Baltic dry Bulk Index as a measure of overall economic activity

Comm 445 101October 6, 2013 | Denis ZhekhovskiyStudent # 44043107 |

The Baltic Dry Index , or BDI, is an index that provides "an assessment of the price of moving the major raw materials by sea, such as grain, cocoa, phosphates, fertilizers, animal feed, oil, coal, iron ore and metal (Financial Iceberg, 2012). Taking in 23 shipping routes measured on a timecharter basis, the index covers Handysize, Supramax, Panamax, and Capesize dry bulk carriers carrying a range of commodities including coal, iron ore and grain. BDI is a number issued daily by the London-based Baltic Exchange, and is not restricted to Baltic Sea countries. (Baltic Exchange, 2013) | Baltic Dry Index vs. Time Graph(The Geography of Transport System, 2013) |

The Baltic Dry Index is considered an excellent gauge of global trade, measuring the demand and supply of dry bulk shipping capacity in the real time. This avoids the effects of the substitution products and futures contracts that account for additional price fluctuations in the commodity prices, making it more difficult to interpret their results on the overall economy. An increase in demand for dry bulk shipping capacity indicates growth in trade of bulk cargo (usually the raw material for intermediate or finished goods), which points to growth in consumption and general economic health (Financial Iceberg, 2012). Unlike stock and commodities markets, the Baltic Dry Index is totally devoid of speculative players. The trading is limited only to the member companies, and the only relevant parties securing contracts are those who have actual cargo to move and those who have the ships to move it (RimShip, 2013).
But despite the commodity demand, which is determined by the industrial production and the energy demand, both of which represent the state of the economic development, being the primary factor in the variability of BDI, the Baltic Dry Index is also subject to fluctuations from several other significant factors.
Theoretically, the fleet supply is an important factor in determining the rates of the transportation of bulk materials, where a shortage of ships will lead to a significant increase in the cost of transportation, pushing the BDI index upward. But in practice, there is currently an oversupply of cargo vessels, and the fluctuations in their number will have little effect on the cost of ocean transportation, and thus the BDI (Baltic Exchange, 2013).
The seasonal pressures also significantly impact the Baltic Dry Index. One of the major reasons is that cold weather may increase the demand for coal, natural gas, and other energy creating materials, this driving the BDI index in the upward direction. And in terms of logistics, the cold weather may cause ice to block ports and low rivers to prevent travel, thus decreasing the available supply and access to the commodity, also causing the BDI to increase (Baltic Exchange, 2013)
Another significant factor affecting Baltic Dry Index is the oil price. Fuel expenditures account for one quarter to one third of the total cost of running a vessel. An increase in the price of oil will increase the fuel cost and thus the cost of chartering a vessel, therefore driving the BDI index up (and vice versa).
Nearly half of the world’s oil passes through a few narrow shipping lanes, which are called Choke Points. This includes the straits of Hormuz and Malacca, the Bosporus and the Suez and Panama canals. These geographic choke points cause natural caps in the number of ships that can pass through each day, month or year and therefore also limits the bulk tonnage capacity of certain shipping routes. If anything disrupts the flow of ships through the choke points, the BDI will increase (Aditya, p21, 2012).
Market forecasts will also stimulate or, oppositely, slow down the trade. The forecasted increase in demand for a certain product will create a bullwhip effect down on the production chain of that good, thus stimulating trade and increasing the Baltic Dru Index in the short run (Cumming, 2009).
Labour relations might be not as visible factor as the other ones, but it still plays an important role in the shipping industry since nothing is loaded or unloaded from ships without labor. Labor relations at various ports around the world directly affects the BDI. For example, in the U.S. both the ILA (International Longshoreman's Association) and the ILWU (International Longshoreman's and Warehouse Union) exert enormous control over the labor at ports. Labor relations issues include: intentional work slowdowns, company lockouts, strikes and political boycotts. Labor unions have expressed their political power and influence in the past by boycotting products from apartheid South Africa, protesting the war in Iraq and even the Soviet Invasion of Afghanistan (Aditya, p22, 2012). Therefore, labour relations also play an important role in accounting for the Dry Bulk Index.
And lastly, the Baltic Dry Index takes into account solely the seaborn trade, and does not include the movement of materials via rail or pipeline. For instance, Russia has supplied over 10.5 million tonnes of coal to China in 2011 via rail, hoping to increase that to 15 million by 2015 (Collins, 2012) and280 billion cubic metres of natural gas to Europe in 2008 via Gazprom pipeline (Stern, 2012), both of which are significant figures. Therefore, Baltic Dry Index accounts solely for the marine bulk transportation, and cannot fully represent a complete assessment of the transportation of raw materials.

Looking at all the limitations of the Dry Bulk Index, it is hard to state that BDI is the perfect indicator of overall activity. But, nonetheless, considering all the other possible methods of indicating the global economy trend, BDI proves to be one of the best to be developed so far.

Appendices

Financial Iceberg. (2012). Economy. Retrieved from http://www.financialiceberg.com/bdi_and_world_trade.html

Baltic Exchange. (2013). About us. Retrieved from http://www.balticexchange.com/default.asp?action=article&ID=2

The Geography of Transport System. (2013). The Baltic Dry Index. Retrieved from http://people.hofstra.edu/geotrans/eng/ch7en/conc7en/bdi.html

RimShip. (2013). The Baltic Dry Index. Retrieved from http://www.rimship.no/bdi/

Kandoi, Aditya. (2012). Report on shipping sector. Shipping Unnati. Retrieved from http://www.scribd.com/doc/55912350/9/KEY-TRENDS-AND-FORCES-AFFECTING-BDI

Cumming, Alan. (2008). Freight rates as economic indicators. Cambridge forecast. Retrieved from http://cambridgeforecast.wordpress.com/2008/07/22/freight-rates-as-economic-indicators/

Collins, Gabe. (2012). North-Central China offers massive market opportunity for Mongolian coal miners. China Sign Post. Retrieved from http://www.chinasignpost.com/2012/08/north-central-china-offers-massive-market-opportunity-for-mongolian-coal-miners/

Stern, Jonathan. (2009). The Russian Gas Balance to 2015: difficult years ahead. In Simon Pirani. Russian and CIS Gas Markets and their Impact on Europe. Oxford University Press