China remains the main driver of growth in world steel production and is expected to account for around 70% of the increase in world steel output this year. Strong growth in steel production is also expected in India, Brazil and the Russian Federation. The positive outlook for global steel production will support increased demand for steel inputs, principally iron ore and metallurgical coal. Following a decline last year, a substantial increase in metallurgical coal contract prices is expected for the coming financial year because of strong global demand for coal. World metallurgical coal demand is strong, driven mainly by expanding steel industries in China and India. Iron ore prices are expected to rise substantially in the upcoming round of contract negotiations for iron ore fines and lump. Factors that are expected to contribute to an increase in iron ore prices include strong growth in global iron ore demand, led in particular by production growth in China’s steel industry, rising iron ore production costs, the introduction of an iron ore export duty by the Indian government and a significant depreciation of the US dollar over the past year.
Does that sound like a fair assessment of the market? Well it is but it does not come from March 2010, it comes from a December 2007 report published by ABARE, an Australian government economic research agency, but it could equally have been written today. The fact is steel market supply conditions today, just 12 months after the worst recession since the 1930’s, are right back where they were in the boom times of the last decade. The speed with which the supply market has managed to drive prices back to prerecession levels has to be an indication of the oligopoly that is the global iron ore and coking coal market. Even major vertically integrated producers like SAIL and Tata of India, operating as they do in a protected market behind tariff barriers are almost unchallenged in asserting that steel prices will go up by 25-30% this year according to the DNA India website. Even though freight rates for bulk carriers have fallen in recent months, CFR China port prices for Australian and Brazilian iron ore fines have not fallen. Indeed prices continue to rise. Reportedly JFE, the Japanese number two steel producer with a reputation as a hard nosed and canny negotiator has just settled with BHP Billiton for a 55% price increase on quarterly coking coal contracts from April to June. The price increase from $129/ton top $200/ton has taken the industry by surprise, not just with the size of the increase but because JFE have forsaken the annual contract and accepted a quarterly formula. Spot coking coal prices have risen sharply to about $220-$240/ton after a drop in China’s domestic production forced Chinese steelmakers to import. China imported about 30m tons of coking coal last year, up from only one million tons in 2008. Beijing’s shift to an importer follows a clampdown on illegal and unsafe mining operations, but has enabled the Australian miners to keep the market tight as demand has dropped elsewhere.
Although Asian demand remains strong, there is little hope iron ore or coking coal prices will come down. Steel makers and consumers are in a catch-22 situation. Strong demand suggests a solid recovery which holds out the hope that eventually producers in OECD markets will achieve decent capacity utilization. However, a fall in raw material prices would realistically only come about because of falling demand. If raw material demand falls sufficiently to impact prices it will likely only come about because of a sudden and unexpected drop in Asian production. As Asia is providing virtually all the global growth at the moment that would not bode well for any of us – like it or not rising steel prices are probably preferable to the consequences of falling ones.