Energy & Resources

Costly coke addiction

First iron ore, now Chinese steelmakers worry about rising coking coal price

Costly coke addiction

The stuff from abroad’s better...

State-owned metals giant Chinalco may be Rio Tinto’s largest shareholder, but that hasn’t helped China get iron ore prices down. Frustrated NDRC officials reportedly issued a warning to representatives of the Australian miner earlier this month. The iron ore market was described as “highly distorted”, explained the Economic Observer. “If iron ore prices start affecting industrial security and employment for hundreds of thousands,” they warned, “the government will get involved.”

It’s a subject WiC has covered at length. Chinese officials are frustrated that the raw material’s price has escalated in spite of their repeated efforts to negotiate it down. While the Aussie and Brazilian miners get rich, its steelmakers suffer.

China’s thirst for iron ore helped Rio Tinto take in over $14 billion in net profit last year. To put that in perspective, calculates the Economic Observer, that was more than “the combined profits of 70 large and medium-sized Chinese steel companies.”

As reported in WiC95, the China Iron and Steel Association (CISA) failed to overcome a combination of the laws of supply and demand, as well as the clout of Rio, BHP Billiton and Vale. To the chagrin of the Chinese bureaucrats, annually negotiated pricing contracts were replaced by quarterly contracts based on spot prices.

A fresh blow could be coming. Iron smelting requires coking coal (it burns at a higher temperature than regular coal), and Chinese supply is being outstripped by demand. Imports jumped more than 400% in 2009, and then another 37% last year (to 47 million tonnes).

“The failure of iron ore negotiations should serve as a warning,” analyst Xu Xiangchun told the Economic Information Daily. “Chinese steel firms should take precautions to avoid the embarrassing situation of being controlled by [foreign] coking coal miners.” (Aside from Rio Tinto, the major exporters of coking coal are BHP Billiton, Teck, Anglo American and Xstrata).

Fearing history could repeat itself, the biggest state-owned steel mill Baosteel is locking in a highly unusual three-year contract for coking coal with Rio Tinto.

And there’s good reason to be worried: “The international coking coal market isn’t any less oligopolistic than that of iron ore,” explains CBN magazine. It estimates that the five largest miners control more than half of the market.

Despite its enormous coal reserves, China’s coking coal reserves are relatively scarce, writes the Economic Information Daily, and can’t meet the demand from industry. High quality coking coal is particularly rare. To make matter worse imports are being driven by the government’s own emphasis on energy-efficient smelters.

China’s topography and overburdened rail network also means that imported coal is sometimes cheaper to get a hold of.

“For steel mills far from coking coal mines, imports by sea from Australia are much more convenient than coal from Shanxi,” argues CBN, “and the freight charges are a lot lower.” analyst Liu Bao estimates that it costs $20 a tonne to ship coal from Australia to Shanghai, and about $31 a tonne to bring it by rail from Shanxi.

The country’s coal shortage is only expected to grow, and imports are slated to hit 75 million tonnes by 2015 (according to CISA). So unsurprisingly, Baosteel isn’t the only steel firm preparing for the worst. Another major player, Wuhan Iron & Steel (WISCO) has been trying to buy equity stakes in coking coal mines directly. (Its efforts to buy a stake in Australian miner Riversdale were scuppered earlier this month after Rio Tinto became the majority shareholder).

Meanwhile, as coking coal prices rise, expect Chinese steelmaker margins to continue to decline, with many more going into the red.

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