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COLUMN-Iron Ore Defies Commodity Slowdown, For Now: Clyde Russell
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--Clyde Russell is a Reuters market analyst. The views expressed are his own.--

By Clyde Russell

LAUNCESTON, Australia, July 9 (Reuters) - It's not hard to find bearish views on the steel industry, given renewed recession in Europe and slower growth in China, but these seem in contrast to the resilience in the iron ore market.

China's steel production and consumption is maturing and unlikely to witness rapid growth in the future, while Europe's steel industry is in terminal decline and three-quarters of its capacity may be shut in the next two decades, Wolfgang Eder, the head of European steel body EUROFER said recently.

Views such as Eder's are becoming more widespread and there is much more talk of "peak steel", when demand reaches a plateau, most likely leading to excess capacity and declining prices for both steel and its main raw material, iron ore.

Peak steel is premised more on a limit to demand growth as opposed to the largely discredited peak oil theory, which postulated that supply would be unable to keep up with consumption.

But, as with the peak oil theory, peak steel has its weaknesses, assuming no technological progress and no ability of suppliers to respond to slower demand growth.

It is logical to assume that China won't continue to post double digit growth in both iron ore imports and steel production indefinitely, but given the high rates of the past decade, even small increases in percentage terms result in large changes in actual volumes.

It is probably this dynamic that has underpinned the iron ore market so far this year.

Spot iron ore in Asia is down only 2.5 percent in year-to-date terms at $135.10 a tonne, compared with a drop of 8.5 percent for Brent oil and 6 percent for the Thomson Reuters-Jefferies CRB Index.

On the face of it, it doesn't appear to make much sense that iron ore is outperforming crude at a time of slowing world growth, led by concerns over the state of China, while at the same time oil demand remains in positive territory and there is significant geopolitical risks over Iranian supplies.

However, China's economic slowing has yet to translate to steel output, which is still hovering around 2 million tonnes a day, a level that has been fairly constant since April and is well above the levels just under 1.7 million tonnes a day that prevailed for the first two months of the 2012.

Iron ore imports are up 8.9 percent in the first five months of 2012 over the same period last year, on track to comfortably beat the estimate of 6 percent full-year growth made by analysts in a Reuters survey in December.

If the pace of imports continues, China will bring in 740 million tonnes of iron ore in 2012.

Even if imports slacken back to 6 percent growth by the end of the year, China will still buy 728 million tonnes of the steel-making ingredient.

The lower import figure still results in average monthly imports of 59.9 million tonnes for the June-to-December period, not far below the 61.7 million achieved in the first five months.

It would take steel output in China to weaken substantially before any significant slackening of demand would emerge for iron ore, and while there may be a few lean months coming, stronger infrastructure spending by the fourth quarter should boost demand by the end of the year.

With iron ore demand likely to be flat in the rest of the world, growth in demand is the domain of China.

Based on the first five months of the year, which were strong, and factoring in a slightly weaker second half, it's likely that China will import at least 728 million tonnes of iron ore, and possibly as much as 740 million.

That means an increase in overall volumes of between 41 million and 54 million tonnes.

While iron ore production globally is expected to surge in the next few years, the additional output isn't quite yet on stream.

Brazil's Vale, the world's biggest iron ore exporter, is expecting to ship 310 million tonnes in 2012, slightly less than the 311.8 million tonnes it did in 2011.

Australia's government forecaster said iron ore exports would rise to 510 million tonnes in the fiscal year that started July 1 from 463 million in 2011-12.

That implies an extra 42.5 million tonnes a month on average out of Australia, just enough to meet the lower end of China's likely increase in demand.

So far, this all sounds pretty much in balance, until you factor in the halving of exports from India, the number three shipper behind Australia and Brazil.

Indian used to export about 100 million tonnes a year, but this dropped by more than half in the first 11 months of 2011 after the government imposed a 30 percent export duty and mines were closed in Karnataka state, the main mining region.

While mines may restart soon, this is unlikely to result in Indian exports of iron ore returning to previous levels, as the ore will be used by domestic steel mills.

The loss of 50 million tonnes a year of Indian cargoes in the global seaborne market, coupled with demand growth of at least 40 million from China is enough to justify iron ore outperforming other commodities as there is probably a supply shortfall, even given weakness in European steel.

Of course, the market balance will alter in the next five years if all the iron ore expansions come to fruition and China's demand growth flattens faster than expected.

But only a Malthusian would believe that this marks the end of iron ore's resilience, as the dominant global miners, Vale, Rio Tinto and BHP Billiton are far more able to reduce supply if they see prices weakening too much.


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