Down, down, deeper and down. Mining executives' nightmare is that they will not cover their marginal costs as commodity prices fall. Lower-cost iron ore supply is perhaps a decade away, and the fear is that China could forever balk at paying up. The status quo in iron ore pricing changed in 2008-09 when BHP Billiton switched to a spot price formula for exports to China. After years of relative stability, the price soared above $190 a tonne. More recently it fell below $90/t but has recovered to about $105/t. Miners have already moderated their capital expenditure. Labour, energy and other costs are rising too.
Producers such as Vale, Rio Tinto and BHP easily cover their costs at current prices. But if iron ore resumes its slide, miners more skewed to the resource - such as Rio and Vale - will worry. Their luck is holding. China still sucks in the stuff, albeit more slowly. And it is happy with the rate: a low price is not in its short-term interests.
That is because, as well as being the world's biggest consumer, China is also a producer. Its myriad small miners, which contend with low-grade deposits, are less efficient than global peers. Spot prices of $90-$100/t in 2008 had half of China's iron ore industry running at a loss, notes Raw Materials Group. Their cost today is between $80-$170/t. For comparison, it costs BHP and Rio between $40/t and $50/t to land ore in China. Chinese ore output could fall from last year's 320m tonnes to 120m-200m in 2020, RMG estimates. If the landing price stays below $120/t, domestic output could fall more rapidly as the production cost of 100m-150m tonnes of Chinese capacity could be above that level. The price could settle at $100-$120/t between 2015 and 2020 as global supply improves. With world steel demand forecast to grow at almost 4 per cent a year to the end of 2015 to nearly 2.3bn tonnes, an extra 375m tonnes will be needed by then.
Infrastructure and permit delays will hamper global miners' chances of meeting that. They must hope that talk of capex cuts supports the ore price even as demand slows.