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Nov 13, 2009

Global economy likely to enter period of base-case growth – Caterpillar CEO

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There are two possible scenarios for the future of the global economy, says Caterpillar CEO Jim Owens.

The capital equipment company boss notes there is a 75% chance that the world economy will now enter a period of base-case growth, even though this may be “relatively anaemic”.

Owens, who also serves on US President Barack Obama’s Economic Recovery Advisory Board, says this scenario is built on the fact that the world still has high infrastructure needs, coupled with worldwide mass urbani- sation, especially in the still-growing Asian economies.

He says the world is in the “commodity- intensive” phase of its development, which means that the mining industry should see an upswing in this scenario.

He adds that the capital equipment replace- ment cycle was left incomplete during the last upturn, and that many mines are still operating with trucks older than ten years, which is an indication of the existence of pent-up demand for yellow metal (or capital equipment).

However, the other side of the coin is a 25% chance of what Owens terms a “great recession”, where “things could fall apart”.

He believes this can happen should central banks implement bail-out plan exit strategies “too quickly”.

“The biggest risk is that central banks [could] raise their interest rates before the recovery gains traction.”

Owens states that nationalism poses a significant threat to any visible green shoots, as protectionist economics will stifle trade and, subsequently, economic recovery.

In the great recession scenario, commodity prices will trend down, and there will be a further decline in home and commercial property prices.

Owens also issues a stern warning for the US and other developed countries in changing their mindset towards international economics.

“Global growth will be led by the emerg- ing market theatre, which should be thought of differently than [was the case] in the past, particularly because of the rising middle class [in these countries].”

In reference to the US specifically, Owens says the North American country repre- sents only 5% of the global population, “and we must start behaving like that”. “This is a big change – we must integrate into the world.”

The US-based Caterpillar is the world’s biggest mining and construction capital equipment producer. It has 300 manufacturing facilities worldwide, achieving sales of $51-billion in 2008, with 60% of this outside North America.

Owens, who has a doctorate in economics, and who joined the group as a corporate eco- nomist in 1972, says Caterpillar survived the Asian crisis in 2002, even though it witnessed a 97% drop in sales in the once booming South-East Asia, and a subsequent 25-year low in mining investment as the world grappled with the sharp economic downturn.

This crisis was followed by “the best three years in global gross domestic product growth since World War II”, from 2004 to 2006.

The subsequent surge in demand for nearly every product imaginable, espe- cially from the Indian and Chinese econo- mies coming on stream, led to severe bottle- necks, and a global scramble to increase capacity.

“Demand for our product went up 40% in 2004,” says Owens.

He says customers are facing a three- year waiting period on some Caterpillar equipment lines.

However, the credit crunch, which hit in late 2008 and developed into a full-blown recession in 2009, put a stop to this.

Where once the company forecast sales of $57-billion for the current year, it now has to cope with full-year sales estimated at around $32-billion.

“Shipments of new Cat machines were down by about two-thirds in the second quarter of this year compared with the second quarter last year,” says Owens.

Coping with the severe downturn meant laying off 37 000 people, and cutting the company’s travel and entertainment budget by 87%. However, research and development spend is to remain at $2,5-billion a year, with the budget to build new capacity in emerging markets, especially Asia, remaining.

“This is our future,” Owens explains simply.

“We must be nimble,” he adds, describing how the company would survive. “We must be the best elephant at the dance.”

Should the base-case growth scenario prove true, Owens says, Caterpillar may see sales of $55-billion to $60-billion by 2012 or 2013. However, in a great recession scenario, sales will remain at around $35-billion over a similar timeframe.

Owens also warns of a possible [component] supplier bottleneck fermenting should Caterpillar achieve even a rather modest 6% growth rate next year.

Having cut back production and inven- tory dramatically, the capital equipment manufacturer’s suppliers will have to increase their shipments to Caterpillar by 70% to 80% should the US company achieve this growth curve.

“We are trying to help them understand what will happen on the way up. They would need working capital to come up as fast as they may need to.

“Some of our suppliers are really chal- lenged: they are operating at 20% of their capacity.”

Edited by: Martin Zhuwakinyu
Creamer Media Senior Deputy Editor
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