The global shipping industry is oversupplied. Because supply far exceeds demand, shipping rates have plummeted, as have the prices of ships. Some shipping companies have sought to capitalize on this trend by purchasing newer, larger ships at lower prices so that they can remain price competitive. But unless demand rebounds by the time these ships become operational, the industry’s oversupply problem will only worsen.

It is unclear whether the global shipping industry will normalize before these new ships enter the market. Demand could rise as the global economy recovers, or the supply of ships could somehow fall. But the economy’s recovery could just as well be slower than anticipated. Several factors could prevent the industry from righting itself, not the least of which are inaccurate forecasts of future market behavior. In fact, the current state of global shipping was caused in part by incorrect predictions of continued growth prior to the 2008 financial crisis. In any case, continued poor performance and a sluggish global economy could eventually force the shipping industry to restructure.

The most important factor to consider, in assessing the state of the shipping industry, is the state of the global economy. The international shipping industry accounts for approximately 90 percent of global trade by volume and is essential for connecting large sectors of the world’s economy. Since 1734, the industry has seen more than 20 boom-bust cycles, which occur roughly once per decade. The most recent cycle began in 2004 and peaked in 2008 before declining rapidly at the onset of the global financial crisis.

The downturn afflicted each of the industry’s three main categories: tanker, dry bulk and container. While the volume of global trade has recovered somewhat — it grew 4 percent in 2011, marking a 16 percent growth in ton-kilometers — the shipping industry is still reeling from the financial crisis.

Big, Efficient Fleets

The industry right now has far more ships than it needs. Most shipping companies tend to reduce the price of their services in an effort to underbid their competitors. Either they reduce the cost per ton or the cost per container. This means most companies try to accrue the biggest and most efficient ships possible. Between 2007 and 2012, the average container ship’s capacity increased by 27 percent.

From a shipping company’s perspective, overstocking a fleet with large ships while prices are low is a sound business move. Ships are long-term investments that can yield returns for 20 or 30 years, and trade will almost certainly pick up during the life span of any given ship. While purchasing new ships may seem counterintuitive in an oversupplied market, companies know that the capital cost of a ship plays a disproportionately large role in determining how profitable that ship will be, representing roughly half of all expenditures — including port fees, labor, fuel and other costs — over the course of the ship’s lifetime. Buyers therefore take advantage of low prices whenever they can.

The more efficient these ships are, the lower the price their owners can offer to potential customers. Maersk shipping company recently christened the first ship in its Triple-E line, which is now the largest line of container ships in the world. These ships are a quarter of a mile long, and they can hold roughly 11 percent more cargo than their nearest competitors.

Overcapacity is a problem in itself, but the issue is complicated by the inherent lag in acquiring inventory. On average, it takes two to four years after the placement of an order for a ship to be built and delivered. Thus, ships ordered in 2008, when the industry began to decline, were not delivered until well after the financial crash. While shipping companies had hoped the economic downturn would end quickly as many had forecast, they could not afford to let their competitors build superior fleets — they were forced to continue buying just to stay competitive.

An Informal Alliance

Along with the economic downturn, the contest to outbid competitors helped keep shipping rates low. In turn, low rates have forced shipping companies to work for fees that often cover only the operating costs of the ships. In these instances, companies that are still paying off the capital investment of the ship are actually losing money. This is notable, considering the Drewry global freight rate index dropped more than 30 percent from July 2008 ($2,727 per forty-foot container) to May 2013 ($1,882 per forty-foot container).

The threat posed by untenably low rates could transform the shipping industry. The world’s three largest container lines — Maersk, CMA CGM and Mediterranean — have formed an alliance of sorts in an effort to reduce operating costs. The fact that the three largest companies in the industry are acting in concert indicates just how hard it has become for them to survive the downturn (to say nothing of smaller, poorer companies).

Their informal alliance could portend further consolidation. Past consolidation efforts to control shipping prices were unsuccessful, but several outstanding issues, such as China’s slowed growth and the European crisis, may keep global demand low enough to force the industry to restructure itself.

In previous boom-bust cycles, demand and shipping rates rebounded as new ships became operational. It is unclear whether this will hold true in the current cycle. If it does not, newly acquired ships will only aggravate the industry’s problems.