What Happens When Shipping Collapses?

So the Baltic Dry Index, a measure of the costs of shipping bulk cargo, have have dropped to 826 points on November 5, down from its high of 11793 in May:

Put simply, the cost of shipping has dropped through the floor. Sending a tonne of iron ore from Brazil to China in early June would have set you back more than $100 (£62) per tonne, or around $15m per voyage. But freight rates have now dropped to only slightly over $10 per tonne, or just $1.5m for the 70-90 day journey.

As if that wasn't dramatic enough, the drop in daily charter rates is even sharper. At the peak of the market, a 170,000-tonne Capesize bulk carrier was hired out at the eye-watering daily rate of $234,000. At the beginning of this week, it was $5,611 – a fall of nearly 98 per cent.

Obviously, shipping has not fallen 90%, but the world has gone from serious shortage of shipping capacity to serious surfeit of shipping in about 6 months.

While that is concerning as an indicator of economic activity, what might be more concerning is the likelihood that a significant portion of world shipping, may simply shut down completely, because they are unable to get letters of credit from financial institutions.

Letters of credit are essentially guarantees that once cargo goes out to sea, that the value of the cargo will be delivered to the purchaser, and like other forms of insurance, it's becoming increasingly hard to get, and so there is unshipped cargo sitting on docks for want of a letter.