FOCUS:Iron Ore Price Hike Imminent As China Eases Stand
By Glenys Sim
Of DOW JONES NEWSWIRES
SINGAPORE (Dow Jones)--The long drawn iron ore term contract negotiations may soon conclude and will very likely result in another round of price increases as China appears to be retreating from its earlier opposition to any increase this year, analysts said Thursday.
After three rounds of talks failed to resolve the deadlock, China's Shanghai Baosteel Group Corp. (600019.SH), representing the country's steel makers, will hold the fourth-round next week, the state-run Xinhua news agency reported Wednesday.
More significantly, the Chinese government will stay away from these negotiations and let the markets decide the price, Xinhua reported, indicating some increase in prices may be necessary for any timely decision on the term contracts.
"The Chinese government has expressed its concern, but will not intervene in the negotiations," the Xinhua report said, quoting a source familiar with the talks. "The price details will still be negotiated by the industry alone."
Baosteel is negotiating with Australia's Rio Tinto Group (RIO.AU) and BHP Billiton Ltd. (BHP) as well as Brazil's Companhia Vale do Rio Doc (RIO). The world's three largest producers together account for about 70% of global iron ore export sales.
Market observers expect 2006-07 iron ore prices to rise by 10%-20% over 2005-06 prices, which had already seen a hefty 71.5% rise from 2004-05 levels. New one-year term contracts are due for renewal from April 1.
After taking a tough stand during the previous three rounds by banning smaller steel mills from directly negotiating with suppliers, the Chinese government seems to have slowly come round to the idea of higher prices, given the ongoing tightness in global supply of iron ore and the country's huge appetite for steel, analysts said.
"In terms of being able to dictate prices, iron ore producers will continue to have pricing power until supply moves into a surplus position, which is unlikely in the short term," said National Australia Bank mineral economist Gerard Burg.
Shares of BHP Billiton and Rio Tinto were both higher by nearly 2% in early Australian trading Thursday as market participants factor in the impact of a price rise. "A few weeks ago, people were saying they would be lucky to get an increase, and now they are obviously going to get (a) 15%-20% (raise)," an institutional dealer in Sydney said.
Left With Little Choice On Raw Materials
Market participants say China's easing stance is not surprising, given its huge requirement for the raw material, used to produce steel.
In a speech at an industry gathering Wednesday, Sam Walsh, chief executive of Rio Tinto's iron ore division said he sees continuing "strong" demand for iron ore from China for many years to come.
China imported 51.47 million metric tons of iron ore during the January-February period, up 31.9% on year, according to latest Customs data.
With such strong demand, mineral and metal prices will remain above their long term trend for some time to come, Walsh said. "It is far, far, too early to suggest that the current commodities cycle has peaked."
Not surprisingly, far from being an asset that will help it dictate prices, China's huge dependence on imported iron ore is still a liability that makes the country vulnerable to the pressures of the market.
"China has built up massive capacity for processing commodities. The sunk cost inside China has made it more vulnerable to price squeezing pressure in the commodity market," Morgan Stanley analyst Andy Xie said in a recent report.
According to the National Development and Reform Commission, or NDRC, China had an installed capacity to produce 470 million tons steel in 2005, with another 70 million tons in the pipeline, although utilization was much lower.
Actual steel production is expected to hit 390 million tons this year, up 10%-15% from 2005.
"If the negotiation drags on or even lead to trade disputes between China and iron ore exporting countries, this could result in a shortage of iron ore in China and slow steel production growth, resulting in higher steel prices," said JP Morgan analyst Feng Zhang.
To Influence Future Govt. Role In Price Talks
If the settlement indeed leads to higher prices, it may have a lasting impact on any government role in future price negotiations for scarce raw materials which China buys in large quantities.
Many fear that if China succeeds in avoiding a price rise this time, it could result in the government taking a more aggressive role in future negotiations.
Japanese steel makers have traditionally led annual iron price negotiations in the past, but China, which imports nearly half of world's iron ore output, decided to muscle in this year, following the sharp rise in prices last year.
"China is playing hardball... by limiting what importers can pay. This is the first step by China to limit commodity prices. We believe China will likely develop a comprehensive strategy to deal with commodity prices," Morgan Stanley's Andy Xie said.
But indicating the government's loosing grip on negotiations, the China Securities Journal Tuesday said iron ore prices could rise 5% to 10% this year. China's state-controlled media had earlier mostly echoed steel makers' calls for a reduction in prices.
The report followed comments by a top Chinese economic planner that the government would not interfere in ongoing negotiations.
"The government will not interfere. This price will be decided on the basis of market and enterprise negotiations," Ma Kai, head of NDRC, the country's top economic planner, said Friday.
Ma's remarks came two days after NDRC and the Ministry of Commerce jointly issued a statement saying Chinese steel and iron enterprises are facing many problems, making it difficult for them to accept another price increase.
But market participants say it is hard for the Chinese government to intervene because of its World Trade Organization obligations.
"Factors that make it hard for China's government to intervene include WTO obligations and wanting to avoid trade friction with Brazil and Australia," said Australia-based metals consultant Michael Komesaroff of Urandaline Investments.