Freeport-McMoRan Copper & Gold Inc has proposed to do two big acquisitions to enable it to get into North American oil and natural gas production. Many analysts are critical of the move, arguing that investors buy Freeport for copper exposure and if they want oil exposure they'll buy oil companies. Basically, investors want to do their own diversification. At first glance this sounds like just another squabble between big investors and top corp managers. But there's an interesting "Limits To Growth" angle: Freeport's motive. Suitable copper deposits are getting harder to find.
The latest deal would also give Freeport new growth opportunities. Analysts have said copper mining companies have found it increasingly difficult to find new projects in politically stable countries, and there are fewer deal targets after almost a decade of mega-mergers.
Freeport has a hard time finding sites suitable to develop into copper mining operations. New sites have lower copper concentrations, poorer locations, and other conditions that drive up costs. The cheaper sites have been developed first. This is a pattern across the entire mining industry. They have to use more expensive sites. They already operate in Africa, South America, and many other locations around the world. This brings to mind Jeremy Grantham's contention that natural resource depletion is limiting economic growth.Back in April 2011 Grantham pointed out that natural resource extraction companies already operate in politically unstable countries with poor infrastructure because industrialized countries are already heavily depleted.
A new power in the mining world is Glencore (soon to be listed at a value of approximately $60 billion). Its CEO, Ivan Glasenberg, was quoted in the Financial Times on April 11, describing why his firm operates in the Congo and Zambia. “We took the nice, simple, easy stuff first from Australia, we took it from the U.S., we went to South America… Now we have to go to the more remote places.” That’s a pretty good description of an industry exiting the easy phase and entering the downward slope of permanently higher prices and higher risk.
This rising cost for raw materials extraction applies to most or all raw materials. For example, coal extraction costs in the United States bottomed in 2000 and have gone up by about 2.5 times since then.
In his latest newsletter for GMO Jeremy Grantham points out that the world was on a long term declining cost trend for commodities until 2002. But the trend has since reversed.
As discussed before, in general the global picture until 2002 was one of erratic but generally declining resource prices. The average decline for 33 equally weighted commodities was 1.2% a year. This negative 1.2% is the sum of a positive increase in marginal extraction costs – deeper wells and thinner ores, etc. – tending to push prices up and a more than offsetting negative force from technology – finding and digging wells more efficiently, etc. – pushing prices down. My arbitrary but I hope reasonable guesses for the hundred years to 2002 is that technological innovations subtracted about 3.25% a year from resource prices and naturally rising marginal costs pushed them up by about 2% for a net annual decline of 1.25%. One could say that cleverness was overcoming increasing scarcity. But in 2002, the momentum shifts and scarcity gains the upper hand.
Grantham points out that we've seen a huge surge in commodities prices in the last 10 years.
However, even after an imputed 20% GMO 11 Quarterly Letter – On the Road to Zero Growth – November 2012 markdown, the prices will still have doubled in 10 years or compounded at 7% a year. This is far higher than global GDP growth and painfully higher than growth in the U.S. or other developed countries. This 7% a year increase, in my opinion, represents a paradigm shift in costs.
Exhibit 8 shows the total cost of commodities as a percentage of GDP. Prior to the time period of the exhibit, the share of commodities had fallen from close to 100% back in the Middle Ages in Europe, when almost everything went to survival, to way over 50% in the U.S. by 1700, and much higher elsewhere. The exhibit shows that by the early 1900s it had fallen to about 16% and finally to a remarkably low 3% of U.S. GDP around 2000. Since then, though, the percentage of GDP in resources has risen by an equally remarkable 4 percentage points to 7% of the total, more than double! This 4-percentage-point squeeze has therefore reduced the growth rate of the noncommodity world by, on average, 0.4% a year for the last 10 years. In comparison, in the previous 90 years resource prices had dropped by enough to raise the growth rate of the non-resource world by 0.2% a year, an increment that was missed in the official data. (The summary on this point is that when the costs of real resources fall, it creates unmeasured productivity gains. Conversely, real resource costs rising, as they are now, create productivity losses that are missed in the official data.)
As I've argued previously in my post Innovation Costs For Maintaining Civilization, a substantial portion of our advances in science and technology have to go to handle problems that arise due to population growth, resource depletion, and other effects of our industrialized civilization. In the last couple of decades it looks to me that the rate of technological advance has not been high enough to compensate for developing problems. As a result living standards in Western nations have stagnated. I do not know whether advances in computer software, biotechnology, and energy production will come to the rescue. Rejuvenation therapies from biotechnology alone could deliver a hugely bigger benefit than cheaper gasoline or cheaper construction materials. So possibly we will experience huge benefits for our health while becoming materially poorer. That sounds like a good trade and I'd be happy to take it.
|Share |||Randall Parker, 2012 December 08 02:18 PM|