China: steels for a showdown

China proyecta precios del mineral de hierro 40-50% menores a los del año pasado. Estamos avisados...

China steels for a showdown
By Olivia Chung

HONG KONG - China, a growing and often welcome presence in the international financial world, appears ready to give another display of its impotence in global corporate matters as the country's steel industry joins in annual price talks with newly muscled-up iron ore suppliers.

The China Iron and Steel Association is seeking a 40% to 50% cut in iron ore prices compared with last year's contracts, which expire on June 30. The industry body represents steelmakers whose profits have been squeezed by overcapacity and a collapse in demand since the onset of the financial crisis last year. Prices of iron ore, their key raw material, have quadrupled since 2004.

Across the negotiating table are Australian miners Rio Tinto and BHP Billiton, the world's second- and third-largest iron-ore
producers, which together sell more than US$20 billion of ore to the Chinese.

This month, the two companies reached a non-binding agreement to set up a 50-50 joint venture covering their vast West Australian iron ore operations. The tieup could lead to US$10 billion in savings, Rio said. China, heavily reliant on imported iron ore, says the pact will give the two miners unfair pricing power over steel buyers. The proposed joint venture would control combined iron ore output of 270 million tonnes a year, almost equal to the 340 million tonne annual output of top producer Brazilian miner Vale. Rio and BHP control about 70% of seaborne iron ore trade, according to Mining Weekly.

The Rio-BHP deal has an "obvious color of monopoly" and is expected to have a major impact on China's steel industry, a Chinese Ministry of Commerce spokesman said.

The government in Beijing is considering wielding its new anti-monopoly law, which came into effect last August, to kill the agreement. Under the legislation, all business mergers must file for review if their joint revenue exceeds 10 billion yuan (US$1.46 billion) globally or 2 billion yuan in China, and if two or more of the firms each have more than 400 million yuan of revenue in China the previous year.

Both Australian companies fall comfortably into the net - BHP gulped up US$11.7 billion in China sales in the year ending last June 30, and Rio $10.8 billion, according to the Commerce Ministry spokesman.

The new law should apply to the Rio-BHP pact, Chen Yanhai, head of the raw material division at the Ministry of Industry and Information Technology, told Xinhua News Agency on June 16.

Article 2 of the statute states that the law applies to conduct outside China if it has an eliminating or restrictive effect on competition in the domestic market, said Commerce Ministry researcher Mei Xinyu. Beijing could impose trade sanctions against the venture if the two miners merged their Australian ore operations without approval of Chinese competition agencies, he said.

The Chinese can hardly be blamed for thinking they are being landed a sucker punch by Australian miners. This month, the Rio board kicked sand in the face of state-owned Aluminum Corp of China, rejecting a proposed $19.5 billion Chinese investment in the debt-burdened ore company. Nationalist sentiments were behind some Australian opposition to the investment, which was also seen as putting too much power into the hands of an iron ore purchaser at the expense of supplier Rio and its shareholders.

China's recent history is pockmarked with scars of such rebuffs, the most noted from US legislators stomping on Chinese National Offshore Oil Corp's bid to buy minor US oil outfit Unocal in 2005. Where a cross-border marriage is pushed through, it can be with loss-making discards, such as Lenovo's purchase of IBM's personal computer unit. One engagement just announced is the proposed purchase by a Chinese company of bankrupt GM's discarded Hummer operation. (See Hummer's Sichuan connection fuels up with cash, Asia Times Online, Jun 17.)

The dispute over the Rio-BHP pact will hang heavily over the iron ore price talks, where China's negotiating stance has already been weakened by settlements between suppliers and steelmakers in Japan and South Korea. Brazil's Vale said on June 10 it had agreed to a 28% price cut compared with last year with Nippon Steel and South Korea's POSCO. Last month, Rio agreed on a 33% price cut with Japanese and South Korean steel mills.

The first agreement in the annual price talks is usually taken as the benchmark for other customers. Not this year, with the Chinese saying that 33% is not a sufficient reduction for their steelmakers to make money.

China will not make concessions, steel association general secretary Shan Shanghua said on June 11, China Securities Journal reported. China "is ready for a breakdown of the talks", said Shan, who leads the Chinese side in the negotiations.

Wuhan Iron and Steel, the mainland's third-biggest steelmaker and reliant on imported ore for 80% of its needs, may cut output or buy on the spot market if talks fail, spokesman Bai Fang said.

Australian iron ore suppliers also have good reason to play hardball. After being able to drive prices higher in the boom years before the bust, they have in the past year suffered a fall-off in demand and are "operating far below capacity", the United Nations Conference on Trade and Development (UNCTAD) said this month.

"Even under the most optimistic assumptions about steel production, demand for iron ore will surely be lower in 2009 than in 2008," Mining Weekly reported this month, citing UNCTAD. The World Steel Association has forecast that steel use will decline nearly 15% this year, the report said.

The miners also know that steel prices are rising in China as the country's economic stimulus package announced in November starts to strengthen demand. The package targeted infrastructure projects such as railways while also making it easier for citizens to buy cars and electrical goods.

Baoshan Iron and Steel, China's biggest steelmaker, this month raised prices by about 11% for cold-rolled products for July delivery, the first increase in four months, Bloomberg reported on June 10, citing two research companies. China's steel prices have risen for seven straight weeks, the report said. A spokesman for Baoshan declined to comment on the price negotiations.

Will China's chest-beating and threat of anti-monopoly sanctions persuade the iron ore suppliers to cave in? Certainly the demand for a competition investigation "should be seen as a bargaining counter" in the contract negotiations, said Yi Xianrong, a researcher at the Institute of Finance and Banking under the Chinese Academy of Social Sciences (CASS).

But not a very strong one, according to Liu Chunquan, a lawyer at Guangsheng and Partners law firm. The way the Rio-BHP deal is structured might mean it does not fall into the category of joint venture under China's anti-monopoly law. As the "tricky proposal" is set out, "Rio and BHP are still rivals, as they would still operate separate marketing arms and maintain separate sales, so the deal wouldn't lessen competition," he said.

Nor could China do much even if that was not the case, said CASS public policy expert Ma Guangyuan. As both Rio and BHP have no mining assets in China, Beijing has no jurisdiction over them. He asked: "If you are going to fine, who are you going to fine?"

That would leave China looking to others to do the muscle work. European steel producers have expressed opposition to the tieup, and as both companies have their headquarters in London, the European Union could still block the deal, according to Ma. The EU last year blocked a $66 billion takeover bid by BHP for Rio, citing concern it might result in higher prices and reduced choice for customers.

China's struggle to be accepted in the international corporate world and to shape its behavior is in stark contrast to the increasingly warm welcome given to the country by hard-up governments and institutions.

The April Group of 20 financial crisis summit in London said China would stump up $40 billion to strengthen the International Monetary Fund, while several countries from Argentina to Belarus have eagerly agreed recently to currency-swap agreements with China worth $95 billion.

From Angola ($2 billion) to Brazil ($10 billion), Beijing has promised cash to build infrastructure in return for access to resources. A $5 billion loan has gone to a state bank in Kazakhstan, where China is building up oil interests.

It appears China has yet to make the A-list for the international corporate party and lacks what it takes to stop others getting on with their own fun. Its function is just to produce the booze, pick up some trash, and hand out the hangover pills.

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