Rising Power Costs Driving Aluminum Higher – But For How Long? Part Two

(Continued from Part One.)

Electricity accounts for about 40 percent of average smelting costs for Chinese aluminum producers, against 30 percent elsewhere. Electricity cost pressures have been rising steadily; around 80 percent of China’s power comes from burning coal, which it produces and also imports from Australia. Coal prices have been rising relentlessly partly due to global demand, but not helped by the floods in Australia. Cancellation of nuclear power plant extensions in Germany are the tip of the iceberg in terms of a global reappraisal of nuclear as a source of power, and gas prices inasmuch as they are related to the oil price have also been on the rise, particularly outside the shale-rich gas market of the US. The theory goes, not unreasonably, that as energy prices rise, smelters’ margins will be cut, forcing closures and reducing supply; as supply is reduced, shortages will arise and metal prices will rise, hence energy prices will support aluminum prices.

The largest swing producer is China, as we said in Part One. Power costs to smelters are already reckoned to be some of the highest in the world and smelters have shown their willingness in recent years to idle and restart capacity as the market demands. But sources polled by MetalMiner say that even if Beijing does push through electricity price increases for smelters, a cost increase will only be applicable for those smelters that buy power from the grid — many don’t have their own captive power deals. Furthermore, the current metal price is well above the costs of production, even with the proposed electricity cost increase, so while margins would be squeezed, aluminum production would still be profitable.

What all this means for the gravity-defying aluminum price is very difficult to say. A recent Reuters survey for the aluminum market asking if the market was expected to be in surplus or deficit this year resulted in an average surplus figure of a 383,000 tons manageable without driving a dramatic price fall. But the forecasts ranged between a deficit of 1.056 million tons and a surplus of 1.558 million tons, underlining just how hard even the experts are finding it to predict how much capacity will be available to meet the predicted 8-9 percent growth in demand.

With a gradually cooling, China (no bad thing as it will ease inflation pressures), a slowly recovering global economy and likely continued high energy costs on the back of unrest and growing demand, we don’t see a lot of downside to the aluminum price for 2011.

–Stuart Burns

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