BMI View: Along with the stellar rate of economic growth, China's metals and mining industry has undergone an appreciable shift over the past few years as the country ' s race for resources continues unabated while commanding an ever increasing share of global resources. Below, we highlight some of the key trends and developments within the different metals and mining sectors, as well as our views on how the industry will shape up in the coming years.
Aluminium: Economics Bent, All About Government Support
Despite the positioning of China at the top end of the aluminium cost curve, we expect the country to remain the world ' s largest alumini um producer and believe it will continue to import ever increasing amount of bauxite in the years ahea d. In 2011, China accounted for 14.9% of global bauxite production and 40.7% of refined aluminium production. While the high costs of production should deter producers from continuing operations and translate into lower bauxite imports, we believe the Chinese government will continue to subsidise loss making plants, either through power subsidies or in the form of ' strategic ' purchases by the State Reserves Bureau. Indeed, loca l governments will be loathe to increase unemployment in time s of slowing economic growth and in the immediate aftermath of the leadership transitio n. It is reported that China ' s top aluminium-producing province of Henan has implemented subsidised electricity for loss making sm elters in June 2012, while the regional government of Yunnan has started a subsidy programme for metal producers, including aluminium. We expect this measure to be replicated in other provinces as many of the coun try ' s smelters are teeter ing on thin profit margins .
|China - Aluminium Production & Bauxite Imports, (kt)|
Coal: Industry Consolidation Gathering Pace
As part of the country ' s 12 th Five-Year Plan (2011-2015), we expect China ' s coal mining industry to undergo continual restructuring over the coming years. The Chinese government plans to consolidate domestic coal production to under 10 companies, with each having a production capacity of 100mntpa (million tonnes per annum) and another 10 enterprises, at 50mntpa by 2015. Despite the scheduled closure of 3,000 small coal mines, we expect China to remain the largest coal producer in the world, having accounted for more than 44% of global output in 2011. In our view, the efficiency gains that come about with bigger, more integrated mining companies will offset small output losses in the long run.
In line with our expectation that the consolidation process will gather momentum in the coming quarters, the China Natio nal Coal Association (CNCA) has recently reported a substantial fall in operating mines. According to official reports, China has sh ut down 628 small coal mines, merged 388 mines, improved technological processes of 622 mines and phased out 97.8mnt (million tonnes) of outdated production facilities in 2012. Furthermore, the proportion of coal output from the eight largest coal enterprises has increased by 3.2%, to just over 30% of the country ' s total annual production.
|China's Outsized Dominance|
|Select Countries - Coal Production (mnt)|
Iron Ore: Dependence On Overseas Supply To Grow
Although the growth in Chinese iron ore production has been impressive over the past few year s, we believe the country wil l remain heavily dependent on higher grade imports from Australia and Brazil to satisfy its domestic needs. According to China Customs General Administration, the average grade of marginal Chinese iron ore has fallen from 43.1% in 2004, to 15% in 2012. This drastic fall in implied grade not only mandates the construction of more technically challenging mines, but most importantly, resulted in soaring production costs for many domestic miners. Given its continued dependence o n foreign imports, we note that China will easily be held hostage to the whims of the largest iron ore players in the industry, including Vale , BHP Billiton and Rio Tinto .
While demand from China has been a catalyst for a directiona l change in iron ore prices, a sharp pullback in production or improper moves by major miners w ould have a decisive impact . For instance, some analysts interpreted BHP Billiton 's decision to purchase 100kt (thousand tonnes) of the raw material on January 16 , 2013, as a way to prevent prices from falling. Although not our core scenario, we do n ot rule out the possibility for mining firms to cull production aggressively in a bid to con trol supply and dictate prices. In an attempt to offset the domination of its traditional players i n the global seaborne market, China Nonferrous Metal Mining Group has recently inked a US$712mn contract to he lp build a steel plant in Iran. In view of the significant overcapacity in China ' s steel sector, w e believe the deal is sparked most likely by the desire to dilute the pricing power of major iron ore miners rather than the aim to secure Iranian steel . Iran has been a long-standing, albeit small volume exporter of iron ore to China , at just 2% of Chinese total ore imports.
|Ore Grade Falls, Cost To Escalate|
|China - Implied Domestic Iron Ore Grade (Fe %)|
Nickel Pig Iron: The Secret To Low-Cost Stainless Steel
We believe the emergence of Nickel Pig Iron (NPI) will allow China to retain its dominanc e in the global steel industry as the country remain s one of the lowest cost producers in the world. Dev eloped as a cheaper alternative to pure nickel , NPI is composed of low grade nickel laterite ore (which constitutes around 73% of global nickel resources) , coking coal and a mixture of gravel and sand aggregate. T he homespun invention of NPI has enabled China to enjoy substantial cost advantage over its counterparts in other regions. To highlight, BHP Billiton has abandoned the Ravensthorp e Nickel project in Australia back in 2009 due to the high processing costs of refined nickel.
Unsurprisingly , NPI has solidified China as the worl d leader in stainless steel production and this is likely to continue going forward. It is reported that China has recently invested between US$6-7bn in the construction of modern electric furnaces for the nickel sector. Subsequently, the more efficient smelters have lowered the break-even costs for the Chinese industry by US$3,000-4,000/tonne, t o reach US$13,000-15,000/tonne. Given that an increasing number of domestic steel makers such as Baoshan Iron & Steel Co have announced plans to lower the cost of raw materials by using NPI, we believe China ' s imports of refined nickel are set to decrease over the coming years. In fact, this has already started to play out as imports of refined nickel posted negative y-o-y growth for the whole of 2012. The threat of NPI will continue to loom large and we do not rule out the possibility that it will usurp all of China ' s demand for refined nickel, posing substantial downside risks to traditional miners such as Norilsk Nickel .
|Refined Nickel Stuck In Negative Territory|
|China - Select Commodity Imports (% chg y-o-y)|
Copper: Voracious Appetite To Drive Production
We remain sanguine on China ' s copper mining industry and expect production to increase at an annual average rate of 6.2% from 2011 levels, to reach 1.81mn t by 2017. Despite being the world ' s second largest copper producer, at 7.8% of global mined output in 2011, China was responsible for 26.2% of global refined copper consumption. In view of the gulf between the country ' s production capabilities and consumption, we believe domestic miners will be incentivised to expand output to cater to growing domestic demand. Although the inadequacy in domestic supplies will continue to drive imports, we highlight that a sizable portion of refined copper imports are being used as collateral for loans in China ' s shadow banking system. Indeed, the copper market has undergone an appreciable shift over the past few years with the metal becoming a hybrid of financial asset and manufacturing input.
|China - Refined Copper Consumption & Mined Production (kt)|