Bank.

It’s the bank’s new terms of trade “tracker”, a proxy to the official gauge released by the ABS, and after sliding for over five years mirroring the decline in Australia’s key commodity prices, it has clearly turned a corner.

For those who are not aware, terms of trade is simply the dollar value of a countries exports divided by its imports, with the figure multiplied by 100.

A reading above 100 indicates that the value of exports is greater than imports while a number below 100 says that imports are greater than exports.

While still below 100, the gap between the two, if the CBA’s modeling is correct, is now narrowing.

That’s important, and beneficial, to Australia.

As Vivek Dhar, mining and energy commodities analyst at the bank notes, Australian “nominal GDP growth should move higher as a result” with the “drag on incomes that represents a major downside domestic economic risk may be ending”.

Increased income to miners, state and federal governments and, potentially, workers.

While that will take time to flow through to the broader Australian economy, Dhar believes the initial benefits will be seen in increased company profits and a potential return to surplus for Australia’s trade balance, something that UBS’ Australian economics team floated after the release of August trade figures released earlier this month.

The only question now is how long can the rally in bulk commodities last? Will it prove to provide a fleeting benefit to the Australian economy, or be more enduring?

Dhar, like others, doesn’t believe this is the start of a long-lasting rally, although he suggests “we could see Australia‚Äôs terms of trade remain supported until mid-2017”.

Though it would be nice if it could go on longer, and let’s be honest, the duration of the rally this year has already surprised many, at a time when Australia is in the midst of the largest economic transition seen in decades, a boost from higher commodity prices for a few more quarters is more than welcome news.

The ABS will release Q3 international trade price data at 11.30am AEDT.

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