The challenge for miners hoping to make money selling coal to China can be found near a ghost city on the plains of Inner Mongolia.
Shenhua Coal's Shendong mines, a vast complex of pits and tunnels close to the much-photographed deserted streets of Ordos Kangbashi, cut output by about 24 million metric tons between 2013 and 2015.
Now that the state-owned miner is being encouraged to ramp up production again, Shendong's success or failure will be a key determinant of whether thermal coal manages to hold on to the 41 percent price gain it's enjoyed this year.
An anomaly of the current situation is that Chinese demand has been causing coal prices to surge even as Chinese consumption of coal has been falling. Apparent monthly coal demand has been running about 60 million tons short of four-year averages since February, according to Gadfly calculations. If that sort of reduction continues over the balance of the year, Beijing will have taken less than 12 months to achieve its five-year target for cutting coal production.
The reduction in domestic output paradoxically has managed to help prices on the global market, because generators have been buying more imported product to get around local shortfalls and meet pollution reduction requirements. After touching an almost five-year low in February, China's purchases of foreign coal jumped to a 20-month high last month.
The shift to greater import dependence has been sharp enough to create a problem for Beijing. While domestic mine workers are being put on reduced hours or laid off, and are disturbing public order by going on strike, foreigners are making outsized profits. Shares of Australia's Whitehaven Coal, for instance, have gained 244 percent so far this year.
As a result, the government backlash is about to kick up a gear. The National Development and Reform Commission, China's key economic planner, was organizing a meeting Friday of coal and steel industry participants to discuss output, transportation, supply, demand and prices for the commodity, people familiar with the matter told Bloomberg News late Thursday.
It wants prices to hover within a target range that Citigroup posits at 450 yuan to 500 yuan ($67 to $75) a ton. Shenhua alone may raise production by 2.8 million tons this month to flood the market and bring the local benchmark down from the current 554 yuan/ton level, Bloomberg News reported earlier this week.
With China acting as the marginal buyer on the seaborne market, and Australian coal typically trading about $15 a metric ton below its value at China's Qinhuangdao port, that strategy could put benchmark Newcastle export coal prices firmly in the $50 to $60 range, compared with $71.55 at present.
Can the shift to more domestic output be met without blanketing China's cities in smog? Very probably. With at least 5,400 kilocalories in every kilogram and ash content of about 12.5 percent, the coal from Shenhua's Shendong mines produces similar quantities of pollution for each unit of energy to nominally higher-grade Australian mines.
Even as output has fallen, the unit controlling Shendong is still profitable, with a 10 percent net income margin in the first half.
Miners have agreed to raise output by 200,000 tons a day whenever the coal price hangs too long above 460 yuan a ton, according to Shanghai Securities News, equivalent to about 6 million tons a month, or almost half of total imports at current levels. Shendong alone could meet one-third of that target simply by returning to its 2013 production levels.
China is trying to create a buyer's cartel in the coal market, an outcome that could be quite as bad for producers of the fuel as the OPEC seller's cartel was for consumers of crude oil in the 1970s. With imports by South Korea and Japan also looking fragile, the Pacific's coal exporters should make hay while the sun shines. Winter is coming.
This column does not necessarily reflect the opinion of Bloomberg LP and its owners.
It's a slightly apples-to-oranges comparison. Beijing wants to cut 500 million tons from the capacity of domestic coal mines, whereas apparent coal demand measures the output of those mines, net of imports and exports. As a general indicator of where Chinese coal demand is going, though, it shows that the industry is well ahead of target.
The spike in the coking coal used in steelmaking has been even sharper than that for thermal coal, but may also be more self-correcting.
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