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AS Markets & Market Systems

Market for Copper

The market for copper has hit the headlines in the last two years as a price boom has occurred.

The world price of copper nearly trebled between the start of 2005 and the summer of 2006, one of the most remarkable booms in commodity markets in many years. Much of the steep rise in price has been due to demand-side factors. World demand for copper has been rising much faster than the growth in market supply that result from new discoveries of copper and increased extraction rates of known reserves. In 2004, world copper consumption exceeded production by 843,000 tons and a similar demand-supply imbalance occurred in 2005 and the early months of 2006.

According to a recent study from geologists at Yale University, new discoveries of copper have raised global reserves by just 0.63 per cent a year since 1925 but usage (final demand) has risen at 3.3 per cent per annum. And now demand is growing strongly on the back of phenomenal growth in China, India and other emerging market economies. Stocks of copper have been in sharp decline in the last few years and it is this scarcity that has driven prices higher as commodities traders out-bid each other as they scramble for available supplies. Supply has fallen behind the growth of demand and prices can move in only one direction when this happens!

The world supply of and demand for copper

Most copper ore is mined or extracted as copper sulfides from large open pit mines in copper porphyry deposits that contain 0.4 to 1.0 percent copper. Over 40 per cent of world copper supply comes from North and South America; 31 per cent from Asia and 21 per cent from Europe. Chile is the world’s biggest supplier of copper (it provided 35 per cent of the total in 2003 with Indonesia and the USA each contributing 8 per cent).

Copper – an example of derived demand

Because copper is malleable and ductile, there is a huge industrial demand for copper. Like most metals the demand for it is derived in part from the final demand for products that use copper as an important component or raw material. Nearly 50 per cent of the demand for copper comes from the construction industry, and 17 per cent is from the electrical sector.  Copper is also used extensively in heavy and light engineering and in transport industries. From copper wire to copper plumbing, from the use of copper in integrated circuits to its value as a corrosive resistant material in shipbuilding and as a component of coins, cutlery and to colour glass, copper has a huge array of possible industrial uses.

A good example of where demand for copper comes from is the automobile industry. The average new car contains 27.6kg of copper. And hybrid cars which incorporate electric motors in conjunction with combustion engines could lead to further rises in copper demand. A typical electric hybrid car might use around 2 times the current usage of copper in extra cabling and windings for electric motors."

Higher copper prices should encourage an expansion of supply

Incremental demand – the China and India effect

Recent data suggests that the incremental growth in world demand for copper has come almost exclusively from China and other Asian economies. HSBC analysts calculate that between the years 2000-04, the compound annual growth in copper consumption from North America has fallen by 3 per cent and by 1.8 per cent from Western Europe and 2 per cent from Japan. In contrast, demand from Asian countries other than Japan has increased by 8.6 per cent each year whilst in China the growth has been a staggering 15 per cent per year.

There has also been a noticeable speculative demand for copper as investment funds around the world have started to track commodity prices. In the case of copper, thus far, the market has been a one way street for financial investors, although you may have heard about the rogue copper trader from China who a fortune betting that the market price of copper would fall back in November 2005!

The volatility of commodity prices

As we have seen, price volatility stems from a lack of responsiveness of both demand and supply in the short term, i.e. both demand and supply are assumed to be inelastic in response to price movements.

The low price elasticity of demand for copper usually stems from a lack of close substitutes in the market. For some products and processes, aluminium or plastic may act as a substitute to copper for some uses, but there are costs and delays involved in switching between them.

The elasticity of supply is also low. Supply is usually unresponsive to price movements in the short term because of the high fixed costs of developing new extraction plants which also involve lengthy lead-times. If existing copper mining businesses are working close to their current capacity then a rise in world demand will simple lead to a reduction in available stocks. And as stocks fall, so buyers in the market will bid up the price either to finance immediate delivery (the spot price) or to guarantee delivery of copper in the future (reflected in the futures price). It can take huge price swings in the market for supply and demand to respond sufficient to bring the market back to some sort of equilibrium.

The effects of rising copper prices

The demand for copper will continue to remain strong provided that the global industrial sectors continue to expand production. But if price remain high then we can expect to see some shifts occurring. For a start, copper can be recycled although the costs of doing so are often high and there are fears concerning the negative externalities arising from the pollution created by trying to recycle used copper. These external costs include atmospheric emissions from recycling plants and waste products dumped into rivers. Nonetheless price theory would predict an increase in demand for scrapped copper and perhaps a substitution effect away from copper towards aluminium. And in the medium term high prices and emerging new technologies may cause an even bigger shift in demand away from copper based products. Plastics provide lower material and installation costs for businesses. And the take off in wireless technology and fibre optics will also have an impact.

And higher prices might also be the stimulus required for an expansion of copper ore production as supply responds to the incentives of increased potential revenues and profits. In recent years, copper mining production has fallen short of expectations. But as with any market, if the price is high enough suppliers will eventually respond!