By Ruizhao Chen
Reuters’ reported that China has lost a dispute on Mar 26th at the World Trade Organization over limits on rare earth and metals exports, which brought the topic of international rare earth trade back on table after China announced strict rare earth export quota in 2010. The United States, together with EU and Japan, complained that rare earth export limits gave Chinese companies unfair competitive edge, as export quota pushed up the world price of rare earth and gave companies out of China who make products like hybrid car batteries, wind turbines and energy-efficient lighting heavy raw material cost pressure. China companies’ product can therefore have artificially low prices due to the low domestic raw earth material prices.
Chinese authority, however argues that its regulatory measures are “perfectly consistent with the objective of sustainable development promoted by the WTO”. The purpose setting rare earth export quotas is to “curtail pollution and preserve resources”.
This case brings us back the widely discussed but still hot topic: is this an economic issue, or a political one? From my point of view, I will say it is both. The rare earth trade problem between China and the rest of the world is a conflict contains both economic and political issues.
Picture: Rare Earth Oxides
Rare earth refers to seventeen chemical elements that are widely used in multiply industries including semiconductor industry and defense industry. Even though the absolute amount of rare earth elements demand from industries is very small comparing to steel and aluminum, the importance of rare earth is almost irreplaceable. Rare earth elements can be found in the batteries of hybrid cars, chips with in out smart phone and computers, wind turbines in jet engines, even in the navigation components of nuclear missiles. What’s more important is that there are no substitutes for rare earth elements, at least none under current technology level. Shortage of rare earth can be fatal for these industries.
China and the US are the two countries which own most of the world’s rare earth mines. Before mid-1980s, Mountain Pass Mine in California dominated the rare earth market until China stepped in. From then on China took over 90% of world’s rare earth supply until 2010 when strict export quotas turned out. People hold different view on why China can take over America to be the top rare earth supplier in the earth. Someone says that is because developed countries have long term concerns and kept their natural resources underground, importing cheap materials from China who need money badly to build their country. That opinion to some degree makes sense. However, I think the most important reason is US has no competitiveness advantages on exploiting rare earth against China. Rare earth exploiting and processing involve tons of different chemicals and create server environmental issue, which is costly to deal with. As a situation faced by most of the developing countries, China treated economic development as priority during that period and tolerated some environmental issue. Therefore, Chinese rare earth companies had lower cost over their American competitors since there were not much environmental concerns in China comparing to the US. Labor cost is another reason, as Chinese workers required less than Americans. What’s more is that rare earth is a commodity, which means that American producers had no way to beat Chinese with quality. Therefore, personally I think competition is the main reason that pushes Americans out of rare earth world market.
Graph: Global Production of Rare Earth Oxides 1950-2000
It was late 2000s when China decided to set limits on rare earth exports. Theoretically, a country won’t what to limit its export. However, for rare earth thing is different from what the book says. First, rare earth is really “rare” and unreproducible. Seeing that lots of countries were buying rare earth from China and stored it instead of using it immediately, China think it should do something to protect its own natural resources. Second, exploiting rare earth ore caused serious pollution problems in China. Different from rare earth exploiting markets in most of other countries that monopolized by one or several big companies, China didn’t own its industrial leader in rare earth market until 2010s. Small mine field all around the country made supervision extremely hard. Third, China’s domestic demand of rare earth is growing faster recently following by technology development. Most labor intensive industries, such as garment industry, have little need of rare earth. However as China starts to product high-tech products, rare earth becomes critical to domestic industries. If China wants to protect its infant high-tech industries, providing them lower-than-world-price rare earth would be a choice.
So what did China do and how the world reacted to it? China announced it going to narrow the quota of rare export in 2010 and stop issuing exploiting permit to new rare earth mine after Jun 2011. Actually, the quota had been enforced long before that while 2010 is only the year the country emphasized it hard and narrow the limits. The world market gave a quick and large respond. As we can see from Exhibit 1, before 2010 the average price of China’s rare export stays at low level while export amount is high and fluctuates quarterly. At the end of each year export amount will climb high and push down the price. However since early 2010 the amount drops very significant and the quarter fluctuation disappears while the price charged by China starts to climb. In the mid-2011, the price starts to climb even faster and hit the peak in late 2011. The export drops to a new historical level in 2012 and remains that level till now. At the same time, the price charged by China stays at the highest level till mid-2012 and then fall quickly to a level which is slightly higher than the level before 2010.
From the side of natural resources protection, China did make a good job since net export of rare earth has come to a low level. However, from the point of view of trade, China didn’t make any money by setting up a quota. Exhibition 2 shows rare earth export measured in USD and Tons. China did make a lot of money during the year of 2011 when price raised significantly. However, as price soon fell, together with lower quota, China made less money on rare earth export after 2012.
The fall of rare earth prices in late-2011 actually tells us how other countries react to China’s restriction on rare earth export. In fact, most countries that are in big need of rare earth have established large rare earth deposit bought from other countries that can fulfill their demand until supply and demand back to normal. Japan, for example, has established a rare earth deposit for its own demand of at least 100 years. Therefore China’s restriction won’t push the market to the edge immediately. It was a shock to the world market when China announced it will cut rare earth export. However as time goes by, expectation found its way back to rational. Supply shortage also stimulates potential new suppliers. For example, Molycopy announced in August 2012 that it will reopen the largest rare earth mine in the world, the Mountain Pass Mine in California. It is expected to produce 20 thousand tons of rare earth every year, which is higher than the annual quota set by Chinese government!
Let’s come back to the beginning of this blog, the dispute China just lost. It looks reasonable for the US, EU and Japan to sue China for treating domestic and foreigner buyers unfair on rare earth prices. As we can see in Exhibit 3, domestic rare earth prices are much lower than FOB prices, which do give Chinese companies unfair competitiveness. However, this issue can be illustrated from a different point of view. Which Chinese companies really benefit from low domestic prices? Even though Chinese companies are transforming from labor-intensive to capital-intensive and technology-intensive companies, they still can’t compete with those World-class enterprises who consume most of world’s rare earth products. iPhone uses rare earth, but them are manufactured worldwide and only assembled in China. Lenovo makes computers, but all chips that require rare earth material are made in the US. Chinese companies can hardly beat other companies without core technology but only some advantages on material price. This is why I think it is partially a political issue: gaining unfair competitive advantage is an excuse. The desire for cheap material and less environmental pressure is the real reason.
Exhibit 3: Prices of Different Rare Earth Materials
|RE Element||3 Yr Avg||2 Yr Avg||1 Yr Avg||China FOB||China Dom|
If China is forced to cancel the quota, who will benefit from it? World price will go down, but for how much? Recall that another thing Chinese government did in 2010 is to let two state-own enterprises: Inner Mongolia Baotou Steel Rare-Earth Hi-Tech Co Ltd and China Minmetals Corporation take over most of rare earth mines in China. The purpose of doing this is to unify resources so that this industry can be better regulated. Environmental supervision will be easier to enforce. What’s more is that China will have more bargain power in rare earth since Chinese rare earth market to some degree has been oligoplized. Another thing has to be mentioned is that as technology develops, domestic demand of rare earth will grow fast in the future with no doubt. Since China can’t be considered as a “small country” in our trade models, increasing domestic need will increase world price in free trade. Therefore, no matter what will happened next, the only things that won’t happen anymore is mass rare export with cheap prices and pollution.