“Rare earths” — a group of elements from the periodic table that are vital for many high-tech industries — are among the few natural resources that China has in relative abundance. Beijing’s unexpected decision in September 2010 to tighten controls on exports of China’s rare earths, which account for 97% of global supplies, have left the country’s trading partners, especially Japan, in a quandary.
Beijing insists that the newly imposed controls are meant to protect the environment and ensure sustainable use of its resources. Major consuming nations are relying heavily on China as a source of the 17 mineral elements and alloys critical to producing high tech goods such as hybrid cars, wind turbines, guided missiles and iPads. Japan, the biggest user of the materials, is generally reluctant to engage in confrontation with its neighbor and biggest trading partner, but its own manufacturers have been desperate. When the U.S. and EU decided this spring to pursue a complaint against China over its rare earths policies at the WTO, Tokyo was all too willing to join in.
The WTO complaint accuses China of manipulating rare earths prices by keeping them low for domestic use while raising them for exports, in a bid to force foreign companies to move their operations to China. “We want our companies building those products right here in America,” said U.S. President Barack Obama at the White House when announcing the case. “But to do that, American manufacturers need to have access to rare earths materials which China supplies.”
China now runs the risk of seeing its major customers for rare earths turn elsewhere for their supplies, experts say. Its sudden halt of shipments for a few months in 2010 and export price gyrations in 2011 convinced the U.S., Australia and other countries to increase or resume rare earths production that they had abandoned during the years when China was acting as an unbeatably cheap supplier. “It is difficult to tell what China will learn from this experience [the rare earths case at the WTO],” says Edward Gresser, director of the think-tank ProgressiveEconomy, which is affiliated with the GlobalWorks Foundation in Washington, D.C. “China is rather vulnerable with regard to natural resources itself. The weapon it has used against others [natural resource embargos]is one that could be used against China,” says Gresser, who was an adviser to former U.S. trade representative Charlene Barshefsky.
An Unfair Burden?
China has responded to the WTO case by arguing that its policies are necessary to protect the healthy development of the rare earths mining and processing industry and to preserve its own national strategic interests. The Ministry of Commerce said it is prepared to respond to the WTO complaint, insisting Beijing only aims to protect China’s resources and the environment, not to create trade distortions. “Despite huge environment pressures, China has made efforts to maintain a certain level of exports,” said Foreign Ministry spokesman Liu Weimin.
Put another way, China is arguing that it is carrying an unfairly heavy burden in supplying rare earths, by providing 97% of the materials consumed while holding 50% of global reserves. It is “unfair” that the U.S. and other major consuming nations are not urging other countries to supply more rare earths to them, Xiang Songcuo, chief economist at the Agricultural Bank of China, contended in a debate broadcast on March 26 by China Radio International, casting the issue in military-strategic terms. “Many Chinese people complain that rare earths are key elements for producing high-tech military weapons to contain China and reduce the ‘threat’ from China. To produce rare earths has a very harmful effect on the environment and labor conditions. It is only fair for China to put forward restrictions on rare earths exports,” Xiang said. “There is no rationale for the U.S., EU and Japan to complain.”
Despite their name, rare earths are actually not “rare” in the sense of being in short supply. According to the U.S. Geological Survey’s Mineral Summaries in 2012, China has the world’s largest reserves of rare earths materials, estimated at 55 million tons, followed by 13 million tons for the U.S.; 19 million tons in the Commonwealth of Independent States (the former Soviet Union); 3.1 million tons in India and 1.6 million tons in Australia. China produced 130,000 tons of the rare earths used in 2011, out of the world total output of 133,580 tons. The biggest concern is over the supply of dysprosium which is used as a magnet material in hybrid vehicles motors and in magnetic drives for computers. China is the main producer of dysprosium.
Based on U.S. Geological Survey data, the expert view is that there is no shortage of these materials, and known existing reserves will be sufficient for hundreds of years, Gresser says. The materials are also relatively easy to recycle, further aiding with conservation. Moreover, not all Chinese experts believe the status quo represents a threat to China’s strategic interests. Beijing is conflating limiting exports with limiting consumption, says John Gong, an economics professor at the University of International Business and Economics in Beijing. “We may lose the case because the arguments based on conservation of natural resources [e.g., rare earths] and the environment do not justify tightening the export quota. There should be no difference [in price] between domestic users and exports,” Gong said.
In fact, China’s current predicament, if it can be called that, results directly from its earlier policies of seeking to crowd out other producing countries, says William Overholt, senior research fellow at the Ash Center for Democratic Governance and Innovation at Harvard’s Kennedy School. China started rare earths mining only in the 1980s. By the mid-1990s, its production had surpassed that of the U.S. thanks to its cheap labor costs and lax environmental rules — rare earths minerals often are mixed with radioactive elements, so processing them can create low level radioactive wastes, apart from other environmental issues associated with mining and smelting. “The reason China is providing 97% of the supply is that they reduced prices so far as to bankrupt everyone else. And then, they raised their prices sharply. That kind of manipulation created a difficult situation for anybody else who needs the minerals,” he says.
While the impact of China’s recent restrictions on exports is clear, Beijing’s own ability to exert control over rare earths mining and production is less certain, says Scott Kennedy, director of the Research Center for Chinese Politics and Business at Indiana University. As is true for many industries in China, local governments and vested interests have distorted and nullified efforts by the central government to coordinate policies and impose control. “China Inc. ought to stand for ‘China Incoherent.’ China now dominates global rare earths mining, but internal dissension means that Beijing will not be able to exploit this advantage,” noted a research report titled, “Rocky Road for China Inc(coherent),” written by Kennedy for GK Dragonomics, a research firm based in Beijing. Premier Wen Jiabao, a geologist by training, has played a key role in setting rare earths policy, but working-level responsibility is spread among four government agencies: Ministry of Land and Resources, the National Development and Reform Commission, the Ministry of Commerce and the Ministry of Industry and Information Technology.
All the same, Beijing now is better able to impose a common policy on the vast majority of exports with the recent establishment of an industry association including four major producers that control 60% of total output. “For the purposes of the WTO ruling, the important thing is that if the central government wants to coordinate with the four government agencies and major rare earths producers, it can obviously do so,” Overholt says. Despite the difficulties so far in bringing independent miners, processors and traders under control, if the central authorities make rare earths a high priority, “local governments will not play games with this,” Gresser adds.
China started out reducing its rare earths export quota with the aim of gaining control over the industry. In July 2010, it suddenly issued a notice that the total export quota would be reduced by 72% in the second half of 2010 from the same period a year earlier, to 7,976 tons. As a result, the total export quota for 2010 was 30,258 tons, down 40% from 50,145 tons in 2009. China announced in December 2011 that its export quota for 2012 was set at 31,130 tons, raising it slightly under international pressure from the 30,184 quota of 2011.
A Weapon against Japan
Experts are divided over whether China will use control over rare earths as a diplomatic weapon, as it apparently did toward Japan in 2010. In September of that year, China suddenly halted shipments of rare earths without any advance notice to Japan, the U.S. or the EU. Many observers speculate that China’s embargo boycott of rare earths shipments to Japan, which officials never acknowledged formally, was diplomatic fallout from the collision of a Chinese patrol ship and Japanese fishing vessel near disputed islands in the East China Sea. While the embargoes to the U.S. and EU lasted 10 days, the ban on shipments to Japan persisted for more than two months. The message was conveyed obliquely through Chinese Commerce Minster Chen Deming, who asserted that the government had not imposed any restrictions on rare earth shipment to Japan, though he said Chinese companies might have done so on their own because of the sentiment toward Japan.
In late November, the New York Times reported that Chinese regulators had summoned the heads of Chinese rare earths companies to a secret meeting in Beijing and informed them the Chinese government was about to halt all shipments of rare earths to Japan. Any companies that increased shipments to a third country as a way to get around the embargo would lose its export license, the Times reported, citinga person with a detailed knowledge of the meeting, who insisted on anonymity to avoid angering Chinese officials.
China subsequently tightened controls on the rare earths industry, raising export prices in June 2011 and announcing a major consolidation plan for the industry. As a result, cerium peaked at US$150 per kg in August 2011, though it now sells at around US$30 per kg.
It is unclear how Chinese government officials evaluated the tactic of targeting Japan in this way and how they evaluated Japan’s reaction. “But when a country feels it has a source of power, it is more likely to use it at a moment of tension. It would be surprising if it did not happen,” Gresser points out. Konosuke Takegami, a professor at Takushoku University’s Graduate School of Commerce, predicts that China would lean toward using such a strategy if relations deteriorate again due to territorial or other disputes. “China may take a soft stance toward Japan in normal times, but it would take very strong measures [concerning rare earths] when it feels it is urgent to do,” Takegami says.
The WTO Case
Inevitably, China’s maneuvers have put pressure on major rare earths users either to find alternative supplies or to move operations to China. Hitachi Metals, a major magnet maker, is considering moving production of its neodymium magnets to China and the U.S., where miners are preparing to restart production after a 10-year hiatus. Showa Denko KK, a top Japanese rare earths alloy producer, announced last year that it would boost output at its Chinese joint venture by 50% to 3,000 tons a year, a move which reportedly angered the Japan trade ministry. Shin-Etsu Chemical said in January that it would build a rare earths recycling plant in Vietnam, in lieu of upgrading its domestic plants
Who will win the WTO case? The three plaintiffs waited until recently to file the complaint after seeing how another raw materials case against China fared. In January, a World Trade Organization panel ruled against China’s policy of limiting the export of raw materials used in the steel and chemicals industry. That decision may have provided the U.S. and Europe with ammunition in the rare earths case. In the earlier decision, the WTO panel confirmed that China’s export duties and export quotas on raw materials violated global trade rules and had to be changed. The EU and Mexico had joined the U.S. in the case, which was filed in 2009, arguing that China’s policies on exports of several raw materials such as bauxite, magnesium, manganese, silicon carbide, silicon metal and zinc gave Chinese companies an unfair advantage because they are sold at low prices in the domestic market but at higher prices for export. “They filed previous petitions on other raw materials and they wanted to see how they played out. When that case went through all of appeals and came to a clear resolution, they felt that they had precedent to go forward,” says Patrick Chovanec, a professor of economics and management at Tsinghua University in Beijing.
Chovanec believes U.S. trade officials may have wanted a little bit of lead time to see how China would react to that first WTO ruling and whether it might affect Chinese policy on rare earths. When there was no sign it was having an impact, the office of the U.S. Trade Representative (USTR) decided to proceed, he adds. “Having won the raw materials case, now there is some legal history and some basis for the USTR people to judge whether they might win if they file a case dealing with rare earths,” says Gresser. “If you file a case with no real legal history on such a high priority issue, you have to be careful. If you lose, then there will be a legal precedent, which will make it difficult to win any such cases.”
As the WTO mulls the merits of the case, the dispute is altering the rare earths industry landscape. The U.S., Australia and other countries have restarted rare earths output or increased production, while major importers like Japan have begun to diversify their supply chains. Colorado-based Molycorp expects output at the mine to reach its Phase 1 annual rate of 19,050 tons by the end of the third quarter. A second phase plant is expected to add another 20,000 tons of capacity by 2013. Lynas of Australia expects its first rare earths output by late 2012 with capacity initially at 11,000 tons a year.
The U.S. Department of Energy forecasts in a research report, titled “Critical Materials Strategy,” that as output from mines coming online adds up, total world annual production of rare earths will rise to 200,000 tons by 2015, up from the current 133,580 tons. The U.S., Australia, Vietnam, India, Russia, Kazakhstan and South Africa all have further production potential. Since supply disruptions began in 2010, Japan’s dependence on China for rare earths has fallen to 80% from over 90% as it has diversified its supply base to include countries like Malaysia, India and Mongolia.
Even while appealing to the WTO, most countries will continue to seek alternatives to China, and not just because of potential future troubles with its export policies. Market dynamics are likely to further erode China’s quasi-monopoly. “China may have a dominant position based upon price, but when its reliability came into question, people started looking for other sources, even those that cost more. The search has been going on for more than a year now and some of the mines are coming online,” says Chovanec. “Is the WTO petition going to change things? Not as much as market dynamics.The market dynamics are already changing.”
Among other reasons, China is more vulnerable in terms of access to natural resources than the U.S. China is one of the world’s biggest importers of crude oil, iron ore and other natural resources, notes Gresser. Under the best-case scenario, consultations over the WTO case may help China and its trading partners resolve some of these tensions over rare earths resources and the technologies that use them. A less optimistic scenario could involve escalating frictions over those and other resources — an undesirable outcome for all concerned. “Ultimately, China is quite at risk of natural resources embargoes, largely due to its massive demand for energy,” Gresser notes.