In January 2003, copper traded on the London Metal Exchange at $0.70 per pound. Over the past two and a half years, the price has [more than] doubled. In August, the average price of copper reached $1.72 per pound on the LME, a record high for any month. Latin America’s mining industry is extremely happy about these unprecedented numbers, which allow copper-producing countries to partially make up for the higher prices they now pay for petroleum.
According to the government of Chile, the world’s largest producer of copper (with 25% of total production), the copper industry will earn about $6.1 billion for the country this year — 25% of the country’s entire fiscal revenues. Higher copper prices also have an impact on other nations, including Peru – the world’s third-largest producer – and, to a lesser extent, Mexico, Brazil and Argentina.
China Triggers Rising Prices
Experts attribute the upward trend to limited supplies of the metal over the last three years and to growth in global demand, especially from China – which has become one of the world’s largest consumers of raw materials. China’s GDP has grown at an 8% annual rate over the last five years, fueling major investments in infrastructure and construction that stimulated demand for such goods as cars, computers, mobile phones, TVs and audio equipment, and for a wide range of housing products. All of these consumer goods use copper as a raw material. The average one-family house in the U.S. contains 439 pounds of copper, including electrical wiring, tubing and appliances. The average car includes about 50 pounds of copper. The average air conditioner uses 52 pounds of copper, and each dishwasher and refrigerator contains about five pounds of copper.
In 2002, China overshot the United States to become the world’s largest copper consumer. Demand for copper in China has been growing at a double-digit pace ever since the beginning of this century, and will reach some four billion metric tons in 2006. That is about 23% of the total 17.8 billion tons of global demand projected for next year. In addition, the Chinese government’s decision to replace its fixed-exchange system with a floating rate has had a positive impact on markets, according to a report by the Chilean Copper Commission (COCHILCO). In addition, China’s increased buying power also benefits the global economy and raises demand for commodities in the medium and long term.
“We are witnessing a major change in the copper market,” says Juan Carlos Guajardo, an analyst at COCHILCO. “The ‘red metal’ has emerged from a long period of depression, characterized by historically low prices, into the current period of very high prices.” Another key factor has been the economic recovery of Japan and the United States. “All these elements have generated a much higher level of demand, which could not be met by the supply of copper.” The prolonged period of low prices, which lasted from 1997 until 2003, made it impossible for supply to match up with demand. In commodity markets – especially in the mining sector – it usually takes a long time for levels of investment and production to feel the impact of prices. “Even now, the change produced in the market, from a negative period into a period of growing demand, has yet to generate an adequate response on the part of supply,” Guajardo notes.
According to a recent report by Pablo Correa, an analyst at Santander Investment in Santiago, Chile, the reduction in copper inventories resulted from several factors, including the stronger positions taken by investment funds in commodities markets because of the depreciation of the dollar and some reductions in supply during the first half of the year. Until now, says Guajardo, there has been a very severe scarcity in the market. “Current levels of inventory are among the lowest in history. Consumption today is much higher than during earlier periods when inventories were low.” According to Santander Investment, inventories totaled 74,634 metric tons at the end of the second quarter of 2005, compared with 105,952 metric tons at the end of the first quarter. That’s a 29.5% drop.
China’s impact is so big that it offsets all of the net importers of copper who have cut their consumption levels this year. According to Correa’s report, global demand for copper declined by 4.4% in the first half of this year. The United States, Japan and Germany led the way, reducing their consumption of copper by more than 10%. Nevertheless, Correa adds, the recovery of the global economy will mean 3.3% growth in overall global demand, which will reach 17.2 billion tons.
India Looms on the Horizon
Guajardo advises people to pay careful attention to the weeks ahead to get an idea of how prices will move over the remainder of this year. Usually, demand for copper drops when it is summertime in the Northern Hemisphere; inventories begin to rise. “If inventory levels keep rising, we are probably going to enter a period when there is some moderation in prices. But if inventories start to go down again or they stabilize, it means that the higher levels of supply that people were expecting are not going to appear with the required strength. If that happens, we should expect even higher prices.” COCHILCO forecasts the average price of copper over the 2005 fiscal year will reach a trading range of between $1.44 and $1.48 per pound.
The consensus view holds that the imbalance between supply and demand will continue to ease in 2006, as larger inventories become available and there is “some decline in demand,” as Guajardo forecasts. COCHILCO anticipates some adjustment of prices in 2006 until levels achieve an average range of between $1.18 and $1.22 per pound. For its part, Santander Investment puts the price of copper next year at $1.20. All these forecasts have been adjusted upward from previous estimates because of a surprising growth in demand. A report by Chile’s Central Bank also anticipates that international prices will trend lower for copper as 2006 approaches. This will be accompanied by “expectations of greater capacity for copper smelting and refining in coming quarters, including new operations that remove the main bottleneck in the market; in addition, there will be new mines that start operating at the start of 2007.”
All in all, this does not seem to mean a long-term change in market trends. There are no scientific studies about the characteristics and patterns of copper market cycles that might help forecast such trends. However, people sense that India will play a major role. India is another Asian giant whose solid economic growth is being felt in global markets for raw materials. “We have a favorable view of what can happen in India,” notes Guajardo. “It remains to be seen if demand looks like the demand from China. Nevertheless, we are anticipating that the phenomenon will be huge. The explosion of [demand from] India could mean a continuation in the growth that China generated for the copper market and for raw materials in general.”
Indian demand plays no major role in global markets; it is only 1.9%. However, a study by COCHILOCO shows that the country has major plans to develop its energy and construction sectors, which will mean growth in demand for copper. For example, COCHILCO notes that India’s projected investments to expand its supply of drinking water will cost $13.1 billion through 2007. A large part of that budget will spent on building pipelines. When it comes to the supply of electricity, a plan calls for the total electrification of India by 2012. It will require 167,232 kilometers of electrical wiring, and copper is one of its most important raw materials.
The Bonanza Lures Investors
COCHILCO forecasts that Latin America, as a whole, will be producing 18.8 billion metric tons of copper a year by 2010, or 57% of global production. Chile will be the leading producer worldwide, with 6.5 billion metric tons. Peru will be next, with 2.418 billion tons. Mexico will be producing 624 million metric tons. Following up those countries will be Brazil with 606 million tons and Argentina with 484 million tons.
A large part of the increased supply will result from new investments in copper and gold mining projects in Chile, Peru and Brazil. Overall spending will rise to $20 billion between 2005 and 2010, according to COCHILCO. CODELCO, which is owned by the Chilean government, is the largest copper producer in the world, and it will lead the way in investments during this five-year period, spending a total of $6.973 billion. Other companies in Chile will spend some $4.654 billion, and the remaining $3.593 billion will come from investments in gold mining.
Julián Ortiz, a professor of mining engineering at the University of Chile, uses the word ‘boom’ to describe the investments multinational firms are making in Peru’s mining sector. Peru’s potential as a copper producer is similar to Chile’s, but Ortiz warns that the exploitation of Peru’s copper reserves has been undermined by the country’s chronic political instability and high level of political risk. Nevertheless, Ortiz emphasizes, “If you’re talking about the resource itself, the conditions are good enough in Peru for companies to assume all sorts of risks.” A World Bank study distributed recently in Lima supports that contention. It concludes that expectations for developing Peru’s mining resources are limited largely by “social conflicts spawned by environmental damage, on the one hand, and by limitations in the use and distribution of revenues that are left behind, on the other.”
According to a report, “Wealth and Sustainability: The Social and Environmental Dimension of Mining in Peru,” produced by that country’s Ministry of Energy and Mines (MEM), at least 15 mining regions in Peru have been affected by social conflict. Adding fuel to the fire is a widespread lack of confidence, and the Ministry’s inability to play a more active role. On top of all that, communities nearby the mining operations have unrealistic expectations that are often created by the companies themselves.
Ortiz believes that northern Argentina is much better positioned to become a major mining region, even if operations there are less mature. Ortiz says Argentina will gradually gain ground on Chile, and become one of the most active regions in South America. “I believe that Argentina will eventually have what it takes to become Chile’s strongest competitor in Latin America,” he says. Because of the hard times Argentina has undergone in the past, mining companies are still hesitant to invest in that country. However, Ortiz notes, “over the next 10 years, it is quite possible that major projects will be launched” in Argentina.
