OPINION-The outlook for the aluminium market

By James King, economic adviser to the industrial metals and raw materials industriesLONDON, Oct 8 - World consumption of primary aluminium grew by 7.5 percent in 2006 and 11.5 percent in 2007, the highest growth since 1976.In 2008, world consumption fell about 1 percent and in 2009 consumption is forecast to be down a further 7 percent.The last time that world consumption of primary aluminium fell by that much was in 1975 and before that it was 1946. So this has been a serious recession for aluminium.That's the bad news. But primary aluminium consumption is now running at 38.3 million tonnes, about the same as September 2008, and way above the 30 million tonne rate of early 2009.Demand is moving back towards the record level of 42.4 million tonnes seen in June 2008.China is powering the recovery in consumption, but upturns in the construction and automotive sector in the United States and parts of Europe and Japan are also contributing.That's the good news.However, much of this revival in demand clearly depends on government anti-recession spending programmes and if those run out of money before the private sector revives there may be some slowdown in growth of consumption in 2010 or 2011.But it still seems likely that world aluminium consumption will recover strongly in 2010 (+ 9% percent) and 2011(+11 percent), taking the industry to new highs in volume terms.SUPPLY SIDEOn the supply side, the aluminium industry saw prices drop very sharply in early 2009, with the London Metal Exchange (LME) three-months price down below $1,350 per tonne --back to the depressed levels seen in the downturns of 1982 and 1992-1994.Since production costs are far higher than they were then, that was a major financial shock for smelters. Their response was to cut smelter production faster and further than normal, and probably more than ever before.This was led by the Chinese, who behaved like the good capitalists that they are, but major western producers also responded urgently.The world industry's capacity utilisation was cut from about 94 percent in mid-2008 to about 80 percent now.Utilisation in 2009 will probably be the lowest since 1983. This has had a devastating effect on the alumina industry, where large blocks of capacity in the higher-cost producing areas like Jamaica have been idled.The cuts in production helped prevent aluminium stocks rising, but they are still at 5.8 million tonnes and shot up from 21 days' consumption in June 2007 to about 60 days in mid-2009 -- the highest number of days' consumption since 1994.Against this gloomy background aluminium prices have held up surprisingly well. Production costs are one reason. The average smelter needs about $1,950 a tonne to cover total costs and over $2,000 to make a profit.Prices need to be at over $1,850 a tonne for the idle capacity in China to be economically restarted.As demand recovers, prices can be expected to rise from their current level, but rising prices will bring a temptation to restart the large amount of idle smelter capacity around the world.Chinese production is already increasing at an alarming rate.For the market to remain in balance the industry's "swing" capacity needs to continue operating at below 75 percent through the rest of 2009 and the whole of 2010.This is because substantial new smelter capacity will be building up production in the Middle East and elsewhere during that period.If producers maintain this discipline, prices (LME three-months) are expected to average $1,950 a tonne in 2010 (up from $1,665 in 2009) and $2,000 in 2011.Major corporate casualties have also been avoided during this recession.Aleris [TXPACA.UL] entered bankruptcy, but other companies have so far been able to weather the storm. This is a consequence of years of previous mergers that absorbed some of the weaker companies into larger groups better able to manage the downturn.Nonetheless, important structural issues still face the aluminium industry.These include the future direction of the downstream industry as it "disintegrates" from the primary producers, and the development of adequate bauxite resources for the longer term. (Edited by Sue Thomas)

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