How the India-China trade summit could rock iron ore

How the India-China trade summit could rock iron oreA decade ago the emerging Karnataka-Goa trade with China laid the foundation for today's market in iron ore.

At the time ore went for less than $20 a tonne with the annual price – known as 'the benchmark' – set during secret negotiations between Brazilian and Australian miners and Japanese steelmakers.

But with steel output growing by a staggering 23% per year, Chinese buyers desperate for ore were forced to chase tonnage on the sidelines of the global trade.

India's swing suppliers quickly stepped into the breach.

From 42mtpa in 2003 India's exports peaked at 120mtpa six years later. Only to collapse amid a government corruption and environmental crackdown a year later, turning India into a net importer.

The demise of Indian supply made China increasingly beholden to the big three – Vale, Rio Tinto and BHP Billiton – a relationship that's testy at the best of times.

China already consumes more than two-thirds of the 1.2 billion seaborne trade, a proportion that continues to rise, and forges almost as much steel as the rest of the word combined.

And iron ore's impact on the country's wider economy should not be underestimated. China’s trade surplus hit another record high in August, registering $49.8 billion. The numbers were way ahead of expectations and are being attributed in large part to much cheaper iron ore.

Chinese President Xi Jinping is visiting India next week for high-level talks with Prime Minister Narendra Modi, an economic reformer elected to lead the country's first majority government in decades.

Indian industry is expecting big things from the summit to close its over $30bn trade deficit and after Beijing characterized the two countries as "natural partners" following Modi's sweeping victory.

In an intriguing piece for Livemint called India’s trump card in talks with China, Kai Xue, a corporate lawyer in Beijing advising on international mining projects, floats the idea that the India-China ore trade could be revived as part of a broader economic relationship between the two countries.

The Modi government can present to China a tantalizing offer of tens of billions of dollars in stimulus to the Chinese economy in the form of lower iron ore prices by lifting the Supreme Court caps, removing the high export tariff, and accelerating state-level approvals for revived mines.

Iron ore is too strategic for China to refuse a good bargain. It can be part of a package deal for India to resolve contentious trade issues in its favour, compelling China to open the market to added value Indian exports in pharmaceuticals, IT services, and even auto components.

Besides engaging with China, there are numerous benefits for the domestic economy in restoring production. Exporting iron ore at 2010 levels supplies more than enough for domestic mills for several years to come. It will haul in $10 billion in export earnings, reducing stress on the current account deficit. That hardens the Indian rupee helping India prepare for the depreciation risks posed by the Iraqi civil war which could spike the price of oil and lead to rampant food inflation.

Also the royalty levied on iron ore mining was raised in August from 10% to 15%, so increased mining will further help close intractable government budget deficits.

The benchmark CFR import price of 62% iron ore fines at China's Tianjin was flat at $83.60 a tonne on Monday, levels last seen five years ago according to data provided by SteelIndex.

The more than 33% slump in the price this year is blamed on a surge in supply from Brazil and particularly Australia where an additional 170mt tonnes will be mined this year.

If another 100mt-plus from India should hit the market in coming years, the price of the commodity and smaller producers which don't enjoy the fat margins of the majors, could take another beating.

How the India-China trade summit could rock iron ore

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Image: Thierry Ehrmann