Copper imports by China, the top consumer of the metal, could fall in the next few months even as the world's second-largest economy gradually recovers, since easier credit will reduce demand for copper used for trade financing.
Beijing unexpectedly cut interest rates this month to counter a sharpening economic slowdown. Previous moves since November to reduce the amount of cash banks are required to hold as reserves have also boosted bank lending.
While increased liquidity typically boosts China's appetite for commodities, with industrial metals such as copper and steel among the earliest beneficiaries, analysts said the credit easing this time would ironically take the shine off copper, since as much as 80 percent of recent monthly imports of the metal had been used as a way to get around credit curbs.
"Given that the tightening was the main driver for the imports over the past year, we should see softer imports coming through on the back of credit easing," said Michael Widmer, metals strategist at Bank of America Merrill Lynch.
"Having net copper imports run at a clip of 300,000 to 400,000 tonnes per month is too high, China just doesn't need that much. I wouldn't be surprised if imports start to come down."
Widmer forecast China's average monthly imports could ease to around 250,000 tonnes in the second half, with buying largely led by end-users, should the economy start to recover. That would represent a 40 percent decline from May's arrivals of close to 420,000 tonnes.
Growth in the world's second-biggest economy slumped to a three-year low of 8.1 percent in the first quarter as Europe's debt crisis sapped export growth. Analysts forecast growth to slacken further to 7.9 percent between April and June.
The demand for commodity financing deals has already begun to drop off. "We noted a decrease in copper financing deals in China since last month after bank reserve requirement ratios fell, as money has become easier to get," said Ian Roper, CLSA commodities strategist.
With Europe in the grip of a debt crisis and anaemic growth in the United States, all eyes have shifted to China, in hopes that Beijing's recent moves to boost growth will help prop up commodities prices that slumped in May on demand fears.
Apart from better credit access, rising volatility in the yuan currency and a weakening property market would also make this type of carry trade less attractive, analysts said.
BEIJING'S CLAMPDOWN
To get round curbs on credit, many Chinese firms turn to importing commodities to secure cheap financing. An importer uses a letter of credit (LC) to buy copper, and then uses the material as collateral for a bank loan. Some firms pledge inventories several times to different banks to get more funds.
Other commodities, such as steel and iron ore, can also be used. Such practices have sent China's demand for commodities soaring, with refined copper imports jumping 76 percent from a year go in the Jan-April period to 1.33 million tonnes.
Concerned about possible defaults, Chinese regulators have ordered banks to clamp down on errant trade financing and have singled out steel traders for banks to cut lending to. Such moves will dampen the country's appetite for commodities in the near term.
"It has been more difficult to do financing since the regulator tightened rules, so we're forced to cut back," said an executive at a copper trading company.
Beijing has tightened rules for trade financing since last year. Its latest move was to bar the resale of letters of credit, which stops the same letter of credit being used repeatedly to raise money.
Should Beijing be determined to choke off these errant financing deals, it could force banks to shorten the duration of letters of credit, or reduce the ratio of loans tied to collateral.
"Cutting the duration of letters of credit will have a very direct impact on shutting out this sort of commodities financing business, but it will be quite a drastic measure that could also affect real businesses," said a loans manager at a foreign bank.
Source: Reuters