Australia’s success is based on favourable conditions including our production efficiency,
mineral purity, geography and market dominance, plus the nature of the iron ore commodity
cycle. And our exporters benefit from the fact there is no substitute in the short term to fuel
China’s steel-intensive development plans whether at home for their post-COVID development
or abroad for their coveted ‘Belt and Road’ projects.
China knows that with no Plan B the only way to gain the upper hand is to take a long-term
view. It learned this costly lesson in 2010 when the China Iron and Steel Association (CISA)
attempted to enforce an iron ore boycott – it failed miserably and cost its steel mills dearly.
Before then, the price of iron ore was decided through one-on-one negotiations between major
buyers and sellers to set a benchmark price for long-term contracts. With no benchmark price
agreed during the tense 2008 round of negotiations, CISA was appointed as chief negotiator for
Chinese steel mills.
With a crash in steel demand following the GFC, Nippon Steel (Japan) and Hamersley agreed
to a 33 per cent price reduction in May 2009. But CISA pushed further for a 60 per cent price
decrease stating, “These prices do not reflect a mutually beneficial, win-win relationship for steel
makers and iron ore suppliers. CISA therefore cannot accept these prices and will not follow them … In the case of short supply of iron ore, Chinese steel producers would rather cut output.”
On March 30, 2010, a day after four members of Rio Tinto – Stern Hu and his three colleagues were each given between 7 and 14 years in prison for bribery and stealing business secrets, the benchmark system was abandoned.
BHP and Vale agreed to deals to settle prices quarterly
based on the spot market price. The initial quarterly price was around $US114.51/t, almost double the 2008 benchmark price of $US60.80/t.
The main reason for the price increase was China’s surging steel demand following the government’s $US586 billion stimulus to avoid stagnation in the wake of the GFC. But the CISA refused to accept the new price system and attempted to enforce a further boycott of Australian and Brazilian iron ore to protest the move to the spot market pricing system. The head of CISA stated, “CISA calls on the steel enterprises and iron ore traders not to buy iron ore from … BHP, Rio Tinto and Vale, for the coming two months.”
But within four weeks Baosteel — a centrally administered state-owned enterprise — had signed
up to the spot pricing system. Boasteel’s commercial and development imperatives were
stronger than the short-term chest beating behind CISA’s strategy.
The fragmentation of China’s steel industry was also a significant barrier to monitoring industry-
wide boycotts, especially when there was no way to track each individual import consignment.
CISA’s intervention was a costly blunder for its steel mills.
The change in the way freight was settled under the new price mechanism shifted around US$288.3 million per month in freight rents from Chinese importers to Australian exporters over the 21 months following the change—equivalent to 26.2 per cent of China’s steel industry profits during the period.
The history of the iron ore market is shaped by failed government interventions – some
calculated, some less so. What most have in common is they were aimed at gaining short-term
rents without considering how a competitive market would adjust in the long run.
But there are exceptions, take Japan’s move to reduce dependence on Australian exports in the 1970s.
Then-Australian prime minister Gough Whitlam described the outcome of the 1960s minerals and
energy investment boom as “the great minerals rip-off” exemplified by Hamersley paying “a
miserable 0.2 per cent tax in 1966 to 1973” (Australia’s private company tax rate in 1966 was
27.5 per cent).
In retaliation to the bum deal, in 1973, the Whitlam government implemented a price floor for
iron ore. Under the new price floor system, ministerial approval was required for exports on an annual basis and approval would only be given if export prices satisfied what the Department of Minerals and Energy considered the “full world market price”.
Japan threatened to redirect its purchases to other iron ore regions like India, Peru and Angola. But the threats were empty.
By 1973, an Australian iron ore supply boycott would have reduced Japan’s short-term ability to
produce steel. And unlike CISA’s threats almost four decades later, Australian exporters had no
way to overturn or circumvent the government enforced price floor, which ensured the export
boycott was a credible threat. The intervention forced Japan’s negotiators to agree to price increases—the price more than doubled from $US6.62/t in 1973 to $US14.57/t by 1976.
However behind-the-scenes, the wheels of the market turned and Australia was about to learn a
harsh lesson on long-run market contestability.
Japan was already anxious about iron ore supply security before Australia’s price floor
intervention, with steel production growing at an average of 17.8 per cent from 1966 to 1970. Whitlam’s price intervention catalysed Japanese investment consortia to secure supply by
taking equity shares in iron ore development projects rather than just securing supply through
long-term contracts. Between 1971 and 1980, Japanese investors entered into 10 joint ventures
(four in Australia and six in Brazil).
By reducing their dependence on Australian supply, the Japanese buyers limited opportunities
for the Australian government to intervene in negotiations to force price increases. The ability of Brazilian exporters to compete in both the European and Japanese markets effectively linked the global market. This also gave Japanese buyers a genuine choice that allowed them to divert demand to Brazil over the short run and reduce the ability of the Australian government to intervene successfully in market outcomes.
Brazil’s rich iron ore deposits would have been developed eventually. But Australia’s moves
made Japan ever more aware of the dangers of over-dependence on a single, dominant
producer for the strategic commodity. And this scenario may help us understand China’s next
When Whitlam implemented the price floor, Japan relied on Australia for around 48 per cent of
its imports. For comparison, in 2019, Australian accounted for 62 per cent of China’s iron ore
Increasing Brazilian imports and maximising the use of scrap to produce steel are relatively
predictable parts of China’s strategy to substitute supply away from Australian imports over the
medium term. Africa is the wildcard.
In 2013, based on the reporting of 17 mines, West and Central African iron ore production had
the potential to add 481 metric tonne per annum (mt/a) to world iron ore export capacity by 2018. In 2011, RBC Capital Markets forecast that 475–575 mt/a of iron ore export capacity will become available in Africa by 2016 (based on analysis of 32 mines).
The timing of those forecasts was wrong but the ore is still there. And with the expansion of
Brazilian exports and the use of scrap, there’s enough iron ore in Africa to reduce Australia’s
status as the global export leader.
Iron-ore rich countries in West and Central Africa have proven their risk assessors right time
and again. Unstable prices, erratic governments and some mind-boggling logistical challenges
have left projects undeveloped for decades. But a new reality is that Chinese investors have been cutting their teeth in places like Liberia and Guinea for more than a decade, and are better equipped than ever to negotiate the complexity of working in such volatile environments.
Take Guinea’s infamous Simandou project, for example. The development of the 2.25 billion
tonnes of proven and probable high-grade iron ore has been the stuff of spy novels for more
than a decade. In 2010, the Simandou project, dubbed the “Pilbara Killer”, was forecast to be
producing 70 million tonnes a year by 2015. The current timeline is 80 million tonnes a year by
While the 2015 deadlines were not achieved, Chinese companies including the state-owned
Chinaclo have substantial interest in the project. China’s largest steel maker Baowu Steel
Group, is reportedly mobilising its fellow Chinese steel mills, and financial institutions including a
sovereign wealth fund, alongside key infrastructure builders to develop the long-delayed project.
Baowu Group is the world’s largest steel manufacturer. Its chairman Derong Chen invited other
steel mill executives to jointly develop a large overseas project at China Steel Association
conference early this year. Baowu Group wants to raise $US6 billion from banks (35%), steel
mills (50%), and infrastructure builders (15%) to develop the project.
However, it seems Chen is struggling to build consensus amongst potential interested parties.
Financial institutions have different priorities from the steel mills. Banks want price levels to
remain high while steel makers want prices to drop. Perhaps most crucially, the Chinese
government has yet to make up its minds regarding the project.
The powerful National Development and Reform Commission, the key state economic planning
agency has yet to make a call on the project. At the moment, only mid-level bureaucrats are
involved. The ambivalence of the Commission is partly to do with a much larger question about
whether the country should continue to support its investment heavy model of development.
But the worsening relationship between Canberra and Beijing is a fresh complication. With
President Xi Jinping’s declared policy of reducing foreign dependency and the potential for
Beijing to mark Australia as a hostile supplier, could we see the stalemate break regarding
Wubao Group’s proposal?
Australia has prospered based on the Chinese appetite for our rocks and in today’s fraught
geopolitical standoff both China and Australia are talking about diversification.
For the health of our iron ore exports, over the longer term, Australia will want to see countries
like Thailand and Vietnam leading a new surge of demand in Southeast Asia. If they can raise
demand for steel to the levels seen in high-income countries, together with the pace at which
manufacturing expands in services-oriented economies like Indonesia, then Australian exporters
could be enjoying high prices and strong demand for many decades to come.
Such a favourable scenario also implies that Chinese ambitions to build alternative production
sites and supply chains continue to face obstacles. Securing strategic trading relationships is
integral to President Xi’s model of Chinese development and his advisors appreciate that
Australia’s role in the global iron ore market cannot be ignored.
Yet if China is able to translate its ability to build fast trains and skyscrapers to the successful
development of iron ore projects in faraway places then Australia may face a reality check
sooner rather than later. The boycott would not need a formal announcement but it would
require China to develop production in Africa, at scale and with efficiency, that has so far eluded
everyone who has tried.
Dr Luke Hurst and Peter Cai are Partners at Lydekker — a boutique Asia strategy and market