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Resources and Energy Quarterly June 2018

The Resources and Energy Quarterly contains the Office of the Chief Economist’s forecasts for the value, volume and price of Australia’s major resources and energy commodity exports. Each March edition of Resources and Energy Quarterly features a ‘medium term’ (five year) outlook for Australia’s major resource and energy commodity exports. The June, September and December quarter editions of Resources and Energy Quarterly contain a ‘short term’
(two year) outlook. This edition updates the Office of the Chief Economist’s short term outloot to 2019–20

Underpinning the forecasts contained in Resources and Energy Quarterly is the Office of the Chief Economist’s outlook for global commodity prices, demand and supply. The forecasts for Australia’s commodity exporters are reconciled with this global context. The global environment in which Australia’s producers compete can change rapidly. Each edition of Resources and Energy Quarterly factors in these changes, and makes appropriate alterations to the outlook, estimating the impact on Australian producers and the value of their exports.

Commodity prices have followed an unusually well-linked trend over the last 15 years. Prices rose virtually in unison during the initial years of the commodity boom, when the demand for base metals and coal rose sharply across Asia. As massive investment subsequently kicked in, prices stabilised and then declined across the board amidst unprecedented waves of new supply. The price ebb proved shorter than expected, however, with prices rallying again for nearly all commodities about two years ago. A major factor in the rebound was moves by China to cut loss-making in its domestic production of resource and energy commodities such as coal, aluminium, steel and iron ore.

The well-known commodity cycle story has evolved in two significant ways in the past two quarters. First, it has become clear that the price rebound — initially expected to be temporary — has turned out to be more robust than expected. Prices have, on balance, held their position, supported by another surge of infrastructure and energy demand across emerging Asia. China’s demand, long expected to ease, has not fallen as swiftly or as sharply as expected. Other countries, including India and Indonesia, have increased their commodity imports.

The second thing to note is the increasing variance in price trends among individual commodities. The previously overwhelming movements — when commodity prices rose and fell in remarkable unison — appear now to be diverging. Some commodities are experiencing rising prices and consumption, while others are falling. The factors influencing price movements vary increasingly between commodities as well. No single overarching trend now defines resource and energy commodity markets. This may be regarded as a return to normality following the largest demand investment boom in history. But it also signals the emergence of a more complex set of market conditions and a more unpredictable long-term direction.

It is our view that Australia’s commodity export earnings will largely hold their current level in aggregate terms over the next two years. A lift from $226 billion in 2017–18 (already a record high) to $238 billion by 2018–19 is expected. After this, lower prices are expected to reduce export revenue slightly, to $232 billion by 2019–20. Within this aggregate, however, we anticipate some significant divergence in conditions for the different commodities. Gas exports are set to rise strongly, as huge investments in supply meets massive new demand from Asia. Conditions for coal producers are more mixed, with metallurgical coal demand easing slightly, while earnings for thermal coal remain largely stable. Earnings for iron ore are likely to soften a little, but base metals such as copper and nickel — which play an important role in developing new technologies and energy storage — are showing increasingly strong prospects.

Commodity producers are operating in a rapidly changing market, with conditions now less homogenous than they have been for more than 10 years. The era of across-the-board investment and production cycles has passed, with most of the largest projects now at or beyond the point of completion. The next round of investments are expected to be more modest, and their success will depend more than ever on shrewd judgement. Which commodities are likely to present the greatest opportunities? How can technology be employed to contain costs and improve efficiency? Where will the demand spikes occur next? The opportunities are there, but judgement and innovation will be needed to unlock them.

David Turvey

Acting Chief Economist
Department of Industry, Innovation and Science

Resources and Energy Overview

Australia’s resources and energy export earnings are estimated to have reached record highs in 2017–18.

  • Resource and energy commodity prices rose firmly during the June quarter, the latter driven by strong demand and concerns about lower supply.
  • Australia’s resources and energy export volumes are expected to continue to grow at a robust pace over the next year, driven by LNG. Growth in export volumes is expected to slow in 2019–20.
  • With oil (and hence LNG) prices expected to hold some of their recent gains, exports in 2018–19 are expected to be a record $238 billion.

Macroeconomic outlook

Global economic conditions are expected to remain firm until 2020, with rising inflation in some advanced economies.

  • Advanced economies are forecast to grow firmly until 2019, when growth starts to moderate. Economic growth in emerging and developing economies is forecast to rise until 2019 before levelling off in 2020.
  • The cuts to corporate and personal income taxes in the United Stated are likely to support global economic growth.
  • Trade tensions between the US and its major trading partners present potential risks to confidence and global economic growth.

Steel

India and other emerging economies are expected to drive growth in steel demand, offsetting a projected gradual decline in China.

  • World steel production increased in the five months to May 2018, driven by firm global economic growth, high steel prices and margins, and robust production in China.
  • China’s steel production and consumption are forecast to taper off over the outlook period. The decline will reflect a slow-down in construction activity, stricter environmental policies and supply-side reforms.
  • The threat of escalating protectionist policies by the US Administration remains a risk to the outlook for major steel exporters.

Iron Ore

Australia’s iron ore exports are set to reach a record 887 million tonnes in 2019–20, as production ramps up.

  • The iron ore price is forecast to decline to US$51 a tonne (FOB Australia) in 2020, as a result of an expected decline in steel production in China and a well-supplied seaborne iron ore market.
  • Australia’s iron ore export volumes are forecast to increase from 846 million tonnes in 2017–18 to
    887 million tonnes in 2019–20, driven by the ramp up in production by Australia’s largest producers.
  • The value of Australia’s iron ore exports is forecast to decrease from $62 billion in 2017–18 to $55 billion in 2019–20, as the impact of lower prices more than offsets growth in export volumes.
  • The key uncertainty underpinning the outlook for the iron ore price is the pace and magnitude of the decline in China’s steel production, which in turn largely depends on government policy.

Metallurgical coal

Australia’s metallurgical coal export earnings are set to reach a record $38 billion in 2017–18, driven by higher prices.

  • The metallurgical coal spot price is forecast to decline from an average of US$193 a tonne in 2018 to US$148 a tonne in 2020, with the impacts of improved supply combined with weakening demand from China expected to outweigh growing demand from India.
  • Australia’s export volumes are forecast to grow from 173 million tonnes in 2017 to 201 million tonnes in 2020, reflecting a steady recovery after Cyclone Debbie in 2017, and modest production growth from new capacity.
  • Australia’s metallurgical coal export earnings are estimated to have reached a record $38 billion in 2017–18. Earnings are forecast to decline to $32 billion in 2019–20, as lower prices offset rising export volumes.

Thermal coal

Australia’s thermal coal export earnings are estimated to have reached a record in 2017–18, driven by strong demand from Asia.

  • Thermal coal prices have been supported by strong demand from Asia and constrained supply. However with the recent market tightness coming from largely transitory factors, the spot price is forecast to decline from an average of US$99 a tonne in 2018 to an average of US$74 a tonne by 2020.
  • Australia’s thermal coal export earnings are expected to have reached a record $23 billion in 2017–18, driven by high prices.
  • Supply growth will be dominated by Australia, Russia and the United States, but investors will only reluctantly fund new capacity.
  • Export volumes are forecast to remain broadly steady at 201 million tonnes are forecast to remain broadly steady at 201 million tonnes.

Gas

LNG is forecast to overtake metallurgical coal as Australia’s 2nd highest resource export by value in 2018–19.

  • The value of Australia’s LNG exports is forecast to increase from $30.8 billion in 2017–18 to $42.4 billion in 2019–20, driven by higher volumes and higher prices.
  • The completion of the final three Australian LNG projects by the end of 2018 will underpin the strong growth in export volumes and bring total export capacity to 88 million tonnes. LNG exports are projected to reach 77 million tonnes in 2019–20.
  • LNG contract prices — at which most Australian LNG is sold — are projected to increase, in line with oil prices. The average price of Australian LNG is expected to increase to $10.5 a gigajoule in 2019–20, up from $8.1 a gigajoule in 2016–17.

Oil

Stronger oil prices and higher condensate production support growing petroleum exports.

  • Geopolitical tensions and uncertainty around world production led to sharp oil price increases in the first half of 2018, which are expected to moderate over the outlook period. In 2018, the Brent spot price is forecast to average US$70 a barrel.
  • Higher condensate production from new LNG projects is expected to boost export volumes. Petroleum exports are forecast to increase from 230 thousand barrels a day in 2017–18 to 355 thousand barrels a day in 2019–20.
  • The value of Australia’s crude and condensate exports is forecast to increase from $7.1 billion in 2017–18 to $11 billion in 2019–20, driven by higher volumes and higher prices.

Uranium

Uranium producers continue to face tough conditions, but prices and export earnings are expected to gradually improve from 2018.

  • Uranium spot prices remain historically low, but are expected to rise slowly over the outlook period, reaching just over $US28 a pound by 2020. Price growth will be driven by supply cutbacks in Kazakhstan and Canada, and rising demand due to new nuclear reactor builds across Asia.
  • Australian production is expected to sustain at current levels of just over 7,000 tonnes per year over the next three years. Improvements at Olympic Dam may support higher production from that site.
  • Australia’s uranium export earnings are forecast to increase slightly over the outlook period, reaching almost $700 million by 2019–20. This is in line with slow growth in prices.

Gold

The value of Australia’s gold exports is forecast to peak in 2019–20 at over $19 billion.

  • Gold prices are forecast to increase to an average of US$1,380 an ounce in 2019, as geopolitical risks and trade tensions raise the demand for safe-haven assets. Investor demand is then expected to weaken and gold prices are expected to decline to around US$1,320 an ounce by 2020.
  • However, a rising US dollar will limit the upside for the price of gold.
  • The value of Australia’s gold exports is forecast to peak in 2019–20 at $19 billion, driven by increased production and export volumes.

Aluminium, alumina and bauxite

Australia’s aluminium, alumina and bauxite export earnings to decline over the outlook period following recent price volatility in the global aluminium market.

  • Uncertainty in global aluminium supply chains is expected to drive prices up during 2018, to US$2,138 a tonne for aluminium and US$401 a tonne for alumina. Prices are forecast to decline to US$2,062 a tonne for aluminium and US$358 a tonne for alumina by 2020.
  • Australia’s alumina and aluminium exports are expected to remain steady through to 2019–20, at 1.4 million tonnes and 18 million tonnes per annum, respectively. Bauxite exports are forecast to increase from 27 million tonnes in 2017–18 to reach 30 million tonnes in 2019–20.
  • Earnings of aluminium, alumina and bauxite are forecast to decline from an estimated $13.8 billion in 2017–18 to $12.9 billion in 2019–20. This reflects a decline in prices.
  • A risk to the price forecast is the volatility of the aluminium and alumina markets due to the US Administration’s recent implementation of sanctions and tariffs.

Copper

Australian export earnings from copper are set to rise over the outlook.

  • A rise in copper consumption is expected to push copper prices up from an average of US$6,460 a tonne in 2018, to US$7,900 a tonne by 2020.
  • Australia’s copper exports are forecast to rise from 897,000 tonnes (in metal content terms) in 2017–18 to over 1 million tonnes in 2019–20. This reflects an increase in production from several existing mines.
  • The value of Australia’s copper exports is projected to increase from $8.5 billion in 2017–18 to $11.5 billion by 2019–20. This reflects higher production in the short-term and price growth late in the outlook period.

Nickel

Nickel may be entering a new investment phase as a result of higher prices and constrained supply.

  • Rising stainless steel demand is projected to push nickel prices above US$13,400 a tonne in 2018, with prices set to remain above this level over the rest of the outlook period.
  • Strong demand conditions are expected to encourage the development of two new mines in Western Australia, which will drive a lift in production from 163,000 tonnes in 2017–18 to 178,000 tonnes by 2019–20.
  • Strong prices, in conjunction with rising mined and refined production, should see Australia’s nickel export earnings lift from $2.3 billion in 2017–18 to $2.8 billion by 2019–20.

Zinc

Conditions are strong for zinc producers, with Australian production set to rise

  • Zinc prices are expected to edge back further from a peak reached in the first half of 2018 — falling from US$3,155 a tonne in 2018 to US$2,625 a tonne by 2020 — as supply closes the gap with demand.
  • Australia’s production is expected to rise sharply over the next year, before stabilising as mines reach their maximum output and prices ease.
  • Export values are expected to lock in the substantial gains recorded in 2017–18, remaining largely steady at around $3.8 billion each year over the outlook period.

Asian LNG trade and Australian LNG imports

Australia could become an LNG importer around the time it becomes the world’s largest LNG exporter.

  • Changing business practices in the LNG industry and the advent of Floating Storage and Regasification Unit technology have enabled countries to import relatively small volumes of LNG.
  • There are four proposals for an LNG import terminal in Australia’s East Coast gas market. LNG imports are being considered because of recent increases in domestic gas prices, a potential mismatch between supply and demand in the southern States, and expectations of subdued LNG prices.
  • Challenges to importing LNG remain. Asian LNG spot and short-term prices may not decline as far as some expect, or remain low for a protracted period of time. The economics of an LNG import terminal will require project proponents to aggregate purchasing commitments from a significant number of buyers.