SW P 135 This paper is prepared for staff

The views expressed are those ofthe author and not necessarilythose of the Bank.

INTERNATIONAL BANK FOR RECONSTRUCTION AND DEVELOPMENT

Economic Staff Working Paper No. 135

THE NICKEL OUTLOOK REASSESSED

August 31, 1972

While world nickel production continues to be dominatedby developed countries, good prospects also exist forexpansion in the LDCs. The severe 1971 slump in nickelraised doubts about the long-term outlook for thiscommuodity and tempered the optimism prevailing a year

-ago. This paper asserts that while it may n~ow bewiser to view nickel's prospects more conservatively,there is no reason to conclude that nickel is in long-range trouble. With proper financial and technicalassistance, developing conre a xadtershare of the world nickel market steadily in the1970's and 1980's.

Prepared by: Bension V'aronTrade Policies and Export P.-jections DivisionEconGmics De~psrtment

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TABLE OF CONTENTS

Page No.

Summary i

Introduction

Background - Nickel and Other Metals -

Anatomy of the Recent Slump in the Market 4

Current Situation and Short-Term Outlook 7

Long-Term Outlook: The Industry's Views 8

An Adjusted Demand Forecast 9

Capacity Expansion: Present Scene and Implications 11

Costs and Prices 13

A Caveat: Nickel at 10 Cents a Pound? 16

Conclusions and Recommendations 16

THE NICKEL OUTLOOK REASSESSED

Summary

1. Developing countries, exzluding Cuba, produce roughly 2 percentof the global nickel output but possess 22 percent of the world's nickelreserves. This, coupled with the metal's relatively high value ($l.- apound) and the hietorically rapid growth of consumption (6.6 percerutannually in the sixties), make nickel mining an attractive area forinvestment in a nu=ber of developin;, countries. Rising mining costs inCanada, the world's largest nickel producer, and technological advancesin the proceasing of laterite ores, which occur preponderantly intropical and semi-tropical regions, have alroady set in motion aninvestment trend away from traditional suppliers.

2. The world nickel market went through a severe slump in 1971,but demand has already picked up, particularly in the United States, andis likely to continue to improve with recovery of economic activity inindustrial countries. Nevertheless, there are a number of imponderablesacting on the market, a fact which imposes greater caution in viewingnickel's long-term prospects now than a year ago. But even under"pessimistic" assumptions, world nickel consumption is apt to grow atan encouraging rate of 4.o percent per annum between 1970 and 1975(5.5 percent annually in 1972-75) and 4.8 percent per annum between1975 and 1980.

3. On the other hand, producer stocks are large as a result ofthe 1971 slump and might not be liquidated rapidly. Even conservativeestimates of "probable capacity" indicate ihat the nickel productionpotential may exceed requirements for another two years, and possiblythree or four, since a number of construction programs are either tooadvanced to be postponed or cannot be cancelled or stretched out forpolitical and/or economic reasons. While nickel mining providespromising opportunities for developing countries - and these shouldbe earnestly explored - the present is not too propitious a time forfinancing new large projects which will come on stream before 1976.This prognosis notwithstanding, nickel merits sustained attention notonly as an important individual metal but also as a barometer of thenonferrous metals market.

Introduction

1. ,his paper uodates and amends the Review of the World NickelSituationL prepared about a year ago. The fact that a second reviewis undertaken so shortly after the first is in itself indicative of achanged market situation. Nickel has had a very bad year: worldconsumption contracted sharply, stocks mounted, free market prices ruledbelow posted prices generally, and the major producing companies' newsto investors at their latest annual meetings were uniformly sobering.

2. Although reverses of this nature have not been lmcommon innonferrous metals, the recent experience in nickel is of particularinterest, especially so to the Ban':, for at least three reasons:(a) While nickel production and trade continue to be dominated bydeveloped countries, a number of developing countries are about tobecome participants in - and thereforc dependent on - this market.(b) The recent slump coincides with a period of active Bank Group in-volvement in nickel.?/ (c) Thls was the first time in many years thatworld nickel consumption fell when supplies were plentiful. The timingand severity of the fall have fueled the concern "Have nickel's demandprospects been over-estimated? Has nickel's vulnerability to adversechanges in the general economic situation, to substitutes, etc., betunderstated?"

3. After re-examining the nickel scene, this paper asserts thatwhile it may now be wiser to view the nickel outlook, particularly themedium-term outlook, with lesq bullish eyes than a year ago, barringadverse technological changes, there is no immediate reason to concludethat nickel is in long-range trouble. The analysis, nevertheless, callsfor caution and for another review of the nickel situation no later thana year from now.

1/ Economics Department Working Paper No. 108, July i, 1971.

2/ The Bank Group has agreed to finance two nickel projects (in Botswanaand the Philippines) in the last 18 months. A third project (in theDominican Republic), the Bank Group's first in nickel, has gone intoproduction this year. The Bank Group-financed component of thesethree projects totaled $72 million, or 13.4 percent of total BankGroup lending (commitments) in the mineral sector to date. Two moreprojects are under either active consideration (Colombia) or pre-liminary discussion with the sponsors (Indonesia). Moreover, theBank and IFC have been sounded out on the feasibility of assistingin the development of the nickel resources of several other countriesas well, mostly in Latin America.

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Background - Nickel and Other Metals

4. Background information is kept to a minimum this time around;it is confined to a brief conparison of selected aspects of the worldmarket for nickel, other nonferrous metals, and iron ore as well, whichhad been omitted in last year's paper.

5. As illustrated in Chart I, in the sixties, nickel had thesecond highest consumption growth rate (after aluminum), namely 6.6percent per annum, and the third steepest increase in price (aftercopper and tin), namely 80 percent in current dollars, over the sameperiod - an altogether impressive performance. Developing countries,though possessing more than one-fifth of the world nickel reserves,did not benefit from this trend, however. In 1970 they produced onlytwo percent of the world's nickel output. Thoir share in world mineproduction was lowest for nickel among the seven minerals compared,not only in absolute teras but al,so relative to their share cf estimatedworld reserves, as shown below:]

LDCs' Share of:World Output World Reserves "Exploitation Index,

(1) (2) (1) t (2)

(.. percent ...... )

Nickel 2 22 .09Lead 12 21 .57Zinc 13 23 .57Copper 34 47 .72Bauxite 43 57 .75Iron Ore 24 29 .83Tin 69 79 .87

6. Nickel also heads the list in ter.s of geographic concentrationof production. Roughly 80 percent of world nickel output comes from onlythree countries, namely Canada, the U.S.S.R. and New Caledonia, in thisorder; Cuba, Australia, the United States, the Republic of South Africa,Indonesia, Finland, and Greece account for most of the remainder. Coin-cidentally, roughly 75 percent of the world output outside centrally-planned countries is controlled by three giant companies, the Inter-national Nickel Company (INCO) and Falconbridge Nickel Mines Ltd. of

1/ In this as well as in all the groupings in this paper "LDCsr excludeNew Caledonia and Cuba. New Caledonia is classified as a developedarea; not only is it part of "overseas France", but also its GNP isin the neighborhood of $1,750, undoubtedly because of the contribu-tion of nickel to the island's economy. Cuba is claesified with thecentrally planned countries, since, inter alia, the bulk of its nickelexports go to countries in this group.

Chart I: NICKEL AND OTHER MAJOR METALS

460

430 -

400-

A. GEOGRAPHIC CONCENTRATION OF PRODUCTION 37 C. INDEX OF PRICES IN 1970(SHARE OF THREE LARGEST PRODUCING&COUNTRIES) (1960-100)

NICKEL310-

280-

TIN 250 COPPER

CPPER IRON OPE BAUXITE 220

LEAD ZINC TIN190 NICKEL LEAD

160 ZINC ALUMINUM

130

100 IRON ORE

1%120

110 _

100 _

B. GROWTH RATE OF WORLD CONSUMPTION 90 D. LDC'S SHARE OF WOHLD PRODUCTION(1960 - 1970)

70 TIN

60

50ALUMINUM BAUXITE

NICKEL ~~~~~~~~~~~~~~~~~~~40 CPE

COPPER ~ ~ ~ ~ ~ ~ ~ ~ ~ ~ ~ ~ ~~~~CPEII ~~~~~LEAD 20 I I[11111111111 I I ~~~~~~~~~~~~~~~~~~~ZINC LEAD

TIN 10

Iii ZiI 0 NIN M I I D I NICKEL

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Canada, and the Societe Le Nickel of New Caledonia - a situation whichhas no close parallel among other major minerals.l/ This concentrationmakes it extremely difficult for developing countries to break into themarket on their own and, once .t.Oa, to influence it significantly.

7. All the same, developing countries are destined to expand theirparticipation in the world nickel market steadily in the 1970's and 1980's.Deteriorating ore grade and rising mining costs in Canada, advances inthe beneficiation and processing of lateritic ores, the resourcB potentialof heretofore unmapped areas, many countries' desire to diversi'y thesources of raw material supplies, and LDCs' growing domestic neids areamong the factors which favor nickel mining in developing areas andinvite attention to this commodity.

Anatomy of the Recent Slump in the Market

8. According to figures published by INCO, free world con ptionof primary nickel declined by about 15 percent in calendar 2971... Con-sumption contracted more or less proportionately in all major cmnsumingareas, though slightly more so in the TTnited States, the world's largestconsumer, than in other countries. Free world production, on the otherhand, increased by 3.4 percent and exceeded consumption by 250 millionlbs., or 30 percent, the bulk of which was absorbed into producer stocks.]/The increase in world production and stocks would have been even greaterhad it not been for a reduction of 21 million lbs. in Canada's outputwdhich occurred despite new additions to capacity. (see Annex Table 1)

9. Though major producers clung tenaciously to their postedprices - $1.33 per pound since October lQ'QV - hidden discounts, par-ticularly for large orders, wert .ot un;..-on; these very likely tookthe form of producer concessions in the sharing or invoicing of

1/ Established minor producers of nickel include the Western MiningCorporation (Australia), Sherritt Gordon Mines Ltd. (Canada), HannaNickel Smelting Company (United States), Kaiser Chemical and AluminumCorporation (multi-national), and Outokumpu Oy (Finland).

2/ The term "free world" is the expression commonly used in the nickeltrade and literature to refer to the world, excluding centrallyplanned countries; it is adopted here for convenience's sake only.

3/ Producer stocks, for which official estimates are not available,increased probably by even more than 250 million lbs., since someof the demand was very likely met from consumer stocks.

4/ Unless otherwise specified, all nickel prices referred to in thispaper are for Canadian electrolytic cathodes, f.o.b. Port Colborne.

transportation co3ts and in the granting of easier eredit terms.Dealer prices were quoted as low as $1.12 per pound in December 1971,a far cry from the $6.90 price ruling at the height of the 19698hortage (Chart II). Equally revealing was the similar decline in theprice of stainless steel scrap - a large source of secondary nickeland a better barometer of the state of the nickel market than dealerprices of primary nickel. ",ither prices nor demand in the case ofthe Federal Republic of Germany and Japan responded to the realignmentof currencies by moving upward, as might have been expected under lessbearish market conditions.

10. The unusual weakness in demand was brought about primarilyby economic slrwdowns in the major nickel consumLing areas, namely,the United States, Japan and Westeri Europe. That nickel sales faredworse than overall economic activity and industrial productionindicates that there were additional, special forces at play. Akey factor which aggravated the 1971 deba de was the fact that nickelconsumption tends to move very closely with capital investment andsteel production - stainless steel production, in particular - andthat these sectors were especially hard-hit by the recession. Reduceddemand for steel meant reduced working inventories of steel products;this, in turn, led to a reduction of demand for nickel. Furthermore,some industry spokesmen cor-tend, consumption of nickel had been'statistically inflated" in 1970 - i.e., much of it had gone intostocks in the form of primary nickel or nickel-bearing products -accentuating the anparent contraction in consumption in 1971. Nickeluse fell in all of its major outlets, including stainless steels,construction alloy steels, and high-nickel alloys; only in nickel-plating did it register an absolute gain.i/

11. The evolving glut spawned compensatory measures by all majornickel-producing companies, but it was nevertheless reflected in theirfinancial statements for the calendar year. INCO announced a 7 percentcutback as early as August 1971. This was followed by anothsr cut of15 percent in November and a further one of 10 percent last February.It also ordered a 20-25 percent reduction in operLtions at its nickelrefinery at Clydach, Wales, INCO's only refinery outside Canada.Other producers followed suit but with smaller slowdowns. One ofthe sharpest cutbacks occurred in Japan where, by February 1972,nickel metal production, mostly from imported ori, was reported at70 percent of capacity for pure nickel and 55-60 percent for ferron-

1/ Though nickel is quite evidently a "war material", whether or not,and if so how, its consumption might have been affected by deve.op-ments in the Vietnam War in 1971 cannot be ascertained.

Chart II: M.,ONTHLY PRICES OF ELECTROLYTIC AND SECONDARY NICKEL, 1966-1972Dollars per Pound7.03 _ _ _ _ __ _ _ _ _ _- 7

6 .0 0 .' '. _ _ _ _

Electr- rolytic Nckel Cathodes by Dealer

4.00 I _ _ _ _ _ _

3.00

Producer (INCO-)______ _____ _____ __ ___ _____ _____ ______ _____ _____ ____ _ _____ _ ___ ______ _____ _____ __ P__ _ce_o fr,C aof adaad n n ckelel2.00

E- , . r

; | * . ElectrolytIc Calhodl

1.00~~~~~~

t t--- C.Ulckmatcud Price o0 ;rcrIIrIi NI hi N ..-. el \ INj_~ -- ,,; 18-8 Srljnl-:s S;c:! ,rr.lI; '

7i9r ,J. 19,) . 1970 ; ,. 1971 1972

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nickel. All this was accompanied by changed investment decisionsranging from drastic revisions of expansion plans to higher selectivitythan normal in developing new mines, as will be illustrated later.A comemon pattern was to go ahead only with, the most promising projects -and then after slashes in size had been made - or to allocate justencugh money to keep them alive.

12. Nonetheless, sharp reductions in company earn4ngs c-xdd noc beavoided. This was the case not only with the three "'mai-rcO, of whichINCO suffered the most, but also with Sherritt Gordon Mines Limited ofCanada and the Western Mining Corporation of Australia. The poor per-formance of some companies was attributable, apart from reduced n4ckelsales, to l.ower average prices received for copper (an important by-product in some nickel mines), increased production casts, and greaterwrite-ofFs of pre-production expenditures.

13. The year closed with industry-wide concern over the demandoutlook. l.iere were also unsettling reports of So7iet offers to sellnickel in the U.S. market at price-, below current levels as part of abilateral deal with a machinery exporters' consortium.

Current Situation and Short-Term Outlook

14. The Jmmediate question is, to paraphrase one analyst, if nickel'sballoon has sprung a leak, is it positio5ed to come roaring back alongwith a recovery of business conditions?!/ The arswer is yes. Thetraditionali) .wift response of nickel demand to changes in economicactivity, and capital expenditures in partic-alar, backs up this conclusion.Besides, improvement in demand is likely to be accompanied by a build-upof consumer stocks, although there is obv'ously no urgent need to do thisas long as producer stocks are ample.

15. There are already signs that demand has picked up, particularlyin the United States. Dealer nickel and stainless steel scrap priceshave been firming up in the last few months. INCO's nickel deliveriesin the second quarter of 1972 were 28 percent higher than a year ago;second-quarter profits were up 17 percent from last year and 62 percentfrom the disastrous first quarter. The company is reported to havepointed o-tt that "some of this increase was due presumably to forwardbuying by customers against the possibility of a strike at INCO'sOntario Division" .2/ The industry now anticipates free world consump-

1/ 5. H. Dayton, "Nickel", Engineering and Mining Journal, March 1972,P. e183.

2/ Metals Week, August 21, 1972, p. 1

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tion in 1972 to regain half the ground it lost in 1971, totaling 900million lbs. compared to 825 million _n 1971 and 975 million in 1970.

16. By and large, however, the nickel market rama4ns substantiallya buyers' market. Wnile dealer cathodes are being quoted nominally at$1 .30 a pound or more, it is reported that large orders can still bemet at $1.25-1.23 a pound *.n the free market. A further indication ofthe insufficient buoyancy of demand - and of the guarded nature of thepreva4.ling optimism - can be fo,ind in INCO's hesitation to raise pricessince ths settlement of the labor dispute in early July. INCO signedan agreement then giving workers an overall $1.40 per hour increaseover the next three years (a 75 cent hourly wage increase, plus atout65 cents in fringe benefits). Though these terms were similar to thoseagreed upon at the er: of the 1909 strike (a $1.45 hourly increase),which had been accompanied by a 25 percent price hike in November 1969,the July 1972 settlement has not led to a price adjustment yet. Thisrepresents a break with tradition and can be explained only by theindustry's concern over the current market situation and the medium-term outlook. While an official price increase may still be announcedlater this year, it is expected to be in the order of 10-20 cents apound (7.5 to 15 percent), i.e., considerably less than that of 1969.and part of it 1-l1 very likely be justified belatedly on the exchan7elosses that resulted from the U.S. devaluation.

Long-Term Outlook: The Inaustr.,'s Views

17. Officially, the industry (spokesaern for the three majorcompanies) is holding on to its optimistic views of the long-termnickel outlook; it envisages a growth of free-world nickel consump-tion of 6-8 percent per annum during the next 5 to 10 years, with nounmanageable problem of overcapacity. BRt their optimism is actuallymore guarded than 18 months ago and finds less support among indepen-dent observers. For example; whereas in early 1971 one major companyhad prolected a world nickel consumption le-,el of at least two billionpounds in L?80, its latest view is that consumption "could approach2 billion lbs. in the early 198CPs". A second company continue-stobank on the prolongatitonof the hiistorical consumption trend (thatfrom 1947 to date) through ths 1970's, but its latest calculationsfor 1975 yield a fig.-e below that enunciated a year ago. A thirdlarge producer has been conspicuously silent on the entire subjectof long-term dt nand prospects for nickel.

18. Most investment analvsts for their part forecast a long-term demand growth rate of 4-4 percent, two full percentage pointsbelow that of the industry. A diaconcerting implication of this is

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that if the low figure, namely 4 percent, materializes, present andpotential capacity (capacity under construction and "firm") might besufficient to meet requirements through the late seventies. Whilesome industry representatives do not rule out this possibility, theofficial view is that buoyancy in demand in new end-uses and "almostpredictable" technical delays in capacity expansion will neutralizethe threat of chronic over-capacity. Nonetheless, a great deal of"self-questioning" is going on within in the indu3try itself regardingits expansion strategy - a fact admitted to by the president of INCO,among others.

An Adjusted Desiand Forecast

19. In last year's review, Wo,rking Paper No. 108, free-worldconsumption had been projected to expand at a rate of 6.1-6.7 percentper annum in the seventies (slightly faster in the first half of thedecade), rising from about 440 thousand maetric tons ir 19701/ to575-625 thousand tons in 1975 and 800-850 thousand tons in 1980.There are presently at least three reasons for revising these figuresdownward: (i) Last year's forecasts, particularly those for 1975,were influenced by the assumption that consumption would grow rapidlyand rise considerably above the historical trend in 1970-72, as expectedby tha industry.2/ The 1971 and 1972 experience has invalidated thisassumption and rendered the 1975 forecast unrealistic. (ii) The long-term economic outlook for most of the industrialized countries,particularly Japan, is nmch more uncertain and generally more subduedthan 18 months ago. (iii) Ln the case of Japan, whose nickel consump-tion grew almost sixfold in the last 10 years and generated 36 percentof the incremental demand in free-world. nickel consumption between1960 and 1970, special caution is called for with respect to the futuregrowth rate of not only the economy but also steel production, whichgenerates up to two-thirds of the demand for nickel. Corrections basedon these changes yield the revised figures shown in Annex Table 2 whichwe call "moderate forecasts" anl which fall below the ranges estimatedlast year.3/ Nevertheless, these point to .ThaFTnome growth avera;Ing

1/ Revised Metallgeselschaft estimate, wtich is higher than the INCOestimate.

2/ See Working aper No. 108, paragraphs 32 and 33.

3/ There is not much poinc in attempting to produce "optimistic"forecasts under the present state of the market. The 'moderate"forecasts above are intended as the hignest estimates on which itis reasonable to base investment decisions at this time. "Pessim-istic" forecasts are discussed next.

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4.8 percent per annum between 1970 and 1975 (6.4 percent annually for1972-1975) and 6.2 peroent between 1975 and 1980.

20. As to the question of substitution against nickel - alegitimate question indeed - we basically continue to hold to the viev-that there is no immediate or serious danger. Both the limited i, 'o-

tion availabls and replies by representatives of the industry to in-quiries negate the thesis that nickel has a strong, all-purposesubstitute, though some substitution for nickel (by cobalt, molybdenum,titanium, etc.) has undoubtedly taken place in some end-uses ir thepast, particularly when nickel wa3 not available in suffic.ient quantities.There are, moreover, two impo-'ant factors which militate against adanger of substitution: (i) It is quite likely, even if one discountsindustry claams, that expanded nickel consumption in new or "young"end-uses such as pollution control equipment, desalination plants,cyrogenics (transport of liquid gas technology), etc., will offsetany possible attrition of demand due to substitution. Nickel's ead--uses are quite varied and many are in dynamic sectors such as aerospaceand energy, and in capital equipment in general.l/ (il) The probabilitythat nickel will be abundant and available at relatively stable realprices in the next few years - the -oulk of it from "secure" souirces -should remove or abate what has been traditionally the foremost incen-tive to develop substitut.,s.Y/

21. .here- are, however, several reasons for extra caution withregar-i to substitu'ion and, therefore, for allowing for adverse contin-gencies in planning. It should be noted parenthetically that theindustry's lack of concern over this problem largely rests on thedouble premise that: (a) the cost of nickel accounts for a very smallportion of the cost of stainless steel; and (b) shifting from nickelto a substitute entails costly adjustments and yields an inferiorproduct. These, though, are not unassailable or unchangeable factors,holdXiig true at eveiy level of relative prices and technology.Although nickel does not have a single direct substitute whose pricebehavior allows for serious comparison, it is nevertheless of concern

1/ To illustrate, as one observer puts it, "fertilizer plants are allstainless steel!f.- Much of the pollution control equipmant whichdeveloped countries are compelled to use are subjected to corrosiveconditions and require nickel-bearing stainless steeLE. See, more-over, the diversity of U.S. nickel demrnd in Annex Table 3.

*/ Going by estimates of 7roven reserves, nickel is one of 'he mostabundant minerals, eveK Eiier the conservative assumptions in theLimits to Growth (A Rep.---t for th3 Club of Rome's Project on thePredicament Of Mankind, Universe Books, New York, lF72).

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that the price of nickel is now more elevated t;an 4-5 years ago, bothby itself and in compari on to a number of prs*.ole substitutes. Thereare also some indications, which have not yet been fully investigated,that the share of nickel in the production of stainless steel has gonedown during recent years in the United States. Finally, it is reportedthat the introduction of argon-oxygen refining processes and vacuummel'ing techniques in the steel industry has made it possible for millsto adjust their raw material intake and has opened up the possibilityof substituting nickel with other metals or alloys, with little or noloss in the quality of the final product. - Allowing for these contin-gencies, i.e., assuming quite arbitrarily a reduction in the averageincome elasticity of demand for the world from 1.2-1.3 to about 0.9-1.0due to substitution (and greater uncertainty about 1980 than about 1975)yields what we have termed "pessimistic" forecasts in Table 2.2/ Theseimply a consumption growth rate of 4.0 percent per annum between 1970and 1975 (5.5 percent annually in 1972-1975) and 4.8 percent par annumbetween 1975 and 1980.

Capacity Expansion: Present Scene and Implications

22. If one were to sum all the nickel capacity expansion prog:ams,mining development plane, feasibility studies, in short all nickelmining ventures and intentions reported in the press, one could easilyend up with a figure 2.5 to 3 times greater than the current level ofworld consumption. But this would show little knowledge of investorbehavior and the economics of mineral production, since the lessonsof past experience warn against the indiscriminate aggregation of suchestimates.

23. Neverthelesa, as will be shown below, even conservativeestimates of probable capacity indicate that nickel production poten-tial may exceed requirements for another two years, and possibly forthree or four, since a number of mine construction programs are eithertoo advanced to be postponed or cannot be cancelled or stretched outfor political and/or economic reasons. While this undoubtedly hasimplications for investment strategy, it should not be viewed as aunique or extraordinary development; capacity cycles which are not -or cannot be - timed with demand cycles are common in many industries,steel and copper providing the most regular examples.

1/ Dayton, op. cit., p. 185.

2/ Re-estimating the elasticity more rigorously requires time-consumingcountry-by-coun;ry end-use analysis, which is not justified at thistime in view of more pressing commitments.

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24. In presenting estimates of future capacity, it is usefulto distinguish amon ",certain, likely and potential capacity", aswas done lTst yearl!, but with one caveat: capacity estimates for1980 do no, have much meaning, since 197P's capacity will be shapedby decisions yet to be made or by drastic revisions in present plans.The revised estimates given in Table 2 indicate that while in 1975capacity stands to be considerably lower than predicted a year ago,our forecast of potential capacity in 1980 remains virtually unaltered(it is slightly higher than last year's). This is understandable,since long-term "paper plans" are not much affected by changed shortor medium-term expectations.

25. The capacity curtailment decisions reported so far whichform the bas,, fcr our revisicn of the 1975 estimates affect not onlylast year'b 'possible" but also "likely" categories. The majorprojects which, contrary to earlier expectations, are not about tocome on stream by 1975 include the COFIMPAC project in New Caledonia,the EXMIBAL project in Guatemala and one project in Australia. TheCerro Matoso project in Colombia, too, may be delayed by as much as18 months beyond its start-up date of 1974-1975 because of changesin plans.2/ Eve;i with these revisions, capacity in 1975 would exceedrequirements (according to our "moderate" forecast) by 20 percent,which implies that the industry might have to operate at 84 percentof capacity. This is not really intolerable if it does not last.It is when demand is assumedto grow slower, at rates below our"pessimistic" forecast, that the problem becomes severe.

26. While the major companies, particularly INCO, stand tosuffer most under such circumstances, bearing the m2jor burden ofthe continuing state of overcapacity, it is their actions, perhapsjustified at one time, which have brought about this very situation.The rather excessive increase in posted prices of about 25 percentin late 1969, exaggerated reports of pent-up demand, ond bullishlong-term forecasts have all encouraged an unprecedented interestin nickel mining. New potential producers have sprung up in Canada;14 local companies are interested in producing nickel in thePhilippines3/; projects are under study in Venezuela and Brazil;and interest has been shown in developing possible and heretofore

1/ For the definition of these terms, see Working Paper No. 108,para. 39.

2/ Metals Week, April 17, 1972, p. 3.

3/ Metals Week, April 3, 1972.

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uripublicized resources in Zambia, Malawi and the Malagasy Republic.The United Kingdom, too, has been the scene of prospecting operationswith a view to proving a major nickel area.!/ In addition, the USSRis planning to build what will be the largest copper-nickel mine inthat country, which may help to inc-ease its role in the market.2/Obviously, a number of these plans i.11 simply not materialize - willnot prove feasible - for technical or economic reasons, at least inthe 1970's.3/ While it is almost certain that a large segment of thenew capacity required for the late seventies will be built in theLDCs, it is impossible to determine at this stage which of the planswill be affected most by new economic considerations. Undoubtedly,political considerations (the "security of supply" objective) willplay a key role in shaping the future structure of the world nickelmarket.

Costs and Prices

27. Our nickel price iorecast for the late seventies, namely$1.15-$1.25 per pound in 1970 dollars (compared to today's price of$1.33. which works out to $1.24 in 1970 dollars)4/ remains appropriateand defensible either from a forecasting standpoint or on profitabilitycriteria, for the very reasons advanced in our 1971 review. To re-capitulate, the long-rur. price of nickel is governed less by supply/demand configurations than by the necessity of producers to covermining and processing costs - plus a fair margin of return on capital- and to obtain sufficient reve ue to finance exploration and develop-ment of new sources of supply.5. The price forecast was based on thefollowing assumptions: (a) that the structure of the world nickelmarket would not change significantly, i.e., that the market powerof the big three producing companies would not be sufficiently eroded

1/ Mining Journal, December 10, 1971.

2/ Engineering and Mining Journal, January 1972, p. 89.

3/ Many of the plans are in countries whose nickel resources have notbeen delineated adeQjately to be included in formal estimates ofworld reserves (See Annex Table 4).

4/ Adjusted for the rise in the U.S. wholesale price index between1970 and May 1972.

5/ Working Paper No. 108, pp. 18-21. See also Mining Journal, March 10,1972.

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to bring about a new "pricing regime"; (b) that increases in costswould not average significantly above the rate of inflation inindustrialized countries; and (c) that the ruling price then (1971),$1.33 per pound,was artificially elevated, i.e., that under a morenotmal pace of capacity expansion, a price of $1.15 to $1.25 a Doundwould be sufficient to provide profits in line with the industrr'sexperience. These assumptions remain valid, but they requirefurther explanation in view of recent developments and unendingspeculation about prices.

28. While the true cost structure of the nickel industry's bigproducers remains a mystery, there is ample evidence supporting theindustry's claims that both production and investment costs have beengoing up and will continue to do so. Rough estimates deduced fromtwo major producers' annual financial statements suggest that the costof mining nickel-copper (joint products in the mines in question) roseby at least 30 percent between 1965 and 1970. Estimates of the costof individual new projects reported in the press over the last fewyears, though not strictly comparable, indicate that the investmentcost per pound per year of nickel has been surging upward, too.Costs overrunsin ongoing projects have been common. Prices of miningequipment have also risen sharply in the last few years.l/ But tnemost dominant influence by far on the upward trend of costs and priceshas been the necessity to mine lower grade sulphide ores deeper anddeeper in the ground. Prices had to rise, even in real terms, inorder not only to lower the cutoff grade of operating sulphide minesbut also to make the exploitation of the more abundarnt oxide deposits(nickeliferrous laterites) profitable.

29. On the last point, Horace T. Reno of the U.S. Bureau ofMines draws attention to an interesting parallel between iron oreand nickel, likening the shift from conventional ores to taconitesin the case of iron ore to that from sulphide ores to oxides in thecase of nickel. He notes that the price of iron ore did not increaseto accommodate the lower grade ore or the taconite because improvedtechnology and kow-how have outweighed higher costs of handling thelarger volume necessary for obtaining the same quality of metals.While admitting that in the case of nickel the technology to offsetthis increased cost has not yet been developed, Reno asserts that

1/ See the "Engineering and Mining Journal Mining Equipment Index",Engineering and Mining Journal, February 1972, p. 26.

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the infant laterite processing technology is bound to become moreefficient as it matures.l/ This is in essence what we, too, hadadvanced last year.

30. It follows, then that the major push to prices will comeprimarily from inflation.YV But two further points need to be dealtwith: (i) Will the price level really stabilize, in constant dollars,at present prices ($1.33) or at the lower price range forecast?(ii) Will the oligopolistic structure of the market be altered?

31. As to the price question, the ftllowing illustration suggestsan answer: the latest statement of a major producer indicates that itsearnings per share jumped by 55 percent between 1968 and 1970 (i.e.,when prices were raised by 30 percent) but were more than halved in1971. Simple arithmetic indicates that had 1971 sales and stocks been'normal" and investment expenditures less bunched, earnings per sharewould have been near the record 1970 level; under the same hypotheticalconditions, had prices stood at $1.15-$1.25 (our orecast), earningsper share would have been similar to their more o, less stabls levelof the 1964-1968 period. This supports our contex.tion that nickel'slong-term price, in real terms, need not be as high as tods;'s. Howthe nickel price might have to be adjusted to reflect changes in therelative strength of the Canadian and U.S. currencies is yet to beseen; but, as noted earlier, a belated increase in response to therecent devaluation of the dollar is indeed quite likely to ccmse asthe market improves.

32. As for the present market structure, while Canada's shareof world .ickel output will decline significantly, the market domina-tion of the three big companies will erode only gradually and moderately,as ind,cqted in our 1971 review and supported by a recent independentstudy. ; we are going to see sporadic conpetition, greater cost-consciousness, and added caution in price adjustments to be sure -

1/ Horace T. Reno, "World Economics of Nickel", Skillings' MiningReview, February 19, 1972, pp. 10-13.

2/ Pollution control, too, has apparently added on to costs and maydo so in years ahead. However, the problem of pollution in nickelmining and smelting is probably not as great as in mining andprocessing other minerals, such as iron ore.

3/ George Bonar, The Nicktl Industry:- A Reference Study, Toronto:Canavest House Limited, 1971.

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but the market is not likely to display anything resembling free com-petition./ That is, progressive inflation in costs will very likelybe passed on in terms of higher consumer prices, in current dollarsat least.

A Caveat: N5ickel at 10 Cents a Pound?

33. A recent potentially important devel.opment concerns thepossibility of obtaining vast quantities of nickel as well as ,therminerals (manganese, cobalt and copper) from underwater nodules(golf-ball size mineral configurations) whichcover the ocean floor.Recent investigations establish that the technology for "mining"these nodules is close to being perfected, that large-scale miningmay become a reality in the second half of the seventies, and thatpotentially, nickel could be mined at a cost of 10 cents a pound atan annual rate at least three times the current annual level of worldconsumption.?/ We have not taken this possibility into account inthe foregoing analysis, on the assumption that nodule mining wi.ll notmake a significant impact for another 5-10 years. The fact that thenickel industry is not visibly worried about this threat suggeststhat the above as!-wmption is not too unrealistic, at least not forthe present; but the subject will be kept under close observation.One thing is almost certain, however: the seabed's potential willvery likely have a moderating influence on nickel prices (and on thedevelopment of substitutes) in the long run.

Conclusions and Rkcomwendations

34. Despite the revised lemand outlook, nickel projects currentlyunder construction do not appear to be in trouble on market grounds.But clearly this is not too propritious a time for undert4ing new largeprojects which will come on stream before 1976 unless proper marketingarrangements and studies are undertaken.

1/ Bonar makes privately the following point: as long as the newcopanies entering the nickel market are large, resourceful arLddiversified enterprises such as AMAX, competitive forces willremain weak.

2/ See my note "More on the Scarcity of Natural Resources", datedMay 4, 197', and its attachment: John L. Mero, "Effects of MiningSea Floor Nodules May Be Drastic for Industry, Society", TheNorthern Miner, April 20, 1972.

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35. That capacity expansion and mine development plans have been,and might continue to be, cancelled or stretched out is neither withoutprecedent nor of grave consequence. What is disconcerting though, isthat ur ler the current market structure and joint-financing pattern,the "big nickel-producing companies" are the ones to call the tune;they largely determiane which deposits in which countries will bedeveloped in what chronological order on the basis of economic and,increasingly, political considerations.l/ One can argue, therefore,that in a sense it is not the non-profit sponsor, but the "big company"which provides the so-called "umbrella function".? 1

36. As the Bank Group's involvement in nickel increases, so itsknowledge of the nickel industry and market, too, should be broadened.For the moment, however, given the current state of our knowledge andthe pressure of other studies, the Bank Group's interest would probablybe better served by systematic annual reviews of the situation andoutlook than by a one-time in-depth inquiry. The only exercise thatseems fruitful, though not urgent, is a study of the stainless steelmarket, since it would generate valuable information not only on nickel,but also on chromite, manganese, cobalt, etc., and a number of specialalloys.

Australia's phenomenal success in developing its mineral industrycannot be explained fully without giving great weight to theattraction of its political stability (and competent management)to foreign investors.

g/ Although the French Government has been trying to make the alreadylarge New Caledonia nickel industry truly independent, it hasproven difficult to go ahead with some of the expansion plans withoutINCO's involvement.

Table 1: FREE WORLD CONSUMPTION AND PRODUCTION OF PRIMARY NICKEL, 1970 AND 1971-/

Volume1970 1971 Change

Volume Share Volume Share 1970-71(million lbs) (percent) (million lbs) (percent) (percent)

ConsumptionWestern Europe 376 38.6 327 39.6 -13.0United States 330 33.8 273 33.1 -17.4Japan 202 20.7 172 20.9 -14.8Other 67 6.9 53 6.4 -20.6

Total 97 15" T2 100.0 -15.4('000 metric tons) (442) (374)

Produc' onCanada 611 58.3 590 54.4 - 3.5New Caledonia 232 22.1 260 24.O 12.1United States 32 3.1 34 3.1 6.2Other 173 16.5 200 18.5 15.6

Total 100.0 100.0 3.4('000 metric tons) (475) (492)

Consumption, by End-UseStainless steels 402 41.2 338 41.0 -15.9Nickel plating 129 13.2 131 15.9 1.5High-nickel alloys 132 13.5 99 12.0 -24.8Constructional alloy steels L06 10.9 82 9.9 -22.5Iron and steel castings 85 8.7 75 9.1 -11.7Copper & brass products 32 3.3 25 3.0 -21.9Others d9 9.1 75 9.1 -15.8

Total 975 100. 100.0 15.4('000 i.etric tons) (442) - (374)

1/ These are estimates by INCO as reportee in the press and in the Company's 1971 AnnualReport; they do not link with the longer series ir. Working PaDer No. 108, op. cit.,which come from Metallgesellsch&ft.

Table 2: REVISED ESTIMATES OF FREE-WORLD NICKELCONSUMPTION AND PRODUCTION CAPACITY,

1975 and 19801/

(thousand metric tons)

Forecast1975 1980

CONSUMPTION

Old Estimate 575-625 8C0-850

Revised Estimate"Moderate" forecast 560 760tPessimisticRt forecast 530 700

PRODUCTION CAPACITY

Old EstimateCertairi (C) 650 750(C) + likely (L) 700 850(C) + (L) + possible 800 1,050

Revised EstimateCertain (C) 670 810(C) + likely (L) 670+ 860(C) + (L) + possible 670+ 1,070

1/ See text, paras. 19-25, for definitior andclarification.

Source: .old estimates" from Review of the World NickelSituation, Economics Department Working PaperNo. 1-08,p. 16.

Table 3: U.S. DEMAND PATTERN FOR NICKEL, 1968-70 AVERAGE

Volume Distribution(million lbs) (percent)

Industrial chemical and petroleum refining 87.7 21.2

Fabricated metal products 41.6 10.1

TransportationAircraft and pa.ts 34.2 8.3MAotor vehicles and equipment 46.6 11.3Ship and boat building and repairs 15.8 3.8

Total 96.6 23.4

Electrical equipment 51.0 12.4

Hot.sehold appliances and equipment 29., 7.2

Industrial machinery 29.1 7.0

Construction materials 30.4 7.4

Other 46.6 .1.3

Total 412.9 100.0

Source: U.S. Bureau of Mines.

TABLE 4: ESTIKkTZS OF WOiLD NICKEL RESERVES(Million Pounds)

Price, constant 1970 dollars per poundof primary metal

1.33 % 2.00

North AmericaUnited States 400 0.4i 1,100 o.6Canada 12,6 .f 000 12.6

Total 13,000 14.1 26,100 13.2

Central AmTerica andCaribbeari I31andsCuba 8,4o0 n.1 36,90o 18.1Dominican Republic 1,800 c.0 1,800 0.9Guatemala 1,000 1.1 2,000 1.0Puertu Rico - - 200 0.1

Total 11,200 __Li.2 40,000 20.1

EuropeU.S.S.q. 20,000 21.6 20,000 10.0

AsiaIndonesia 7,400 8.0 i6,000 8.0Philippines 9,000 9.7 60,000 30.1

Tota.l. 16,400 17.7 76,ooo 38.1

OceaniaAustralia 1,000 1.1 4,000 2.0New Caledonia 308 80 33.3 33000 _16.-

Total 31,80a 34.4 37,000 13.6

Total for World?/ 92,400 '100.0 199,100 100.0

1/ Year end U. S. price in 1970.

?/ Excludes small quantities of reserves in Brazil, Rhodesia, Republicof South Africa, and Burma and an unknown quantity of low-gradelaterites that exist in tropical and semitropical areas of the world.Also excludes nickel associated with copper deposits in Botswana.

Sources: U. S. Bureau of Mines.