China has caught a cold, so mining bosses are sneezing

Mining in Chaos Over China’s Currency Move

China’s unexpected decision to trim the country’s official exchange rate twice in the last two days has sent shockwaves through the global economy, but one sector that is really grappling with the announcement is the world’s mining press.

The policy move, which cut the value of the renminbi by 1.9 per cent yesterday and a further 1.6 per cent this morning, has pushed China’s currency to a four-year low against the US dollar. Superficially, it is aimed at boosting the competitiveness of Chinese exports, which should spur its metal consumption by returning the economy to its export-led, copper guzzling days of the past. But as mining stocks flash red, the markets have been left scrambling for counter explanations.

China’s devaluation, for example, will indirectly make production from its own mines cheaper, by bumping-up the price of imports from other metal-rich countries. This is especially true in iron ore, where the strategy of Rio Tinto, BHP Billiton and Vale has been to dramatically escalate output, using Australian and Brazilian shipments to squeeze China’s higher-cost, domestic tonnage off the market.

Beijing’s 3 to 4 per cent move in the renminbi may look insignificant versus a near-70 per cent collapse in the iron ore spot price since 2011, but with many mines in China and Australia now teetering on the brink of negative cash flow, the policy could make a lasting difference.

There are though many more elaborate projections about the impact the policy will have. Rather than acting as a boost to Chinese exports, by making imports for businesses in mainland China more expensive, the country’s economy could in fact slow down further, according to Bloomberg. It has also argued that “the devaluation raises the risk that exports from China will increase, adding more metal to markets that are already oversupplied.” In nickel for instance, where prices have dropped by a third this year alone, China is the world’s sixth largest supplier.

Big Red Flag

Beijing’s move can also be seen as one big red flag alerting investors to the true state of China’s economy. Alarmingly, Beijing described yesterday’s devaluation as a “one-off” adjustment, only to follow it up with a second drop the very next day.

Its official GDP figures are already widely mistrusted. The government’s decision to devalue its currency, which it avoided in 2009 and in the Asian financial crisis of the 1990s, therefore indicates that its economy is in a far worse position, in the eyes of its own policymakers, than official data suggests.

There is also the deflation fear. It is important to note than an aggressive devaluation in both the Euro and the Japanese Yen in the last twelve months has not translated into higher exports by either Germany or Japan. Seemingly, manufacturers exporting goods priced in US dollars have instead used their currency tailwind to try to win market share.

By entering the currency war, China, the world’s warehouse for cheap products, may simply export deflation to the rest of the global economy, as falling oil prices have done. London-based mining analyst John Meyer added yet more fuel to the fire, posturing that “China may export more semi-finished product, which should put pressure on commodity prices, hurting guys like Glencore.”

Fortunately, when journalists and analysts tie themselves in a knot, the markets are always there to offer a clearer reading. And the market’s take on China’s move has been decisive and overwhelmingly bearish: Glencore fell 8 per cent in trading in Hong Kong overnight, falling by a further 6 per cent in London this morning. Fortescue, the world’s fourth largest producer of seaborne iron ore, meanwhile plummeted by more than 9 per cent in Australia. Whatever the details, China has caught a cold, so mining bosses are sneezing.