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Resources and Energy Quarterly March 2016

Further Information

For more information on data or government initiatives please access the report from the Department’s website at:

www.industry.gov.au.

Chapter Authors

Macroeconomic outlook: Mark Gibbons, Marco Hatt and Monica Philalay

Resources and energy overview: Kate Penney

Steel and iron ore: Marco Hatt

Metallurgical and thermal coal: Ben Witteveen

Gas: Gayathiri Bragatheswaran and Nicole Thomas

Oil: Kieran Bernie

Uranium: Geoff Armitage

Gold and copper: Nikolai Drahos

Aluminium, alumina and bauxite: Thuong Nguyen

Nickel and zinc: Monica Philalay

Acknowledgements

The authors would like to acknowledge the contributions of:

Ross Lambie

Nicole Thomas

Allison Ball

David Whitelaw

Inja Ahn

Laura Jones

Katya Golobokova

Cover image source: Shutterstock

© Commonwealth of Australia 2016

ISSN 1839-5007 [ONLINE]

Vol. 5, no. 3

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ContentsForward

Executive summary

Macroeconomic outlook

Resource and energy overview

Steel

Iron ore

Metallurgical coal

Thermal coal

Gas

Oil

Uranium

Gold

Aluminium, alumina and bauxite

Copper

Nickel

Zinc

Trade summary charts

Appendix

ForewordIn the six months since our last medium term Resource and Energy Quarterly the outlook for most commodities has deteriorated. In the December quarter 2015, prices across a broad range of commodities declined faster and further than we or many other market analysts anticipated. The price of oil and iron ore fell to levels not recorded since the early 2000s, essentially reversing much of the price gains achieved when prices peaked in 2011.

Despite some gains in early 2016—including iron ore which posted its largest single day increase on record—the forecast for most commodities is for lower prices in 2016.

In response to deteriorating market conditions, which were reflected in declining commodity prices, producers undertook significant cost cutting measures in 2015. Many large coal and iron ore producers announced material cuts to employee numbers and service contracts. Surprisingly there were few closures in Australia, and the supply of LNG and iron ore increased in 2015.

This Resource and Energy Quarterly highlights several factors that are likely to be major determinants of Australia’s resource and energy commodity exports in the medium term.

Over the last decade, growth in global commodity markets was driven by China’s economic transformation. China’s economy is now in the process of transitioning from infrastructure investment and manufacturing led growth to growth driven by domestic consumption. While the growth rate for China’s resource and energy imports are projected to fall, China is expected to remain a key market for Australia.

Following COP21 at the end of last year, energy commodities are likely to be increasingly affected over the medium term by policies aimed at reducing carbon emissions. As policies to curb emissions are more extensively implemented, the rate of growth in the consumption of oil, coal and gas are projected to fall, although their overall consumption is expected to increase.

Increasing demand, particularly in highly populated, emerging economies in Asia, is expected to support an increase in Australia’s commodity export volumes over the medium term.

In general, Australia’s suppliers are well placed to satisfy demand for resources and energy over the medium term. A legacy of the investment phase of the commodity boom is the increased productive capacity of iron ore and LNG, which is now translating into additional supply for these commodities. However, the relatively limited capital investment in other commodities, especially metals, is expected to materialise into a decline in Australia’s production of these commodities over the medium term.

There is no doubt that the current challenging market conditions for resource and energy exports are likely to continue for the next few years. However, Australian producers have in the past demonstrated their ability to respond and adapt to changing market dynamics. They will need to continue doing so

to ensure they remain competitive in what is expected to be an often volatile market over the outlook period. Australia’s earnings from resources and energy exports are projected to reach $208 billion (in 2015–16 dollar terms) by 2020–21.

Marky Cully

Chief Economist

Department of Industry, Innovation and Science

Executive SummaryDespite the current challenging market environment, the outlook for Australia's resource and energy exports over the medium to long term is optimistic. Consumption of most commodities is projected to increase over the medium term, particularly in Asian markets, as a result of increasing urbanisation and the expansion of manufacturing capacity in these highly populated economies. However, the outlook for commodity consumption is increasingly characterised by uncertainty. Economic growth in China, the key driver of commodity consumption over the past decade, is slowing; emerging economies are showing signs of weakness; and policy change, particularly in energy markets, is encouraging a rapid diversification of the energy mix.

China’s economic transition will affect its patterns of commodity trade, shifting away from demand for resources and energy commodities towards consumer goods and food. Despite the slowing in economic growth, China is expected to remain a major engine of global growth. As a result, the growth in consumption of resource and energy commodities in China is expected to plateau or decline moderately over the medium term rather than fall sharply. The pace of China’s transition has occurred more rapidly than many market observers had expected. Should the Chinese economy grow at a slower pace than assumed and the economic transition occur at a faster rate than expected, the consumption and price projections for each commodity in this outlook are likely to be overstated.

While there is potential for a reasonable rate of growth in emerging economies, low commodity prices and high debt levels may limit the ability of these economies to meet this potential and drive growth in commodity demand. Many emerging economies are net exporters of commodities, particularly in East Asia, Africa and Latin America and their economic growth has been affected by the sharp declines in commodity prices. Private debt held by commodity producers and other key sectors in emerging economies has also risen sharply. Record levels of debt are expected to limit the economic growth prospects in these economies by increasing the risk of defaults, reducing productivity, and amplifying exchange rate risks given that most of the debt is denominated in US dollars.

The implementation of plans associated the Conference of Parties (COP) 21 will be a key driver of energy consumption and the energy mix over the medium term. Given that most of the plans signal an intention to increase the use of renewables and nuclear power, growth in the use of oil, coal and gas is projected to slow considerably. Unexpected changes in government policy may have a significant effect on the commodity consumption assessments made in this set of projections.

A divergence in prices between metal and bulk commodities is expected over the medium term with prospects for metals a lot better than for prices of bulk commodities (iron ore and coal). For some commodities, prices are forecast to start increasing soon while others are expected to have a little further to fall. The changes to commodity prices over the medium term are unlikely to be smooth. Greater economic uncertainty and increased geopolitical

instability have affected sentiment and contributed to increased commodity price variability over the past year. Commodity prices are expected to continue to remain volatile over the short to medium term in response to both this ongoing uncertainty and changes in market conditions.

Investment in Australia’s LNG and iron ore supply capacity over the past few years is expected to lead to a significant boost in production and exports of these commodities over the short and medium term. Australia’s LNG exports are projected to triple from 2014–15 by 2020–21 and iron ore exports are projected to increase 23 per cent. However, because of the relatively limited investment in other commodities, especially metals, production of these commodities in Australia are generally projected to moderate.

Given the supply capacity now in place globally, Australian producers will need to focus on remaining highly competitive in order to maintain market share, which highlights the need for Australia to remain a relatively low cost, reliable supplier of resource and energy commodities.

Australia’s earnings from resources and energy exports are forecast to decline by 7 per cent from 2014–15 to $160 billion in 2015–16 and grow at an annual average rate of 3 per cent to $208 billion (in 2015–16 dollar terms) by 2020–2021.

At a glanceCommodity demand will underpinned by urbanisation and industrialisation in emerging economies

China’s economic transition is a key risk to the growth profile

Low commodity prices and rising debt could reduce potential consumption growth in emerging economies

Price dynamics are projected to diverge across commodities

The financial pressure on producers has continued to intensify

Australia’s investment in iron ore and LNG has it well placed to meet demand in these markets

A thin investment pipeline and mine closures could limit growth in other commodities

Australia’s resource and energy exports are projected to reach $208 billion in real terms by 2020–21

Commodity Export Earnings in 2020–21 (2015–16 dollar terms)

72 billion Iron ore

$42 billion LNG

$19 billion Metallurgical coal

$14 billion Thermal coal

$14 billion Aluminium, alumina and bauxite

$12 billion Gold

$9 billion Copper

$3 billion Nickel

$3 billion Zinc

$1 billion Uranium

$1 billion Crude oil

1. Macroeconomic outlook

1.1 The global economy

Global economic growth—estimated at 3.1 per cent in 2015—is forecast to increase to 3.4 per cent in 2016 and 3.6 per cent in 2017. Emerging economies are forecast to grow by 4.7 per cent in 2016 and 5.0 per cent in 2017, while advanced economies are forecast to grow by 2.1 per cent in both 2016 and 2017.

In advanced economies, a modest recovery in growth is expected to continue over the next two years. The forecasts for emerging economies is diverse but in many cases weaker growth rates are expected. The slowdown and rebalancing of the Chinese economy, decline in commodity prices, and strains in some large emerging market economies will continue to weigh on growth prospects in 2016 and 2017.

The projected pickup in global growth in the next two years—despite the ongoing slowdown in China—primarily reflects forecasts of a gradual improvement of growth rates in countries currently in economic distress, notably Brazil, Russia, and some countries in the Middle East. However, the projected partial recovery is vulnerable to new economic or political shocks.

Risks to the global outlook remain tilted to the downside and relate to ongoing adjustments in the global economy. These adjustments include a general slowdown in emerging economies, China’s rebalancing, lower commodity prices, and the gradual reduction of very accommodative monetary conditions in the United States. If the challenges associated with these adjustments are not successfully managed, the prospects for global growth could be derailed.

Over remainder of the outlook period, global economic growth is projected to average 3.9 per cent, supported by 5.2 per cent growth in emerging economies and 2.0 per cent growth in advanced economies. China and India are projected to grow on average by 6.2 per cent and 7.7 per cent respectively, while the United States and the European Union are projected to grow on average by 2.2 per cent and 1.9 per cent, respectively.

A more detailed discussion on the economic outlook for key economies follows.

Figure 1.1: Global GDP growth

Figure 1.2: GDP growth, key economies

Please refer to page 8 of the Resources and Energy Quarterly – March quarter 2016 PDF version.

Table 1.1: Key world macroeconomic assumptions

2015 2016 a 2017 a 2018 a 2019 a 2020 a 2021 a

Economic growth b

Advanced economies 1.9 2.1 2.1 2.2 2.0 1.9 1.9

United States 2.5 2.6 2.6 2.7 2.2 2.0 2.0

Japan 0.6 1.0 0.3 0.7 0.9 0.7 0.7

European Union 28 1.8 1.9 1.9 1.9 1.9 1.9 1.9

Germany 1.5 1.7 1.7 1.3 1.3 1.3 1.3

France 1.1 1.3 1.5 1.7 1.9 1.9 1.9

United Kingdom 2.2 2.2 2.2 2.2 2.2 2.1 2.1

South Korea 2.7 3.2 3.6 3.6 3.6 3.6 3.6

New Zealand 2.2 2.4 2.4 2.5 2.5 2.5 2.5

Emerging economies 4.2 4.7 5.0 5.1 5.2 5.3 5.3

Emerging Asia 6.6 6.3 6.2 6.4 6.6 6.6 6.6

South East Asia d 4.7 5.1 5.4 5.5 5.5 5.5 5.5

China e 6.9 6.3 6.0 6.1 6.3 6.3 6.3

Chinese Taipei 2.2 2.6 2.9 3.1 3.1 3.2 3.2

India 7.3 7.5 7.5 7.6 7.7 7.7 7.7

Latin America -0.3 -0.3 1.6 2.8 2.9 3.0 3.0

Middle East 2.9 3.8 4.4 4.1 4.2 4.1 4.1

World c 3.1 3.4 3.6 3.9 4.0 4.0 4.0

Inflation rate b

United States 0.1 1.1 1.8 2.2 2.3 2.4 2.4Notes:a Assumptionb Change from previous periodc Weighted using 2012 purchasing power parity (PPP) valuation of country gross domestic product by IMFd Indonesia, Malaysia, the Philippines, Thailand and Vietname Excludes Hong KongSource: IMF (2015) World Economic Outlook; Department of Industry, Innovation and Science

1.2 The outlook for key economies

United States

Despite the political uncertainty surrounding the upcoming elections, the US economy showed encouraging signs that it was on track to continue expanding in early 2016.

The labour market has started the year stronger. The labour force participation rate increased to 63 per cent in March 2016, which is its average since 1950, the employment to population ratio continued to move higher and the unemployment rate continued its decline from post-GFC highs. While March non-farm payrolls were lower than February, the increase in employment was relatively strong at 215,000 people.

Although business investment is not performing as well as other areas of the economy, manufacturing production grew at an increasing rate in the first two months of 2016, giving rise to optimism the business sector may finally be stabilising.

Consumption growth has picked up pace, with low interest rates encouraging higher borrowing and spending. The growth in consumer spending increased in January 2016 as a result of real consumption expenditure on energy services and durable goods.

Financial stability also appears to have improved, and confidence is rising. Household income is lifting from a low base as a result of greater employment, and there is hope that this will allow private consumption to replace government spending and close the fiscal deficit.

The volatility in financial markets has recently subsided and the US Federal Reserve has begun to raise interest rates after nine years of historic lows to reduce the risk of inflation and asset bubbles.

Economic growth in 2016 is expected to be solid, with further gradual reductions expected in the unemployment rate. Low unemployment, ample bank lending and low interest rates will provide a solid and favourable environment for the US economy in 2016, although political uncertainties may create some risks. Economic growth is forecast to be around 2.2 per cent a year out to 2021.

Figure 1.3: US key contributions to annual GDP growth by expenditure

Figure 1.4: Quarterly change in US labour market statistics

Please refer to page 10 of the Resources and Energy Quarterly – March quarter 2016 PDF version.

1.3 China

China’s economy continues to grow solidly, but a range of risks in stock and housing markets have surfaced. The Chinese economy grew by 6.9 per cent in 2015. Growth was supported by an improving trade position, but other sources of growth—including industrial production, business investment, and retail sales—have weakened. This potentially complicates China’s long-planned shift towards consumption-led growth.

A major challenge for China’s government in the medium term is balancing economic growth against rising debt. Total Chinese debt (including government, household and corporate) increased from 150 per cent of GDP in 2005 to nearly 250 per cent of GDP in 2015. This is high for an emerging economy, with debt rising sharply in recent years as a result of huge government investments following the Global Financial Crisis. The high level of debt is yet to be seriously addressed, with the Government prioritising economic growth in 2015 and 2016.

China’s growth has been constrained by several emerging issues. Overdevelopment in China’s real estate market has created oversupply in the housing stock and led to fears of significant losses among developers and homeowners. At the same time, excessive growth in China’s stock market led to a sharp correction in mid-2015, when equity values fell by around one-third. Stock prices have continued to decline in early 2016. These issues threaten to impose a softer and more volatile growth outlook on China, potentially creating downside risks for the global economy.

China has recently announced wide-ranging plans for economic reforms, coupled with a growth target of 6.5–7.0 per cent on average over the next five years. China’s reform agenda includes more measures to manage financial instability and a greater focus on high-value technology and innovation. A shift in China’s consumption and fuel mix is already underway, with plans to cut energy consumption per unit of GDP by 15 per cent through greater efficiency and a more rapid shift towards gas and renewable power. While this may reduce demand for some commodities, successful reform will also build a more resilient Chinese economy, with commensurate opportunities for many Australian exporters.

Figure 1.5: China’s contribution to annual GDP growth by expenditure

Figure 1.6: Private and public debt in China

Please refer to page 11 of the Resources and Energy Quarterly – March quarter 2016 PDF version

1.4 India

India is becoming increasingly important to the global economy, with signs that it is beginning to tap into its enormous potential. India’s economy grew by 7.3 per cent in 2015.

India benefited strongly from the fall in oil prices in 2015. This fall led to a strong rise in consumer purchasing power, and reduced the need for spending on fuel subsidies. Low interest rates and readily available loans are also contributing to improved company profits, with key industries such as banking and automotive manufacturing major beneficiaries.

While growth has been generally solid in recent years, there are hints of weakness. Industrial production edged down by 1.5 per cent in January 2016. India is heavily dependent on agriculture—which accounts for 50 per cent of the country’s employment—and it is therefore vulnerable to drought and other adverse weather conditions.

Over the medium term India’s growth is expected to remain at around 7.7 per cent. Much of India’s future progress will depend on the successful implementation of highly complex tax and economic reforms. However, India has already achieved notable success in lifting millions from poverty, and further income growth may build on this process and create the revenue for critical investments in infrastructure and education.

India’s ability to achieve this growth will be constrained by its weak fiscal outlook. The fiscal deficit remains stuck at just under 4 per cent of GDP, which is relatively high given overall tax collection amounts to only 11 per cent of GDP. Rising public service wages and poor performances by state-owned banks and power utilities are imposing significant budget costs on all levels of Indian government, and pressure is growing to sell stakes in hundreds of state-owned enterprises in order to raise funds.

Given India’s stage in the development cycle and need to develop infrastructure, it is likely that strong medium-term growth will generate significant demand for key commodities including coal and iron ore.

Figure 1.7: India’s contribution to annual GDP growth by expenditure

Figure 1.8 Government debt in India


1.5 Japan

Japan’s GDP grew by 0.6 per cent in 2015, supported by a 2.7 per cent increase in exports. Exports represent 17 per cent of Japan’s economy. Partially offsetting the growth in exports was a 1.3 per cent decline in household private consumption expenditure.

While Japan’s exports grew in 2015 as a whole, growth slowed in the latter half of the year, reflecting weaker demand from China and other Asian countries. In February 2016, Japan’s exports were down for a fifth consecutive month.

The Japanese economy is forecast to grow by 1.0 per cent in 2016, reflecting fiscal support, lower oil prices, accommodative financial conditions and rising incomes. However, this growth is not expected to be sustained over the medium term. In the five years to 2021, Japan’s average annual growth rate in GDP is projected to be 0.7 per cent.

1.6 South Korea

South Korea’s economy expanded by 2.6 per cent in 2015, supported by 3.6 per cent growth in investment, and 2.1 per cent growth in private consumption. Partially offsetting the growth in 2015 was an 18.4 per cent decline in net exports as imports grew faster than exports. An appreciation in the South Korean won contributed to the weakened trade position. In trade weighted terms, the South Korean won increased by 13 per cent between 2010 and the December quarter 2015.

The South Korean economy was hit by two shocks in 2015—an outbreak of Middle East Respiratory Syndrome (MERS) and a slowdown in demand from China and other Asian countries. While the MERS outbreak has been resolved, weaker demand from Asia remains a headwind to growth.

Nevertheless, a pick-up in private consumption is forecast to increase economic growth to 3.2 per cent in 2016. Over the medium term, South Korea’s economy is projected to average 3.6 per cent growth a year.

Figure 1.9: Japan’s key contributors to annual GDP growth by expenditure

Figure 1.10: South Korea’s contribution to annual GDP growth by expenditure


1.7 Europe

GDP in the European Union (EU) increased by 1.8 per cent in 2015. Growing private consumption was supported by lower oil prices and stronger domestic financial conditions. Weaker global growth and trade affected EU exports, particularly in Germany where the impact of slowing Chinese economic activity in its automobile industry has been quite pronounced. However, future export growth will be supported by the lagged effect of a recent depreciation in the real effective exchange rate of the Euro and a gradual recovery in world demand for its exports.

Over the medium term, economic growth in the EU is projected to continue to grow at a moderate pace, with output projected to increase at an average annual rate of 1.9 per cent to 2021.

EU’s economic prospects will be supported by a package of stimulus measures announced by the European Central Bank in early March 2016, including expanded quantitative easing (QE) and further cuts to sub-zero interest rates.

However, there is debate about the effectiveness of QE and how much room the ECB has left to move. Further, the EU faces many persistent economic and geopolitical challenges and uncertainties that will drag on growth, including high unemployment, an unresolved debt crisis in Greece, a migrant crisis and the possibility of the departure of the UK from the EU (Brexit). The referendum on a Brexit will take place in June 2016. The UK is the second largest economy in the EU, and has strong trade, investment and financial links to the Netherlands, Ireland, Cyprus, Germany, France and Spain. A Brexit could shift the balance in the EU towards more protectionist policies; traditionally the UK has been in the EU bloc that supports more liberal trade policies.

Figure 1.11: EU contribution to annual GDP growth by expenditure

Figure 1.12: Base money in the Euro Zone


2. Resources and energy overview

2.1 Revisions to the outlook

This set of projections has been prepared against a backdrop of continued softness in commodity prices because of weaker demand and a slow supply response. Prices have continued to decline faster and further than expected over the past six months.

Despite a short term rally in prices in early 2016, the prospects for prices over the medium term are generally weaker than when the September 2015 edition of the Resources and Energy Quarterly was compiled. This in part reflects:

Further evidence of a more rapid slow down in consumption growth as China’s economy transitions faster than expected

A continued appreciation of the US dollar relative to other currencies, which has provided temporary relief to high-cost producers

Cost cutting activities that have continued to reduce the price required for companies to remain viable over the short to medium term.

Some of the largest revisions to the price outlook have been made to iron ore, metallurgical coal, gold and oil. Since Australia’s LNG contracts are linked to oil prices, the value of LNG exports have also declined as a result of these revisions. Although revisions have been made to the prices of these commodities in most years, the changes are typically larger in the later years of the projection period where the outlook is more uncertain.

The downward revision to the price projections will have been partially offset by a assumed lower Australian dollar–US Dollar exchange rate in the March 2016 edition of the report relative to the September 2015 edition.

The volume of exports for some commodities has also been revised down because of:

The announced closure of capacity, either as a result of reduced project viability or the exhaustion of economic resources

Delays to new project development that have pushed the timing of first production beyond the outlook period

Changes to production plans that reduced the projected production profile at existing operations.

The largest changes to the export volume outlook have been made to zinc and copper, where the closure of older operations and temporary cessation of activities at some operations is not expected to be offset by the development of new capacity.

As a result of these price and volume revisions, the value of Australia’s resources and energy export earnings have been revised down substantially since the March 2015 edition.

Figure 2.1: Changes to the resources and energy export earnings outlook


2.2 Market summary

Market conditions for Australian producers have been challenging over the past few years because of falling commodity prices and increasing competition from new supply capacity overseas. Producers are unlikely to get much relief over the outlook period, with these conditions expected to persist over the medium term.

While consumption growth is projected to grow modestly across the commodities, supply trends across the bulk materials and metals are expected to differ over the medium term. As a result, projections for commodity prices over the medium term diverge. The prices of some commodities appear to have reached a low in prices, while others are expected to decline further. Regardless of where each commodity is in its price cycle, the overall prospects for Australia’s resources and energy exports remains encouraging, providing producers continue to focus on remaining competitive.

2.3 Prices

The commodity price cycle has clearly been in a downturn since 2011, as the factors that supported the rapid increase in prices over the previous decade subside. Growth in commodity demand is beginning to slow at the same time as the substantial investment in new projects is translating into additional supply. The pace of the decline in prices has varied across commodities, with some recording a relatively smooth transition such as thermal coal, while others have been subject to sharper movements such as iron ore.

The price of most commodities increased substantially in early March 2016, which has largely been attributed to expectations that China would stimulate the economy through monetary and fiscal policy measures following statements made at the National People’s Congress. Some of the key targets included lifting the fiscal deficit to GDP target from 2.3 per cent in 2015 to 3 per cent in 2016 and increasing the money supply (M2) growth target from 12 per cent in 2015 to 13 per cent in 2016. The stimulus measures are expected to include infrastructure investment, which typically has a positive effect on commodity prices.

Figure 2.2: Commodity price movements

Figure 2.3: Iron ore price volatility


The largest price increase over the March quarter 2016 was recorded in iron ore, which surged 20 per cent in one day to reach US$61 a tonne (FOB) on 7 March. This was the largest daily increase on record since the spot market was established in 2009 and represented an increase of 55 per cent since the start of the year. Prices have since declined but remain well above the levels recorded at the beginning of the year.

Short term price rally unlikely to be sustained

In the short term, the recent increases in commodity prices are unlikely to be sustained. The underlying fundamentals of the market have not changed dramatically as a result of China’s recent announcements—the prospects for any major recovery in China’s consumption remain weak and markets continue to be well supplied.

In general, a sustained period of low prices, relative to the height of the boom, is projected over the medium term. Consumption growth is projected to continue to moderate as China’s economy transitions from investment-led to consumption-led growth. In addition, the supply response to lower prices is projected to remain slow. The expected closure of capacity as losses at high-cost operations accumulate may provide some upward momentum to prices towards the end of the outlook period. However, the industry’s success at rapidly reducing costs has also reduced the price required to remain viable, which will limit the extent of any increase in prices.

A divergence in prices is projected to occur

The prospects for an increase in price in the medium term appear to be better for metals (zinc, nickel, copper and aluminium) than for the bulk materials (coal and iron ore). In the markets for metals, supply is projected to be constrained by the closure of capacity because of the exhaustion of economic resources or declining ore grades. Further, the change in technology required to process some of the lower grade ores, such as the change from nickel sulphide to laterite ores, will contribute to increased production costs over the medium term.

As a result, the price dynamics for commodities are expected to diverge over the medium term. For some commodities, prices are forecast to start increasing soon while others are expected to have a little further to fall.

The changes to commodity prices over the medium term are unlikely to be smooth. Greater economic uncertainty and increased geopolitical instability have affected sentiment and contributed to increased commodity price variability over the past year. Commodity prices are expected to continue to remain volatile over the short to medium term in response to both this ongoing uncertainty and changes in market conditions.

The variability has been particularly evident in iron ore. Analysis of the daily percentage change in spot iron ore prices indicated that the average daily percentage change from 2009–2015 was 1.1 per cent. Since the start of 2016 it has been 2.5 per cent.

2.4 Consumption

Commodity markets are currently characterised by greater uncertainty in consumption than supply. Accordingly, it is important to understand the key drivers of commodity demand and the major risks to the consumption outlook.

Resources and energy commodities are widely used in modern economies. The patterns of use are heavily influenced by economic, political and technological developments. At the broadest level, economic growth and population dynamics are the key drivers of resource and energy use. Beneath these, is the pace of industrial development, especially the expansion in metals and energy intensive manufacturing, and the rate of construction and infrastructure activity. Apart from growth in total population numbers, the level of urbanisation is important, as well as income growth and the rise in demand for consumer durables that it brings, including goods such as motor vehicles, that are resources and energy intensive in both their production and their use.

The structure of economic growth will be important

The intensity of commodity use typically accelerates as an economy starts to develop and invest in hard infrastructure such as roads, rail, airports, houses and factories. As an economy starts to mature, the less resource intensive services sector tends to play a larger role. Consequently, resource and energy commodity use usually declines gradually as an economy develops.

Similarly, basic access to electricity allows for the introduction of mechanical power or replaces the need for manual labour, which is fundamental to the establishment of a low-cost manufacturing base that is globally competitive. It can also create opportunities for improving transportation and communication systems that enable the exchange of ideas and information. As an economy develops, growth in electricity use typically slows as activity becomes structured around less energy-intensive sectors, such as services, and they can afford to invest in energy saving technologies.

The intensity of metals and electricity usage per person in emerging economies remains well below that of advanced economies. Given the relatively low use and large populations in many of these emerging economies, even small increases in per person usage should translate into large increases in total consumption.

Figure 2.4: Steel intensity

Figure 2.5: Electricity intensity and population


Urbanisation will support the development of infrastructure

In emerging economies, particularly China, India, and countries in Southeast Asia and Africa, large numbers of people are migrating to cities in search of improved employment prospects and better access to health and education

services. The transfer of labour from rural to urban areas requires substantial investment in new housing and infrastructure to support the growing population base. This will continue to support demand for construction materials including steel, aluminium, nickel and copper.

In 2015, an estimated 54 per cent of the world population lived in urban areas. Over the next five years an estimated 455 million people, the equivalent of the current populations of the United States and Japan combined, are projected to migrate to cities.

Economic growth likely to be strongest in countries with large working-age populations

Historically, economic growth has been strong in economies that have a large percentage of the population in the working age category—roughly between the ages of 15 and 65 years. Figures 2.7 to 2.10 show the structure of the population in China, India, ASEAN and Africa in 2015 and 2020 in terms of the number of males and females by different age groups. It is reasonable to expect large increases in the working age populations in some of these economies. For example, in India the size of the working age population is projected to increase by 7 per cent, or 65 million people, over the medium term.

Should the historic relationship between economic growth and the labour force persist over the medium term, the population profiles of these economies suggest that high rates of growth are likely to persist over the outlook period.

While demographic changes may have significant effects in some economies, these changes are likely to become less favourable to economic growth prospects in Asia as the populations of economies in the region age. For example, China’s economy is beginning to confront an ageing population, as the effects of the one child policy come through. As a result, the Chinese economy will need to rely more on increases in productivity and innovation to sustain growth rather than increases in the labour supply.

Rising household incomes to support growth in consumables

Strong economic growth and urbanisation are expected to contribute to rising household incomes and a growing middle class in emerging economies. These developments may facilitate an increase in consumer spending, especially in resource intensive consumer goods such as air conditioners, electronics and automobiles. However, this outcome is highly dependent on the existence of a strong social safety net. In economies with a limited provision of social security, healthcare and education, households are likely to save more, which will reduce the share of income available for consumption.

Figure 2.6: Rural-urban population, selected countries and regions


Figure 2.7: China population profile

Figure 2.7: China population profile

Figure 2.9: ASEAN population profile

Figure 2.10: Africa population profile


Energy markets are changing and the fuel mix is diversifying

The markets for energy commodities are changing and growth in consumption is moderating, primarily reflecting the pace of China’s structural transition, and the increased implementation of energy-related policies, such as energy efficiency measures. Energy policies aimed at meeting environmental and energy security objectives are facilitating the increased diversification of the global energy mix.

At the Conference of Parties (COP) 21 meeting in December 2015, the Intended Nationally Determined Contributions (INDCs) submitted by participating countries outlined their CO2 reduction targets and plans. The implementation of these plans will be a key driver of energy consumption and the energy mix over the medium term. Given that most of the plans signal an intention to increase the use of renewables and nuclear power, growth in the use of fossil fuels is projected to slow considerably.

The recent decline in energy prices has not stimulated a rapid increase in oil, coal and gas consumption as many had expected. This reflects slowing growth in energy usage, the slow transfer in prices to consumers and some countries, such as India the United Arab Emirates and Indonesia, taking the opportunity to unwind subsidies, particularly for oil.

Low energy prices and the expectation that they will prevail for some time, and limited access to finance have reduced the interest in developing new energy projects. Instead, companies are selling assets to generate cash rather than operate or buy assets or develop them. This pullback in investment will have varied effects on world energy markets. In the oil and gas sector, where projects have long lead times and high capital costs, ongoing investment is required to maintain production levels. A likely consequence of this not occurring is an increased dependence on OPEC and Russia for oil supply.

Policy, substitution and technology change remain the major risks to the consumption outlook for commodities

Unexpected changes in government policy, particularly those relating to economic growth and the energy mix, may have a significant effect on the commodity consumption assessments made in this set of projections.

Box 2.1: Commodity consumption projection uncertainties

Most of the commodity consumption projections contained in this outlook rely on the assumption that economic growth in China and emerging economies will be relatively strong over the outlook period. If growth in these regions differ to the assumptions, the consumption profiles of most commodities will differ.

China

Economic growth in China, the key driver of growth in commodity demand over the past decade, is slowing as it transitions from investment-led growth to a model of consumption-led growth. China’s economic transition will affect its patterns of commodity trade, shifting away from demand for resources and energy commodities towards consumer goods and food.

Despite these changes, there is no need to be overly pessimistic about the future prospects for the resources and energy sector. China will continue to remain a major engine of growth in the world economy over the medium term. While the level of growth in the economy is moderating, it is growing from a larger base. As a result, the growth in consumption of resource and energy commodities in China is expected to plateau or decline moderately over the medium term rather than fall sharply.

The pace of China’s transition has occurred more rapidly than many market observers had expected. The consumption assessments in this outlook have been based on an average growth rate of 6.2 per cent over the next five years. Should the Chinese economy grow at a slower pace than assumed and the economic transition occur at a faster rate than expected, the consumption and price projections for each commodity are likely to be overstated.

Emerging economies

While there is potential for a reasonable rate of growth in emerging economies, there are critical factors that present a substantial downside risk to these assumptions over the outlook period.

The first is that many emerging economies are net exporters of commodities, particularly in East Asia, Africa and Latin America and their economic growth has been affected by the sharp declines in commodity prices. This has reduced government revenues and expenditure, which has spilled-over into other sectors of the economy. As economic growth in these economies slows, their commodity consumption growth may also slow or decline, which in the absence of substantial growth in consumption elsewhere is likely to put further downward pressure on prices. With prices forecast to remain subdued over the short term, the prospects for a rapid increase in growth in these emerging economies is limited, which will have flow-on effects for household income and infrastructure investment in these regions.

The second is that private debt held by commodity producers and other key sectors in emerging economies has also risen sharply. Record levels of debt are expected to limit the economic growth prospects in these economies by increasing the risk of costly defaults, reducing productivity, and amplifying exchange rate risks given that most of the debt is denominated in US dollars.

These factors pose significant challenges to the ability of emerging economies to reach potential economic growth and drive growth in world commodity consumption in the medium term.

If policies are implemented that encourage growth in non-resource intensive parts of the economy, consumption growth will be much lower than projected. Similarly, any policy that facilitates a more aggressive transition away from oil, coal and gas will reduce their consumption outlook.

Substitution is also an issue for non-energy resources. Each commodity has special characteristics that result in their use in certain applications. However, some commodities have similar properties that allow for substitution in some applications. With divergence in commodity prices and changes in government policy, some consumers are exploring substitution possibilities. For example, in China new standards for low-voltage aluminium alloy power cables for use in buildings may reduce the demand for copper in the construction sector.

Technological developments, particularly those that reduce the cost of use, may also significantly change the consumption outlook. In the energy sector, large reductions in the cost of battery storage, renewables or carbon capture and storage could promote a more rapid diversification of the world energy mix than currently projected.

2.5 Production

The financial pressure on companies is increasing

Over the past few years world production of resources and energy commodities has outpaced consumption growth. The subsequent decline in prices has reduced the viability of many operations and increased the financial pressure on companies. As a result, many operations have scaled back production or been placed on care and maintenance. More recently, a few large companies have filed for bankruptcy such as Arch Coal and Alpha Resources in the US. As financial losses continue to accumulate, there is an increasing possibility that further closures will occur or more companies will fail.

To minimise the growing financial pressure, companies have sought to cut costs through reduced exploration activity, investment and workforces. These measures have generally been very effective, with the cost structure of the industry changing rapidly, which has delayed any major supply response.

The ability of the industry to continue to cut costs is uncertain, as is the precise point at which the supply response in the form of closures will occur for each commodity. In markets where prices are forecast to remain low, the absence of any further cost cutting is expected to contribute to further closures over time.

Supply trends between bulk commodities and metals are diverging

World bulk commodity markets are generally projected to remain well-supplied over the medium term as the large-scale investment in new iron ore, LNG and coal capacity over the last decade materialises into new production.

Although some high-cost capacity is at risk of closure, production of these commodities is expected to grow steadily over the projection period.

Conversely, supply of metal commodities is projected to tighten over the outlook period because of the closure of older mines as they reach the end of their economic life, limited investment in new capacity relative to bulk commodities, declining ore grades, and infrastructure constraints.

Resource quality is declining, particularly in metals

Over the medium term, production of some metals, is expected to be affected by declining resource quality. For example, copper ore grades in Chile, the world’s largest producer of mined copper, have been declining. As a result, producers have had to increase output to just maintain copper production. Lower ore grades could limit the ability to increase production to meet growing consumption requirements over the medium term.

Declining ore grades typically increase the cost of production because of the need for additional or more complex processing. Further, technical difficulties associated with processing lower quality ore has contributed to delays in the commissioning of new capacity. For example, large nickel laterite projects have faced technological difficulties and high capital costs associated with high pressure acid leaching (HPAL) operations.

To maintain production and manage costs, companies are investigating opportunities to increase productivity. If they are not successful in achieving this, the supply in metals markets may be tighter than projected.

Policies and community pressure may limit production growth and trade

Production of some commodities may be limited by government policiesover the medium term. For example, Indonesia’s coal production is projected to decline over the outlook period because of government policies to curb illegal mining and conserve domestic resources. Policies aimed at increasing self-sufficiency may also affect trade patterns by encouraging increased use of domestic resources rather than imports.

Land access and the need for a social licence to operate may also have an effect on resource development. Opposition to commodity projects can add costs in terms of community engagement and managing conflict, and potentially prevent projects from going forward.

2.6 Australia’s resources and energy sector

The mining sector is an integral part of the economy

Australia is a major global producer and exporter of mineral commodities. Australia holds the largest known reserves of uranium in the world and is in the world’s top five for deposits of copper, gold, bauxite, lead, zinc, nickel and lithium. Australia is the largest exporter of iron ore and coal in the world and is projected become the largest exporter of LNG in the next five years.

The mining sector is Australia’s second largest industry, accounting for 9 per cent of the economy. The size and importance of the sector have increased considerably since the beginning of the mining boom, when it accounted for around 7 per cent of Australia’s GDP.

Australia was a major beneficiary of the mining boom

Australia was a key beneficiary of the price and investment phases of the resources boom that began in the mid-2000s. The decade-long increase in commodity prices contributed to a large and sustained increase in investment in Australia’s resources and energy sectors. In September 2011, Australia’s terms of trade reached its highest level in 140 years. Overall, the increase in Australia’s terms of trade was higher than other resource exporting countries.

The factors that led to the investment boom are now at various stages of unwinding and along with declining terms of trade, investment in Australia’s resources and energy sectors is declining. From the lofty peaks of the investment phase in 2011, the number of projects under construction has fallen substantially.

A legacy of the investment phase of the boom is the increased productive capacity, particularly iron ore and LNG, which is now translating into additional supply for these commodities. The relatively limited investment in other commodities, especially metals, is expected to become evident over the medium term, where Australia’s production of these commodities will decline slowly as older operations are closed. Overall, Australia remains well-placed to meet future increases in demand for resource and energy commodities, particularly in the Asian region.

Conditions are challenging but the sector can adjust

There is no doubt that the current market conditions for resource and energy exports are challenging and likely to be so for the next few years. Australian producers have in the past demonstrated their resilience and ability to respond to changes in market dynamics. The industry has been able to rapidly change its cost structure, achieving large cost reductions over the course of a few years. For example, the cost of producing thermal coal at some Australian operations was halved between 2010 and 2015.

Although Australian producers have been successful in cutting costs, they will need to continue to find ways to innovate and improve efficiency along the supply chain to ensure that they remain competitive.

Exploration expenditure has declined rapidly

The Australian exploration industry is one of the most sophisticated and successful in the world. However, Australian exploration companies are struggling to maintain exploration expenditure in an environment of low commodity prices. In 2015, Australia’s minerals exploration expenditure fell 22 per cent to $1.4 billion and metres drilled fell 3 per cent to 5,900 kilometres, the lowest level since the early 2000s. Petroleum exploration declined by 43 per cent to $2.7 billion in 2015.

Mineral exploration declined across all states during 2015. The largest fall was recorded in Western Australia, down by $202 million (19 per cent). Exploration in Queensland declined by $118 million (30 per cent). This reflects the relatively large decline in exploration for iron ore in Western Australia and coal in Queensland.

Figure 2.11: Terms of trade for major commodity exporters

Figure 2.12: Australia’s thermal coal cost


Exploration targeting new and existing deposits both declined by 22 per cent in 2015. However, the value of exploration fell by a larger dollar value, declining by $280 million in 2015.

2.7 New investment to continue to decline over medium term

Australia’s mining capital expenditure reached a record in 2011 and is unlikely to be on this scale again as low prices, driven by well-supplied markets, and tighter access to finance reduced the incentive to invest. Now that most of the large, high-value, LNG projects have been completed, the stock of investment in Australia has been largely drawn down. In 2015, mining industry capital expenditure was $65 billion, down 22 per cent from 2014.

Given the projected weakness in commodity prices, a pick-up in investment activity is unlikely. Companies are increasingly looking to sell or buy assets instead of developing new projects. Although investment has slowed, some projects are still likely to be developed towards the end of the outlook period as existing operations reach the end of their economic life. However, it is more likely that these will be brownfield expansions rather than new projects.

While there is unlikely to be major investment in new projects over the medium term, companies will still need to invest capital to maintain their operations—sustaining capital expenditure. This is expected to limit the decline in capital expenditure over the medium term. However, given the financial pressures in the sector, there may be some incentive to defer these investments.

This is of particular concern in the gas sector, where the commencement of LNG exports from the eastern market has rapidly increased the level of supply required. Despite high domestic gas prices and the depletion of existing fields, investment is being constrained by low international prices and the limited availability of capital. If new supply is not developed over the next few years, there is a risk of shortfalls in production capacity in the medium to longer term.

Figure 2.13: Australia’s exploration expenditure

Figure 2.14: Mining capital expenditure


Employment to decline as sector moves into less labour-intensive production phase

The mining sector employed around 227,000 people in 2015, or around 2 per cent of the workforce. Notwithstanding the recent reductions in employment as part of cost cutting activities, the sector’s workforce is still more than twice the size it was before the mining boom. The sector is a large employer of indigenous Australians, pays high wages and employs large numbers of skilled workers such as engineers, geologists and surveyors and young apprentices.

Employment in the mining sector is not expected to rebound substantially over the medium term as the labour-intensive investment phase winds-up. Although increased production is likely to create new employment opportunities in the sector, it will not offset the decline in construction labour.

The focus on improving productivity is starting to get results

The productivity of the sector declined substantially during the price and investment phases of the boom. This was likely the result of the targeting of lower quality ore during the period of high prices and the lag between increased capital investment—reported in the year it is spent—and growth in output—which can occur several years after the investment expenditure is made. Between 2000–01 and 2009–10 multifactor productivity (MFP) in the mining sector declined by 31 per cent. The trend of lower productivity was observed across the sector more broadly and was not unique to Australia.

In order to remain viable and competitive, the industry has focused on improving productivity. The results of these efforts are becoming evident—the sector’s MFP increased by 5.4 per cent in 2014–15. The turnaround was largely the result of a 22 per cent increase in labour productivity, with little growth in capital productivity recorded to date.

Over the medium term, the productivity of the sector is expected to continue to improve as companies focus on ways to increase operational efficiency and find innovative ways to do business. The Australian mining industry has a strong history of innovation, and has developed many specialised technologies to increase productivity.

Figure 2.15: Mining sector employment

Figure 2.16: Australia’s mining productivity


The sector has invested heavily in research and development (R&D) over the past decade. In 2013–14, mining business expenditure on R&D was around $2.8 billion. This was the equivalent of $1 in every $6.70 of business R&D expenditure in Australia.

The mining equipment, technology and services (METS) sector also plays a crucial role in ensuring the Australian industry is innovative, agile and knowledge intensive.

Market opportunities are emerging but Australia will need to be competitive

Despite the challenging market environment, the outlook for Australia's resource and energy exports over the medium to long term is optimistic. This view is based on projected increasing demand, particularly in Asian markets, and the opening-up of new market opportunities following the signing of Free Trade Agreements with Japan, South Korea and China.

However, this outlook is largely dependent on increasing urbanisation and the expansion of manufacturing in emerging, highly populated Asian economies over these time frames. Policy decisions relating to economic growth and the energy mix will also have a considerable bearing on the demand for commodities from Australia.

In addition, competitive conditions in major commodity export markets have not remained static. Given the supply capacity now in place globally, Australian producers will need to focus on remaining highly competitive, which highlights the need for Australia to remain a relatively low cost, reliable supplier of resource and energy commodities.

This is particularly evident in LNG where the number of buyers and suppliers has increased substantially—from 25 in 2000 to 48 in 2014. LNG buyers, who previously had only a limited number of options for sourcing LNG, now have access to a growing range of suppliers across many regions. As a result, there has been a general increase in the diversification of LNG supply in consuming countries, as measured by the Herfindahl-Hirschman Index, which quantifies the degree of concentration in a market.

Figure 2.17: Changes in supply competition in Australia’s major LNG markets (Herfindahl-Hirschman Index)


Australia’s export earnings to rise modestly over the medium term

Australia has long been a reliable exporter of resource and energy commodities, based on many valued trading partnerships that have been developed over the past 50 years. The share of Australia’s resources and energy trade with China increased substantially over the past decade, from 10 per cent in 2004–05 to 38 per cent in 2014–15. The share of traditional markets for Australia’s resources and energy exports, such as Japan and South Korea, has remained relatively stable.

Resources and energy commodities account for 54 per cent of Australia’s total exports. The volume of exports have increased substantially over the past few years as new projects developed during the investment phase of the boom were completed. In 2014–15, resources and energy exports were worth $172 billion.

In 2015–16, Australia’s earnings from resources and energy exports are forecast to decline by 7 per cent to $160 billion as higher volumes for most

commodities and the effect of a lower Australian dollar is more than offset by forecast lower prices.

Over the medium term, the outlook for Australia’s exports is more moderate. Although the prices for Australia’s largest commodity exports—iron ore and coal—are projected to increase, they are expected to remain well below the prices recorded over the past few years. Further, the volume of metals exports are projected to decline toward the end of the outlook period as older operations are closed.

The strongest growth in earnings is projected to come from LNG, where the development of new capacity on the east coast is expected to contribute to LNG exports more than tripling between 2014–15 and 2020–21.

Australia’s earnings from resources and energy exports are projected to reach $208 billion (in 2015–16 dollar terms) by 2020–21. Earnings from resources exports are projected to total $121 billion (in 2015–16 dollar terms), while earnings from energy are projected to total $87 billion.

Figure 2.18: Resources and energy exports, by destination


Figure 2.19: Australia’s resources and energy export earnings

Figure 2.20: Australia’s major resources and energy commodity exports


Table 2.1: Outlook for Australia’s resources and energy commodities

unit 2014–15 2015–16 f 2016–17 f 2017–18 z 2018–19 z 2019–20 z 2020–21 z

Value of exports

Resources and energy A$m 171,972 160,077 166,132 196,653 216,773 225,989 232,050

– real b A$m 174,438 160,077 163,820 190,131 204,595 207,706 207,752

Energy A$m 66,831 60,980 61,327 75,506 85,271 90,903 96,684

– real b A$m 67,790 60,980 60,473 73,002 80,480 83,549 86,560

Resources A$m 105,141 99,097 104,805 121,147 131,502 135,086 135,366

– real b A$m 106,649 99,097 103,347 117,129 124,115 124,157 121,192Notes: b In current financial year Australian dollars; f Forecast; z ProjectionSource: ABS (2016) International Trade, cat.no 5465.0; Department of Industry, Innovation and Science

Table 2.2: Australia’s resources and energy commodity exports, by selected commodities

Volume Value (real)

unit 2014–15 2020–21 z CAGR unit 2014–15 2020–21 z CAGRAlumina kt 17,363 17,903 0.5 A$m 6,444 7,164 1.8Aluminium kt 1,432 1,261 –2.1 A$m 3,878 3,909 0.1Copper kt 1,009 978 –0.5 A$m 8,590 9,059 0.9Gold t 278 292 0.8 A$m 13,235 11,769 –1.9Iron ore Mt 748 916 3.4 A$m 55,301 71,585 4.4Nickel kt 328 295 –1.7 A$m 3,634 2,963 –3.3Zinc kt 1,720 992 –8.8 A$m 3,117 2,627 –2.8LNG Mt 25 75 20.1 A$m 17,137 42,183 16.2Metallurgical coal Mt 188 198 0.9 A$m 22,126 19,299 –2.3Thermal coal Mt 205 216 0.9 A$m 16,288 13,794 –2.7Oil kbd 261 268 0.5 A$m 818 812 –0.1Uranium t 5,515 9,450 9.4 A$m 540 934 9.6Notes: z Projection. CAGR is compound annual growth rate, in percentage termsSource: ABS (2016) International Trade, cat.no 5465.0; Department of Industry, Innovation and Science

3. Steel

3.1 Market summary

In 2016, global steel production is forecast to decline for a second consecutive year because of lower production in China. However, production is projected to increase slowly from 2017, as output in India and large advanced economies expands. Despite the expected return to growth, global steel production is projected to be lower in 2021 than it was in 2014—with lower production in China to be only partly offset by increased production elsewhere.

3.2 China

China’s steel production is projected to decline by 100 million tonnes between 2015 and 2021

China’s steel production is estimated to have declined by 2.1 per cent to 806 million tonnes in 2015, following relatively steady production in 2014. Despite the slowdown in China’s steel production, consumption has declined faster, and for longer. This contributed to lower steel prices in China and a rapid increase in China’s steel exports. China’s net exports of crude steel were an estimated 101 million tonnes in 2015—more than double the volume exported three years earlier and equivalent to 6 per cent of global production.

Partly responsible for the sharp increase in China’s steel exports was the slow response of China’s state-owned steel producers to lower prices. In 2015, it is estimated that 21 per cent of China’s steel producers (weighted by output) operated at a cash loss compared with 6 per cent and 4 per cent of producers in Japan and India, respectively. China’s steel exports are projected to moderate over the medium term, as the government curbs production at the most inefficient steel mills.

The Chinese Government has announced that it intends to reduce steel capacity by between 100 and 150 million tonnes over the next three to five years. Achieving this target depends on the central government ensuring local governments implement the necessary policies, which may result in job losses.

Figure 3.1 Annual growth in world steel production

Figure 3.2: China’s steel production, consumption and net exports


On balance, China’s steel production is forecast to decrease by 3.1 per cent in 2016, with the rate of decline moderating over the remainder of the projection period. This assessment is sensitive to the ability of the government to reduce production as well as domestic demand conditions.

China’s steel consumption is estimated to have decreased by 4.8 per cent in 2015—the fastest rate in more than 15 years. Most of the decline in China’s steel consumption in 2015 was attributable to lower steel use in construction, although demand for use in railways, machinery and shipbuilding also contracted. This was partially offset by a moderate increase in steel demand in the production of automobiles and household appliances. Automobiles and household appliances collectively represent around 9 per cent of China’s steel consumption.

China’s steel consumption is projected to continue to decrease each year over the medium term, although the rate of decline is expected to moderate. By 2021, China’s steel consumption is projected to be 14 per cent lower than its 2014 peak. Underpinning China’s declining demand for steel is a slowdown in residential property construction and, more broadly, the Government’s objective of steering the economy away from relatively steel-intensive investment-led growth toward a less steel-intensive consumption-led growth path.

While growth in construction fixed asset investment continued to improve in the first two months of 2016, significant over-investment during the past few years is expected to dampen construction activity over the medium term. In particular, China’s property sector is well-supplied and a drawdown in surplus housing stock will take time. Between 2009 and 2015, China started construction of 8760 million square metres of residential floor space, but only sold 7072 million square metres (see Figure 3.3).

China is expected to continue to invest in infrastructure over the short to medium term. Notably, the thirteenth Five-Year Plan (2016–2020) included planned expenditure of US$538 billion on new rail tracks. Increased domestic consumer spending is expected to support higher manufacturing activity. However, growth in steel demand from these sectors is unlikely to outweigh falling demand from the construction sector, which accounts for the majority of China’s steel use.

Figure 3.3 China residential building activity

Figure 3.4 Annual growth in China’s construction fixed asset investment and steel consumption


3.3 India

India’s steel production is projected to increase, but by less than government targets

India’s steel production increased by 3.5 per cent to 90 million tonnes in 2015. This growth was supported by anti-dumping duties and import taxes on certain steel products introduced in late 2015. Prior to the introduction of these measures, low-cost steel imports from China were forcing India’s steelmakers to limit output. However, imports have now begun to fall, declining by 22 per cent in 2015.

Steel production in India is projected to continue to grow at an average rate of 7 per cent a year over the medium term, supported by investment in new production capacity. However, this rate is significantly lower than would be implied by Indian Government targets. The Indian Government has announced an ambitious steel production target of 300 million tonnes a year by 2025, which would require an average annual increase in production of 13 per cent.

While this rate of growth is not unprecedented—China’s steel production grew at a similar rate over the last decade—India is not projected to reach this target. This is largely because India is a relatively high cost steel producer (higher than Australia and China), and does not have the advantages that China has in terms of transport infrastructure and access to low-cost financing. As a result, producers are subject to tough import competition. The reduced availability of domestic iron ore for steel making because of mining restrictions in key locations may also limit India’s production growth.

In addition, it is uncertain whether there will be sufficient domestic demand to support the level of steel production that has been targeted. Assuming all of India’s steel production under the Government’s target is consumed domestically, it would result in India’s steel intensity increasing to more than 200 kilograms per person in 2025, from an estimated 70 kilograms in 2015.

Nevertheless, India’s steel consumption is projected to grow rapidly, underpinned by strong economic growth, urbanisation, investment in infrastructure and the expansion of its manufacturing base.

India’s projected steel demand implies a steel intensity of 97 kilograms per person in 2021. This remains well below that of OECD countries, which consumed 414 kilograms of steel per person in 2014. India’s relatively low steel consumption per person reflects its limited urbanisation to date, with increases in steel intensity largely determined by the rate at which a country urbanises and industrialises.

Figure 3.5: India’s monthly steel production and imports, year-on-year change


3.4 Japan

Weak domestic demand and competition from China has weakened Japan’s steel production

Japan’s steel production declined by 5 per cent to 105 million tonnes in 2015, because of lower demand both domestically and for Japan’s steel exports. Domestically, there has been weak activity in both the construction and manufacturing sectors. Housing starts, represented by total floor space, fell for the second year in a row in 2015, while manufacturing production declined slightly.

Japan is the world’s second largest net exporter of steel. In 2015, it exported 41 million tonnes of iron and steel products. However, lower demand from China has reduced the demand for Japanese steel.

Japan’s steel production is forecast to increase by 2.1 per cent in 2016, reflecting an assumed increase in economic growth. Japan’s steel production is then projected to grow at an average rate of 0.7 per cent over the remainder of the projection period. This growth rate aligns with weak domestic demand conditions over the medium term and assumes no further intensification of competition from Chinese steel exports.

3.5 South Korea

South Korea’s steel production weakened in 2015, reflecting weak demand for steel exports

South Korea’s crude steel production declined by 2.6 per cent in 2015 despite improved domestic demand conditions. Building permits by floor area increased by 34 per cent in the year to November 2015 and vehicle production increased by 0.7 per cent to 4.6 million units in 2015.

While domestic demand for steel improved in 2015, steel exports fell by 9 per cent, with South Korean exporters facing tough competition from Chinese steel manufacturers.

Figure 3.6 Growth in Japan’s steel exports and production

Figure 3.7 Activity in major steel using sectors in South Korea


South Korea’s steel production is forecast to fall a further 0.8 per cent in 2016, then average 2.4 per cent growth over the remainder of the projection period. This growth rate aligns with moderate domestic demand conditions over the medium term and assumes no further intensification of competition from Chinese steel exports.

3.6 United States

US steel production fell in 2015, reflecting a draw down on inventories and low export demand

US steel production declined by 10 per cent in 2015, despite strong domestic demand conditions stemming from improved construction and manufacturing activity. The Dodge Index of New Construction Starts averaged 12 per cent higher in 2015 than in 2014, while industrial production in manufacturing increased by 2.0 per cent. A draw down in inventories and lower export demand put downward pressure on US steel production in 2015. Steel product inventories fell by 16 per cent to 8.3 million tonnes, while exports fell by 17 per cent to 9 million tonnes.

US steel product imports declined by 13 per cent in 2015, suggesting that domestic consumers did not substitute domestic production with imported

production. Despite this, in February 2016 the US Government imposed preliminary duties on imports of cold-rolled steel on seven countries, including a 266 per cent duty on Chinese steelmakers. In addition, the US Government has announced its intention to introduce anti-dumping duties on certain hot-rolled steel products from seven countries, including Australia. Australia exported approximately 313,000 tonnes of crude steel equivalent to the United States in 2015, equivalent to 6 per cent of Australian steel production.

Steel production in the US is projected to grow at an average annual rate of 2.5 per cent over the medium term reflecting an expected continuation of the US economic recovery.

Figure 3.8 United States steel inventories and exports

Figure 3.9 European Union steel production and consumption


3.7 European Union

EU steel production fell in 2015 because of import competition

Steel production in the EU—collectively the world’s second largest steel producer—decreased by 1.9 per cent in 2015, despite a 2.4 per cent increase in consumption. Domestic demand growth was supported by higher industrial production and construction activity.

Domestic production was displaced by imports in 2015, which grew 27 per cent in 2015. Putting further downward pressure on EU steel production was lower export demand, which fell by 5 per cent in the year. The European Trade Commissioner, Cecilia Malmstrom, attributed competing steel exports from China to the weakened EU trade position.

Steel production in the EU is forecast to increase by an average1.8 per cent a year over the medium term, reflecting assumed moderate economic growth in the region.

3.8 Australia

Australia’s steel production has been displaced by Japanese imports. Low sector profitability suggests this trend will continue.

Australia’s steel production increased by 8 per cent in 2015 to 4.9 million tonnes. In 2015, Australia imported 2.9 million tonnes of crude steel, down by 5 per cent on 2014, while exports increased by 24 per cent to 0.9 million tonnes. This implies apparent steel consumption in Australia increased slightly to 7.0 million tonnes in 2015.

There are two companies that produce crude steel in Australia—Bluescope and Arrium, with a total of five steel plants between them. Bluescope owns Port Kembla, which accounts for over half of Australia’s crude steel production (Figure 3.13). Arrium owns the remaining four steel plants.

Arrium’s Whyalla steel plant accounts for 21 per cent of Australia’s crude steel production and is currently facing financial difficulty.

Figure 3.10 Australia’s steel imports by source country


Figure 3.11 Unit price of Australia’s steel imports by source


Given recent financial difficulties and low profitability in the sector as a whole, Australia’s steel production is projected to fall to 4.1 million tonnes by 2021,18 per cent lower than in 2015. However, if international steel prices recover from their recent lows or if Australian steel plants are able to cut costs further, steel production may not fall as projected.

Despite concerns about the effect of low-cost Chinese steel on Australian producers, the volume of steel imports from China fell by 19 per cent in 2015. By volume, almost all of the increase in steel imports into Australia came from Japan. Although China has been Australia’s second largest source of steel imports for some time (Figure 3.10), the volume of steel imports from China has been relatively stable over the last decade, with most of the growth in Australia’s steel imports over this period being sourced from Japan.

The unit price of steel imports into Australia increased by 18 per cent in 2015. This was largely underpinned by a depreciation in the Australian dollar, which averaged US 0.75 cents in 2015, 17 per cent lower than in 2014. The unit price of steel imports from China fell by 5 per cent in 2015, but this followed a 28 per cent increase in unit prices in 2014. Offsetting this, the unit price of steel imported from Japan and the rest of the world rose in 2015.

Steel producers in Australia and in most major steel producing countries were operating at a loss in 2015 (Figure 3.12), due to lower prices. The financial performance of Australian steel producers was weaker than the world average in 2015. This was due to Australian producers receiving lower revenue per tonne of steel than the world average.

Figure 3.12 Steel plant production margins by country

Figure 3.13 Australia’s crude steel production


Table 3.1: World steel consumption (Mt)

2015 2016 f 2017 f 2018 z 2019 z 2020 z 2021 z

Crude steel consumption

European Union 28 166 171 175 180 185 189 193

United States 128 135 143 152 157 160 161

Brazil 18 12 10 10 10 10 10

Russia 41 37 36 36 35 35 34

China 705 684 675 666 657 648 640

Japan 73 74 72 72 73 73 73

South Korea 59 56 57 57 58 58 59

India 90 98 105 114 123 133 144

World steel consumption 1,613 1,587 1,596 1,611 1,624 1,634 1,643Notes: f Forecast; z ProjectionSource: World Steel Association (2016); Department of Industry, Innovation and Science

Table 3.2: World steel production (Mt)

2015 2016 f 2017 f 2018 z 2019 z 2020 z 2021 z

Crude steel production

European Union 28 166 169 173 176 179 181 184

United States 79 82 85 89 91 91 91

Brazil 33 27 25 25 24 24 25

Russia 71 69 69 69 68 68 68

China 806 781 757 735 725 715 706

Japan 105 107 107 107 109 110 111

South Korea 70 69 71 72 74 76 78

India 90 97 103 111 118 127 136

World steel production 1,629 1,598 1,606 1,622 1,635 1,645 1,654Notes: f Forecast; z ProjectionSource: World Steel Association (2016); Department of Industry, Innovation and Science

4. Iron ore

4.1 Market summary

In 2015–16, lower prices are forecast to result in falling iron ore export revenue in Australia for the second consecutive year. However, a combination of increased export volumes and slightly higher prices is projected to result in iron ore export earnings increasing over the remainder of the projection period, to reach $72 billion (in 2015–16 dollar terms) in 2020–21. This represents a 29 per cent increase in export earnings relative to 2014–15, although earnings are expected to remain 7 per cent below their 2013–14 peak.

Expected closures of high cost mines and commissioning of new low cost capacity is projected to result in Australia and Brazil continuing to increase their share of international trade in iron ore over the medium term.

4.2 Prices

The price of iron ore averaged US$42 a tonne in the December quarter 2015, 77 per cent lower than in the March quarter 2011. Prices are projected to be higher over the projection period, but remain well below levels recorded during the height of the mining boom.

While prices briefly rebounded to US$61 a tonne in early 2016, increasing global supply coupled with lower demand from China’s steel sector is forecast to result in prices softening by end of the year to average US$45 a tonne in 2016.

At current prices, a number of high-cost producers—mostly outside of Australia—are making large losses on each tonne of iron ore produced. A sustained period of lower prices over the projection period is expected to result in the closure of high-cost capacity as the financial losses of these companies begin to accumulate.

Although these closures will provide some support to prices, new low cost capacity being developed, particularly in Australia and Brazil, should limit any price increase. If high cost capacity takes longer to be closed than anticipated, or if costs at new or existing mines can be reduced further, prices may stay lower for longer.

Figure 4.1: Iron ore prices

Figure 4.2: Percentage of loss making global iron ore production


4.3 World trade in iron ore

International trade in iron ore is projected to continue to grow, but at a modest pace

While global iron ore demand is projected to remain relatively flat, continued displacement of domestically produced iron ore in China with seaborne iron ore is expected to result in a modest increase in international trade. Reflecting this, global iron ore trade is projected to increase by 1.3 per cent a year between 2015 and 2021, to reach 1.6 billion tonnes.

Export growth is projected to come almost entirely from Australia and Brazil. The share of world trade coming from these two countries is projected to increase from 52 per cent and 25 per cent in 2015 to 58 per cent and 31 per cent in 2021, respectively. Import growth is projected to largely come from China and India and, to a lesser extent, the United States and Japan.

China and India are projected to be the drivers of global iron ore import growth

China is projected to remain the largest source of growth in iron ore imports over the medium term because of the expected continued displacement of domestic production, which is relatively high cost and lower quality compared with seaborne iron ore). China’s imports are projected to reach 1.0 billion tonnes in 2021, up from an estimated 968 million tonnes in 2015, despite slowing demand from the domestic steel industry. China is expected to import 98 per cent of its iron ore needs by 2021—up from 83 per cent in 2015.

This assessment assumes that most of China’s high-cost capacity will be closed. China has significant iron ore reserves—estimated at 7 billion tonnes after adjusting for iron content—but the low grades require extra processing to make them suitable for steelmaking, which increases the cost of production. If China’s iron ore production doesn’t continue to slow as projected, growth in global seaborne trade could be as little as half of what has been projected, prices would be lower and Australia’s exports would grow less than expected.

Figure 4.3: Annual growth in global iron ore imports

Figure 4.4: Monthly trends in China’s iron ore imports and production


India is projected to transition from being a net exporter of iron ore in 2014 to importing 46 million tonnes of iron ore in 2021. While India has significant reserves of iron ore—estimated at 8.1 billion tonnes at 64 per cent iron content—the high cost of production coupled with output caps in the key producing regions of Karnataka, Odisha and Goa mean that it is unlikely that India will be able to produce sufficient quantities of iron ore to meet demand from its growing steel industry.

While India is projected to become a significant source of growth in seaborne iron ore demand over the medium term, this may not eventuate if government

mining restrictions are lifted or export duties are reduced. In addition, the Indian Government may introduce policies to ensure that it is self-sufficient in iron ore. Finally, there is some uncertainty around the projections for India’s steel production, which determines the level of domestic demand.

The United States is also projected to transition to becoming a net importer of iron ore, importing 20 per cent of its iron ore needs in 2021. This reflects continued moderate growth in US steel production coupled with expectations for lower iron ore mine capacity over the medium term.

Iron ore exports from Australia and Brazil are projected to increase, but fall from the rest of the world

The rapid decline in iron ore prices since they peaked in 2011 has contributed to a rapid increase in the number of loss-making operations. With prices expected to stay low over the medium term, many higher cost operations are likely to close. In addition, new low cost capacity is expected to be commissioned over the projection period, which is expected to further displace higher cost producers. With most of the low cost production expected to come from Australia and Brazil, these two countries are projected to increase their share of global iron ore exports from a combined 77 per cent in 2015 to 90 per cent in 2021.

Australia’s iron ore exports are forecast to increase by 10 per cent to 846 million tonnes in 2016, and to continue to increase over the projection period to reach 926 million tonnes in 2021. Growth in supply from Australia in the short term is largely attributable to the anticipated increase in production from Roy Hill as it approaches capacity. The first shipment of iron ore from Roy Hill left Port Hedland in December 2015, following several months of delays.

Figure 4.5: India’s projected iron ore deficit

Figure 4.6 Iron ore exports — Australia, Brazil and the rest of the world


While there are still issues with commissioning at the processing plant, Hancock Prospecting is targeting early 2017 to be at full capacity.

Australia’s iron ore exports over the medium term are projected to be supported by an expansion of production from Australia’s largest iron ore miner, Rio Tinto. Rio Tinto is expected to commission its Koodaideri and Turee Syncline projects—both currently undergoing feasibility studies—in the next few years, while production at Rio Tinto’s Hamersley mines is expected to increase following capacity expansions.

While Australia’s largest iron ore mines are generally low cost and are anticipated to remain viable over the projection period, an extended period of low prices is expected to result in closures at smaller, high cost mines. For example, Pluton Resources’ Cockatoo Island project went into care and maintenance in August 2015 due to financial difficulties. In addition, Gindalbie’s Karara iron ore mine—which mainly produces low value

magnetite—has been running at a loss and is at risk of closing following a decision by Chinese partner Ansteel to withdraw funding support.

Brazil’s iron ore exports are forecast to grow by 7 per cent in 2016 and by 5 per cent a year on average over the remainder of the projection period, despite the temporary closure of the BHP Billiton and Vale joint-owned Samarco mine. In November 2015, iron ore production ceased at Samarco because of a catastrophic tailings dam burst. The mine, which has a productive capacity of 32 million tonnes a year, may take several years to obtain the necessary environmental approvals to recommence operation. The Samarco mine is projected to remain closed over the medium term. If it reopens earlier, Brazil’s iron ore production would increase faster than projected.

The projected growth in iron ore production in Brazil is underpinned by new, low cost capacity being completed. In particular, operations at Vale’s S11D expansion at the Carajás complex are scheduled to begin in 2016. Production at S11D is expected to increase over several years to eventually reach 90 million tonnes a year. S11D is the world’s largest iron ore mining project and is expected to deliver ore at low cost. However, as is expected in Australia and the rest of the world, new low-cost capacity in conjunction with soft growth in global demand is expected to result in some closures at smaller, high cost Brazilian operations.

4.4 Australia

Exploration activity continued to decline through 2015

Iron ore exploration fell 49 per cent year-on-year in the December quarter 2015 to $75 million. The value of expenditure on iron ore exploration activity was at its lowest level since the March quarter 2007.

Iron ore exploration activity has declined from the very high levels recorded during the height of the mining boom. The substantial fall in iron ore prices, from over US$180 a tonne in early 2011 to US$51 a tonne as of 31 March 2016 has reduced the feasibility of new (and existing) iron ore projects, and therefore limited the interest in further exploration. A recovery in iron ore exploration expenditure over the medium term is unlikely given that iron ore prices are projected to remain low.

Export values are projected to pick up over the medium term

In 2015–16, Australia’s iron ore exports are forecast to increase by 8 per cent to 811 million tonnes supported by a rapid increase in production. Exports are projected to continue to increase over the medium term to reach 916 million tonnes in 2020–21.

Despite higher volumes, the value of Australia’s iron ore exports is forecast to decline by 8 per cent in 2015–16 to $50billion. This reflects forecast lower prices. The assumed depreciation of the Australian dollar relative to 2014–15 is expected to provide some offset to lower prices. In Australian dollar terms, iron ore prices are forecast to fall by 17 per cent in 2015–16 compared with the 27 per cent decline in US dollar terms.

Iron ore export values are projected to increase to $72 billion (in 2015–16 dollar terms) in 2020–21. This primarily reflects projected higher volumes, with some additional support from slightly higher prices and a slight depreciation in the Australian dollar. In 2015–16 Australian dollar terms, iron ore prices are projected to increase by 5 per cent per year between 2015–16 and 2020–21.

Figure 4.7: Australia’s iron ore exploration

Figure 4.8 Australia’s iron ore exports


Table 4.1: World iron ore imports (Mt)

2015 2016 f 2017 f 2018 z 2019 z 2020 z 2021 z

Iron ore imports

European Union 28 141 136 135 134 131 129 129

Japan 132 131 130 131 133 135 136

China 968 1,023 1,027 1,020 1,024 1,023 1,019

South Korea 75 67 69 71 72 74 76

India 28 25 28 32 36 40 46

Notes: f Forecast; z ProjectionSource: World Steel Association (2016); Department of Industry, Innovation and Science

Table 4.2: World iron ore exports (Mt)

2015 2016 f 2017 f 2018 z 2019 z 2020 z 2021 z

Iron ore exports

Australia 767 846 881 906 908 910 926

Brazil 366 393 416 436 458 480 503

India 6 5 4 3 2 0 0

Ukraine 52 43 44 44 45 45 43

World trade 1,476 1,480 1,521 1,554 1,574 1,584 1,596Notes: f Forecast; z ProjectionSource: World Steel Association (2016); Department of Industry, Innovation and Science

Table 4.3: Iron ore outlook

unit 2014–15 2015–16 f 2016–17 f 2017–18 z 2018–19 z 2019–20 z 2020–21 z

Australia

Production

Iron and steel gs Mt 4.74 5.07 4.87 4.67 4.49 4.31 4.15

Iron ore Mt 781.4 855.4 897.4 928.1 941.4 943.1 947.4

Exports

Iron and steel gs Mt 0.92 0.89 0.91 0.87 0.83 0.80 0.77

– nominal value A$m 719 692 685 657 631 606 583

– real value h A$m 729 692 675 635 596 557 522

Iron ore Mt 747.7 811.0 861.5 893.0 906.5 909.7 916.4

– nominal value A$m 54,519 49,993 56,480 69,898 76,762 78,849 79,957

– real value h A$m 55,301 49,993 55,694 67,580 72,450 72,470 71,585

Notes: b Fob Australian basis c Spot price, 62% iron content basis; d In current calendar year US dollars; g Crude steel equivalent. Crude steel is defined as the first solid state of production after melting. In ABS Australian Harmonized Export Commodity Classification, crude steel equivalent includes most items from 7206 to 7307, excluding ferrous waste and scrap and ferroalloys; h In current financial year Australian dollars; f Forecast; s Estimate; z Projection Source: ABS (2016) cat. no. 5368.0; World Steel Association (2016); AME Group (2016); Company Reports

5. Metallurgical coal

5.1 Market summary

The outlook for Australia’s metallurgical exports is broadly positive. Exports are forecast to increase over the medium term, supported primarily by an increase in imports from emerging economies such as India. Prices are also projected to increase moderately from 2018, underpinned by an increase in global steel production. Over the outlook period Australia’s exports are projected to increase by an average 1.6 per cent a year to 199 million tonnes and export values to around $19 billion in 2020–21(in 2015–16 dollar terms).

5.2 Metallurgical coal prices

Metallurgical coal prices are projected to fall through 2016 and 2017 before increasing to 2021

Metallurgical coal prices declined through 2015, because of reduced import demand, principally from China, and a relatively slow supply response. The prices of steel making raw materials, such as metallurgical coal, have been adversely affected by the downturn in China’s residential construction sector and an associated decline in China’s steel production. Contract prices for low volatility hard coking coal FOB Australia declined 19 per cent in 2015 to average US$102 a tonne. Spot prices for premium low volatility hard coking coal declined 23 per cent in 2015 to average US$88 a tonne.

Although lower prices affected the profitability of all producers in 2015, it was particularly evident in the United States where the combination of low prices and an appreciating dollar, relative to most currencies, forced large capacity cuts. Outside of the US, a fall in the exchange rate of many producing countries somewhat cushioned the effect of low prices on margins and helped maintain production levels.

Australian benchmark prices for high-quality metallurgical coal delivered in the June quarter 2016 settled at US$84 a tonne, up from US$81 a tonne in the March quarter 2016.

World metallurgical coal markets are forecast to remain well supplied in 2016 because of weaker demand for imported coal. For 2016 as a whole, contract prices are forecast to average US$83, a fall of 19 per cent on 2015.

Figure 5.1: Metallurgical coal benchmark prices, FOB Australia

Figure 5.2: Major metallurgical coal importers


Over the medium term, metallurgical coal consumption is projected to increase in emerging economies as they develop new steel production capacity. At current prices of around US$80 a tonne, a large proportion of world metallurgical coal production is estimated to be unprofitable. As a result, supply from several countries is projected to fall over the medium term

as higher cost producers are forced to close. As this occurs the fall in production is expected to provide some support to prices. However, some of the steel production targets in emerging economies, particularly India, are ambitious. Although metallurgical coal imports in these economies is projected to increase over the medium term, the rate of growth may be slower than expected and limit the upside potential for prices.

From 2018 metallurgical coal contract prices are projected to increase by around 1 per cent a year to average US$80 a tonne (in 2016 dollar terms) in 2021.

5.3 World trade

World trade to grow through the medium term

Trade in metallurgical coal is driven by developments in world steel production. Over the medium term emerging economies are projected to drive global metallurgical coal consumption and trade as they develop new steelmaking capacity to support economic growth and urbanising populations.

Countries like India are expected to invest heavily in infrastructure and residential housing through the medium term, which is projected to support steel production growth through to 2021 and beyond. Partially offsetting this growth is a projected fall in China’s steel production and subdued, or declining, growth in some of the OECD economies, where infrastructure growth is stable and steel consumption per person is falling.

China’s imports are projected to decline because of a projected decline in steel production and increased use of domestic metallurgical coal. However, on a monthly basis, China’s imports are likely to be variable and highly sensitive to price movements over the outlook period.

In the short term, the commissioning of several new mines and increased production at existing mines, particularly in Australia, are expected to increase the supply of metallurgical coal to world markets. Several mines started operating in 2015, including Maules Creek in Australia and the Haju mine in Borneo.

World trade in metallurgical coal is forecast to decline by 3 per cent in 2016 to 289 million tonnes because of forecast lower imports into China. However, over the medium term trade in metallurgical coal is projected to increase by 3 per cent a year on average to reach 326 million tonnes in 2021, supported by import growth from emerging economies.

Figure 5.5: China’s monthly imports of metallurgical coal, by source


Table 5.1: Metallurgical coal trade

2015 2016 f 2017 f 2018 z 2019 z 2020 z 2021 z

Metallurgical coal imports

European Union 28 43 44 45 46 46 47 48

Japan 48 49 49 49 50 51 51

China 53 48 45 44 43 43 42

South Korea 32 34 35 37 38 39 40

India 47 51 56 60 64 68 73

Metallurgical coal exports

Australia 186 183 186 192 195 198 200

Canada 29 28 27 26 26 25 25

United States 55 51 48 46 44 41 39

Russia 22 22 23 23 24 24 26

World trade 299 289 305 310 316 322 326Notes: f Forecast; z ProjectionSource: IEA (2015) Coal Information 2015; Department of Industry, Innovation and Science

5.4 World metallurgical coal imports

China’s imports to decline

China, once the main driver of global trade in metallurgical coal, is estimated to have imported 53 million tonnes in 2015, a decline of 18 per cent on 2014. In 2016, China’s imports are forecast to decrease a further 9 per cent to 48 million tonnes owing to a forecast fall in China’s steel production and an increase in the use of domestic coal.

Over the medium term, China’s steel production is projected to decrease as high cost, high-polluting producers are forced to close. The Chinese government has announced plans to consolidate steel production and close between 100–150 million tonnes of steel production capacity over the medium term.

China’s most efficient steel production capacity is located on the eastern seaboard, close to sea ports. These mills are most likely to survive the consolidation of China’s steel industry. Although the use of domestic coal in coastal plants is expected to increase, it is unlikely to completely displace imports. As a result, China is expected to remain a major importer of metallurgical coal over the medium term despite the projected decline in total imports.

China’s domestic production of metallurgical coal is expected to continue to displace imports over the medium term. In 2015, around 90 per cent of China’s metallurgical coal consumption was supplied from domestic mines and this rate is expected to rise over the medium term. The Chinese Government has invested heavily in rail infrastructure and over the next five years the cost of transporting metallurgical coal internally is expected to fall and reduce the competitiveness of imported coal.

China’s imports are expected to become more variable over the medium term as steel mills respond to the relative difference in price between domestic and international supply. Over the medium term China’s imports of metallurgical coal are projected to decrease by 5 per cent a year on average to 42 million tonnes in 2021.

India’s imports to increase

India’s imports of metallurgical coal are estimated to have increased 3 per cent in 2015 to 47 million tonnes, underpinned by increased steel production. In 2015, India was the only major steel producing country to record an increase in production. The Indian government is investing heavily in infrastructure, to meet the demands of an urbanising population and growing manufacturing base. To facilitate the growth in infrastructure the government has ambitious plans to triple steel production by 2025.

India has limited metallurgical coal resources, which are typically of low quality, and hence relies heavily on imports. India’s imports of metallurgical coal are projected to increase on average by 8 per cent a year to 73 million

tonnes in 2021. India is also expected to overtake Japan as the world’s largest importer of metallurgical coal in the next two years.

If India’s steel production increases at a slower rate than projected, the growth in its metallurgical coal imports will be overstated.

Japan’s imports to increase

In 2016, Japan is forecast to import 49 million tonnes of metallurgical coal, an increase of 2 per cent on 2015. Over the medium term Japan’s imports of metallurgical coal are projected to increase by 1 per cent a year, supported by growth in Japan’s steel intensive exports. Japan’s steel production has declined over the past decade, displaced by lower cost producers in China.

European Union and South Korea imports to increase

Imports into the European Union and South Korea are projected to increase to 48 million tonnes and 40 million tonnes, respectively, by 2021, supported by growing steel production in both economies.

5.5 World metallurgical coal exports

In 2015, low prices led to several mine closures around the world and encouraged companies to cut costs. Despite the difficult conditions several mines were commissioned in 2015, offsetting some of the decline in capacity. Over the medium term, growth in world metallurgical coal exports is expected to be underpinned by capacity expansions and improved efficiency at existing operations, particularly in Australia.

North American exports to decline through the medium term

In 2015, US exports of metallurgical coal are estimated to have declined 4 per cent to 55 million tonnes. Low prices led to the idling of some mines and large cost reductions at several other operations, including some producers who halved their workforce. US producers have been affected by an appreciating dollar, relative to other producing countries.

US metallurgical coal producers also have comparatively high transport costs to Asian markets. While the expansion of the Panama Canal may facilitate increased exports to Asian markets, US metallurgical coal production is primarily located in the central and eastern states and must first be internally transported long distances to the sea ports on the west coast. Over the medium term US exports are projected to decline 5 per cent a year to 39 million tonnes in 2021.

Canada’s exports of metallurgical coal are estimated to have declined 6 per cent in 2015 to 29 million tonnes, driven by capacity cuts and low profitability. Over the medium term Canada’s metallurgical coal exports are projected to decline by 3 per cent a year to 25 million tonnes in 2021.

Australia to increase export volumes

In 2015, Australia’s exports of metallurgical coal declined slightly to 186 million tonnes because of weaker import demand. As a result of lower prices,

there were temporary production cuts at several operations including Ulan, Dawson and Goonyella.

Despite the tough operating conditions several mines are expected to begin operating in 2016 and 2017, including the Grosvenor (5 million tonnes a year), Isaac Plains (2.8 million tonnes) and Eagle Downs (4.5 million tonnes) mines. The output from these mines and continued productivity enhancements at existing mines is projected to increase the

Figure 5.6: Australia’s metallurgical coal production

Figure 5.7: Australia’s metallurgical coal exports


competitiveness of Australian metallurgical coal production over the medium term.

Australia’s exports of metallurgical coal are projected to increase by an average 1.6 per cent a year, to 200 million tonnes in 2021. The projected increase in world trade will provide opportunities for Australian coal exporters, particularly with an expected decline in exports from North America. However, this is contingent on producers achieving continued cost and productivity improvements.

The viability of new projects in Mozambique is declining

Although there are prospects for new metallurgical coal projects in Mozambique, these are not expected to materialise over the medium term because of the relatively high cost and persistently low prices. Over the past six months, a number of projects in Mozambique have stalled.

Nonetheless, exports from Mozambique are projected to increase over the medium term as production from Indian-owned mines increases to meet rising consumption. These mines are high-cost and operating below capacity. As a result, this outlook is contingent in strong demand growth from India and higher prices over the outlook period.

5.6 Australia’s production and exports projected to grow

Australia’s exports to increase through to 2020–21

In 2015–16, Australia’s production of metallurgical coal is forecast to fall 7 per cent to 181 million tonnes. Over the medium term Australia’s production of metallurgical coal is projected to grow by an average 2 per cent a year to 202 million tonnes in 2020–21, supported by additional capacity and an increase in output from existing mines.

Despite falling prices, Australia increased its share of world trade in metallurgical coal from 56 per cent in 2014 to 62 per cent in 2015. The increase in Australia’s share came at the expense of US and Canadian producers. Australia‘s exports of metallurgical coal are forecast to decrease slightly in 2015–16 to 186 million tonnes as a result of lower import demand.

Lower prices and export volumes are forecast to contribute to a 11 per cent fall in export earnings to $19 billion in 2015–16.

Over the medium term Australia’s exports of metallurgical coal are projected to increase by an average 2 per cent a year to 199 million tonnes in 2020–21, supported by increased production and demand. The value is projected to decline in the short term and then increase from 2018–19 to $19 billion in 2020–21 (in 2015–16 dollar terms), supported by a projected increase in the price and export volumes.

This assessment is contingent on an increase in imports into emerging Asian markets. If imports grow at a slower rate than projected, Australia’s exports will be lower than this assessment.

Table 5.2: Metallurgical coal outlook

Units 2015 2016 f 2017 f 2018 z 2019 z 2020 z 2021 z

World

Contract prices b

- nominal US$/t 102.1 82.8 79.8 81.3 84.0 87.3 89.5

- real d US$/t 103.3 82.8 78.3 78.1 78.9 80.1 80.2

Units 2014–15 2015–16 f 2016–17 f 2017–18 z 2018–19 z 2019–20 z 2020–21 z

Australia

Production Mt 192.8 180.7 187.6 191.9 196.7 200.4 201.9

Export volume Mt 187.7 186.0 184.1 188.4 193.2 196.9 198.5

- nominal value A$m 21,813 19,441 17,202 17,125 18,190 19,176 21,556

- real value e A$m 22,126 19,441 16,962 16,557 17,168 17,625 19,299

Notes:b Fob Australian basisd In current calendar year US dollarse Contract price assessment for high-quality hard coking coalf Forecasts Estimatez ProjectionSource: ABS (2016) International Trade, cat.no 5465.0; Company Reports; Department of Industry, Innovation and Science

6. Thermal coal

6.1 Market summary

The outlook for growth in Australia’s thermal coal exports is moderate because of lower or slowing import demand in major importing countries such as China, Japan and India, and slowing domestic production. However, Australia is projected to increase its share of world thermal coal exports and become the world’s largest exporter over the medium term as lower prices, increased domestic use and infrastructure constraints limit growth from other key suppliers. Australia’s thermal coal exports are projected to increase marginally to 216 million tonnes by 2020–21. Over this period, earnings from these exports are projected to be around $14 billion (in 2015–16 dollar terms).

6.2 Coal prices

Coal prices are forecast to decline through to 2018 before increasing slightly to 2021.

Thermal coal prices declined through 2015 as a result of both lower demand for imported coal and a slow supply response. Newcastle free on board spot prices for 6,000 kilocalorie coal fell 18 per cent to average US$58 a tonne in 2015. World coal trade declined by an estimated 8 per cent in 2015, the first decline in more than two decades. While the supply of world coal also contracted it declined at a much slower rate.

The combination of slowing demand for imported coal and increased competition among suppliers is forecast to lead to a further fall in prices in 2016. Benchmark prices for the Japanese Fiscal Year 2016 (JFY, March 2016 to April 2017) are forecast to settle at US$59 a tonne, 13 per cent lower than in 2015.

Over the medium term thermal coal prices are projected to increase marginally as demand from India and Southeast Asia increases and offsets falls in the OECD and China. While prices are projected to increase, cost cutting and the assumed depreciation of the Australian dollar are likely to reduce the price required for production to be viable and limit the magnitude of the price rebound. The JFY contract price is projected to decline to around US$54 a tonne (in 2016 dollar terms) in 2018 before increasing to around US$56 a tonne in 2021.

Figure 6.1: Thermal coal spot prices

Figure 6.2: JFY thermal coal prices


The risks to this price outlook are primarily on the downside. Many countries, including large coal consumers like the US and China, are introducing policies designed to reduce the use of coal. The introduction of policies that

are intended to achieve a more rapid transition away from coal could put further downward pressure on prices.

Import demand for coal and consequently spot prices are likely to be more variable over the medium term. Large coal consumers like China and India typically only import coal to meet shortfalls in domestic supply, or if the price of international coal is below the local price, which means they are particularly sensitive to price movements. As a result, their imports are likely to fluctuate through the medium term as they take advantage of low prices or temporary shortfalls to purchase coal on the spot market.

6.3 World trade

World trade growth to be moderate

In 2015, world trade in thermal coal is estimated to have declined by 8 per cent to 1.1 billion tonnes, driven by a sharp fall in China’s imports. Over the medium term global demand for imported coal is projected to rise slightly, supported by an increase in imports from India and other emerging economies, particularly in Southeast Asia.

The development of cheap and reliable electrical generation capacity is essential for economic expansion and increasing living standards in emerging economies. Coal-fired power is often chosen to meet the power requirements of emerging economies, as coal is both plentiful and low-cost, and provides reliable base-load generation. There are around 370 gigawatts of new coal-fired generation capacity under construction or approved in non-OECD countries, which is almost equal to the investment across all technologies in the OECD. As electrical capacity expands in non-OECD countries, their coal consumption and imports are expected to increase.

Offsetting the increase in coal imports from emerging economies is an expected fall in OECD imports. Within the OECD governments are implementing policies designed to reduce pollution generated from coal-fired power and increase the share of renewable electricity.

Figure 6.3: World electricity capacity under construction or approved

Figure 6.4: Major thermal coal importers


The widespread implementation of these policies is likely to reduce coal consumption in the OECD.

At the COP 21 international climate talks in December 2015, 160 countries lodged Intended Nationally Determined Contributions (INDCs), which outlined their CO2 reduction targets and plans, some of which targeted the use of coal. Alongside the INDCs, the OECD announced a plan to limit investment in coal-fired power and several large banks stated they will no longer invest in coal related projects. The implementation of these plans is unlikely to affect the imports of coal in emerging economies over the medium-term as

developing alternative, reliable and affordable energy sources is likely to occur over a longer timeframe.

Although coal consumption is expected to slow over the next five years it is projected to remain the dominant source of electricity over the medium term in most countries.

In line with growth in consumption, world trade in coal is projected to increase by an average 1.5 per cent a year to 1.1 billion tonnes in 2021.

6.4 World thermal coal imports

China’s imports of thermal coal to decline over the medium term

In 2015, China’s thermal coal imports declined by 30 per cent to 156 million tonnes, driven down by moderating growth in electricity consumption, a rise in renewable electricity generation and an increase in domestic coal use. Over the medium term these three factors are expected to weigh on China’s coal imports, which are projected to contract by 5 per cent a year to around 120 million tonnes in 2021.

Growth in China’s electricity use to slow

Over the past several decades China’s electricity use was driven by strong growth in the industrial sector, which was supplied by large, reliable and relatively cheap coal-fired power stations. In 2014, the industrial sector accounted for 70 per cent of China’s electricity consumption while the commercial and residential sectors accounted for 20 per cent and 10 per cent, respectively. In the OECD the split is approximately equal.

Figure 6.5: Major thermal coal exporters

Figure 6.6: China’s annual electricity generation


As China’s economy rebalances from investment to consumption led growth and the service sector increases its share of activity, growth in the energy intensive industrial sector is expected to slow and contribute to slowing growth in electricity use. The commercial and residential sectors are significantly less energy intensive and as they grow, the overall energy intensity of China’s economy is expected to fall.

China plans to diversify its energy mix

In late 2015, China’s National Energy Administration (NEA) announced that the share of coal-fired generation in the electricity mix is expected to fall from 64.4 per cent in 2015 to 62.6 per cent in 2016. Offsetting the decline in coal-fired power is a planned increase in the use of renewables.

The State Council also announced plans to upgrade the coal-fired generation fleet and implement mandatory efficiency targets. The upgrades are scheduled for completion by 2020. Under the new rules and following the

upgrades, existing coal-fired power stations must consume less than 310 grams of coal per kilowatt hour of output and new coal-fired power plants less than 300 grams per kilowatt hour. Coal-fired power plants that do not meet the requirements will be closed. The Government estimates that the upgrades will reduce coal consumption by around 100 million tonnes a year. In order to meet the new guidelines and for the upgraded plants to operate efficiently, China’s consumption of higher grade coal is expected to increase.

Coal-fired power plants account for around half of China’s coal consumption, with the other half used by households,for cooking and heating, and industry. China’s government has committed to replacing coal-fired heating stoves with electricity or gas in 400 villages in 2016 and plans to eliminate coal-fired heating stoves across the country by 2020. The implementation of this policy is likely to significantly reduce the use of coal as a source of energy in the residential sector.

Figure 6.7: China’s electricity generating capacity >50MW

Figure 6.8: China’s quarterly imports by source


China’s coal requirements to be increasingly met by domestic supply despite low profitability

Reduced offer prices for domestic consumers, the devaluation of the yuan and a decline in domestic coal transportation costs have reduced the competitiveness of imported coal.

Large investment in new rail capacity has contributed to a reduction in the cost of transporting coal from the northern and western provinces (Inner Mongolia, Shanxi, Xinjiang) to east coast power stations. For example, in Inner Mongolia the rail network has grown from around 6,000 kilometres in 2005 to 10,000 kilometres in 2015. The removal of bottlenecks has led to freight charges falling by around one-third between 2012 and 2015 and an increase in the reliability of the network.

Improvements in China’s electricity transmission infrastructure have also made it possible to transmit power long distances. This means that rather than shipping coal from northern mines to the coast, coal can be used at plants located near the mine and the electricity transmitted to customers around the country. One ultra-high-voltage line from Inner Mongolia to Shandong has removed the need to transport 7.5 million tonnes of coal a year.

Offsetting some of these gains favouring domestic production is the decline in shipping rates. In late 2015, the Baltic Dry Index fell to an all-time low of 471, down from a high of 11,793 in 2008. At current prices it is still possible for producers such as Australia and Indonesia to export coal competitively to coastal power stations in China.

It is estimated that around 90 per cent of China’s coal industry operated at a loss in 2015. In order to cut production and encourage consolidation, China’s

authorities have eliminated more than 200 million tonnes of coal mining capacity over the past several years, including 70 million tonnes in 2015.

Through late 2015 and early 2016, the Chinese Government announced a series of plans designed to further consolidate coal production and remove high cost capacity. These policies include:

A plan to close more than 1,000 coal mines in 2016, which will remove around 60 million tonnes of production capacity.

Suspending the approval of any new coal mines for three years(2016–2019).

A plan to cut 1.3 million jobs from the coal industry.

The planned government job cuts are in addition to redundancies announced by individual coal companies.

India’s thermal coal imports are projected to increase through to 2021

In 2015, India overtook China as the world’s largest coal importer. Imports increased by 2 per cent to an estimated 191 million tonnes. India’s coal imports have been supported by a rapid increase in the development of new coal-fired generation capacity and the inability of domestic production to keep up with demand. Although Coal India Limited (CIL)—which accounts for around 80 per cent of India’s total coal output—announced that they had significantly increased production in 2015, they did not meet their annual production target of 450 million tonnes.

India’s coal consumption is projected to increase substantially over the medium term, supported by greater electrification, a growing economy, and an expanding manufacturing base.

There are currently 240 million Indians without access to electricity and India’s electricity use per person is still one-third of the world average and slightly lower than the average in Africa. In an effort to address the disparity, the government plans for all Indian villages to have 24 hour access to electricity within the next five years. In addition, the Make-in-India campaign, designed to develop world class manufacturing infrastructure, will require improved electricity availability and reliability.

Although the planned expansion of the manufacturing base should increase India’s electricity consumption, progress has been slow and the sector has underperformed—India’s manufacturing sector contracted 2.3 per cent in November 2015. While India’s manufacturing sector is expected to continue growing in the medium term, the rate of that growth is likely to vary and may not support consistently strong growth in India’s electricity consumption over the medium term.

The government is promoting the development of a range of generation technologies to meet increasing electricity needs. Coal will play a major role with 134 gigawatts of coal-fired capacity currently under construction or approved. However, the government is also promoting the development of renewable technologies. In February 2016, the Indian Government

announced that the clean energy tax on coal, applied to domestic and imported coal, would double to 400 Rupees.

To meet its growing coal needs, the Indian Government announced plans to increase domestic coal production, improve rail transport and speed up approvals. The Power and Coal Minister has also announced an ambitious plan to make India self-sufficient in coal by 2017, except to meet the requirements of power plants located near coastal areas. In order to reach these goals, the government has set CIL a production target of around 900 million tonnes by 2020. In order to meet this target CIL will need to increase production by around 20 per cent a year. In 2015, which was considered a successful year, production increased by 11 per cent. Singareni Collieries Company Limited (SCCL), another major Indian coal producer, has also announced plans to open ten new thermal coal mines in 2017, which are expected to produce a combined 13 million tonnes a year.

India has large coal reserves but the deposits are typically low quality and there are considerable hurdles to develop new mines. Further, there are significant infrastructure bottlenecks which restrict India’s ability to cheaply and reliably transport domestically produced coal. The IEA reports that on average a tonne of coal must travel more than 500 kilometres before it is converted to electricity.

Despite plans to increase production, India’s domestic production of coal is not expected to meet the increase in demand over the medium term. As such, India’s coal imports are projected to increase on average by around 6 per cent a year to 260 million tonnes in 2020. Imports may also be supported by recently announced plans to develop coal mines in South Africa.

India’s coal imports are very sensitive to price, in large part because of the weak financial position of the electricity sector. As a result, monthly imports fluctuate in response to price movements and customers appear willing to import from a number of sources.

Figure 6.9: India’s electricity generating capacity >50MW

Figure 6.10: India’s quarterly electricity generation


For example, reduced freight rates encouraged increased imports from Colombia, which had not previously been a major import source, in late 2015/early 2016. Over the medium term India is likely to use imports to reduce their energy security risk by maintaining stockpiles and smoothing temporary shortfalls in supply.

Nuclear restarts to contribute to a decline in Japan’s imports

Following the Fukushima nuclear accident in March 2011, Japan’s utilities substituted from nuclear to conventional thermal power, which includes: coal, oil and gas. As a result, Japan’s conventional thermal power generation increased 61 per cent from 2011 to December 2015 and currently provides 90 per cent of Japan’s power. To support the high utilisation of conventional

thermal power, Japan’s coal imports increased 5 per cent in 2015 to around 144 million tonnes.

Over the medium term, Japan’s coal consumption is projected to decline as nuclear power plants are restarted and existing coal-fired plants are replaced with high efficiency, low emission coal-fired technologies. The Government has announced plans for nuclear energy to provide 22 per cent of Japan’s electricity and renewables 44 per cent (up from 1 per cent in 2010) by 2030. Under these plans the share of electricity provided by coal-fired power stations is expected to fall from 30 per cent in 2015 to around 26 per cent in 2030.

Over the medium term, coal-fired power will remain an important source of energy for Japan. There are currently 41 coal-fired power plants under construction and once completed these new plants will provide 20.5 gigawatts of power (out of total installed capacity of 320 gigawatts). These new plants will largely replace existing coal-fired power stations based on older technology and as a result will increase the overall efficiency of Japan’s coal-fired fleet. Japan’s coal imports are projected to decrease by around 2 per cent a year on average to 130 million tonnes in 2021.

South Korea’s imports to increase slightly

In 2015, South Korea’s coal imports increased 5 per cent to 102 million tonnes, supported by increased economic growth. In March 2016, the South Korean Government changed the tax structure for imported coal. Coal is now taxed in three tiers instead of two, with the rate for high energy imported coal effectively being increased.

Figure 6.11: Japan and South Korea’s quarterly imports

Figure 6.12: Japan’s power generation by fuel, 2013


This is expected to reduce the competitiveness of high energy coal and may discourage its use. However, even with the additional tax, coal is still more competitive than gas.

Over the medium term, South Korea’s imports of thermal coal are projected to increase by 1 per cent a year to 114 million tonnes in 2021. South Korea currently has 20 new coal-fired power plants under construction or planned for completion by 2021. These new power plants are based on more efficient technology than existing plants and will reduce the rate of growth in imports. While there is a larger role planned for gas and renewables over the medium term, in the absence of nuclear power, coal is likely to remain a key energy source for South Korea.

ASEAN to become a new source of import growth

The Association of Southeast Asian Nations (ASEAN) is emerging as an important source of coal import growth as they invest in new coal-fired generation capacity to meet increasing electricity consumption. Energy

consumption has grown strongly over the past decade in Southeast Asia, supported by rapid urbanisation, increasing household incomes and a growing manufacturing base. Between 2000 and 2013, around 90 million people in Southeast Asia moved into a town or city and demand for energy increased by more than 50 per cent.

Vietnam, traditionally an exporter of coal, started importing coal to meet rising demand from the power sector. In 2015, Vietnam’s coal imports increased 50 per cent to 3 million tonnes. Over the medium term Vietnam’s imports are projected to increase by 13 per cent a year to 23 million tonnes in 2021. Vietnam predominately sources coal from Australia and Russia.

However, there is considerable uncertainty in the projected growth rate of Vietnam’s coal imports. In January 2016 the Government announced that they would no longer develop 44 gigawatts of planned coal-fired power. Shortly after this announcement, the Government signed agreements to build two 1.2 gigawatt coal-fired power stations. These new stations are in addition to 17 gigawatts of coal-fired power capacity currently under construction. Given the investment in train, Vietnam’s coal use and imports are likely to increase over the medium term, before the effects of the new policy materialise.

Malaysia is rapidly expanding its coal-fired generation capacity with around 5.2 gigawatts of coal-fired power under construction. Coal-fired power currently accounts for around 17 per cent of Malaysia’s energy generation and over the long term the International Energy Agency estimates that the share of coal will increase to around 60 per cent. To accommodate this growth Malaysia’s imports are projected to increase by 4 per cent a year to 31 million tonnes in 2021. Malaysia was a larger export destination than India for Australia in 2015.

Other Southeast Asian countries with rapidly expanding coal-fired capacity include the Philippines with 5.8 gigawatts and Myanmar with 4.4 gigawatts. To meet the growing demand for coal-fired power coal, imports into Southeast Asia are projected to grow rapidly over the medium term.

Figure 6.13: ASEAN electricity generating capacity >50MW


6.5 World thermal coal exports

Indonesia’s exports to decline

In 2015, Indonesia’s thermal coal exports declined 27 per cent, or 112 million tonnes, to an estimated 296 million tonnes. Exports were adversely affected by weaker import demand in the key markets of China and India, lower production and a stricter export licensing regime. Low coal prices also encouraged consumers to substitute away from Indonesia’s low energy coal. Indonesian coal is typically high in moisture which lowers the energy content, meaning more coal has to be used to generate the same amount of energy produced from higher quality coals.

Increased controls on coal exports to conserve domestic reserves for local consumption and reduce unlawful mining contributed to the reduction in Indonesia’s exports. Indonesia has plans to build 35 gigawatts of new power stations, mainly coal-fired, by 2019. This growth in coal-fired power is expected to increase Indonesia’s coal consumption from approximately 80 million tonnes a year in 2015, to between 90 and 110 million tonnes in 2016 and up to 190 million tonnes in 2019. To meet the expected increase in demand the Ministry of Energy and Mineral Resources announced that coal producers need to set aside 86 million tonnes of production in 2016. The increase in the domestic market obligation is expected to reduce the volume of coal Indonesian producers can make available for export.

Indonesian exports were also affected by poor profitability and lower coal production, which fell 18 per cent to 376 million tonnes. Coal production was affected by government plans to consolidate the industry and reduce illegal mining. The government closed mines that do not comply with regulations and increased royalties and administration fees on small to medium producers, to encourage consolidation within the industry.

Over the medium term, the effect of falling export demand and falling production are projected to contribute to Indonesia’s thermal coal exports falling on average 1 per cent a year to around 280 million tonnes in 2021.

Figure 6.14: Indonesian electricity generating capacity >50MW

Figure 6.15: Indonesia’s thermal coal exports


Columbia’s exports to increase rapidly

Columbia’s thermal coal exports are estimated to have increased 2 per cent to 81 million tonnes in 2015. Columbia’s exports benefited from low bulk shipping rates and production costs, which meant producers could deliver coal to Western Europe 15 per cent cheaper than Russian producers, the next lowest cost providers, and considerably cheaper than Polish and Czech producers.

Traditionally, the majority of Columbia’s exports have been directed to the United States and Europe. However, low freight rates allowed Columbia to competitively deliver coal to India in 2015. As consumption falls in Columbia’s traditional markets, exports to India and Southeast Asia are expected to increase.

Columbia’s exports have also benefited from its low cost structure which means producers are still profitable at current prices. Columbia’s coal is high quality and production is consolidated, which provides economies of scale. Columbia’s coal is produced from nine, large open cut mines at an average cost of US$44 a tonne, unlike the many small mines in the US and Australia.

Over the medium term, Columbia’s exports are projected to increase 9 per cent a year to 123 million tonnes in 2021, supported by an increase in output. However, labour and environmental issues remain a major risk to Columbia’s

exports. Columbia’s coal production is regularly interrupted by labour disputes—one was narrowly avoided in the first quarter of 2016—and ongoing issues may reduce the growth in exports. For example, in 2013 workers at the Cerrejon mine went on strike for 32 days, which cut annual production at the mine by around 2.5 million tonnes. Some estimates suggest that strike action in 2016 could reduce Columbia’s exports by around 2.8 million tonnes.

South Africa’s exports to be constrained by infrastructure

South Africa’s coal exports are estimated to have remained at 76 million tonnes in 2015, as a fall in European demand was offset by an increase from India. South Africa’s exports were constrained by power cuts, infrastructure and low prices.

South Africa’s coal exports have been affected by a shortfall in electricity to critical infrastructure, such as rail and seaports. At the start of 2016, Eskom, South Africa’s publicly-owned utility, announced that power cuts are likely to last several years, until additional electrical capacity can be built.

A lack of infrastructure investment has resulted in bottlenecks and capacity constraints in South Africa’s transport network. For example, the railway to the Richards Bay export terminal is currently operating at 85 per cent capacity and without an expansion the railway will reach capacity shortly. Without further investment in infrastructure, coal exports are likely to be unable to keep up with demand and may be displaced by other exporters, such as Columbia.

Low prices have encouraged producers such as Glencore, to cut production. In July 2015, Glencore announced that its Optimum mine will cease production and Anglo American has announced plans to sell their coal assets.

Over the medium term South Africa’s exports are projected to grow on average by 3 per cent a year to 90 million tonnes in 2021, supported by an increase in production at existing mines and strong demand growth from India. A key risk to this assessment is the ability of South African producers to overcome power cuts and infrastructure constraints.

6.6 Australia’s exploration, production and trade

Coal exploration continues to decline

Lower coal prices have reduced the incentive to invest in exploration and many producers have reduced their exploration activity to reduce costs. Australia’s coal exploration fell 19 per cent in the December 2015 quarter to $63 million. For the full year 2015 exploration fell 37 per cent to $213 million.

Australia’s coal production to increase by 4 per cent in 2015–16

In 2015–16, Australia’s coal production is forecast to increase 4 per cent to 260 million tonnes, supported by increased production at existing operations and the start of several new mines. Despite the low prices new capacity was

commissioned in 2015, including Maules Creek, which will increase production through the short term.

Although operating conditions are challenging there have been few mine closures in Australia. Australian producers have sought opportunities to cut costs through reduced exploration and investment, and re-negotiating service contracts, like rail, in order to remain viable. Some producers, like Glencore, have also announced production cuts. To date, the Australian coal industry has been able to remain competitive relative to other producers and avoid large scale closures, but many operations are not making a cash return at current prices. In an environment of low prices it is possible that further mine closures or production cuts will be announced over the outlook period. Cockatoo Coal’s Baralaba coal mine was put into care and maintenance at the end of 2015 after the company went into administration. However, the company was able to obtain $100 million in credit, to restructure and restart operations at their Baralaba mine in 2016.

In 2016–17, Australia’s thermal coal production is forecast to decline moderately to 254 million tonnes as the closure of several mines, largely due to the exhaustion of resources, more than offsets an increase in output from newly commissioned operations.

Australia’s coal production is projected to grow by around 1 per cent a year on average, from 2017–18 to around 260 million tonnes in 2020–21. Given the low price and ample of supply of coal on world markets, Australian producers are not expected to develop new mines over the medium term. There are a number of thermal coal mines for sale in Australia, so companies that plan to increase production are more likely to purchase existing operations that have lower set-up costs.

Development of the Watermark and Carmichael coal mines is currently progressing, with the Carmichael coal mine recently obtaining lease approval from the Queensland Government. However, production from both mines has not been included in this assessment of Australia’s projected coal production as both Watermark and Carmichael are expected to be commissioned outside the timeframes of this outlook.

Australia’s exports to increase through to 2020–21

The projected increase in world trade will provide opportunities for Australian coal exporters, particularly with the expected decline in exports from Indonesia.

Figure 6.16: Australia’s coal exploration expenditure

Figure 6.17: Australia’s thermal coal exports


However, there are many suppliers to world markets and Australian producers will need to remain a competitive supplier of coal to maintain market share.

Despite the challenging conditions that affected the export market in 2014–15 Australia managed to increase market share in some key export markets, including Japan and China.

In 2015–16, Australia’s exports of thermal coal are forecast to increase to 205 million tonnes, supported by increased production. The value of these exports is forecast to decrease slightly to $15 billion, weighed down by lower prices.

Australia’s thermal coal exports are projected to increase marginally over the medium term to around 216 million tonnes in 2020–21, supported in part by increased exports to Southeast Asia. Export earnings are projected to decline to around $14 billion (in 2015–16 dollar terms) in 2020–21, because of a projected decline in the price expressed in real terms.

Table 6.1: Thermal coal

unit 2015 2016 f 2017 f 2018 z 2019 z 2020 z 2021 z

WorldContract prices b

– nominal US$/t 68 59 57 56 59 61 62– real c US$/t 69 59 56 54 55 56 56

Coal trade Mt 1,059 1,054 1,053 1,064 1,085 1,094 1,100Imports

Asia Mt 735 745 762 781 805 818 825China Mt 156 148 140 138 130 122 118Chinese Taipei Mt 61 62 63 63 64 66 66India Mt 191 204 215 229 242 254 260Japan Mt 144 138 137 137 136 135 130South Korea Mt 102 106 107 107 111 113 114Europe Mt 241 228 212 207 201 195 193European Union 27

Mt 187 173 155 147 142 135 132

other Europe Mt 54 55 57 60 60 61 62Exports

Australia Mt 202 203 210 211 212 215 217Colombia Mt 81 83 95 112 116 122 123Indonesia Mt 296 290 289 286 284 283 280Russia Mt 135 137 140 141 142 143 145South Africa Mt 76 78 81 83 85 89 90United States Mt 25 23 20 18 17 16 15

unit 2014–15 2015–16 f 2016–17 f 2017–18 z 2018–19 z 2019–20 z 2020–21 z

AustraliaProduction Mt 249.4 259.5 253.7 255.0 255.6 257.1 259.3Export volume Mt 204.5 204.6 207.0 210.4 211.5 213.5 216.1

– nominal value A$m 16,057 15,435 13,836 13,697 13,977 14,785 15,407

– real value d A$m 16,288 15,435 13,644 13,243 13,192 13,589 13,794Notes: b Japanese Fiscal Year (JFY), starting April 1, fob Australia basis. Australia–Japan average contract price assessment for steaming coal with a calorific value of 6700 kcal/kg gross air dried; c In current JFY US dollars; d In current financial year Australian dollars; f Forecast; z Projection Source: ABS (2016) International Trade, cat.no 5465.0; IHS Inc (2016); IEA (2015) Coal Information 2015; Coal Services Pty Ltd; Queensland Department of Natural Resources and Mines; Company Reports

7. Gas

7.1 Market summary

Australia’s LNG exports are projected to triple by 2021. Despite strong demand growth in the Asian LNG market, competition is expected to intensify as new supply capacity comes online, particularly in the United States. As a result, prices are projected to remain low in the medium term. Over the outlook period, global LNG markets are expected to become increasingly fragmented and less predictable as a result of an increase in the number of smaller and more flexible buyers. These factors suggest sellers will operate in a more challenging environment, in which prospects for new supply other than projects already committed will remain limited.

7.2 Prices

Some recovery in contract prices, but spot prices to remain low

Globally, the majority of long term LNG contracts remain linked to oil prices. As a result of the recent reduction in oil prices, the price of contracted LNG delivered into Asia has been declining since 2014. Average prices for LNG delivered into Japan declined by 48 per cent between January 2015 and January 2016 to US$7.39 a gigajoule, as the lagged effect of oil prices flowed through. The Brent crude oil price is forecast to continue declining in the short term (2016) to US$36.60 a barrel, before recovering to US$59.80 a barrel in 2016 dollar terms by 2021.

Regional LNG contract prices are expected to become more variable over the medium term as Asian imports from the United States increase. These contracts are not linked to oil, as they are based on the price of gas at the Henry Hub in the United States. This change in pricing mechanism may be the start of a broader move away from oil-linked pricing in the Asian market, potentially towards an Asian hub, which would reflect the dynamics of supply and demand in the region. However, this is a long term process. Even a move towards hybrid pricing in the interim would not be expected to have a significant effect on the prices for Australia’s LNG over the projection period, given many projects have only recently entered into long-term contracts.

Spot LNG prices are expected to remain low over the medium term, as a result of the growth in excess supply capacity in global LNG markets. Given the forecast increase in oil prices from current lows, contract and spot LNG prices are expected to diverge, with the spot price remaining lower than oil-linked contract prices. Globally, volumes of LNG traded in spot and short term markets increased from around 5 per cent in 2000 to around 30 per cent in 2014, with growth in these market segments expected to continue. This growth is supported by uncertainties in longer term gas demand as a result of environmental policies and price competitiveness of other fuels. Consistent with the changes in LNG contract pricing, this outcome is unlikely to have a significant impact on export earnings for Australia over the projection period because the majority of Australia’s LNG is traded under existing long term contracts.

Figure 7.1: Global price indices


7.3 World LNG imports

After several years of no growth in LNG trade because of demand constrained by supply capacity and high prices for both contract and spot LNG, traded volumes of LNG are now increasing as new capacity comes on line from a number of projects. Global LNG imports in 2015 increased only 0.06 per cent from 2014 to 240 million tonnes, but are projected to grow at a faster pace over the medium term as new projects commence.

LNG imports in the Asian region are expected to drive LNG growth over the outlook period, to increase from 167 million tonnes in 2015 to 246 million tonnes in 2021. While Japan will remain the largest Asian market, the role of China is expected to increase, overtaking South Korea to become the second largest market by the end of the decade. LNG demand growth is also expected to be led by strong growth in India and a range of smaller and emerging importers in the rest of Asia, as well as a recovery of LNG demand in Europe.

Growth plateauing or falling in foundation markets

LNG demand in Japan has reached its peak, and declined by 5 per cent in 2015. Japan’s demand is projected to continue to decline over the medium term, at an average annual rate of 2.7 per cent to around 72 million tonnes by 2021. This reflects the restart of nuclear power plants and strong competition from alternative energy sources in electricity generation. Nevertheless, Japan is still expected to remain the largest single importer of LNG globally.

Australia’s LNG exports to Japan increased marginally in 2015 and continued to account for the majority of Australia’s LNG exports at around 80 per cent. While the share of Australia’s exports to Japan is projected to decline, Japan is expected to remain Australia’s largest LNG market, constituting around 37 per cent of Australia’s total LNG exports in 2021.

South Korea, currently the second largest importer, is expected to be overtaken by China to become the third largest single importer by 2019. Although its LNG volumes are projected to plateau, the share of supply from Australia and the United States is increasing, offset by reductions in imports from Qatar, Indonesia and Oman.

China a key driver of LNG demand growth, despite projected increases in domestic gas production and pipeline gas

Natural gas demand in China is expected to grow rapidly, largely because of government policies. China’s Government has made a commitment to increase the current gas-fired power generation share from 6 per cent to 10 per cent by 2020 and is promoting the use of natural gas vehicles (through subsidies and highway toll exemptions) to reduce air pollution and greenhouse gas emissions.

Although China is also sourcing gas from domestic sources and international pipelines, its LNG imports are projected to increase at an average annual rate of 17 per cent to reach 56 million tonnes in 2021. The outlook for China’s LNG demand will depend largely on changes in gas supply from domestic gas production (conventional and unconventional), infrastructure and international pipeline connections.

Figure 7.2: Global LNG import outlook


LNG from Australia will be a large contributor to China’s overall LNG consumption. Australia’s LNG exports to China are projected to account for 45 per cent of China’s LNG imports in 2021, compared with 22per cent in 2015.

Demand in the rest of Asia, led by India

India’s gas demand is expected to increase strongly over the projection period as a result of strong economic growth, and plans to increase electrification and lower carbon emissions. These factors are expected to increase the share of gas in the electricity generation fuel mix.

Nearly half of India’s total gas demand is expected to be supplied by LNG, as a result of the poor outlook for indigenous production, and limited prospects for international pipeline imports due to geopolitical and economic factors. India currently has four regasification terminals with total annual capacity of 25 million tonnes, which is projected to almost double to around 47 million tonnes by 2020. As a result, LNG imports are projected to grow at an average annual rate of around 19 per cent over the medium term, to reach 27 million tonnes in 2021.

While the outlook for India is positive, there remain many barriers to greater gas penetration. For example, the domestic market is very sensitive to price and competition from alternative energy sources, and gas distribution infrastructure must be expanded significantly. The extent to which domestic production can increase will also have an effect on the extent to which India will need to rely on imported LNG to meet its gas needs.

Demand growth in the rest of Asia is spread across a large number of countries, including Singapore, Pakistan, Indonesia and Malaysia. This growth is driven by a range of county-specific factors, but has implications for the dynamics of the LNG market. The growing numbers of LNG importers, each with a relatively small market share in the rest of Asia, is expected to accelerate market fragmentation and at the same time support increasing competition and liquidity in global LNG markets.

Figure 7.3: China’s LNG import outlook

Figure 7.4: Japan’s LNG import outlook


A recovery in Europe’s LNG import demand

There are poor prospects for growth in overall gas demand in Europe, a consequence of a sluggish economic outlook and continued penetration of renewables in the energy mix. However, Europe is projected to have a strong recovery in LNG demand by 2021 as a result of falling domestic gas production (particularly in the Netherlands), and a desire to diversify from dominant Russian pipeline supply.

7.4 World LNG exports

Excess supply capacity expected to grow

In 2015, Qatar remained the world’s largest LNG exporter, followed by Malaysia and Australia. Increases to global LNG production were supported by increased production in Australia, PNG and Indonesia.

Over the projection period, excess LNG supply capacity is expected to continue to grow as a result of the large number of projects coming online. Global LNG supply capacity is projected to increase on average by 7 per cent a year over the outlook period to around 400 million tonnes by 2021. The bulk of this increase in capacity will come from projects in Australia and the United States.

Next wave of supply coming from the United States

As a result of the expansion of shale gas production, the United States is likely to become the third largest exporter of LNG by 2021, behind Australia and Qatar. Total LNG export capacity in the United States is expected to reach almost 72 million tonnes, which is around 12 per cent of its projected total gas consumption in 2021.

Sabine Pass (currently the largest LNG development in the US) exported its first LNG shipment in February 2016. At completion, Sabine Pass is expected to have annual capacity of 27 million tonnes. The Cove Point, Cameron, Freeport and Corpus Christi projects are expected to provide the remaining 45 million tonnes a year capacity over the outlook period. There is also potential for further capacity additions in the United States beyond the outlook period, with an additional eight LNG export facilities or expansions proposed to the Federal Energy Regulator for approval.

Figure 7.5: South Korea LNG import outlook

Figure 7.6: Global existing and new liquefaction capacity


LNG exports from the United States are likely to be competitive in the Asian market. Shipping costs from the United States are expected to remain low as a result of the low oil prices and excess LNG supply capacity, while the expansion of the Panama Canal should facilitate a slightly shorter route to Asia.

Further growth of LNG production in Asia and Africa

In addition to the supply from Australia and the United States, further increases in LNG production are projected over the outlook period from Malaysia and Africa.

Malaysia is expected to begin production from the world’s first ever floating LNG (FLNG) plant in 2016. This plant has a life of twenty years and annual capacity of 1.2 million tonnes. Train 9 of Petronas’s Malaysia LNG project, which is Malaysia’s largest LNG development, is also expected to come online in 2016, adding a further 3.6 million tonnes of annual LNG capacity. However, most of the supply from Malaysia is expected to meet domestic requirements.

LNG production from Africa is projected to increase over the outlook period. A restart of the Angola LNG plant in 2016 will substantially increase LNG export capacity by 5.2 million tonnes a year (around 15 per cent of current export capacity from Africa). In 2019, Africa’s first FLNG project is expected to come online—Cameroon FLNG, with annual capacity of 1.2 million tonnes.

The growth and diversification of LNG markets is being supported by more flexible methods of producing and importing LNG: FLNG and floating storage and regasification units (FSRUs). These new technologies are described in detail in Box 7.1.

7.5 Australia’s gas production and exports

Rapid increases in production to fuel LNG exports

Over the outlook period Australia’s gas production is projected to increase 12 per cent a year on average to 147.6 billion cubic metres in 2020–2021. Most of the increase in gas production will be to support additional LNG export capacity, from Australia’s western, northern and eastern markets.

Box 7.2: Floating LNG (FLNG) and floating storage and regasification units (FSRUs)

FLNG facilitates the development of offshore natural gas, without the need for it to be piped onshore for processing or liquefaction. All required equipment is built on board the vessel. Gas is extracted from the seabed, processed, liquefied and stored on a floating facility that is permanently moored over the field. LNG is then offloaded to a dedicated LNG vessel and taken directly to market. Once the gas source is depleted the vessel can be transported to another gas field, reducing decommissioning costs.

Given the cost efficiencies FLNG methodology is designed to achieve, it can be an attractive option to monetise stranded gas from marginal or remote fields—gas that under normal circumstances may not be financially viable to extract.

Currently there are a number of FLNG developments planned or under construction, including the world’s largest in Australia—Shell’s Prelude FLNG project based in the Browse Basin, which is due for completion in 2017. The world’s first operational FLNG development will be Petronas’s FLNG Kanowit, which is expected to come online in Malaysia later this year. FLNG facilities are also being built to develop reserves in Indonesia and Africa.

FSRUs facilitate floating regasification and can transport, store, and regasify LNG on board. Floating regasification also requires either an offshore terminal, which typically includes a buoy and connecting undersea pipelines to transport regasified LNG to shore, or an onshore dockside receiving terminal. An FSRU can be purpose-built or be converted from a conventional LNG vessel.

Floating regasification is a cost effective regasification option compared to the construction of onshore regasification plants, especially for smaller and seasonal markets that do not require large amounts of gas. It can also serve as a temporary solution while permanent onshore facilities are constructed (a particularly attractive option for developing countries).

FSRUs are expected to grow in popularity over the projection period. In 2016 and 2017 four floating terminals with total capacity of 0.03 million tonnes a day are expected to be deployed. These terminals will be located in India, the Dominican Republic, Colombia and the Philippines.

Much of this increase is expected to occur in 2015–16, with Australia’s gas production forecast to increase 26 per cent to 83.2 billion cubic metres in 2015–16. This is largely driven by production from Gladstone, with the continued increase in exports from QCLNG, GLNG and APLNG. In addition, Gorgon shipped its first cargo on 14 March and will be the largest contributor to Australia’s new LNG capacity over the outlook period, at 15.6 million tonnes a year.

Additional capacity is expected to come online in Gladstone later in 2016, through trains 2 of the GLNG and APLNG projects, which are expected to add annual capacity of 8.4 million tonnes to bring capacity in Australia’s eastern market to 25.3 million tonnes.

However, most of the growth in gas production over the outlook period is expected in the western market, where gas production is projected to nearly

double in the next five years. In addition to the Gorgon project, increases in production will be driven by the start-up of the Prelude, and Wheatstone LNG projects, expected to come online by 2017, bringing total capacity in the western market to 48.7 million tonnes.

Export capacity in the northern market will increase to 12.6 million tonnes once the Ichthys project is completed in 2017 which will export LNG from Darwin.

Australia’s LNG exports are projected to increase at an average annual rate of 16 per cent to 75.2 million tonnes by 2020–21, below nameplate capacity due to strong global competition. Export volumes represent the majority of projected gas production in 2020–21, accounting for 51 per cent of total production.

Over the same period, earnings from these exports are projected to reach $42.2 billion (in 2015–16 dollar terms) in 2020–21. Export values over the projection period are lower than previously forecast due to lower oil price projections which flow through to LNG prices.

The oil price is expected to be the most significant risk affecting the outlook for Australia’s LNG export earnings. Given the existence of long term supply contracts for much of this capacity, the risk to export volume projections is relatively low.

Table 7.1: Australia’s LNG capacity

Project Capacity (Mtpa)

Start-up(year)

Western market

North West Shelf (NWS) 16.3 1989

Pluto 4.3 2012

Gorgon 15.6 2016

Wheatstone 8.9 2017

Prelude Floating LNG 3.6 2017

Northern market

Darwin LNG 3.7 2006

Ichthys 8.9 2017

Eastern market

Queensland Curtis LNG (QCLNG) 8.5 2014

Australia Pacific LNG (APLNG)

Train 1 4.5 2015

Train 2 4.5 2016

Gladstone LNG (GLNG)

Train 1 3.9 2015

Train 2 3.9 2016

Total capacity(existing and under construction) 86.6

Source: Company reports

Figure 7.7: Australia’s gas production outlook by market

Figure 7.8: Australia’s gas production outlook by type

Figure 7.9: Australia’s LNG exports by volume and value

Figure 7.10: Australia’s LNG export outlook by destination


8. Oil

8.1 Market summary

Australia’s exports of oil and condensate are projected to increase to 2018–19 as new LNG projects with associated liquid production come online. However, export earnings will decline in the near term as a result of continued low oil prices, before increasing between 2016–17 and 2018–19 as global stocks begin to decline and oil prices recover slightly. Towards the end of the outlook period, Australia’s crude oil and condensate export volumes and values will decrease as natural decline weighs on production.

8.2 Prices

After increasing in the first half of 2015, oil prices fell in the second half of the year as the effects of strong OPEC supply, weakening demand conditions, and the prospect of returning Iranian supply drove prices to seven-year lows. On an annual basis, West-Texas Intermediate (WTI) declined by 47 per cent in 2015 to average US$49 a barrel. Brent also fell by 47 per cent, to average US$53 a barrel for the year.

Oil prices to remain low until stocks begin to decline

Global stocks of crude oil continued to build in 2015 as additional supply outweighed growth in demand. While the pace of stock builds is likely to slow considerably, stocks are expected to rise further in 2016. As a result, oil prices are forecast to remain near current levels in the short term, with WTI averaging US$35 a barrel in 2016, and Brent, US$37 a barrel.

Stocks are forecast to decline in 2017 as consumption begins to exceed supply, leading to a rise in prices. Oil prices are projected to increase more slowly over the remainder of the outlook period in line with returning supply growth. In real terms, the price of WTI is projected to increase to US$58 a barrel in 2021, and Brent, US$60 a barrel.

Oil prices remain subject to considerable uncertainty over the outlook period due to a number of factors. These include: the extent of the economic slowdown in China; the timing and pace of returning supply from Iran; and the effects of recent cuts to exploration and development expenditure.

Figure 8.1: Weekly oil prices

Figure 8.2: US stocks of crude oil and refined products


8.3 World oil consumption

World oil consumption increased by 1.8 per cent in 2015 to average 94.5 million barrels a day, the highest rate of annual growth in five years. Stronger

growth was the result of increased consumption in OECD economies, particularly those in Europe, which experienced exceptionally cold weather in the first quarter of the year, leading to increased demand for heating.

Global consumption is expected to continue to increase in the medium term, but growth is expected to slow. World oil consumption is projected to increase by 1.2 per cent a year over the outlook period, to average 101.6 million barrels a day in 2021.

Non-OECD economies continue to drive global consumption but patterns of growth change

Growth in world oil consumption is expected to be driven by increased consumption in non-OECD economies over the medium term, but the distribution of incremental consumption within the group is likely to differ from earlier patterns.

Demand growth in China is projected to slow over the medium term. Slower growth is the result of a transition away from heavy manufacturing industries towards consumer-focused sectors, which consume oil less intensively. Despite slower growth, China is still projected to provide the largest contribution to global growth over the medium term.

Slower growth in China will be offset by increased consumption by non-OECD economies in Asia and the Middle East, particularly India, where continued growth in vehicle numbers and infrastructure will drive demand.

Improved transport efficiency drives decline in OECD consumption

Increased vehicle efficiency is expected to reduce OECD demand over the medium term, with consumption declining by 0.4 per cent a year to average 45.1 million barrels a day by the end of the outlook period.

In the United States, efficiency improvements are projected to outweigh modest growth in the stock of vehicles, resulting in consumption declining towards the end of the outlook period.

Figure 8.3: Annual oil prices

Figure 8.4: World oil consumption


In Europe, the long-term transition from gasoline to diesel-powered vehicles and other efficiency gains are expected to compound the effects of slower economic growth towards the end of the outlook period. Declining consumption by economies in Europe is projected to account for around 60 per cent of the contraction in OECD consumption over the medium term.

8.4 World oil production

Global oil production grew by 2.8 per cent in 2015 to average 96.4 million barrels a day, an annual increase of 2.6 million barrels a day, the largest since 2004. The increase in world production was largely the result of

continued but slower production growth in the United States in the first half of the year, and a strong increase in OPEC supply.

World oil production is expected to remain relatively flat in 2016, with slower growth in OPEC supply just outweighing a decline in non-OPEC supply. From 2017 onwards, global production is projected to increase by 0.8 per cent a year to reach 100.5 million barrels a day in 2021.

Unconventional production declines but the US remains the largest source of incremental non-OPEC supply

Low oil prices and tighter credit conditions are expected to cause unconventional production in the United States to contract sharply in the near term, prompting total production to fall to 12.3 million barrels a day in 2017. To some extent, declining unconventional production will be offset by additional production associated with a number of conventional offshore projects coming online in the Gulf of Mexico.

Returning supply from Iran drives OPEC production growth

OPEC supply is projected to continue to increase in the medium term, but growth will progressively slow over the outlook period. Production by OPEC members is forecast to increase by 1.9 per cent in 2016, before slowing to an annual increase of 0.5 per cent in 2021.

Increases in OPEC output will be driven by the return of supply from Iran, which is forecast to increase by almost 0.5 million barrels a day in 2016. Supply from Iran will increase further in 2017 before growth slows as technical constraints emerge.

Figure 8.5: Average fuel consumption of new vehicles in the EU28

Figure 8.6: Change in world oil production


However, the timing and pace of returning supply from Iran is subject to a number of uncertainties. These include the volume of oil currently in storage, internal capacity to mitigate decline rates and meet technical challenges, and the level of future foreign investment.

Domestic fiscal considerations put OPEC decision to defend market share under pressure

While growth in OPEC supply is projected to continue in the medium term, persistently lower oil prices place considerable pressure on the group’s decision to defend market share.

Many OPEC members currently face a fiscal break-even price of oil (the price needed to balance the national budget) well above the going market price because of large capital expenditures made during the period of sustained higher oil prices. As a result, OPEC members are now under increasing pressure to implement measures aimed at minimising their fiscal deficits.

Saudi Arabia, which controls almost all OPEC spare capacity and thus largely dictates OPEC policy, recently introduced a 50 per cent increase in the price of gasoline. Kuwait is also considering a similar increase, despite having one of the lowest fiscal break-even prices in OPEC.

Increased fiscal pressure in OPEC economies creates a degree of uncertainty about the ability and conviction within OPEC to produce below fiscal break-even prices over the longer-term, particularly for the non-Gulf states, which have comparatively smaller financial reserves.

Supply tightness may emerge in the future

Global production is projected to continue to increase over the medium term but some uncertainty exists over the full effect of recent cuts to exploration and development expenditure.

Oil companies reduced capital expenditure on exploration and development by 24 per cent in 2015, equivalent to the deferral of around 20 billion barrels of reserves. Similar cuts are also expected in 2016.

Figure 8.7: Change in production from shale regions in the US

Figure 8.8: Oil production in Iran


Estimates from the International Energy Agency suggest that 85 per cent of the investment required to meet demand for oil and gas over the longer-term is simply devoted to offsetting natural decline at existing fields.

If recent cuts to capital expenditure fail to account for this, producers may struggle to merely maintain current levels of production, leading to a supply deficit.

8.5 Australian production and exports

Australia produced 340 thousand barrels of crude oil and condensate a day in the December quarter, down 5.5 per cent on a year-on-year basis. The decline in production was largely the result of lower production from the Gippsland Basin Joint Venture, which was affected by industrial action related to a new enterprise agreement.

The volume of Australian exports of crude oil and condensate also declined in the December quarter, falling by 11 per cent on a year-on-year basis to 270 thousand barrels a day in line with lower production.

Condensate production associated with new LNG projects drives growth

Australian production is forecast to remain relatively flat in 2015–16, in line with weaker production in the December quarter and a downward revision to

the outlook for the new Balnaves project, which is now only expected to operate for two years.

Domestic production is projected to increase to 390 thousand barrels a day in 2018–19 as additional condensate associated with the Gorgon, Prelude and Ichthys projects comes online. Production is expected to decline thereafter, falling to 338 thousand barrels a day by the end of the outlook period.

Export volumes are expected to follow production over the medium term, increasing to 310 thousand barrels a day in 2018–19 as additional output from new projects is shipped to nearby trading hubs in Asia. The volume of exports is then projected to decline, falling to 268 thousand barrels a day in 2020–21 in line with lower production.

Figure 8.9: Fiscal balance of Saudi Arabia

Figure 8.10: Australian petroleum production


The value of Australian exports of crude oil and condensate will continue to decline in the near term as significantly lower prices compound flat production.

Export earnings are forecast to fall to $5.0 billion in 2016–17, before growing to $8.3 billion (in 2015–16 dollar terms) in 2018–19 as volumes increase. The value of Australian exports is projected to decline thereafter, falling to $7.8 billion in 2020–21.

Low oil prices reduce investment and dampen prospects for future growth

Expenditure on petroleum exploration and development continued to fall in the December quarter in line with lower oil prices and the global decline in upstream investment. Exploration and development expenditures totalled $482 million for the quarter, 60 per cent lower than the average for the two-year period prior to June 2014.

Australian production will increase in the near term as additional output from committed projects comes online but will begin to contract towards the end of the outlook period. This contraction is likely to continue over the longer-term as a result of natural decline and the fall in upstream investment.

Australian refineries facing increasing regional competition

After falling to a six-year low of 3 million barrels a day in 2014, surplus global refining capacity is projected to increase to 5 million barrels a day in 2021 as nearly 8 million barrels a day of new capacity is added over the outlook period.

The majority of this additional refining capacity will be installed in the Asian region, placing further pressure on Australia’s older and less efficient refineries.

No further closures are assumed over the outlook period, but domestic production of refined products is forecast to decline sharply in the near term as a result of recent closures, falling by 22 per cent in 2015–16 to 413 thousand barrels a day.

Figure 8.11: Australian exports of crude and condensate

Figure 8.12: Australian petroleum exploration expenditure


Domestic refining capacity has declined by one-third in the last two years as refining activities ceased at the Kurnell and Bulwer Island facilities. Refining capacity in Australia is now around 443 thousand barrels a day, just over half the capacity in place prior to closure of Port Stanvac in South Australia in 2003.

Increasing reliance on imports of refined products

Australian consumption is projected to increase in the medium term, as continued economic growth in GDP outweighs the effect of a moderate increase in prices, reaching 1,019 thousand barrels a day by 2021. As a result, the volume of imported refined products is projected to increase over outlook period, growing by 3.4 per cent a year to 721 thousand barrels a day in 2021.

Australia’s reliance on imported refined products has increased significantly over the last 15 years in line with continued economic growth and declining refining capacity. At the turn of the millennium, imports of refined products represented 11 per cent of domestic consumption; by 2014–15, this share had risen to 53 per cent.

Figure 8.13: Australian imports of refined products

Figure 8.14: Australian refinery feedstocks


Table 8.1: Oil outlook

World Unit 2015 2016 f 2017 z 2018 z 2019 z 2020 z 2021 zProduction a mb/d 96.4 96.5 96.9 97.6 98.6 99.5 100.5

Consumption a mb/d 94.5 95.5 96.9 98.0 99.4 100.5 101.6

WTI crude oil price

Nominal US$/bbl 49.4 35.2 44.5 52.0 57.7 61.7 64.9

Real b US$/bbl 50.0 35.2 43.7 50.0 54.2 56.7 58.2

Brent crude oil price

Nominal US/$bbl 53.1 36.6 46.9 54.4 60.0 63.8 66.7

Real b US$/bbl 53.7 36.6 46.0 52.3 56.4 58.6 59.8

Australia Unit 2014–15 2015–16 f 2016–17 z 2017–18 z 2018–19 z 2019–20 z 2020–21 z

Crude and condensate

Production a kb/d 328 331 310 383 390 363 338

Export volume a kb/d 261 261 246 304 310 290 268

Nominal value A$m 8,656 5,351 5,030 7,556 8,841 8,942 8,753

Real value b A$m 8,780 5,351 4,960 7,305 8,344 8,219 7,836

Imports a kb/d 426 326 326 303 297 299 302

LPG

Production ac kb/d 57 53 51 62 64 59 55

Export volume a kb/d 36 37 35 43 44 41 38

Nominal value A$m 807 536 527 793 918 923 907

Real value b A$m 818 536 520 767 867 848 812

Refined products

Refinery production a kb/d 527 413 384 378 372 367 367

Exports ad kb/d 12 6 10 10 10 10 10

Imports a kb/d 487 611 637 661 684 705 721

Consumption ae kb/d 914 940 955 965 982 1,000 1,019Notes: a Number of days in a year is assumed to be exactly 365; b In current financial year Australian dollars; c Primary products sold as LPG; d Excludes LPG; e Domestic sales of marketable products; f Forecast; z Projection; A barrel of oil equals 158.987 litresSource: ABS (2016) International Trade Statistics Service, cat. no.5464.0 ; Energy Information Administration (2016); Department of Industry, Innovation and Science (2016)

9. Uranium

9.1 Market summary

The development of new nuclear capacity in China, India and Russia is expected to support a 45 per cent increase in Australia’s uranium exports to reach 9,450 tonnes U3O8 in 2020–21. The increase in demand is also expected to underpin an increase in uranium spot prices towards the end of the outlook period and contribute to Australia’s export earnings rising to $934 million (in 2015–16 dollar terms).

9.2 Prices

New capacity to support price growth over the medium term

Unlike most commodities, uranium spot prices increased in 2015 and averaged US$37 a pound, up 10 per cent relative to 2014. Uranium consumption growth was less affected by the slowdown in economic activity because of the rapid development of new nuclear power capacity over the past few years.

However, spot prices declined by 19 per cent from US$36 a pound to around US$29 a pound between November 2015 and mid–March 2016 as high inventories in Japan, the United States and Europe reduced demand while mined and secondary supply continued to increase.

These factors are expected to maintain downward pressure on the spot price over the short term. Spot prices are projected to average US$32 a pound in 2016 and decline further to US$31 a pound in 2017. From 2018, growth in demand is projected to accelerate as new nuclear power plants are completed in China, India and Russia. As a result, spot prices are projected to increase to average US$39 a pound (in 2016 dollar terms) by 2021.

This assessment is contingent on new power plants being completed according to schedule. If there are delays to the commissioning of reactors, consumption growth is likely to be slower than anticipated and will limit the extent of any price increases.

Large uranium producers typically sell most of their output through long term contracts rather than the spot market.

Figure 9.1: Uranium prices, monthly

Figure 9.2: Outlook, quarterly uranium prices


In contrast to the spot price, the UxConsulting long term indicator contract price remained unchanged between 2014 and 2015 and averaged US$46 a pound in both years. Long term contracts typically vary across producers because of differences in contract lengths, volumes and terms, which are

based on market conditions at the time of signing. Australia’s average export returns are generally much lower than the world indicator contract price.

9.3 Consumption

China, India and Russia to drive consumption growth

In 2015, world uranium consumption increased by 1.6 per cent to 68,800 tonnes U3O8 compared with 67,700 tonnes in 2014, because of the completion and start-up of Korea Hydro and Nuclear Power’s Shin-Wolsong 2 reactor in South Korea and Rosatom’s Rostov 3 reactor in Russia.

Growth in uranium consumption is driven by the development of new nuclear power generation capacity. Commissioning a new reactor requires more uranium for its initial core than operating plants. Annual requirements decline as a reactor reaches a steady state level of operation. Most reactors are refuelled at intervals of one to two years, when a quarter to a third of the fuel assemblies are replaced.

Most of the world’s new nuclear capacity is expected to be developed in China, India and Russia where energy policies are embracing nuclear energy to provide low-carbon emitting baseload electricity to their highly populated economies and growing industrial bases. In 2016, China has 24 nuclear reactors under construction and 42 reactors planned; India has six reactors under construction and 24 reactors planned; and Russia has eight reactors under construction and 25 planned. This growth will be partly offset by the closure of older reactors in Germany, Hungary, Japan, South Korea, Russia, Sweden, Switzerland, the United Kingdom and the United States as they reach the end of their economic life.

World uranium consumption in 2016 is forecast to increase by 10 per cent to 75,600 tonnes, supported by the initial start–up of new reactors in China as well as moderate output increases at existing reactors in advanced economies.

Figure 9.3: World nuclear power generation

Figure 9.4: New nuclear capacity


Units 1 and 2 at the Sendai nuclear plant were the first of Japan’s nuclear reactors to restart in late 2015, following the post–Fukushima review of Japan’s energy policies. Kansai Electric Power Company also restarted units 3 and 4 of the Takahama power plant in early 2016. However, the district court in Shiga Prefecture, where the plants are located, ordered the shutdown of the reactors on 10 March in response to a petition lodged by local residents. While the court’s verdict has been appealed, it is unclear if units 3 and 4 will be restarted in 2016. More reactors are expected to come back online in Japan within the next one to five years, with 24 of the 43 operable reactors in the process of obtaining approval to restart operation.

Despite the resumption of nuclear power generation, Japan’s output is projected to remain well below pre-Fukushima (March 2011) levels.

Over the medium term, the large increase in the number of nuclear power reactors in China, India and Russia is expected to underpin growth in uranium consumption. While the largest expansion is projected to occur in these countries, the United States is expected to remain the largest producer of nuclear power. Although energy policy in the United States is primarily focused on renewables and gas for electricity generation, the development of five reactors with a combined capacity of around 6,200 megawatts combined with its large existing capacity will contribute to an increase in US uranium consumption.

World uranium consumption is projected to grow at an average annual rate of 1.5 per cent from 2016 to 2021 and to total 80,900 tonnes in 2021.

9.4 Production

Mine production to increase steadily over the medium term

In 2015, world uranium production increased by 7 per cent from 2014 to 71,500 tonnes, largely owing to higher production from Cameco’s Cigar Lake mine in Canada and incremental increases at existing mines. This was partially offset by a 19 per cent decline in production at Rio Tinto’s Rössing mine in Namibia to 1,225 tonnes of U3O8 in 2015 compared with 2014 because of lower grades and recoveries.

In 2016, world production is forecast to increase by a further 7 per cent

Figure 9.5: World uranium consumption (U3O8)

Figure 9.6: World uranium production (U3O8)


to 77,000 tonnes. Increased production is expected at Rio Tinto’s Rössing mine and CGN/Swakop Uranium’s Husab mine in Namibia, Peninsula Energy’s Lance mine in the United States and Cameco’s Cigar Lake mine in Canada.

The world uranium supply is increasingly being driven by uranium inventories held by nuclear utilities and secondary market supplies. UxConsulting has estimated that there are sufficient inventories held by nuclear utilities to cover forward demand for around 60 months in Japan, 30 months in both the United States and Europe and around seven years in China. Consequently, it is expected that uranium producers will focus on cutting costs rather than increasing production over the medium term, with high cost production mines likely to scale back or cease production and new projects to remain on hold until future price increases improve the commercial viability of those projects.

World uranium production is projected to increase at an average rate of 2.7 per cent a year to 2021 to 87,600 tonnes. This will be underpinned by continued increases in production at CGN/Swakop Uranium’s Husab mine in

Namibia, Peninsula Energy’s Lance mine in the United States and Cameco’s Cigar Lake mine in Canada.

9.5 Australia’s exploration, production and exports

Australia’s uranium exploration expenditure has been declining

Australia’s uranium exploration expenditure decreased by 8 per cent in 2014–15 to $40.6 million, down from $43.9 million in 2013–14. This decrease was primarily because of a $3 million decline (46 per cent) in exploration expenditure in Queensland following changes in state government policies and regulations on uranium mining. This more than offset a 17 per cent increase in exploration expenditure in Western Australia.

Australia’s production to increase despite the wind-up of Ranger

In 2015–16, Australia is forecast to produce 7,835 tonnes of U3O8, up 21 per cent from 6,496 tonnes in 2014–15. This increase in production is the result of Quasar Resources’ Four Mile mine in South Australia restarting production in September quarter 2015, increased production

Figure 9.7: Uranium supply–demand balance (U3O8)

Figure 9.8: Australia’s uranium exploration


from the ERA Ranger facility and record production at the BHP Billiton Olympic Dam mine following production disruptions at both operations during 2014–15. In the short term, Australia’s uranium production is forecast to decline moderately to 7,225 tonnes in 2016–17, as production returns to average levels at the Olympic Dam mine and ERA Ranger facility.

ERA’s decision not to proceed with the Ranger 3 Deeps project in June 2015 will result in the mine not recommencing production in the medium term. However, ERA will continue to process its ore stockpile over the medium term. There are several uranium mines currently under development in Australia that are expected to support growth in uranium production in the medium to long term. These include Toro Energy’s Wiluna and Vimy Resources’ Mulga Rock projects in Western Australia. Australia’s production is expected to be marginally impacted in 2020–21 by the anticipated closure of ERA’s Ranger facility in January 2021. The Gunjeihmi Aboriginal Corporation advised ERA in late 2015 that the Mirarr Traditional Owners do not support an extension to the Ranger Authority. ERA is currently reviewing its business operations and is due to complete its review in March quarter 2016. Australia’s uranium production is projected to increase to around 9,450 tonnes of U3O8 in 2020–21, around 21 per cent higher than 2015–16.

Nuclear power growth in China to drive Australia’s uranium exports

In 2015–16, Australia is forecast to export around 8,007 tonnes of U3O8, 45 per cent higher than in 2014–15. These exports are expected to be destined for principal markets in North America, Western Europe and South–East

Asia. It is anticipated that Australia’s exports to China will continue to grow over the outlook period to 2020–21, as the 24 nuclear facilities currently under construction are completed and China continues to build its strategic uranium inventory. In 2015–16, export values are forecast to increase by 84 per cent to around $980 million supported by higher volumes and the effects of a lower exchange rate

Over the medium term, Australia’s uranium exports are projected to increase to around 9,450 tonnes. Export earnings are projected to increase to $934 million (in 2015–16 dollars), underpinned by projected increased volumes and long term sales contracts.

Figure 9.9: Australia’s uranium production

Figure 9.10: Australia’s uranium exports


Table 9.1: Uranium outlook

World unit 2015 2016 f 2017 f 2018 z 2019 z 2020 z 2021 z

Production kt 71.5 76.7 80.1 83.9 85.9 87.2 87.6

Africa b kt 9.0 11.0 12.7 14.3 15.2 16.4 16.6

Canada kt 15.7 18.0 18.1 18.6 18.6 18.6 18.6

Kazakhstan kt 28.1 28.0 28.1 28.1 28.2 28.4 28.6

Russia kt 3.6 3.6 4.0 4.2 4.3 4.1 4.1

Consumption kt 68.8 75.6 84.9 81.1 82.2 84.8 80.9

China kt 10.0 12.1 15.1 16.3 17.4 19.4 19.4

European Union 27 kt 21.3 20.8 21.1 23.0 20.8 21.3 21.3

Japan kt 0.2 0.6 1.3 2.3 3.1 3.8 3.8

Russia kt 5.8 5.9 6.3 6.6 6.8 6.7 6.7

United States kt 22.8 23.1 22.9 22.9 23.3 23.8 23.8

Spot price

– nominal US$/lb 36.5 31.8 31.0 31.0 34.0 39.0 44.0

– real c US$/lb 36.9 31.8 30.4 29.8 31.9 35.8 39.4

Australia unit 2014–15 2015–16 f 2016–17 f 2017–18 z 2018–19 z 2019–20 z 2020–21 z

Production t 6,496 7,835 7,225 8,050 9,250 9,600 9,450

Export volume t 5,515 8,007 7,225 8,050 9,250 9,600 9,450

– nominal value A$m 532 980 917 1,004 1,073 1,067 1,043

– real value d A$m 540 980 904 971 1,013 981 934

Average nominal price A$/kg 96.4 122.4 126.9 124.7 116.0 111.1 110.4

– real d A$/kg 97.8 122.4 125.2 120.6 109.5 102.1 98.8

Notes: b Includes Niger, Namibia, South Africa, Malawi and Zambia; c In current calendar year US dollars; d In current financial year Australian dollars; f Forecast; z ProjectionSource: Company Reports (2016); Department of Industry, Innovation and Science; UxConsulting (2016); Australian Safeguards and Non–Proliferation Office (ASNO)

10. Gold

10.1 Market summary

The depreciation of the Australian dollar and rapidly rising gold prices combined to create favourable conditions for Australian producers in early 2016. This is expected to translate into higher export volumes and values over the short term. While export volumes are projected to increase over the next few years, they are expected to decline towards the end of the outlook period as a number of key mines close. Gold export values are projected to decline to $11.8 billion (in 2015–16 dollar terms) by 2020–21 because of lower prices. Gold prices are projected to decline as global economic conditions improve and the US Federal Reserve lifts interest rates.

10.2 Prices

Gold prices continued to slide in 2015

Gold prices declined for a third consecutive year in 2015. The LBMA gold price declined by 8 per cent to average US$1,160 per troy ounce—the lowest level since 2009. Investment-driven gold demand recorded a small increase while fabricated gold consumption—the use of gold in jewellery and technology—contracted modestly.

Gold prices were supported by a modest rally in investment demand in the March quarter of 2015 resulting from concerns over a Greece exit from the Eurozone. However, anticipation of an increase in US interest rates, which eventuated in December 2015, constrained investment-demand in the latter part of the year. Higher US interest rates improve the return on US dollar denominated financial assets which increases the opportunity cost of holding gold, a non-interest bearing asset.

Prices elevated in the short run, before trending down

Gold prices recovered in early 2016, rising to almost $US1,280 per troy ounce in March—the highest level in more than a year. Increased demand for gold as an investment asset was responsible for the rise in prices. Investor concerns were centred on the health of the global economy, particularly economic developments in China and the strength of the US economic recovery.

Figure 10.1: Quarterly LBMA gold prices

Figure 10.2: Recent movement in gold prices


Gold prices are likely to remain elevated in the short term in response to investor uncertainty. Concerns over the global economy are expected to persist—the US economy has only recently begun to gain momentum while China’s economic transition still has some way to run.

The Federal Reserve’s decision to scale back the speed of US interest rate rises will also contribute to elevated gold prices over the short term. While the Federal Reserve signalled four interest rate rises over 2016 at the end of last year, this was reduced to two at the March meeting of the Federal Open Market Committee. The persistence of negative interest rates and the risk of deflation in Europe and Japan may also maintain the attractiveness of gold as an investment asset.

Over the medium term, gold prices are projected to decline at an average annual rate of 4 per cent to around $US899 (in 2016 dollar terms) in 2021 as global economic conditions improve. Investor-demand is expected to decline as the US economy continues to improve and the Federal Reserve lifts interest rates. Higher interest rates not only reduce gold demand by increasing the appeal of other assets, but also by putting upward pressure on the US dollar. As capital flows to the US seeking higher returns, the value of the US dollar is expected to rise, which will make gold more expensive for investors holding other currencies.

The effect of declining investment demand on prices will be partially offset by increasing consumption of fabricated gold. Increased fabricated consumption will be underpinned by lower prices and rising incomes in key consuming countries such as China and India.

While gold prices are projected to fall over the medium term, the decline is unlikely to be smooth as a range of factors could trigger temporary rallies in prices. These include poor economic data emanating from the United States or China, renewed concerns over possible exits from the Eurozone, or spikes in the gold imports of major consuming countries.

Figure 10.3: Gold prices and the US dollar

Figure 10.4: Effective federal funds rate


10.3 Consumption

Consumption spikes in early 2016 and may remain elevated

Global gold consumption remained broadly unchanged in 2015. A modest decline in fabricated consumption, driven by slowing growth in China and poor weather in India that squeezed incomes, was offset by slightly stronger investment demand. Investment consumption was supported by improved demand from bullion-backed Exchange Traded Funds (ETFs)—funds traded on the stock exchange where the value tracks the gold price.

In early 2016, investment demand, which represents around a third of total gold consumption, increased sharply. Demand from gold-backed ETFs rose 16 per cent over the first two months of the year. In late February, bullion-backed ETFs purchased the equivalent of almost a week’s worth of global gold mine production in just two days.

Investment demand was fuelled by concerns about the global economy and supported by expectations of a more gradual tightening of US interest rates. With concerns over global economic conditions persisting, a sustained period of positive economic data may be required to assuage investor concerns. As a result, gold may continue to hold its appeal as an investment asset in the short term.

Lower investment demand over the medium term, but fabricated consumption to grow

Gold consumption driven by investor activity is projected to decline over the medium term as the US Federal Reserve lifts interest rates. The Federal Reserve has signalled two rate rises are likely over the course of 2016. By the end of 2018, the Federal Reserve Board expects the target level for the federal funds rate to be around 3 per cent, up from its current rate of just 0.4 per cent. Global economic conditions are projected to improve over the outlook period, further reducing investment demand for gold.

Figure 10.5: Global gold consumption

Figure 10.6: ETF gold holdings


By contrast, fabricated consumption is projected to increase over the outlook period. Rising household incomes in emerging economies and lower gold prices are expected to support jewellery consumption, the major component of fabricated demand. China and India, which currently account for more than half of global fabricated consumption, are projected to be the key drivers of growth. Gold is not only viewed as an important store of value in these countries, but is also entwined with cultural and religious practices.

While fabricated consumption is projected to rise, it is only expected to do so moderately. Slowing economic growth in China is likely to hamper the recovery of Chinese jewellery demand, which has contracted over the last two years. Growth in Indian jewellery consumption is yet to really take off, having increased just 2.1 per cent a year over the past decade.

The use of gold in technology—which accounts for 12 per cent of fabricated demand—may also decline over the medium term. Gold competes with copper for use in various electronic goods. According to the World Gold Council, copper has continued to gain market share from gold as key manufacturers seek to reduce their use of the precious metal. This has contributed to a 30 per cent decline in gold use in technological applications over the past decade.

Figure 10.7: Jewellery consumption


10.4 Production

Global production down in 2015

Total gold supply, which consists of both mine supply and recycled supply, declined by 3.5 per cent in 2015 to 4258 tonnes. Mine supply declined as producers in both South America and Africa cut output under pressure from lower prices. Output also fell in China, the world’s largest producer. The fall in Chinese production was attributable to reduced output at copper mines, where gold is often produced as a by-product.

Supply from gold recycling, which makes up around a quarter of total supply, declined in 2015 in response to lower prices. Recycled gold consists of gold sold for cash by consumers or other supply chain participants such as jewellery manufacturers.

Mine production to drive growth in global gold supply

World gold supply is projected to increase over the next five years, underpinned by higher mine production. A number of gold projects that began construction around the time of the 2011–2012 peak in prices will either commence or approach capacity over this period. For example, Chesapeake Gold Corp’s Metates mine in Mexico is expected to begin production around 2018. The mine will be capable of producing an average of 26 tonnes of gold a year during its first six years of full production, making it one of the largest mines in the world.

Increased mine production will be partially offset by further declines in recycled supply. Recycled supply has tended to rise and fall with prices and gold prices are projected to decline over the outlook period. Declining prices make consumers more likely to continue holding gold and make reclaiming gold from electronic goods less economic, although the latter is a relatively minor source of recycled supply.

10.5 Australia’s production and exports

Exploration continues to increase

Australia’s gold exploration expenditure increased for a third consecutive quarter in December 2015, supported by a rise in the value of the Australian dollar price of gold. The turnaround follows almost two years of declining or flat exploration expenditure.

Figure 10.8: Recycled gold’s share of total supply

Figure 10.9: Australia’s gold exploration expenditure


Production reaches a 12 year high

Australia’s gold production reached 278 tonnes in 2015—its highest level in 12 years. Production was supported by higher Australian-denominated gold

prices, which improved operating margins. The Australian dollar averaged US75 cents in 2015, down from US90 cents in 2014. As a result, the price received by Australian producers averaged $1,540 per ounce, 10 per cent higher than 2014. For Australian producers, the effect of a depreciating currency more than compensated for the lower US dollar denominated gold price.

Increased production was driven by a number of large mines such as Newcrest Mining’s Cadia Valley Mine in New South Wales and Newmont Mining’s Boddington Mine in Western Australia.

Australia’s gold production is projected to rise until 2018–19, supported by a combination of new projects and mine expansions. Two of the largest new projects are in Western Australia. Dacian Gold’s Mt Morgans Project will begin production in early 2018, producing an estimated 7 tonnes of gold a year. Gold Road Resources aims to move its Gruyere Project (estimated annual production of 8 tonnes) through to production by late 2018.

The closure of a number of mines is expected to reduce Australian production towards the end of the outlook period. Australia’s seventh and eighth largest mines, Gold Field’s St Ives and Granny Smith mines in Western Australia, are expected to close in 2019 and 2020, respectively. Together these mines produced 21 tonnes of gold in 2015. Australian production is projected to be 277 tonnes in 2020–21.

A lower Australian dollar relative to the US dollar should support increased production over the outlook period. In the short term, the assumed weak exchange rate combined with high gold prices will translate into higher profit margins for Australian producers. Figure 10.10 shows that, in early 2016, the price Australian producers received for gold climbed to more than $1,700, a level not seen since the price boom in 2011–12. A lower dollar will also provide producers with a buffer against the projected decline in prices over the medium term.

Figure 10.10: US dollar versus Australian dollar gold price


Aluminium, alumina and bauxite

11. Aluminium

11.1 Market summary

The outlook for Australia’s aluminium exports is weak because of slow domestic production growth, weak demand in Australia’s major export market, Japan, and growing competition from the Middle East. As a result, annual exports are projected to fall on average by 2 per cent a year to 1.3 million tonnes in 2020–21. A projected moderate rise in aluminium prices because of strong consumption growth, particularly in automobile manufacturing, and the closure of high-cost capacity over the outlook period will provide some support to Australia’s earnings from aluminium exports.

Earnings are projected to increase at an average annual rate of 1.3 per cent to $3.9 billion (in 2015–16 dollar terms) by 2020–21.

11.2 Prices

Aluminium prices were under pressure in 2015 and early 2016

Low capacity utilisation, weak global demand and a huge build-up of stocks contributed to a rapid decline in aluminium prices in 2015. The LME aluminium spot price decreased by almost 11 per cent to average US$1,663 a tonne in 2015, and reached a low of US$1,432 a tonne in November 2015. Despite recent increases, prices have remained under pressure since the start of 2016. Global demand was lower as commercial activity in China was reduced over the Lunar New Year holiday in early February. Moreover, production in key producing regions has continued to increase. Over the remainder of 2016, prices are forecast to increase gradually as growth in consumption outpaces growth in production. As a result, the aluminium price is forecast to average around US$1,600 a tonne in 2016, 4 per cent lower than 2015.

While aluminium prices are not expected to deteriorate materially from current levels, the chances of a price rally are expected to be limited by excess capacity in the sector. The rate of new, low-cost, additions to capacity from China has been faster than expected and is unlikely to slow in the short term. On the demand side, China’s aluminium-intensive sectors are slowing, particularly the property sector.

Figure 11.1: Annual aluminium prices and stocks

Figure 11.2: World aluminium consumption


The Chinese Government announced plans at the end of 2015 to introduce a 1 million tonne “Commercial Stockpiling Programme”, whereby aluminium producers receive a bank loan for 80 per cent of the market price for holding aluminium from the market for a set period. The commencement of this policy is yet to be confirmed by Chinese authorities. Should it be implemented, the amount of aluminium available for trade on the LME may be reduced and could put some further upward pressure on prices.

Consumption growth to support prices over medium term

Over the medium term, aluminium prices are projected to increase moderately as the expected closure of high-cost production capacity reduces the growth in world aluminium output relative to consumption. The automobile sector is projected to be the key driver of growth in aluminium consumption over the medium term, supported by both increased production and increased aluminium intensity of new motor vehicles to improve fuel efficiency. In addition, central governments in China and India have initiated a number of policies that aim to increase spending on infrastructure such as power transmission capacity.

Production growth is projected to be limited by the closure of high-cost capacity, particularly in the United States. Annual production growth in China is also projected to slow from 2018. As a result aluminium prices are projected to rise at an average annual rate of 1.2 per cent to US$1,702 a tonne (in 2016 dollar terms) by 2020–21.

11.3 Consumption

Strong growth in aluminium consumption continues until 2021

World aluminium consumption grew by 7 per cent in 2015 to 57.1 million tonnes, supported by strong consumption growth in China and a recovery in the US automotive sector. Consumption in China, the world’s largest aluminium consumer accounting for more than 54 per cent of the world consumption, increased 14 per cent to 31 million tonnes because of government infrastructure spending and increased automobile production. Consumption in the US, the world’s second largest aluminium consumer, increased 1.2 per cent to 5.3 million tonnes.

Aluminium consumption will be supported over the medium term through increased use in the automotive sector. Automakers in China, the US, Germany, Japan, South Korea and India are using aluminium at an accelerating rate as they substitute away from other materials for new car and light truck construction. Aluminium is becoming more attractive in automobile production as it is a safe and cost-effective way of reducing vehicle weight and meeting energy-efficiency requirements. The International Aluminium Institute estimates that the use of aluminium in each automotive vehicle will grow by 58 per cent within 13 years from an average of 158 kilograms in 2012 to 250 kilograms in 2025.

The construction sector is also expected to contribute to a projected increase in aluminium consumption over the medium term. Despite slowing growth in China’s property sector, initiatives to invest in infrastructure in emerging economies are likely to increase their demand for aluminium as they start to develop new housing and electricity infrastructure. As a result, the demand for aluminium is projected to increase at an annual rate of 3 per cent to 70.6 million tonnes in 2021.

However, the uptake of alternative materials remains a threat to the growth in aluminium consumption. The steel industry continues to invest heavily to demonstrate that high strength steels can be engineered to provide the same weight savings as aluminium. Moreover, composites, a material made up of resin and reinforcement, also represent a serious competitor in the automotive sector. Although composite materials have cost and repair disadvantages compared to alternatives, their price is declining and they offer high strength, light weight and corrosion resistance and have low tooling costs.

11.4 Production

Production keeps rising

World aluminium production increased 8 per cent in 2015 to 57.4 million tonnes, driven by increased production from new capacity in China, the world’s largest producer of aluminium. Production from other sources also increased substantially. Production in Saudi Arabia rose 26 per cent to 835,000 tonnes, which contributed to the Middle East accounting for a bigger share of global production.

Declining aluminium prices have squeezed the margins of aluminium producers and contributed to worldwide production cuts of around 5.5 million tonnes during 2015. A large proportion of these cuts occurred in China where smelters have been required to curtail production under the “Supply Side Reform” policy initiated by the Chinese Government. However, the curtailments have not been fast enough to adequately reduce the growth in supply.

The cost of production has been the key contributing factor to a geographical shift in aluminium production from industrialised nations to emerging economies such as China, India and Indonesia. Given the relatively higher cost of production in the US, a large proportion of productive capacity has been closed. In 2015, US capacity decreased 7 per cent to 1.6 millions tonnes. Given the moderate outlook for aluminium prices and the development of more efficient, low-cost smelters elsewhere, the likelihood of further closures in the US is high.

Over the medium term, substantial new capacity is expected to be built in China and the Middle East. These plants are larger, more efficient and lower cost than most existing capacity. China is expected to continue to add to its capacity over the next five years. Similarly the capacity in the Middle East is projected to increase significantly, rising from 6.5 million tonnes in 2015 to 8.3 million tonnes in 2021. As a result, global aluminium production is projected to increase at an annual rate of about 3 per cent to 70.3 million tonnes in 2021.

Figure 11.3: World aluminium production

Figure 11.4: Cost components for aluminium production, 2015



Production to remain steady

Australia’s aluminium production is projected to remain stable at around 1.6 million tonnes with no major additions or closure of capacity scheduled over the medium term. Australia is a relatively cost-competitive producer. However, there is little incentive to invest in new capacity given the new projects planned to be developed elsewhere.

Positive export outlook but challenges ahead

The majority of Australia’s production is destined for export. Although there are emerging opportunities for Australia from the projected increase in global demand, exports will be constrained by production capacity and increased competition from lower cost producers, particularly from the Middle East. In 2015–16, Australia’s exports are forecast to decrease 3 per cent to just under 1.4 million tonnes. Export earnings are forecast to fall 4 per cent to $3.7 billion, driven by low aluminium prices in the first half of the financial year.

Over the remainder of the medium term, Australia’s exports are projected to fall at an average annual rate of 2 per cent to around 1.3 million tonnes in 2020–21. However, the value of these exports is forecast to increase 1.3 per cent annually to $3.9 billion (in 2015–16 dollar terms) by 2020–21, supported by an increasing price and the assumed depreciation of the Australian dollar.

Figure 11.5: Australia’s aluminium production

Figure 11.6: Australia’s aluminium exports


12. Alumina

12.1 Market summary

Although a projected increase in world aluminium production should support increased world alumina consumption, Australia’s alumina exports are projected to remain stable, with no expansions or closure of capacity over the medium term. A projected increase in alumina prices because of rising production costs are expected to contribute to Australia’s export values increasing by an average 4 per cent a year to $7.2 billion (in 2015–16 dollar terms) by 2020–21.

12.2 Prices

Alumina prices were under pressure in 2015 but have stabilised inearly 2016

The FOB Australia alumina price decreased by 9 per cent to average US$301 a tonne in 2015 because of slower consumption growth and ample supply. However, prices stabilised at the beginning of 2016 and rose to average US$209 a tonne in February 2016. This was partly supported by the curtailment of refining capacity in China following the introduction of the “Supply Side Reform” policy in late 2015.

In the short term, there is expected to be support for a gradual rise in alumina prices because of steady growth in aluminium production and expected cuts to alumina refining capacity. However, any increase in prices will be moderated by a sustained increase in supply. The alumina price is forecast to increase gradually from a low base to average US$225 a tonne in 2016 and US$257 a tonne in 2017.

China’s “Supply Side Reform” policy that aims to remove high-cost capacity could pose a risk to the rebound in alumina prices. If Chinese producers do not achieve the Government’s 7 million tonnes reduction target, production will be higher than forecast and put downward pressure on prices. Furthermore the tightening of loan and credit facilities in China could limit any price recovery as less financial capital is available for aluminium smelters to purchase alumina, which may reduce the growth in alumina consumption.

Figure 11.7: Annual alumina price

Figure 11.8: World alumina consumption


Rising costs to support prices over the medium-term

Over the medium term, FOB Australia alumina prices are projected to increase at an annual average rate of 7 per cent to US$313 a tonne (in 2016 dollar terms) in 2021, largely underpinned by an expected increase in production costs. Rising energy, labour, transport and financing costs are likely to contribute to the increased cost of producing alumina over the medium term. Higher prices are also expected to be supported by stronger economic growth, and higher aluminium consumption.

12.3 Consumption

Strong growth in alumina consumption in the short term

World alumina consumption grew by 12 per cent in 2015 to 116.4 million tonnes, supported by strong consumption growth in Asia. Consumption in China, the world’s largest alumina consumer, accounting for more than 56 per cent of world consumption, increased 22 per cent to 65.4 million tonnes because of increased aluminium production. Consumption in Russia, the world’s second largest alumina consumer, increased 2.8 per cent to 6.9 million tonnes.

In the short term, alumina consumption is forecast to increase by 9 per cent in 2016 and 2017, driven by strong growth in aluminium production in China as new capacity is commissioned and suspended capacity is expected to resume operation in 2017. Furthermore, alumina consumption from the Middle East is estimated to increase 3 per cent in 2016 and a further 5 per cent to 11.3 million tonnes in 2017, driven by increased aluminium production. The Middle East will need to rely on imports to meet this demand because of limited supply of bauxite in the region. India’s alumina demand is also forecast to increase, rising from 3.6 million tonnes in 2014 to 6.8 million tonnes in 2017. New aluminium smelters may not be able to access sufficient energy, which may limit the growth in aluminium production and hence alumina consumption.

Moderate growth in alumina consumption in the medium term

Medium term alumina demand is driven by aluminium production. Global aluminium production is projected to increase at an annual rate of 3 per cent to more than 70 million tonnes in 2021 because of expanding capacity in China and the Middle East. As a result, the demand for alumina is projected to increase at an annual rate of 2 to 3 per cent, in line with aluminium demand growth, to 150 million tonnes in 2021.

12.4 Production

Alumina production to increase rapidly until 2018

World alumina production increased by 5 per cent in 2015 to 118.1 million tonnes, driven by increased production from new capacity in China, the world’s largest producer, and other countries in Asia including India, Indonesia and Vietnam. Production in India, the world’s fourth largest alumina producer, increased 13 per cent to 5.6 million tonnes.

Alumina production is projected to continue to increase until 2018 as new projects developed in China reach full capacity. The development of new capacity in China, estimated at 9 million tonnes a year, will be a key contributor to the forecast growth in global supply. Outside of China, the Mempawah project in Indonesia and Nhan Co project in Vietnam are expected to commence production during 2017, adding a combined output of 1.6 million tonnes of alumina to the region by 2018. Moreover, the Emirates Global Aluminium Shaheen refinery project (2 million tonnes a year) is also expected to begin operation in 2017. Other projects in India, such as the Lanjigarh refinery in Odisha state, are planned to be operational in 2017, but may face possible delays due to bauxite availability. As a result, global alumina production is projected to increase at an average annual rate of 7 per cent between 2016 and 2018 to 146.6 million tonnes in 2018.

Production growth to moderate over the remainder of the medium term

Beyond 2018, world alumina production is projected to grow at a slower pace, about 1 per cent a year, driven by a slowdown in investment, particularly in China, and the expected increased use of recycling instead of producing new aluminium. In addition, the remote location of some of the large-scale and integrated projects like those in western China, India and the Middle East is expected to increase the cost of development through increased transportation costs. Reflecting the location of new capacity, the share of developed economies, such as Canada and the US, in world supply is likely to be lower. Alumina production is projected to rise by about 1 per cent a year from 2019 to 2021.


Australia’s alumina production to remain steady

Australia’s alumina production decreased by 8 per cent in 2014–15 to 19.9 million tonnes, driven by the closure of the Gove refinery in the Northern

Territory in 2014. Production is forecast to increase by 2 per cent in 2015–16 to 20.3 million tonnes, supported by higher production at Rio Tinto’s Queensland Alumina and Yarwun refineries and refinery efficiency improvements at Rio Tinto’s Australian refineries. Australia’s alumina production is projected to remain steady at around 20 million tonnes a year with no major additions or closure scheduled before 2021.

Stronger prices to support export earnings

Australia exports more than 86 per cent of its alumina production, which is largely destined for China, South Korea, and the Middle East. Facing intense pressure from lower alumina prices and increased competition from low-cost producers, Australia’s alumina exports decreased 7 per cent in 2014–15 to 17.4 million tonnes. However, export earnings increased 11 per cent to $6.4 billion dollars, supported by the depreciation of the Australian dollar. In 2015–16, Australia’s exports are forecast to increase 2 per cent to 17.7 million tonnes but earnings are

Figure 11.9: World alumina production

Figure 11.10: Australia’s alumina production


forecast to fall 8 per cent to $5.8 billion because of forecast low alumina prices in the first half of the year.

Over the medium term, Australia’s exports are projected to remain stable at almost 18 million tonnes reflecting stable domestic production and use. However, the value of these exports is projected to increase by 4 per cent a year to $7.2 billion (in 2015–16 dollar terms) by 2020–21, supported by a projected increase in the alumina price.

Figure 11.11: Australia’s alumina exports


13. Bauxite

13.1 Market summary

The outlook for Australia’s bauxite exports is positive because of strong domestic production growth, and increasing market opportunities to China as socio-environmental concerns in bauxite exporting countries such as Malaysia and Indonesia continue to limit market supply. As a result, annual exports are projected to rise 36 per cent a year from 2017–18 to 58.7 million tonnes in 2020–21. Export earnings are projected to increase at an average annual rate of 22 per cent to $2.7 billion (in 2015–16 dollar terms) by 2020–21.

13.2 Production

Increased import requirements from China to drive production growth

World bauxite production increased 10 per cent in 2015 to 286.5 million tonnes, driven by increased production from Malaysia (125 per cent), India (28 per cent), Russia (18 per cent) and Guinea (6 per cent). Production in Australia, the world’s largest bauxite producer, rose just 3 per cent to 80.9 million tonnes. The increase in Malaysia’s bauxite production in 2015 reflects stronger exports from Malaysia, as the Indonesian raw material ban and depreciation of the Malaysian ringgit improved its competitiveness.

The declining quality of domestic bauxite and the depletion of resources in China are expected to be the key drivers in increased production for export. As a result, global bauxite production is projected to increase at an average rate of 7 per cent a year for the next three years, reaching 352 million tonnes in 2018. Over the medium term, production is projected to grow at a slower pace of 2 per cent a year, to 374.2 million tonnes in 2021, driven by a slowdown in investment.

Figure 11.12: World bauxite production

Figure 11.13: Australia’s bauxite production



Australia’s production to increase rapidly

Australia’s bauxite production remained unchanged in 2014–15 at 80.3 million tonnes, and is forecast to increase slowly to 81.3 million tonnes by 2016–17). From 2017–18, growth in Australia’s bauxite production is projected to increase following the commissioning of new projects. These include Metro Mining’s Bauxite Hills project (1.95 million tonnes a year) in the second quarter of 2017–18 and Rio Tinto’s South of Embley project (22.8 million tonnes a year), in the third quarter of 2018–19. Australia’s production is projected to grow at an annual rate of 12 per cent to 126.6 million tonnes in 2020–21.

Exports to escalate from 2017–18

The majority (75 per cent) of Australia’s bauxite production feeds through to domestic alumina refining, and 25 per cent is exported to overseas markets, mainly China. Although there are emerging opportunities for Australia from the projected increase in global demand, exports to date have been constrained by production capacity. In 2015–16, Australia’s exports are forecast to decrease 3 per cent to 19.7 million tonnes, while earnings are forecast to increase 10 per cent to more than $1 billion, driven by the depreciation of the Australian dollar.

Over the remainder of the medium term, growing environmental concerns in bauxite exporting countries such as Malaysia and Indonesia will provide

opportunities for Australia’s bauxite producers to increase production for export markets. For example, Malaysia’s government announced a suspension of bauxite mining in Pahang during January 2016, an area responsible for 70 per cent of Malaysia’s bauxite output, for three months to address growing environmental concerns and illegal mining. The increase in exports will be supported by increased production capacity from the development of the Bauxite Hills and South of Embley projects. As a result, Australia’s exports are projected to increase at an average annual rate of 36 per cent from 2017–18 to 58.7 million tonnes in 2020–21. The value of these exports is projected to rise by 22 per cent a year to $2.7 billion (in 2015–16 dollar terms) by 2020–21, supported by large increase volumes.

Figure 11.14: Australia’s bauxite exports


Table 11.1: Aluminium, alumina and bauxite outlook

World unit 2015 2016f 2017f 2018z 2019z 2020z 2021zPrimary aluminiumProduction kt 57,351 60,325 63,837 66,157 66,587 67,255 70,355Consumption kt 57,136 59,999 62,577 64,907 66,983 68,767 70,592Closing stocks b kt 6,643 6,929 8,229 9,478 9,083 7,571 7,571- Weeks of consumption 6.0 6.0 6.8 7.6 7.1 5.7 5.6Prices World aluminium c- nominal US$/t 1,663 1,601 1,650 1,681 1,745 1,811 1,899- real d US$/t 1,682 1,601 1,620 1,615 1,639 1,662 1,702

Alumina spot- nominal US$/t 301 255 257 298 322 324 349- real d US$/t 304 225 252 286 302 298 313 Australia unit 2014–15 2015–16f 2016–17f 2017–18z 2018–19z 2019–20z 2020–21zProductionPrimary aluminium kt 1,647 1,645 1,644 1,644 1,644 1,644 1,644Alumina kt 19,895 20,294 20,369 20, 369 20,369 20,369 20,369Bauxite Mt 80.3 81.3 82.7 87.1 99.8 125.0 126.6ConsumptionPrimary aluminium kt 214 250 277 304 331 338 345ExportsPrimary aluminium kt 1,432 1,395 1,367 1,340 1,313 1,287 1,261- nominal value A$m 3,823 3,660 3,770 3,845 3,999 4,159 4,367- real value e A$m 3,878 3,660 3,717 3,717 3,774 3,822 3,909Alumina kt 17,363 17,718 17,903 17,903 17,903 17,903 17,903- nominal value A$m 6,353 5,842 5,824 6,607 7,721 7,925 8,001- real value e A$m 6,444 5,842 5,743 6,388 7,287 7,284 7,164Bauxite kt 20,204 19,694 19,671 23,598 34,845 57,251 58,719- nominal value A$m 934 1,025 1,027 1,232 1,819 2,989 3,066- real value e A$m 947 1,025 1,013 1,191 1,717 2,747 2,745Total value- nominal value A$m 11,110 10,527 10,621 11,684 13,539 15,073 15,434

- real value e A$m 11,269 10,527 10,473 11,296 12,778 13,854 13,818Notes: b Producer and LME stocks; c LME cash prices for primary aluminium; d In current calendar year US dollars; e In current financial year Australian dollars; f Forecast; z ProjectedSource: ABS (2016) International Trade, cat.no.5465.0; AME Group (2016); LME (2016); Department of Industry, Innovation and Science; World Bureau of Metal Statistics (2016)

14. Copper

14.1 Market summary

Although world copper consumption is expected to rise over the medium term, growth in Australia’s copper exports is expected to be subdued. Low copper prices have been deterring investment in new productive capacity and there are few major copper projects in the pipeline. Adding to this, exploration activity remains close to six year lows and a number of important operations are scheduled for closure towards the end of the outlook period. Despite lower volumes, the real value of Australia’s copper exports is projected to increase to $9.1 billion in 2020–21. Export values will be supported by a projected increase in copper prices resulting from slowing global production growth and rising global consumption.

14.2 Prices

Copper prices hit a six year low in 2015 and are forecast to fall in 2016

Copper prices declined for a fourth consecutive year in 2015. The LME price fell by 17 per cent to average US$5,678 a tonne—the lowest level since 2009. Prices fell as a result of a decline in consumption and an increase in production, which contributed to a build-up of stocks on both the London Metal Exchange and the Shanghai Futures Exchange. Demand growth in China, which accounts for around half of global consumption, slowed to the lowest level since the Global Financial Crisis and Europe’s copper consumption declined. Production was supported by a combination of new projects being completed and increased output at existing mines, mainly in South America and Asia.

Copper prices are forecast to decline in 2016 to average around US$4,790 a tonne. Consumption growth is forecast to remain subdued as global and emerging economy growth recovers from a six year low. Production is forecast to continue expanding steadily as a number of large projects commissioned during the period of high prices around 2011–12 begin or increase production.

Figure 12.1: Annual copper prices and stocks

Figure 12.2: Recent movement in copper prices


The upside potential to the forecast for copper prices is expected to remain weak in the short term because of idle production capacity. During 2015, producers across Asia, North America, South America and Africa announced cuts to mined and refined production in response to lower prices. As long as there are large volumes of underutilised capacity, higher prices may simply attract new supply to the market, making any increase in prices difficult to sustain and constraining the extent of an upside for prices.

Copper prices are projected to recover over the medium term

Over the medium term, copper prices are projected to increase to around US$6,360 (in 2016 dollar terms) in 2021. Consumption growth is projected to increase from its current fourteen year low, supported by stronger economic growth in emerging economies. Production growth is projected to slow towards the end of the outlook period, as the number of mines being developed declines. Other supply-side factors that may contribute to upward pressure on prices include declining ore grades, higher environmental standards in key producing countries, and operational issues associated with the location of many new mines such as access to reliable power.

The possibility of supply disruptions is expected to remain an ongoing risk to copper prices over the medium term, especially given that some new mines are located in areas which are remote or subject to political instability. These have the potential to put upward pressure on prices, especially towards the end of the outlook period when there is expected to be less spare supply capacity in the market. On the consumption side, economic developments in China are a key risk to outlook.

14.3 Consumption

Copper consumption decreased marginally in 2015

World refined copper consumption declined by 0.3 per cent in 2015 to 22.7 million tonnes—the first contraction in global copper demand since 2001. Europe’s copper consumption declined sharply while consumption growth slowed in China, the world’s largest consumer. China’s consumption growth fell to just 1.3 per cent in 2015—well below the average annual rate of 12 per cent over the past decade.

Weaker economic activity, reduced purchases by China’s State Reserve Bureau, the declining use of copper in financing deals, and slowing industrial activity were among the factors responsible for the decline in China’s demand.

Figure 12.3: Copper consumption (million tonnes), 2005 vs 2015


Consumption growth to increase over the medium term

Growth in world refined copper consumption is projected to increase over the outlook period. Strengthening economic growth in emerging economies is expected to drive much of the increase in copper consumption. While copper demand tends to plateau in the latter stages of economic development, it typically increases rapidly as countries industrialise, driven by infrastructure investment, construction activity and expanded manufacturing. Overall growth among emerging economies is assumed to increase from 4.2 per cent in 2015 to 5.3 per cent by 2021.

Although India only accounts for 2 per cent of global consumption, it is projected to make an important contribution to demand growth over the medium term. Increasing copper consumption will be underpinned by strong economic growth, which is expected to average 7.7 per cent until 2021, as well as investment in power infrastructure. The Indian Government has committed to providing all Indians with reliable electricity supply by 2019. The Twelfth Five-Year Plan, which is currently undergoing a mid-term appraisal, aimed to increase power generation capacity by around 45 per cent between 2012 and 2017. The Government’s ‘Make in India’ program, which aims to make India a major manufacturing hub, could also stimulate demand for copper.

Global and emerging economy copper consumption will be limited by a slowdown in demand growth in China, the world’s largest consumer. Weakening activity in China’s real estate sector is expected to weigh on China’s copper consumption over the medium term. China’s residential property market is well-supplied, a legacy of China’s decade-long construction boom. In 2015, new residential floor space started—an indicator of metal consumption in the construction sector—declined by 15 per cent. While the People’s Bank of China has eased monetary policy and the Chinese Government has relaxed restrictions on the property market, residential construction activity is likely to remain subdued over the medium term. Slowing residential construction may also reduce copper consumption through its effect on activity in other important end-use sectors such as household appliances and electronics.

Despite the projected slowdown in China’s copper consumption, investment in electricity infrastructure should provide some support to growth over the medium term. The Chinese Government plans to spend US$315 billion to improve its power grid infrastructure between 2015 and 2020. This will involve increasing the length of high-voltage transmission lines to over 1 million kilometres by the end of 2020, more than double the 2014 level.

The Chinese Government has also introduced a number of measures to support the automotive sector, which accounts for around 6 per cent of copper consumption. One of these is a 50 per cent sales tax cut on small cars, which was introduced in late 2015 and will last until the end of 2016. Additional stimulus for auto sales is likely this year. In March, six Chinese provinces, with a combined population exceeding that of the United States, were preparing to introduce subsidies for light-truck

purchases and other provinces may roll out similar policies. Policies such as these have the potential to support demand for the sector’s copper consumption over the short term. Figure 12.5 shows that the amount of copper used in China’s vehicle production increased in late 2015 after the introduction of the 50 per cent sales tax cut on small cars.

The outlook for China’s copper demand is expected to be clouded by a number of developments over the past year. The first is the reported reduction in the use of copper in financing deals, which accounted for around 1 million tonnes of China’s copper imports in 2014 according to Goldman Sachs. During 2015, government policies, interest rate differentials and a depreciating yuan are believed to have affected the profitability of such financing deals. If China’s copper imports are adversely affected by these developments, or copper that was previously used in financing deals enters the market as new supply, China’s copper import growth could slow further.

Uncertainty also surrounds the actions of China’s State Reserve Bureau (SRB), which is in charge of building the country’s strategic reserves of commodities. In January 2016, the SRB was reportedly seeking 150,000 tonnes of domestically refined copper for its stockpiles, with a view to supporting local producers during the downturn in prices. While this did little to stimulate prices, the possibility remains that the SRB could embark on a more sustained stockpiling effort.

Figure 12.4: Intensity of copper use


14.4 Production

Mine production

World mine production continued to grow strongly in 2015, rising by 4.3 per cent to 19.3 million tonnes. The result was underpinned by a combination of new projects being completed and increased output at existing mines, mainly in South America and Asia. In South America, the increase in output was particularly sharp in Peru with production ramping up or commencing at a number of large new projects. As a result, Peru overtook China to become the world’s second largest producer. In Asia, output increased rapidly in Indonesia as a result of strong production gains at several large established mines. Production more than tripled at Newmont’s Batu Hijau mine after four years of disrupted output while output climbed sharply at Freeport-McMoRan’s Grasberg mine.

Production expanded in 2015 despite a number of mine suspensions and production cuts resulting from low prices for both copper and the by-products generated from copper mining. The most significant production losses were a result of Glencore suspending operations at its Katanga mine in the Democratic Republic of Congo and its Mopani operation in Zambia for 18 months. However, cuts to supply were well below the level required to match gains from new mines and project expansions.

World mine production is projected to continue growing strongly over the short term. A number of large projects commissioned during the period of high prices around 2011–12 are expected to commence or expand production in 2016 and 2017. MMG’s Las Bambas mine in Peru, which commenced production in 2015, will be one of the world’s largest copper mines in its first full year of operation. Grupo Mexico’s Buenavista’s mine expansion in Mexico will contribute to a doubling in copper production from the mine in 2016.

Figure 12.5: Copper use in China’s vehicle production


Production growth is likely to be tempered by further mine suspensions and production cuts. According to AME Group, production cutback announcements are expected to reduce output over 2016 and 2017 by around 833,000 tonnes, or around 2 per cent of projected global production. Some market observers believe the supply response to low prices has been delayed, with companies continuing to operate in the hope of an industry rationalisation and a return to higher prices. As a result, further cutback announcements are possible.

World mine production is projected to slow towards the end of the outlook period, as the number of new mines commencing production begins to decline. The effect of issues such as declining ore grades on production may become more pronounced towards the end of the outlook period, as output growth slows. The projected slowdown in growth may be more rapid if further mine suspensions are announced.

Refined production

World refined production increased by just 0.7 per cent in 2015 to 23.1 million tonnes. This represented the weakest annual growth since 2009. As with mine production, a number of operations were suspended as a result of increased financial pressure from low prices. Mine suspensions affected both conventional refineries and producers that employ solvent extraction–electrowinning (SX-EW) refining methods.

World refined copper production is forecast to increase in 2016, as new copper refining capacity is completed. However, production growth will be limited by the announcement by nine Chinese smelters that they intend to cut production by a minimum of 350,000 tonnes in 2016—around 1.5 per cent of total refined production—in response to lower prices. The suspension of operations at Glencore’s Katanga and Mopani processing complexes in Africa will also reduce refined production.

Over the medium term, growth in refined production is expected to recover, driven by increasing global copper consumption and projected higher prices. Refined production is projected to grow at an average annual rate of 2 per cent until 2021 to 26 million tonnes.

Figure 12.6: Shares of new production in 2015



Exploration expenditure remains close to decade lows

Australia’s copper exploration expenditure increased by 4 per cent to $31 million in the December quarter 2015. Despite the rise, copper exploration remains close to its lowest level since the Global Financial Crisis. Copper exploration expenditure has declined by around 75 per cent since its June quarter 2012 peak of $120 million.

Mine production to increase before mine closures take effect

Australia’s copper mine production recorded a small increase in 2015, rising by 0.5 per cent to 971,000 tonnes. Production at one of Australia’s largest mines, BHP Billiton’s Olympic Dam in South Australia, declined sharply in the first two quarters of the year as a result of an electrical failure that forced the closure of a crushing mill. However, this was offset by production gains at a number of other mines. Oz Mineral’s Prominent Hill mine in South Australia recorded its highest ever annual output in 2015, producing around 130,300 tonnes of copper.

Australia’s mine production is projected to grow steadily until 2018–19, supported by a projected increase in prices. Mine production is projected to decline in 2019–20 and 2020–21 as a result of a number of mine closures. Sandfire Resources’ Degrussa mine in Western Australia, Australia’s fourth largest mine in 2015, will cease production in mid-2021. A number of other mines, such as Aditya Birla’s Nifty mine in Western Australia, are also expected to close over the outlook period.

Growth in copper mine production will be constrained by a thin investment pipeline. No new copper projects have been completed in more than a year and there are no major projects at the committed stage of the project development cycle. A slow projected recovery in copper prices will only serve to further limit the feasibility of new projects. Declining ore grades—which increase the amount of ore required to be processed to produce a given level of copper—may also limit mine production.

Uncertainty surrounds the outlook for mine production, especially towards the end of the projection period. Expectations of rising copper prices, for example, may trigger greater investment in mine expansions or new projects, adding to Australian production. However, a pick up in exploration expenditure from its current decade low will likely be required for this to occur.

Refined production to remain steady

Australia’s refined copper production declined by 6 per cent to 481,000 tonnes in 2015. Output growth was constrained by the closure of the crushing mill at BHP Billiton’s Olympic Dam.

Australia’s refined copper production is projected to remain broadly stable over the outlook period. Production will be supported by the extension of operations at Glencore’s Mount Isa Smelter and Townsville Copper Refinery. The facilities were originally scheduled for closure in 2016 and 2017, respectively, but could remain open until 2022 after Glencore and the Queensland Government finalised new environmental licensing conditions late last year.

The outlook for Australia’s refined production will be heavily shaped by developments at both Glencore’s facilities in Queensland and BHP Billiton’s Olympic Dam. Together Glencore and BHP Billiton account for around 95 per cent of Australia’s refined production. The closure of Glencore’s Townsville refinery before 2022, for example, would have a significant effect on Australia’s refined production.

Exports to rise and fall with production

Australia’s copper exports (in metal content terms) decreased by 2.5 per cent in 2014–15. A fall in refined copper exports, likely resulting from reduced output at BHP’s Olympic Dam, was the main driver of the result. The value of Australia’s copper exports fell by 2.7 per cent in 2014–15, consistent with the decline in volumes and the copper price.

Economic developments in China, Japan and India—Australia’s three largest export markets—will be particularly important for Australian copper exports. Slowing consumption growth in China, Australia’s largest export market, is a key risk to the outlook.

Australia’s copper exports (in metal content terms) are projected to increase over the first few years of the projection period, reaching 1.1 million tonnes in 2018–19. However, declining production in 2019–20 and 2020–21 is expected to reduce copper exports over the last two years of the outlook period. Copper exports are projected to contract at an average annual rate of 0.5 per cent to 978 thousand tonnes by 2020–21.

The value of Australia’s copper exports is projected to increase at an average annual rate of around 1 per cent to $9.1 billion (in 2015–16 dollar terms) in 2020–21, with the projected increase in copper prices offsetting the fall in export volumes.

Figure 12.8: Mine and refined production

Figure 12.9: Australia’s copper exports


Table 12.1: Copper outlook

World unit 2015 2016f 2017f 2018z 2019z 2020z 2021z

Production

– mine kt 19,265 20,889 21,670 22,725 23,350 23,891 24,575– refined kt 23,093 23,474 24,092 24,730 25,004 25,484 26,066Consumption kt 22,736 23,195 23,986 24,741 25,265 25,702 26,247Closing stocks kt 924 1,204 1,310 1,300 1,038 821 639

– weeks of consumption 2.1 2.7 2.8 2.7 2.1 1.7 1.3

Price LME

– nominal US$/t 5,678 4,786 5,800 6,200 6,650 6,925 7,100

USc/lb 258 217 263 281 302 314 322

– real b US$/t 5,743 4,786 5,695 5,959 6,248 6,355 6,364

USc/lb 260 217 258 270 283 288 289

Australia unit 2014–15 2015–16 2016–17 2017–18 2018–19 2019–20 2020–21Mine output kt 954 972 991 1,009 1,032 1,007 957Refined output kt 454 520 484 478 478 478 478

Exports

– ores and conc. c kt 2,056 1,838 1,935 2,030 2,116 2,020 1,831– refined kt 423 496 458 451 451 451 451

Export value

– nominal A$m 8,468 7,601 7,703 9,106 10,054 10,382 10,119– real d A$m 8,590 7,601 7,596 8,804 9,489 9,542 9,059Notes: b In current calendar year US dollars; c Quantities refer to gross weight of all ores and concentrates; d In current financial year Australian dollars; f Forecast; z Projection

Source: ABS (2016) International Trade, cat.no.5465.0; LME (2016) spot price; World Bureau of Metal Statistics (2016) World Metal Statistics; Department of Industry, Innovation and Science

15. Nickel

15.1 Market summary

Slowing economic activity, particularly in China, has resulted in historically low nickel prices. This has forced a number of Australian operations to be placed on care and maintenance due to financial and operational challenges and is expected to contribute to lower exports in the short term. Although there are improved prospects for nickel consumption from emerging economies in the medium term, Australia’s share of world exports is expected to decrease towards the end of the medium term as constrained access to ore limits production growth and higher production from other major suppliers increases competition.

15.2 Prices and stocks

Nickel price declined steadily in 2015 owing to persistently high stocks and a slow production response

The LME nickel price declined steadily throughout 2015 to average US$11,839 a tonne, 30 per cent lower than 2014. Stocks remained persistently high in 2015 and contributed to the downward pressure on prices. While the first substantial decline in London Metal Exchange (LME) stocks since 2011 occurred in the December quarter 2015, the drawdown was not sustained and stockpiles were replenished to finish the year at 445,000 tonnes, an increase of 8 per cent year-on-year. Despite historically low prices and sluggish consumption growth, producers have been reluctant to substantially reduce production, because of the need for new projects to generate cash flow, and the widespread perception that high cost producers in China would be the first to reduce production.

Lower prices in the short term but stronger prospects for a recovery in the medium term

The nickel price continued to fall at the beginning of 2016, reaching a 13 year low of US$7,710 a tonne in mid-February before a short-lived surge in prices that was observed across most metals. It is unlikely that any substantial increases in prices can be sustained in the short term because consumption is forecast to remain subdued, and any increase in prices is likely to prompt further delays in the suspension of loss-making operations.

Figure 13.1: Nickel daily price

Figure 13.2: Nickel prices and LME stocks


Prices are forecast to average US$8,838 a tonne for 2016, 25 per cent lower than 2015.

Despite the temporary rally, it is estimated that 70 per cent of producers are making a loss at current prices. Reductions in production capacity will become increasingly likely over time as producers that cannot sustain the accumulated losses are forced to close. When significant production cuts occur, supply availability is expected to tighten, which will support a modest recovery in prices.

For the remainder of the outlook period, there are stronger prospects for a recovery in prices supported by growth in the transport, infrastructure and consumer durables sectors, and an expected increase in production costs. Nickel prices are projected to increase to around US$12,000 (in 2016 dollars) a tonne by 2021.

However, growing stockpiles of nickel outside of LME warehouses may present a key risk to the price outlook. Although LME stocks declined marginally at the start of 2016, Shanghai Futures Exchange (SHFE) nickel stocks increased 33 per cent in first three months of 2016, and more than six-fold from June 2015 to March 2016. Further, there is evidence of substantial stocks being held in bonded warehouses for use as collateral in the shadow lending market—more nickel has been imported into China than has shown up in SHFE warehouses. If nickel stocks flow back to LME warehouses from other sources as market conditions change, this will contribute to a rapid increase in LME stocks and put substantial downward pressure on prices.

15.3 World consumption

Slowing world consumption to continue in the short term

In 2015, world refined nickel consumption increased by 1 per cent to 1.9 million tonnes. This represented a substantially slower rate of growth compared with the past six years when global consumption grew at an average annual rate of 9 per cent. Weaker economic activity in China has been the major contributor to slowing nickel consumption based on slowing investment in infrastructure and industrial activity, and a well-supplied residential housing market. While China’s nickel consumption grew by 3 per cent to 980,000 tonnes in 2015, this is in stark contrast to growth rates as high as 22 per cent five years ago.

Box 19.3: Commodities used as financial instruments and shadow warehouse stocks creating price uncertainty

Historically exchange stocks have provided a good indication of the relative supply and demand of a commodity and have helped explain price movements. However, financial based demand and the increasing opacity of stocks in shadow warehouses has created additional uncertainty, volatility and unpredictability in price movements.

Commodities have increasingly been used as financial instruments since the global financial crisis. Differences in interest rates between importing and exporting countries created money-making opportunities for financial investors, which generated financial demand, as opposed to industrial demand, for commodities. This affected the price dynamics of commodities including aluminium, copper, nickel and zinc. More recently the practise has been declining as the performance of other assets, such as Treasury bonds, improves.

Uncertainty in prices has been further compounded by the increasing opacity of stocks. The LME system stores metals in hundreds of warehouses around the world. Historically LME stocks have provided a good indication of the relative supply and demand for each commodity and have helped to explain price movements. However, metals are increasingly being stored outside the LME system in facilities that are unregulated and are not required to disclose their holdings—referred to as ‘shadow warehouses’ or ‘ghost stocks’. Shadow warehouses offer a cheaper alternative to regulated warehouses in addition to shorter wait times to move metals out of storage.

The reduced visibility of stocks can create substantial uncertainty for physical consumers and producers. For example, declining stocks at LME warehouses may not reflect increased consumption or a reduction in production, but rather the movement of stocks into shadow warehouses. If a large volume of metal is suddenly transferred back to LME facilities, stocks will increase rapidly and put downward pressure on exchange prices. The regular occurrence of these types of transactions presents a significant downside risk to prices. This occurred in 2014 during the Qingdao port incident where there were occurrences of multiple pledging of metals for collateral. This resulted in significant flows of nickel back to the ‘safety’ of LME warehouses, which halted the strong price rally that had begun at the start of the year.

Nickel is primarily used for stainless steel production, and nickel consumption has been affected by falling exports of stainless steel from China because of weak export demand, partly influenced by the increased adoption of anti-dumping measures in the EU. Nickel consumption in the EU also contracted, driven by a deliberate draw down in stocks in the stainless steel sector. Growth in world nickel consumption is expected to remain slow in 2016 and 2017, with world consumption forecast to grow by 2 per cent to 2 million tonnes in 2017.

Stronger prospects for consumption growth in medium term

Over the medium term, growth in nickel consumption is not expected to reach the same rates recorded at the peak of China’s investment-led growth.

However, there are still strong prospects for consumption growth over the outlook period, supported by the underlying trends of growing populations, increased urbanisation and an expanding middle class in emerging economies (described in the overview chapter). Over the medium term, nickel consumption is projected to increase at an average annual rate of 3 per cent to 2.2 million tonnes in 2021.

The intensity of nickel consumption follows a similar trajectory to that of steel on the ascent—nickel and steel consumption per person increases as GDP per person grows. However, nickel use typically continues to grow as countries become more developed. Nickel is primarily used to produce austenitic stainless steel, which are a group of corrosion resistant steels. The high nickel content of the 300 series (8 to 12 per cent) results in superior thermal and corrosion resistance and a better surface appearance, and tends to be used in manufacturing and industrial applications. As such, there is expected to be a divergence in steel and nickel consumption growth as economies develop, sustained through increased overall consumption and greater demand for better quality (more stainless steel intensive) and higher value products, which will displace lower quality goods.

Towards the end of the outlook period, China, India and other emerging economies are expected to invest heavily in upgrading infrastructure and expanding industrial and output capacity. This will support increased nickel consumption as more stainless steel is used to modernise infrastructure and industrial buildings, and alloys are used in specialist engineering, machinery and energy generation.

Nickel-based superalloys are used in the manufacture of gas turbines (used in aircraft, power generation and marine propulsion), and military and aerospace equipment and vehicles. Although there is strong potential for considerable growth in usage in these technologies, the high cost of other alloying metals used along with nickel in superalloys may moderate usage. The transport sector is expected to grow considerably over the projection period, supporting nickel consumption growth in key components of automobiles, trains, aircraft and ships.

Figure 13.3: World nickel consumption


15.4 World production

World mine production constrained in the short term, moderate growth in medium term

World mined nickel production decreased 3 per cent in 2015 to 2.1 million tonnes, constrained by low prices and ore depletion. Higher production at existing mines including Lundin’s Eagle mine in the United States, Ambatovy in Madagascar and VNC in New Caledonia did not offset reductions in production in Botswana, Indonesia, Russia and Australia.

Over the medium term, mined production is expected to increase at an average annual rate of 1 per cent to 2.2 million tonnes in 2021. New capacity from projects under development is projected to offset planned closures because of ore depletion in Western Australia and Brazil. These projects include Nova-Bollinger in Australia with a capacity of 28,000 tonnes and Dumont in Canada with a capacity of 34,000 tonnes. In Indonesia, production is projected to increase to provide feedstock to newly built smelters.

However, low profitability owing to the combination of persistently low prices and higher costs may result in closures or suspensions of existing projects, or delays to the commissioning of new projects, and presents a risk to the mined production projection. As sulphide deposits are depleted, the share of new production coming from laterite projects is expected to increase. Laterite deposits are typically lower quality because of high arsenic and magnesium levels and must therefore be blended down with higher-quality feed or processed unconventionally. To date, large laterite projects have faced technological difficulties and high capital costs associated with high pressure acid leaching (HPAL) operations, delaying the pace at which new projects, such as Vale’s VNC in New Caledonia, can increase production to reach nameplate capacity. Mined supply could be reduced if these and other more complex laterite projects encounter further technical issues. Laterite producers, particularly in Greece, New Caledonia, Madagascar and Brazil, are especially exposed to low prices (estimated to be around 60 per cent of supply in 2020). However, laterite producers in the Philippines and Indonesia have relatively lower labour and transport costs, and higher grade ores and are less likely to reduce production in response to low prices.

Figure 13.4: World mined nickel production

Figure 13.5: New mined nickel production by ore grades


Refined production is likely to decrease in response to low prices in the short term

World refined nickel production decreased by 1 per cent in 2015, primarily because of lower production in China. Despite low prices, world production has not slowed by the magnitude required to address the issues encountered by a well-supplied market because of two key factors. First, there has been a widely held perception among refined producers that high-cost producers in China would be the first to stop production and consequently aid the recovery of the price. While refined production in China was reduced, it was done so from a high base, and did not occur at a rate as fast as expected as unanticipated widespread cost cutting allowed producers to remain viable. Second, continued production growth has been necessary for some new projects to generate cash flow and repay construction loans.

At the end of 2015, it is estimated that 70 per cent of producers were making a loss on a cash cost basis. With any significant increases in the nickel price unlikely to be sustained, the closure of capacity becomes increasingly likely over time as losses accumulate and operations are no longer able to be

supported by already financially struggling companies. Any reductions in production from loss-making producers are projected to be moderated by the commissioning of new smelters and refineries in Indonesia.

Over the medium term, supply is forecast to increase at an average annual rate of 2 per cent to 2.1 million tonnes. Much of the new supply growth is expected to be dominated by new ferronickel, nickel pig iron and nickel matte production in Indonesia. At the start of 2014, Indonesia announced plans to encourage the development of the downstream processing industry. Exports of unprocessed raw materials were banned and tax discounts provided to companies that were able to show progress in smelter project development. The results of these policies are beginning to materialise as newly commissioned smelters begin to be commissioned. These projects include the PT Sulawesi Mining Investments smelter with a capacity of 90,000 tonnes and other ferronickel producers with a combined capacity of more than 100,000 tonnes.

Figure 13.6: World refined nickel production

Figure 13.7: Nickel smelter and refinery cash costs



Exploration expenditure down due to low prices

Australia’s exploration expenditure for nickel and cobalt in the December quarter 2015 decreased 1 per cent relative to the previous quarter, to $14.6 million. For 2015 as a whole, exploration expenditure was $65.2 million, 27 per cent down from $89.2 million in 2014. The significant decrease in exploration expenditure reflects the reduced incentive to explore because of low prices and cost cutting activities by mining companies.

Strong prospects for Australia’s nickel exports

Strong prospects for growth in the manufacturing, industrial and transport sectors in emerging economies over the medium term are expected to support demand for Australia’s nickel exports. However, this will be moderated by domestic production constraints and the risk of increased supply competition from additional world production incentivised by higher prices towards the end of the outlook period.

Australia’s mined production to be supported by a recovery in price over the medium term

Australia’s mined nickel production is forecast to decrease 12 per cent to 227,000 tonnes in 2015–16 as lower prices result in production cuts. For example, Panoramic Resource’s Lanfranchi mine was placed on care and maintenance in November 2015. BHP and Glencore have been cutting costs to make their operations cash positive. However, a projected recovery in nickel prices should improve the viability of their operations and reduce the

likelihood of further reductions in production. Over the medium term, mined production is projected to increase at an average annual rate of 4 per cent to 279,000 tonnes in 2020–21. The assumed resumption of operations at Poseidon’s mines at Lake Johnston, Black Swan and Mt Windarra are projected to support the increase in production, offsetting the planned closure of BHP’s mines towards the end of the outlook period.

Australia’s refined production supported by higher prices but constrained by access to ore in the medium term

Australia’s refined nickel production is forecast to decrease 3 per cent in 2015–16 to 111,000 tonnes, driven by planned outages at BHP’s Kalgoorlie smelter and Kwinana refinery, and reductions in third party ore supply at BHP’s Kambalda concentrator. Queensland Nickel’s Yabulu refinery has temporarily stopped production until July 2016 due to difficulties importing ore from New Caledonia in addition to ongoing financial and regulatory issues. Over the medium term, refined production is projected to increase at an average annual rate of 2 per cent to 122,000 tonnes in 2020–21, with a projected increase in prices encouraging higher production. This will be moderated by the ability of BHP’s refinery and smelter to obtain access to third party ore as their reserves deplete towards the end of the outlook period.

Figure 13.8: Australia’s nickel exploration expenditure


Increasing export volumes and values

Australia’s exports of nickel in 2015–16 are forecast to be 242,000 tonnes, down 10 per cent from 2014–15 due to planned and price related suspension of operations. Earnings from nickel exports are forecast to decline 32 per cent to $2.4 billion in 2015–16, due to forecast lower volumes and prices.

Over the outlook period, Australia’s nickel exports are projected to increase at an average annual rate of 4 per cent to reach 295,000 tonnes in 2020–21, supported by increased production. Export values are projected to increase at an average annual rate of 4 per cent to reach $3 billion (in 2015–16 dollars) in 2020–21, supported by increased volumes and projected higher nickel prices.

Figure 13.9: Volume and value of Australia’s nickel exports


Table 12.1: Nickel outlook


Production

– mine kt 2,123 2,061 2,198 2,280 2,342 2,352 2,215– refined kt 1,955 1,908 1,962 1,997 2,051 2,111 2,074Consumption kt 1,891 1,931 1,971 2,023 2,079 2,137 2,202Stocks kt 528 504 496 470 442 416 287


Price LME

– nominal US$/t 11,839 8,838 9,638 10,538 11,438 12,400 13,400

Usc/lb 537 401 437 478 519 562 608

– real b US$/t 11,975 8,838 9,463 10,127 10,747 11,380 12,012

Usc/lb 543 401 429 459 487 516 545

Australia unit 2014–15 2015–16f 2016–17f 2017–18z 2018–19z 2019–20z 2020–21z

Production

– mine cs kt 258 227 238 275 295 286 279– refined kt 115 111 118 120 117 119 122– intermediate kt 84 52 40 42 43 43 42Export volume ds kt 268 242 255 292 314 308 295– nominal value s A$m 3,583 2,439 2,099 2,521 2,894 3,112 3,309– real value es A$m 3,634 2,439 2,070 2,437 2,731 2,860 2,963

Notes: b In current calendar year US dollars; c Nickel content of domestic mine production; d Includes metal content of ores and concentrates, intermediate products and nickel metal;

e In current financial year Australian dollars; f Forecast ; s Estimate; z Projection

Source: ABS (2016) International Trade, cat.no.5465.0; Company reports; Department of Industry, Innovation and Science; International Nickel Study Group (2016); LME (2016); World Bureau of

Metal Statistics (2016)

16. Zinc

16.1 Market summary

Despite improved prospects for zinc demand in emerging economies in the medium term, Australian producers will not be able to fully capitalise on these opportunities as mine closures constrain production. As a result, Australia’s zinc exports are projected to decline to 1 million tonnes by 2020–21. Australia is not the only major producer to encounter supply constraints from ore depletions, which is expected to contribute to a projected recovery in zinc prices over the projection period. Reflecting this, Australia’s zinc exports are projected to grow at an average annual rate of 4 per cent to reach $2.6 billion (in 2015–16 dollar terms) in 2020–21.

16.2 Price and stocks

Zinc price weighed down in 2015 by sluggish consumption and bearish sentiment

The LME zinc price averaged US$1,933 a tonne in 2015, 11 per cent lower than 2014. The LME zinc price steadily declined in 2015 due to slowing

consumption, with the exception of short lived price increases in April and October, after Glencore announced a planned halt at its global operations. LME stocks decreased 33 per cent in 2015 to 464,000 tonnes. However, despite tightening supply from ore depletion and price related closures towards the end of the year, the zinc price was negatively affected by bearish sentiment affecting commodity markets.

Positive outlook for prices driven by strong consumption growth and constrained production

Although consumption growth is forecast to remain relatively sluggish in the short term due to slowing economic activity in China, mine closures and the suspension of operations are expected to flow through the supply chain and affect refined production. While LME stocks are expected to continue to decline, there has been a substantial increase in Shanghai Future Exchange (SHFE) stocks at the start of 2016 and uncertainty regarding the magnitude of zinc stocks being held outside of market warehouses. The zinc price is expected to remain subdued in the first half of 2016, before making a moderate recovery towards the end of the year to average US$1,705 a tonne for the year, 13 per cent lower than 2015.

Uncertainty around the magnitude of unreported stocks may present a large risk to the price outlook. Zinc stocks at the New Orleans LME warehouse have been highly variable over the last year, with large volumes of stock appearing in a short period of time. This likely reflects the decision by stock financiers to seek out the lowest cost storage rents, resulting in fierce rental competition and the mass movement of metal into and out of LME warehouses throughout 2015. The constant movement of zinc holdings has increased the difficultly of accurately gauging stock levels. As such, the price

may be more highly influenced by unreported zinc stocks rather than any substantial changes to production or consumption (please refer to Box 13.1 in the nickel note for further details on unreported stocks).

Over the medium term, the zinc price is projected to increase steadily to average US$2,149 (in 2016 dollar terms) a tonne in 2021. Higher prices will be supported by constrained production and modest consumption growth in the automobile and infrastructure sectors. However, the responsiveness of producers to a substantial price recovery may present a large risk to the price outlook. As the zinc price reaches around $2,300 a tonne, which stimulated production in 2014, it becomes increasingly likely that production at existing operations, particularly in China, will increase rapidly.

Figure 14.1: Zinc daily price

Figure 14.2: Annual zinc stocks


16.3 World consumption

Automobile and infrastructure sectors to support consumption growth

Refined consumption increased 2 per cent to 13.8 million tonnes in 2015. The rate of growth was slower than recorded in 2014 because of slowing construction activity and infrastructure investment, particularly in China, which currently consumes about half the world’s refined zinc.

Over the medium term, consumption is projected to increase at an average annual rate of 2 per cent to reach 15.9 million tonnes in 2021. Zinc is considered to be a commodity that grows in consumption as countries reach the middle and later stages of their economic development. Consumption of zinc is therefore expected to continue to be supported by emerging economies in the process of economic development.

More than half of the world’s zinc produced is used to galvanise steel for construction. As emerging economies begin to industrialise, urbanise and generally improve living standards, there will be increased development of public and residential buildings and the adoption of better quality construction practises. Steel lasts 12 times longer when galvanised, and the corrosion resistant property of galvanised steel will become an increasingly important issue over the medium term, particularly in areas with high air pollution.

Figure 14.3: Annual zinc prices and stocks

Figure 14.4: Zinc intensity of use


Consumer spending on high value, zinc-intensive goods, such as household appliances and other consumer durables is also expected to increase, driven by rising household incomes in China and India in particular. Higher incomes, combined with projected low fuel prices, are also expected to support a rapid

increase in automobile production and sales. The rates of car ownership in emerging economies are relatively low. For example, there are 84 cars per 1,000 people in China and 17 cars per 1,000 people in India, in contrast to 379 in the United States. In China, car ownership in rural areas is being encouraged by the government as congestion is less of an issue. The pace and extent to which aluminium, which is lighter and helps meet fuel-efficiency requirements, is substituted for galvanised steel in vehicles presents a key risk to this assessment. If more countries focus on fuel efficiency, the substitution could occur more rapidly, reducing the consumption of zinc for galvanisation.

Continuing upgrades and new investments in mass transit systems are also expected to underpin increased zinc consumption. Zinc is used to improve corrosion resistance in train carriage bodies and rails. In India, corrosion currently reduces the life of rail by half and interferes with daily operations as tracks are required to be replaced regularly. India’s Railway Minister announced at the start of the year a $142 billion investment to expand and modernise the country’s railway system over the next five years. China has announced plans to build up to 170 new mass transit system, with 800 billion yuan in rail investments for 2016.

Figure 14.5: Passenger car sales

Figure 14.6: World zinc consumption


16.4 World production

World mined production reduced with closures outweighing new capacity

In 2015, zinc mine production increased 1 per cent to 13.4 million tonnes. Increased production at existing mines was largely offset by the scaling back or closure of operations owing to ore depletion at major mines and lower prices. Mine production in China, the world’s largest zinc producer, slowed in 2015 as a result of low prices and slowing demand from smelters due to environmental and safety regulations, which forced a number of operations to close.

World mined zinc production is forecast to remain constrained in the short term because of reduced production, continued closures and curtailing of expansion plans. A number of companies have suspended production to preserve asset values, reduce costs, and increase their unexpended capital. For example, Glencore announced in October 2015 that it would reduce production by 500,000 tonnes across its operations in Australia, South America and Kazakhstan. Similarly, Nyrstar announced reductions of 160,000 tonnes. Other expansion plans that will temporarily be shelved include Vedanta’s 40,000 tonne Zawar and 30,000 tonne Rajpura Dariba mines, and MMG’s 55,000 tonne Golden Grove mine. There are also several large mines scheduled for closure over the course of 2016 because of ore depletion, including MMG’s Century mine in Queensland and Vedanta’s

Lisheen mine in Ireland. The closure of these two projects will remove 680,000 tonnes of mined zinc from global production capacity.

Figure 14.7: World mined production and base treatment charge


New projects expected to be completed over the medium term include Vedanta’s Rampura Agucha project (720,000 tonnes) in India, Glencore’s 167,000 tonne Hackett River in Canada and Vedanta’s Gamsberg project in South Africa. Companies that have suspended operations due to low prices are also likely to restart production as prices recover. However, increases in mined production will be constrained by higher levels of production uncertainty associated with some of the new mines. For example, underground operations, such as MMG’s 160,000 tonne Dugald River and Vedanta’s underground mines in India, are more technically complex and have been subject to delays. Over the forecast period, mined zinc production is projected to grow at an average annual rate of 4 per cent to reach 15.6 million tonnes in 2021.

Refined production constrained by mined supply

Refined zinc production increased 5 per cent in 2015 to 14 million tonnes. Closures and the suspension of smelter operations due to low prices were offset by the commissioning of new refined zinc capacity, primarily in China. Vedanta also continued to increase refined production in India to absorb increased output from their expanding mines.

Over the medium term, refined zinc production is projected to increase at an average annual rate of 2 per cent a year to 15.9 million tonnes in 2021. A factor supporting this is expected higher output at newly built smelters in China. Production growth will be moderated by constrained mined supply, with some smelters operating at below capacity due to difficulty in obtaining feedstock. This is already reflected in reduced benchmark and spot treatment charges observed at the start of 2016 (the fees charged by smelters to process concentrate into metal). The development of new Chinese smelters will also have size and power restrictions applied to increase efficiencies and reduce the use of coal-based power generation.


The prospect of higher prices sustains exploration expenditure

Australia’s expenditure on zinc exploration decreased 25 per cent in the December quarter 2015 relative to the June quarter, to $12.3 million. For 2015 as a whole, exploration expenditure was similar to 2014 at $51 million. While low prices for other commodities have resulted in reduced investment in exploration as companies cut costs, the expectation of increased prices has supported sustained exploration expenditure.

Australia’s zinc exports constrained despite emerging opportunities

The projected increase in zinc consumption in emerging economies and tightening availability of mined zinc will support strong demand for Australia’s exports. Despite these opportunities, Australia’s export capacity will be constrained by the closure of mines in the medium term, particularly MMG’s 500,000 tonne Century mine.

Figure 14.8: Australia’s zinc exploration expenditure

Figure 14.9: Australian mine production


Australian mined production forecast to decrease due to ore depletion and low prices

Australia’s mined zinc production is forecast to decrease 41 per cent from 2014–15 to 991,000 tonnes (metal content) in 2015–16. The substantial reduction in production is primarily driven by the closure of MMG’s Century mine in December 2015 due to ore depletion and the suspension or reduction of production at several operations due to low prices, including Glencore’s Lady Loretta, George Fisher and McArthur River operations, Perilya’s Broken Hill operation and CBH Resources’ Endeavour operation. In addition, MMG announced that throughput will be reduced at its Golden Grove operation to preserve asset value, with milling to focus on zinc ore. As a result, MMG’s copper production is expected to fall and reduce by-product credits, which will increase its cash costs.

Australia’s mine production is projected to decrease at an average annual rate of 1 per cent a year to 926 thousand tonnes in 2020–21. New mines that are scheduled to be completed, which include MMG’s Dugald River, KBL’s Sorby Hills and Independence Group’s Stockman operation, are not expected to outweigh the planned closures of Endeavour, Cannington, Golden Grove and Jaguar as they reach the end of their operating life.

Australia’s refined production to remain flat

Australia’s refined production is forecast to decrease 4 per cent from 2014–15 to 2015–16, to 467,000 tonnes in 2015–16. Production is expected to be affected by the suspension of activities at Nyrstar’s Port Pirie smelter while it undergoes redevelopment.

Over the medium term, refined zinc production is projected to remain steady at 501,000 tonnes a year, after an increase in late 2016 and early 2017 supported by ramp up at the Port Pirie smelter.

Export volumes to decrease while export values rise

Australia’s exports of zinc in 2015–16 are forecast to be 1.2 million tonnes (metallic content), a decrease of 29 per cent from 2014–15. The significant reduction in exports reflects the closure of MMG’s Century mine and the suspension of production at Glencore’s operations. Earnings from zinc

exports are forecast to decline by 30 per cent to $2.2 billion because of low volumes and zinc prices.

Australia’s zinc exports are projected to decrease at an average annual rate of 4 per cent to 1 million tonnes (metallic content) in 2020–21. Export values are projected to increase at an average annual rate of 4 per cent to reach $2.6 billion (in 2015–16 dollar terms) in 2020–21, as projected higher zinc prices more than offset lower export volumes.

Figure 14.10 Australia’s zinc exports


Table 12.1: Nickel outlook


Production

– mine kt 2,123 2,061 2,198 2,280 2,342 2,352 2,215

– refined kt 1,955 1,908 1,962 1,997 2,051 2,111 2,074

Consumption kt 1,891 1,931 1,971 2,023 2,079 2,137 2,202

Stocks kt 528 504 496 470 442 416 287


Price LME

– nominal US$/t 11,839 8,838 9,638 10,538 11,438 12,400 13,400

Usc/lb 537 401 437 478 519 562 608

– real b US$/t 11,975 8,838 9,463 10,127 10,747 11,380 12,012

Usc/lb 543 401 429 459 487 516 545

Australia unit 2014–15 2015–16f 2016–17f 2017–18z 2018–19z 2019–20z 2020–21z

Production

– mine cs kt 318 257 238 275 295 286 279

– refined kt 115 111 118 120 117 119 122

– intermediate kt 84 52 40 42 43 43 42

Export volume ds kt 328 272 255 292 314 308 295

– nominal value s A$m 3,583 2,439 2,099 2,521 2,894 3,112 3,309

– real value es A$m 3,634 2,439 2,070 2,437 2,731 2,860 2,963Notes: b In current calendar year US dollars; c Nickel content of domestic mine production; d Includes metal content of ores and concentrates, intermediate products and nickel metal;e In current financial year Australian dollars; f Forecast ; s Estimate; z ProjectionSource: ABS (2016) International Trade, cat.no.5465.0; Company reports; Department of Industry, Innovation and Science; International Nickel Study Group (2016); LME (2016); World Bureau of Metal Statistics (2016)

17. Trade summary chartsFigure 15.1: Contribution to GDP, 2014–15 dollars

Figure 15.2: Principal markets for Australia’s total imports, 2014–15 dollars

Figure 15.3: Principal markets for Australia’s resources and energy imports, 2014–15 dollars

Figure 15.4: Principal markets for Australia’s total exports, 2014–15 dollars


Figure 15.5: Principal markets for Australia’s resources exports, 2014–15 dollars

Figure 15.6: Principal markets for Australia’s energy exports, 2014–15 dollars

Figure 15.7: Proportion of merchandise exports by sector, 2014–15 dollars

Figure 15.8: Proportion of goods and services exports by sector, 2014–15 dollars


Table 15.1: Principal markets for Australia’s thermal coal exports, 2014–15 dollars

2010–11 2011–12 2012–13 2013–14 2014–15

Japan A$m 7,459 8,682 7,995 7,718 7,100

China A$m 1,714 2,872 2,955 3,476 2,737

South Korea A$m 2,766 3,087 2,796 2,776 2,657

Chinese Taipei A$m 1,978 1,921 1,720 1,662 1,768

Malaysia A$m 340 376 280 347 584

Thailand A$m 204 180 245 290 273

Total A$m 15,087 18,090 16,715 16,809 16,057

Source: ABS (2016) International Trade, Australia, cat. no. 5465.0

Table 15.2: Principal markets for Australia’s metallurgical coal exports, 2014–15 dollars

2010–11 2011–12 2012–13 2013–14 2014–15

China A$m 3,090 3,845 4,832 5,990 4,774

Japan A$m 9,384 9,466 6,249 5,625 4,614

India A$m 7,771 6,934 4,813 4,921 5,016

South Korea A$m 4,101 4,111 2,549 2,514 2,381


Netherlands A$m 1,045 1,360 1,020 1,027 832

Total A$m 32,707 32,945 23,539 23,785 21,813


Table 15.3: Principal markets for Australia’s oil and gas exports, 2014–15 dollars

2010–11 2011–12 2012–13 2013–14 2014–15

Japan A$m 11,569 13,840 15,141 16,271 15,391

China A$m 3,275 3,896 2,844 1,853 1,980

South Korea A$m 2,880 1,870 2,276 1,422 1,857

Singapore A$m 2,063 2,928 2,823 2,350 2,153

Thailand A$m 1,926 1,048 863 1,679 1,267

India A$m 1,010 317 185 256 194

Total A$m 25,966 27,635 27,764 29,895 26,894


Table 15.4: Principal markets for Australia’s gold exports, 2014–15 dollars

2010–11 2011–12 2012–13 2013–14 2014–15

China A$m 691 4,553 6,254 8,223 6,954

Singapore A$m 1,219 1,199 987 2,312 3,114

United Kingdom A$m 3,826 4,831 2,734 651 583

Turkey A$m 0 68 488 547 157

Thailand A$m 2,586 1,717 1,328 452 897

Switzerland A$m 9 36 299 351 15

Total A$m 14,224 16,517 15,734 13,233 13,048


Table 15.5: Principal markets for Australia’s iron ore exports, 2014–15 dollars

2010–11 2011–12 2012–13 2013–14 2014–15

China A$m 43,667 46,431 43,825 58,006 42,103

Japan A$m 11,300 11,618 9,003 9,830 6,696

South Korea A$m 6,613 6,909 5,149 6,202 4,047


Indonesia A$m 0 0 0 112 213

India A$m 0 0 49 42 109

Total A$m 63,807 66,974 59,643 75,951 54,519


Table 15.6: Principal markets for Australia’s aluminium exports, 2014–15 dollars

2010–11 2011–12 2012–13 2013–14 2014–15

Japan A$m 1,534 1,412 1,049 1,133 1,457

South Korea A$m 949 625 708 693 768

Chinese Taipei A$m 569 397 476 451 489

Thailand A$m 355 350 381 308 286

China A$m 150 203 156 237 50

Indonesia A$m 284 323 260 199 137

Total A$m 4,566 4,056 3,424 3,539 3,823


18. Appendix

18.1 Key assumptions

The forecast and projected export values presented in this report are dependant on assumptions about the Australian dollar / US dollar exchange rate, the RBA cash rate and the inflation rate over the outlook period. Values for these three key assumptions were generated using the Outlook Economics AUS-M Computable General Equilibrium model of the Australian economy.

The $AU / US$ exchange rate

A number of factors determine the exchange rate assumptions estimated by the AUS-M model, of which the most significant are the interest rate differential between Australia and the United States, commodity prices and the rates of inflation in Australia and the United States.

The Australian dollar has depreciated against the US dollar since reaching parity between 2010–11 and 2012–13. The decline in the Australian dollar has been largely attributable to falling commodity prices, as well as a relative improvement in economic conditions in the United States.

The Australian dollar is forecast to average US73 cents in 2015–16, down from US84 cents in 2014–15, then remain relatively steady at US 72 cents over the remainder of the projection period.

The RBA cash rate

The RBA cash rate declined significantly over the past few years, largely in response weak domestic economic conditions following the end of the mining investment boom. The RBA cash rate is assumed to increase slightly to 2.6 per cent by 2020–21.

The inflation rate

The RBA targets an inflation band of between 2–3 per cent, on average, over the economic cycle. The rate of inflation is assumed to remain close to the centre of the RBA target band, falling slightly to 2.2 per cent by 2020–21.

Figure 16.1 Australia’s exchange rate


Table 6.1: Key macroeconomic assumptions for Australia

unit 2014–15 2015–16 a 2016–17 a 2017–18 a 2018–19 a 2019–20 a 2020–21 a

Inflation rate b Per cent 2.7 2.5 2.2 2.2 2.2 2.2 2.2

Interest rate d Per cent 2.4 2.0 1.9 1.9 2.2 2.5 2.6

Exchange rate e US$/A$ 0.84 0.73 0.74 0.73 0.72 0.72 0.72

Notes:a Assumptionb Change from previous periodc Seasonally adjusted chain volume measures. d Median RBA cash ratee Average of daily ratesSource: ABS (2015) Consumer Price Index, 6401.0; RBA (2016) Reserve Bank of Australia Bulletin; Department of Industry, Innovation and Science

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