EDITORIAL & OPINION — Production cuts benefit copper market — Hope for base metals

It has been the received wisdom in the copper market that the number and size of the new projects that are coming on stream over the next decade will mean a massive glut of copper. If the price of copper is going to recover, mines will have to go out of business or new projects will have to be delayed.

Now one pair of shoes, at least, has dropped. Late in June, BHP announced it was closing its giant San Manuel complex, its Pinto Valley mine, mill and SX-EW plant, and its Robinson mine. Within a week, Phelps Dodge announced production cuts at its U.S. operations as well, scheduling a temporary closure of its Hidalgo smelter and one mill at Morenci, and a 50% cut in production from its El Paso refinery.

The copper price responded by climbing about 15%, hitting US74 cents a pound after PD’s announcement. The joyous noise in the market (though it no doubt grates on the ears of several thousand miners and smelter workers) indicates that copper producers may finally have grimaced and accepted the pain of production cuts.

Economic realism is a good thing, especially in commodity markets where large producers, often state-owned, sometimes try to cushion the effect of market turndowns by pushing production higher and prices even lower. Still, we can’t say for certain that the temporary closures at Hidalgo, Morenci and El Paso, or the apparent breakdown in talks to save Highland Valley, will be enough to convince the copper market that supply is coming down to meet demand.

If the present cuts indeed prove sufficient, we can be happy that major underground producers such as the Sudbury mines, Kidd Creek, Flin Flon and Matagami are still hanging tough. Hard-rock underground mines, whatever others may say, have relatively resilient economics in comparison to the big open pits, especially when zinc or nickel, or the precious metals, can give copper a helping hand.

Luckily, too, the copper price’s skid might now have been halted before it kills Voisey’s Bay; that, in any event, is a job better left to the Newfoundland government.

As well, the production cuts have forced the issue with end-users, many of whom may have been waiting for the price to fall further before locking in low prices for their feedstock. A price spike will bring those buyers back into the market as they scramble to make purchases before the price rises further.

Tighter supply is only one side of the equation, though. Demand will have to improve before any rally in the price can be sustained, and a short-term squeeze in supply is not enough to bring back a reliable market in copper.

The hinge is Asia: if the industrializing countries of the Pacific Rim emerge from recession, reliable demand may be on the way. Studies have shown that, per unit of economic growth, the industrializing economies consumed about twice as much metal as the mature Western economies. The “tiger economies,” currently still recuperating from feline distemper, have to be ready to spring before the copper industry will benefit.

There are encouraging signs: the respected International Bank Credit Analyst is predicting a gradual return to global economic expansion and sees the possibility of a slow cyclic increase in demand for commodities generally. But equally, U.S. equity markets are overheated, the U.S. dollar is overvalued, and Japan’s recovery has been tentative and fired in large part by the bellows of the Bank of Japan’s easy-money policies. These are chilling shadows of the global conditions that were the backdrop for the 1997 crisis in the developing Asian economies, which will need healthy U.S. and Japanese markets for their exports.

Over the next six months or so, we are likely to see whether the global economy will pick up steam, and whether emerging Asia will be a stoker or a passenger. The key may be to see whether the copper stockpiles now held in London Metal Exchange and Comex warehouses start to fall.

If they do, then we will likely see recovery in the copper market, and producers will be able to breathe easier. If they do not, we should brace ourselves for more production cuts, because producers may find there is little point in losing money in the copper business.