As is often the case with China, all is not what it seems. Record iron ore imports in February, 23% up on the previous month, are being hailed as evidence that the steel industry, and China’s economy along with it, is roaring back. But the reality is something different. Low spot iron ore prices are forcing many of China’s 150,000 domestic low grade iron ore miners out of business. Domestic iron ore producers typically meet 40% of China’s requirements but production has been down 70% since the market collapsed in October making China’s steel industry increasingly reliant on imports. China, which consumes more than half the global seaborne trade of iron ore, imported 444 million tons last year and imports may come in between 440 and 470 million this year. This is welcome news for miners bracing for global oversupply that some analysts estimate could reach 180 million tons.The low spot prices however are playing into the steel industry’s hands as they negotiate with BHP, Vale and Rio to set the 2009 contract price. Iron ore producers had been looking for a price increase in the early 4th quarter but the reality is they will have to settle for a discount to 2008 prices as we reported yesterday. How much of a discount remains to be seen. BHP and Rio managed to break ranks with Vale and secure a premium for their ore last year on the basis their Australian ore costs less to ship to nearby China and therefore the Chinese who buy FOB should pay a premium over Vale’s shipments from more distant Brazil. Complicating factors, freight rates have dropped since last year and although the premiums for shipment from Brazil are higher than from Australia, they are not as high in dollar terms as they were.So far spot prices are said to be 35-40% cheaper than last year’s contract price and expected to dip below $60/ton in the coming months as global oversupply continues to force down the price. There are rumors that producers have agreed to a temporary reduction in the price for shipments under the 2008 contract to maintain market share, rumors denied by the producers themselves. Unlike the small domestic producers who are losing money at $60/metric ton, the Big 3 could afford the price to drop lower and still remain profitable, their average cost price is said to be $24.7 per metric ton according to Maquerie Bank. How much the 2009 price comes down below 2008 remains to be seen but it will have a knock on effect for steel production around the world as Japanese, Korean and Taiwanese producers take their lead from the price the Chinese settle at, impacting the relative cost base and therefore trade flows of steel out of Asia into Europe and North America.
The China Iron and Steel Association has said they want the 2009 contract price back dated to January 1 and as a result steel producers are pre- paying just 60% of the contract price pending resolution of the negotiations. If iron ore producers are discounting contract price shipments it may reflect their expectation that the 2009 contract price, when it is agreed, will be closer to the pre-pay price and they may as well discount the price now to fix a firm number. As always, the iron ore price negotiations will be protracted and difficult but at least this year, consumers can be sure cost prices will fall as a result not rise as has been the case for much of this decade.