I Long run I Long run - Economics of Metal Markets

- byproduct

11

main product

/

I l l I

(1:~: Q;

Quantity (tons per year)

b. Total Supply Curve

I Long run main I and byproduct

- - -

I I I

02

Quantity (tons per year)

Figure 10. Total Long Run Supply Curve for a Metal Produced a s a Bypro- d u c t a n d Main Product

above their reservation price, t h a t is t h e price a t which they a r e willing to sell their byproduct output and which normally reflects their produc- tion costs. This difference between costs and m a r k e t price is economic rent. It accrues to all producers whose costs, including a normal r a t e of return on invested capital, a r e below the prevailing market price.

In deriving t h e total supply curve, a question sometimes arises as to whether the secondary supply curve for new scrap should be included.

New scrap, after all, is generated in the manufacturing process, and depends on other sources of supply. If metal fabrication becomes more efficient and generates less new scrap, this does not m e a n total metal supply has declined.

Whether secondary supply from new scrap should be counted as part of total supply depends on the purpose for which total supply is being considered. In assessing t h e extent to which the United States is vulner- able to interruptions in supply from certain foreign producers, for exam- ple, we would not want to include secondary supply from new scrap. To do so, would ignore t h e fact t h a t this metal is generated from other sources of supply, a n d so would not be available in their absence. Includ- ing secondary from new scrap in total supply would underestimate V.S.

dependence on foreign producers. On the o t h e r hand, in assessing the competitiveness of secondary metal markets, we would normally want to consider secondary supply from new scrap.

Regardless of how secondary supply from new scrap is treated, it is important t h a t total supply and demand be consistent in this regard. If the demand curve takes account only of metal actually contained or embodied in final products, and excludes metal t h a t ends up as new

s c r a p and is recycled, t h e n t o t a l supply should also exclude new scrap.

Conversely, if d e m a n d includes t h e demand for all m e t a l , including t h a t which ends up as new scrap, t h e n t h e total supply curve should include new scrap as well.

APPLICATIONS

This section i l l u s t r a t e s t h e usefulness of t h e supply and d e m a n d principles we have examined in t h e preceding sections. I t uses t h e s e concepts t o analyze m e t a l m a r k e t instability, t h e m a r k e t impact of government stockpiling, a n d t h e "incentive price" technique for fore- casting long r u n m e t a l prices.

Market hstability6

Metal m a r k e t s a r e well known for t h e i r instability, for t h e i r feast o r famine n a t u r e . In a n effort t o stabilize commodity m a r k e t s , particularly for t h e benefit of producers i n t h e developing countries, t h e United Nations Conference on Trade a n d Development (UNCTAD) h a s over t h e l a s t t e n y e a r s p u s h e d for t h e c r e a t i o n of a n Integrated P r o g r a m for Com- modities. Among o t h e r m e a s u r e s , t h i s program proposes t o establish a common fund on which i n t e r n a t i o n a l commodity a g r e e m e n t s can draw t o support m a r k e t stabilization m e a s u r e s . While t h e proposed program h a s e n c o u n t e r e d a n u m b e r of difficulties, i t does reflect .the c o n c e r n on t h e p a r t of both producing a n d consuming c o u n t r i e s over t h e instability t h a t plagues m i n e r a l m a r k e t s .

'This study draws u?on Tilton and Vogely (1981) and Tilton (1977, Cna?ter 5).

Kor is t h i s instability new. One of t h e major driving forces behind t h e multiple m e r g e r s in t h e American steel industry a t t h e t u r n of t h e l a s t c e n t u r y , which culminated in 1901 with t h e creation of t h e G.S.

Steel Corporation possessing a t t h a t t i m e some two-thirds of t h e c o u n t r y ' s s t e e l making capacity, was a desire t o control t h e volatile s t e e l m a r k e t (Temin, 1964). Gyrations in t h e s t e e l industry during t h e 1880s a n d 1890s h a d c r e a t e d severe problems for all producers.

A highly c o n c e n t r a t e d m a r k e t s t r u c t u r e where one .or a few major p r o d u c e r s d o m i n a t e t h e m a r k e t and s e t a p r o d u c e r price does not, how- ever, e l i m i n a t e m a r k e t instability (though a s we shall see, i t does a l t e r t h e ways i n which m a r k e t instability manifests itself). This is because t h e following t h r e e characteristics of s h o r t r u n m e t a l supply a n d d e m a n d , responsible for m a r k e t instability, a r e present no m a t t e r how c o n c e n t r a t e d t h e m a r k e t .

First, a s o u t p u t approaches t h e capacity c o n s t r a i n t total supply becomes increasingly price inelastic. In a competitive m a r k e t , as shown earlier, t h e s h o r t r u n supply curve t u r n s upward and a t s o m e point b e c o m e s vertical. In a producer m a r k e t , t h e curve simply ends, when m a j o r p r o d u c e r s no longer have sufficient supply t o satisfy d e m a n d a t t h e p r o d u c e r price.

Second, d e m a n d also t e n d s t o be price inelastic. So t h e slope of t h e d e m a n d c u r v e is quite steep.

Third, d e m a n d is highly elastic t o changes in national income over t h e business cycle. The consumption of m o s t m e t a l s is c o n c e n t r a t e d in four sectors--construction, capital equipment, transportation, and con-

sumer durables--whose output is particularly sensitive to fluctuations in the business cycle. During a recession, these sectors suffer far more than the economy as a ~vhole. During a boom, their sales soar. As a consequence, the demand curve for most metals shifts considerably over the business cycle.

These characteristics of s h o r t r u n supply and demand a r e illus- trated in Figure l l a for a metal sold in a competitive market and in Fig- ure l l b for a metal sold in a producer market. In both instances, it is assumed that supply comes from individual or main product production.

This simplifies the analysis, but does not alter the conclusions, since total supply regardless of the combination of sources from which i t is derived is at some output constrained in t h e short r u n by t h e available production capacity. As supply approaches this constraint, it becomes inelastic to price.

The two characteristics of metal demand--its inelasticity with respect t o price and its elasticity with respect to income-are portrayed in Figures l l a and l l b by the steep slope of the demand curves and by the shifts in the demand curves over t h e business cycle. The curve DDt reflects demand a t the trough of t h e cycle, the curve DD, a t a mid point of the cycle, and the curve DDp a t t h e peak of t h e cycle.

One of the important consequences of market instability for copper, tungsten, and other metals sold on competitive markets is the severe fluctuation in market price. It varies in Figure l l a from a high of Pp a t the peak of the business cycle to a low of Pt a t t h e trough. The quantity of metal t h a t producers supply to the market also varies greatly, from a

a. Competitive Market

D D D

Qt Qm Qp

Quantity (tons per year)

b. Producer Market

D D

-

₅

_Produce1

S price

Demand curves

supply curve

1

Qt ~ r n

Q;

Quantity (tons per year)

Figure

It

Short Run Supply and Demand Curves

high of Qp (approximatey the maximum possible given t h e industry's production capacity) to a low of Qt. At the latter level, producers are burdened with either shutting down much of t h e i r capacity o r adding a large p a r t of their output to their inventories.

Figure l l a also indicates t h a t when market instability is caused by shifts in t h e demand curve ( r a t h e r than by shifts in t h e supply curve, which is more typical for agricultural commodities), t h e quantity sold and price move together. When one is down, so is t h e other. Conse- quently, total revenues and in r e t u r n profits tend to be highly volatile.

For metals sold in producer markets the situation is somewhat dif- ferent. If all firms faithfully adhered to one producer price, there is no price instablity. Even if this is not the case, if some open or secret discounting occurs, or if the producer price is reduced when the market is weak, price instability will generally be less t h a n in competitive mark- ets.

However, physical shortages, where the available supply is insuffi- cient to satisfy demand a t the prevailing price, can occur in a producer market. In Figure l l b , for instance, t h e quantity demanded during the peak of t h e business cycle is

Qpd

while the maximum amount t h e industry can supply is only Q;. The short fall requires t h a t producers allocate or ration their limited supply to customers on the basis of past purchases or some other criterion.

Despite the g r e a t e r price stability, firms in producer markets still suffer from sizeable fluctuations in total revenue and profits over the business cycle, as a result of the instability in metal demand and the

impact that this has on sales. In these respects, the adverse effects of market instability are similar for producer and competitive markets.

Public S t o c k p i i

The

U.S.

government has for several decades maintained stoclcpiles of copper, lead, cobalt, tungsten, and a number of other metals for stra- tegic purposes. More recently, France, Japan, and other industrialized countries have also contemplated such stockpiles, and in a few cases accumulated certain commodities.

This section examines how public stockpiling can affect metal mark- ets. It begins by looking a t the effects in the immediate r u n .

Earlier we distinguished between the immediate r u n supply curve in a producer market and in a competitive market. As shown in Figure 4, the curve for the producer market tends to be a horizontal line a t t h e producer price t h a t simply terminates once t h e constraint imposed by c u r r e n t output is reached. The curve for the competitive market, in contrast, s t a r t s a t a lower price and rises gradually until t h e constraint imposed by current output is approached. It t h e n t u r n s upward a n d becomes vertical. These curves a r e reproduced in Figure 12.

In analyzing t h e effects of stockpiling, i t is useful to separate total demand into three subcomponents or curves. The first is t h e c o n s u m p tion demand curve, which indicates t h e amount of metal demanded a t various prices over t h e year for actual consumption. In Figures 12a and 12b this curve is shown with a relatively steep slope, since for reasons discussed earlier t h e demand for consumption tends to be quite

a. Competitive Market

Quantity (tons per year)

b. Producer Market

Consumption I ,

I Output

I constraint

'r

U I

-

0 I

Quantity (tons.per year)

Figure 12. immediate Run Supply and Demand Curves

unresponsive t o price changes in the immediate r u n .

The second is t h e inventory demand curve, which shows t h e a m o u n t of m e t a l demanded a t various prices by fabricators, speculators, and oth- e r s for inventory adjustments.? As t h e price of a mineral commodity rises, inventory d e m a n d is likely to fall, in p a r t because carrying costs increase. In addition, t h e higher t h e c u r r e n t price, t h e g r e a t e r a n d m o r e widespread t h e expectation t h a t price will fall in t h e future. For t h i s reason, Figures 12a a n d 12b portray t h e inventory demand as moderately responsive t o price. They also indicate t h a t a t high prices fabricators and o t h e r s m a y on balance r e d u c e t h e i r inventories, causing inventory d e m a n d t o be negative.

The t h i r d is t h e stockpile d e m a n d curve, which shows t h e a m o u n t of t h e m e t a l demanded by t h e government during t h e y e a r in question for n e t additions t o t h e public stockpile. The shape of this curve, which is n o t shown in Figures 1 2 a a n d 12b, c a n be d e t e r m i n e d only with specific information about t h e purpose a n d operation of t h e public stockpile. It too can be negative, implying t h a t t h e g o v e r n m e n t wishes t o dispose of some of i t s stockpile.

By adding t h e s e t h r e e individual d e m a n d c u r v e s horizontally, we can derive t h e t o t a l d e m a n d curve. If n o public stockpile exists, only t h e demand curve for consumption and t h e d e m a n d c u r v e for inventory n e e d be added. Such a total d e m a n d curve is shown in Figures 12a and 12b.

7The bventorp demand of producers is taken into account by t h e supply curve, as t h e a m o - a t 7roducers supply to the market e: verious prices depends on their production and the? dernend for inventory. Cor~seq-.~en:ly, it is not included in the inventory d e r r ~ n d curve.

To assess t h e immediate effects of stockpiling, we need t o know how t h e total demand curve, illustrated in Figures 12a a n d 12b, is altered when stockpiling occurs. This requires t h a t we consider the nature and shape of t h e d e m a n d curve for n e t additions t o t h e public stockpile in more detail.

Public stockpiles a r e created for a variety of reasons. As noted ear- lier, t h e United S t a t e s maintains strategic stockpiles, which in principal a r e to be used only for military emergencies. The government has, how- ever, on occasions used them t o provide relief t o distressed domestic mineral producers, to assist fabricators during shortages, and t o discourage domestic producers from raising prices. It h a s also accumu- lated stocks t o encourage t h e expansion of domestic mineral production.

Other objectives a r e also possible. The International Tin Council, for example, operates a buffer stock t o reduce t h e volatility of tin prices.

What is of p a r t i c u l a r importance in assessing t h e n a t u r e of t h e stockpiling demand curve is the r a t e of accumulation, not the c u r r e n t or desired size of t h e stockpile, and how this r a t e varies with t h e price of t h e metal. In this respect, a public stockpile will at a n y particular time be in one of t h r e e phases: t h e acquisition phase during which t h e government is purchasing t h e commodity and building up its stockpile;

t h e disposal stage during which t h e government i s selling t h e commodity and drawing down i t s stockpile; and t h e holding phase during which t h e government is n e i t h e r buying n o r selling t h e commodity but merely maintaining its stockpile a t a given level.

If t h e r a t e of acquisition o r disposal is fixed a n d does not depend on t h e price of t h e m e t a l , t h e stockpile demand curve is simply a vertical line located t o t h e r i g h t or left of t h e vertical axis shown in Figues 12a and 12b by t h e a m o u n t equal t o the r a t e of acquisition or disposal.

Under t h e s e conditions, and if government stockpiling a l t e r s n o n e of t h e o t h e r demand or supply c u r v e s affecting t h e m a r k e t (an assumption t h a t is relaxed below), t h e i m m e d i a t e effects of public stockpiling c a n be readily appraised by r e c a l c u l a t i n g t h e total d e m a n d curves shown in F'ig- ures 12a and 12b so t h a t t h e y include t h e d e m a n d for n e t additions t o t h e public stockpile.

When t h e stockpile is i n t h e acquisition phase, t h e t o t a l d e m a n d c u r v e is shifted t o t h e r i g h t by a n a m o u n t equal t o t h e r a t e of stockpile accumulation. For m e t a l s sold in competitive m a r k e t s , this t e n d s t o i n c r e a s e t h e equilibrium price. Though t h e supply curve does n o t shift, t h e higher price will elicit a n i n c r e a s e in supply. This i n c r e a s e , however, will not equal t h e r a t e of stockpile accumulation, since t h e higher price will r e d u c e t h e d e m a n d for consumption a n d for additions t o inventories.

Figure 12a also indicates t h a t t h e magnitude of t h e s e effects depends on m a r k e t conditions a t t h e t i m e , a n d i n particular where on t h e supply curve t h e industry is operating. When supply is substantially below capa- city, acquisitions for a public stockpile have little effect on price, a n d h e n c e on t h e d e m a n d for consumption a n d n e t additions t o inventories.

The m a j o r effect is simply a n i n c r e a s e in supply a n d presumably produc- tion. In c o n t r a s t , when t h e i n d u s t r y is operating a t or n e a r capacity, price increases significantly, a n d t h e d e m a n d for t h e public stockpile is largely accommodated by a . r e d u c t i o n in t h e d e m a n d for consumption

a n d additions to inventories.

For m e t a l s sold in producer m a r k e t s , purchases for a public stock- pile similarly shift t h e total d e m a n d curve rightward by a n a m o u n t equal t o t h e r a t e of acquisition. According t o Figure 12b, this does not affect t h e price, n o r t h e demand for consumption or inventory additions. The q u a n t i t y supplied by producers simply expands t o provide for t h e addi- ional d e m a n d , assuming t h a t existing capacity is sufficient t o accommo- d a t e t h i s increase. If this i s not t h e c a s e , government stockpiling pro- duces a physical shortage. This presumably c a u s e s a c t u a l consumption a n d additions to inventories t o fall below t h e i r d e m a n d a t t h e producer price.

During t h e disposal phase, when t h e g o v e r n m e n t i s selling f r o m t h e public stockpile, t h e immediate r u n effects a r e just t h e r e v e r s e of those for t h e acquisition phase. The t o t a l d e m a n d is shifted leftward by t h e r a t e of disposal. This tends to p u t downward p r e s s u r e on price, to r e d u c e production, and t o s t i m u l a t e d e m a n d for consumption a n d inventory additions. The relative magnitude of t h e s e effects, again, depends on how closely t o full capacity t h e i n d u s t r y is already operating a n d on t h e m a n n e r i n which prices a r e set. During t h e holding p h a s e , when t h e g o v e r n m e n t is n e i t h e r buying n o r selling for t h e stockpile, t h e t o t a l d e m a n d curve r e m a i n s unchanged a n d t h e m a r k e t is n o t disturbed.

So far o u r analysis r e s t s on two r a t h e r restrictive assumptions: The f i r s t is t h a t t h e r a t e of g o v e r n m e n t acquisition or disposal for t h e public stockpile is invariant t o t h e m a r k e t price. The second is t h a t t h e i m m e d i a t e r u n supply, inventory d e m a n d , a n d consumption d e m a n d curves shown in Figures 12a a n d 12b do not shift as a r e s u l t of public

Im Dokument Economics of Metal Markets (Seite 77-104)