BRIMM Summer 2020 Newsletter; July 2020
Op-Ed by Director Dr. John Steen
The COVID19 crisis has all the trademarks of a black swan event. It has an extreme impact, and in hindsight it was obvious, but the world was nonetheless unprepared for what has transpired. The mining industry has also been caught up in the turmoil and nobody really knows how long it will be before an effective treatment or vaccine for COVID19 becomes available. While we can look to previous downturns for clues as to what will happen next, there are several aspects of this crisis to have no similarities to other severe economic collapses that have affected the mining industry.
Usually, mining industry downturns are a demand-side driven occurrence. The period of growth leading to the global financial crisis in 2007-8 was driven by the industrialization of China. Prices of all industrial metals increased as a result of Chinese consumption, and production expanded as a consequence. Although the GFC started in the USA it spread quickly through the world and caused disruption in demand with metal prices falling in response.
This pandemic crisis is different. We are seeing falling demand for mined products as economic activity slows down. But for the first time, this falling demand is accompanied by significant supply-side upheaval. For now, some mines appear to be able to remain open but in some countries such as Peru we are seeing mining operations severely restricted as part of government efforts to control the pandemic. Viral outbreaks at specific mine sites have also caused those operations to be closed. This is making predictions of future prices no better than a guessing game. Until recently, the idea of copper prices hardly moving in response to a 6.8% fall in Chinese GDP was inconceivable. Demand for many commodities will fall but in cases where supplies of that product fall even faster we could see some prices actually rising during the economic downturn. A case in point here is uranium which is an essential input for nuclear reactors. Uranium prices have increased as fears of supply shortage have arisen.
Another theme that is emerging from the crisis is the growing disparity between the fortunes of precious metals and industrial metals. Unlike the global financial crisis the world economy has entered the current downturn in a weak state. Most governments have no cash reserves and are heavily indebted. The trillions of dollars in stimulus spending will be financed with unconventional monetary policy. Going beyond the fancy technical terms such as quantitative easing, this essentially means printing more money. Increasing the supply of money makes currencies less valuable and investors will look to precious metals as a way to store value. Gold prices have performed extremely well over the past year and we now have a gold price of nearly US$1800/Oz.
One scenario for what follows from this current round of money printing is a return to a period of stagflation that was last seen in the 1970s. In these conditions inflation and poor economic growth happen at the same time. If this occurs, we could see gold prices go much higher than where they are now, and profit margins from gold mines that can continue to operate may become very large. Low energy prices, equipment and labour costs would contribute to these profit margins. Expansion of output and new mines would follow as a consequence.
The last theme that will characterize this economic crisis is the importance of critical metals. Even before 2020 they were growing concerns about how the growing technology and renewable energy industries were going to source reliable supplies of metals such as cobalt, lithium, neodymium, and nickel. Copper is also a critical metal but for the time being has sufficient supply. Other materials, especially cobalt and rare earths are thinly traded and dominated by Chinese interests. We are likely to see companies like Apple and Tesla securing supply by investing directly in processing and mining. Already the Pentagon has struck a deal with Australian rare earth miner Lynas Corp. to process ore in the United States. This trend to secure supply for critical metals was in place before the pandemic and if anything will accelerate during the pandemic due to concerns about supply disruption. Mining companies looking at acquisitions to get exposure to future demand in critical metals are likely to add another set of acquisition criteria that relate to pandemic resilience. This will include automation, how the mine is operated, and vulnerability to logistic disruption. Mines ranked highly on these premises will command an acquisition premium.
It is always risky to say ”This time it is different.” and all mining industry downturns have some similarities. But this one really is different. Some mines and metals will continue to perform well, while others may fall victim to the recession with mine closures, job losses and lost government revenues as a consequence. The key is to understand how the pandemic will require the mining industry to change in response to the broader disruptions and the emerging demands that are happening around it. These are truly interesting times and we will need to think creatively about how best to respond to create a new future for the mining industry that can support sustainable growth in the 21st century.