Digging Deeper: Rare Earth Metals And The US-China Trade War – Analysis

By Felix K. Chang*

(FPRI) — In May 2019, Chinese President Xi Jinping made a well-publicized visit to a rare-earth-metals company in Jiangxi province. On the same day, he gave a speech in which he called on his country to prepare for a “new Long March” to overcome challenges from abroad. Taken together, they were seen as a signal that China might use its control over 90 percent of the world’s production of rare earth metals as leverage in its trade war with the United States. At any time, China could restrict or even embargo the export of the metals. In case that signal was not clear enough, an editorial from China’s state-run news agency made it crystal clear a week later. Reacting to the news, prices of most rare earth metals jumped 20 to 50 percent.

Why China’s leverage over rare earth metals matters is because they are important to modern industry. Though used in tiny quantities, often less than a gram, the metals are used in a vast number of applications. They are needed in consumer products (like fluorescent lamps and smartphones), industrial products (like aircraft engines and wind turbines), and military systems (like radars and sonars). But by far the biggest American use of rare earth metals is as a catalyst in automotive catalytic converters, chemical processing, and oil refining. These consume about 60 percent of all the rare earth metals used in the United States today.

The 17 obscure elements, collectively called “rare earth metals,” are actually found all over the world.[1] For much of the second half of the twentieth century, the United States was self-sufficient in the metals, producing well over half of the world’s supply until the 1980s. But producing the metals requires not just mining ore, but also refining and smelting it, processes that separate the metals from the surrounding rock and each other. Unfortunately for the environment, the byproducts of those processes are highly toxic and can be radioactive. Since producing rare earth metals in such a manner was expensive in the United States, lower-cost Chinese production grew rapidly in the 1990s. A decade later, China came to dominate the world’s production of the metals, while American production all but ceased.[2]

The Visible (and Guiding) Hand

Beijing has long seen its rare-earth-metals industry as strategic. In 2016, China’s Ministry of Industry and Information Technology even outlined a five-year development plan for it with specific targets for production and value-chain improvements.[3] Hence, Beijing’s willingness to restrict the export of its rare earth metals to achieve national goals should surprise no one. Besides, China already did so once, and not all that long ago. In 2010, China imposed quotas on its rare earth metals exports, cutting what it supplied to the world by 40 percent.

At the time, there was speculation that China had imposed its export quotas in retaliation against Japan because the quotas followed close on the heels of Japan’s detention of a Chinese trawler that had collided with two Japanese coast guard ships near the disputed Senkaku (Diaoyu in China) Islands in the East China Sea. In retrospect, however, China probably had other reasons for introducing its export quotas well before the incident occurred. One was likely to give foreign rare-earth-metals smelting firms an incentive to relocate their value-added processing plants to China. Another may have been to help Beijing consolidate its fragmented rare-earth-metals mining industry, whose small-scale miners and intense competition kept prices for the metals low.

Whatever China’s intentions, its export quotas definitely pushed up the prices for rare earth metals, some by as much as 1,000 percent. That prompted the United States (and later the European Union and Japan) to file a complaint with the World Trade Organization (WTO) in 2012. After a two-year review, the WTO ruled in favor of the United States. And so, in early 2015, China lifted its export quotas, but replaced them with an export licensing regime.

The Invisible Hand

Nonetheless, long before the WTO ruling, the prices for most rare earth metals had already fallen sharply. By 2013, they returned to just above where they had traded before China’s export quotas were imposed. The reason why could be largely attributed to the market’s reaction to the high prices for the metals. On the supply side, they motivated rare-earth-metals miners elsewhere in the world to ramp up their production. The best-known mine in the United States (namely at Mountain Pass, California) was reopened, and new ones in Australia, Estonia, and Myanmar were expanded or developed. The high prices also had unintended consequences in China. They encouraged even more small-scale (and usually illegal) production, adding to China’s environmental woes, and led some of them to smuggle metals out of the country.[4]

On the demand side, the high prices encouraged consumers of rare earth metals to find ways to reduce their use. Within a year of China’s export quotas, substitutions for some metals had already been identified for several applications, such as in glass polishing. The high prices also encouraged greater recycling of the metals from fluorescent lamps and cathode-ray tubes. And, though the high prices did not last long enough for new alternatives for rare earth metals to be developed, they did spur investment into research to do so.

Ultimately, most American companies were able to cope with the higher rare-earth-metals prices. Given the relatively small amount of metals that they needed and the rapid fall in metals prices by 2013, companies generally absorbed the temporarily high prices into their total manufacturing costs. However, some companies could not dodge the higher prices so easily. One hard-hit sector was the fluorescent-lamp industry. With no ready alternatives for rare earth metals, companies, like General Electric, were forced to increase their retail prices for fluorescent lamps by over 40 percent. That gave Chinese exporters the opportunity to gain market share by selling cheaper fluorescent lamps, which eventually displaced American ones.

Where Beijing’s export quotas on rare earth metals had their biggest success was in shifting the landscape of the global rare-earth-metals industry. Prior to the quotas, much of the value-added smelting of rare earth metals took place in Japan. After the quotas were introduced, many Japanese smelting firms relocated their processing plants to China to avoid Chinese restrictions on rare-earth-metals concentrate exports. That allowed China’s rare-earth-metals industry to move further up the value chain and strengthen its hold on the global smelting of the metals. And while export quotas failed to help China consolidate its rare-earth-metals industry, other government efforts had more success in the following years. That consolidation drive continues today.

A New Rare-Earth-Metals Threat?

With the prices for rare earth metals again rising, is Xi’s recent signal something the United States should worry about? In the short run, it should; in the long run, not so much. On the one hand, China’s dominance over global rare-earth-metals production—for the moment—is probably even stronger than it was in 2010. That is because of China’s greater control over its more consolidated rare-earth-metals industry and larger share of the world’s rare-earth-metals smelting capacity. But China’s most potent lever might actually rest in its policy choice. Rather than restrict exports of rare earth metals, it could ban their export altogether. As long as domestic demand for the metals remains high in China, it could afford to do that. No doubt such an embargo would put American businesses reliant on the metals in a tight spot.

On the other hand, market participants have learned from their experience with China’s export quotas in 2010. Ever since then, they have been laying the foundation for an expansion of rare-earth-metals production. After all, rare earth metals are not very rare. New processing plants are being built in the United States and Malaysia.[5] Myanmar and Vietnam have accelerated their mining operations. And Brazil and Vietnam combined have reserves of rare earth metals that rival those in China. Furthermore, new reserves have been found. In 2011, Japan discovered major deposits of the metals on the seafloor near Minamitori Island in the Pacific Ocean. Should prices for rare earth metals rise high enough, Japan would likely find a way to mine them. Meanwhile, the world has developed new alternatives to rare earth metals. Some of them like quantum dots for electronic displays are already in use (and are ironically being exported to China).

Limits to Market Power

Market power over important commodities is wonderful leverage to have. But it can be difficult to wield effectively. Today, Chinese leaders appear to believe that they could wield China’s current dominance over rare-earth-metals production to put economic pressure on the United States in their trade war with it. That may prove risky. Probably unsurprisingly, others have pursued similar strategies in the past. One example was the Confederacy. Before the American Civil War, the American South provided British and French textile mills with 80 percent of their cotton. The Confederacy thought it could use its dominance over cotton production as leverage to pressure Britain and France into supporting its bid to secede from the United States. It did not work. As the war went on, high prices for cotton led to the development of new sources of it in Australia, Egypt, and India.

As important as rare earth metals are to modern industry, they are still commodities—no different from cotton, gold, or oil. As such, rare earth metals are subject to the same laws of supply and demand that impact all commodities. And whenever short- and long-term supply and demand become out of step, prices of commodities can be volatile, either on the upside or downside. Overconfidence that prevailing supply and demand conditions will hold relatively steady has led many a technocrat astray. Beijing should remember that with time (and often not that much of it) the invisible hand of the market can undermine even the best-laid plans of men.

*About the author: Felix K. Chang is a senior fellow at the Foreign Policy Research Institute. He is also the Chief Strategy Officer of DecisionQ, a predictive analytics company in the national security and healthcare industries.

Source: This article was published by FPRI

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[1] The 17 elements are cerium, dysprosium, erbium, europium, gadolinium, holmium, lanthanum, lutetium, neodymium, praseodymium, promethium, samarium, scandium, terbium, thulium, ytterbium, and yttrium.

[2] National Research Council, Minerals, Critical Minerals, and the U.S. Economy (Washington: The National Academies Press, 2008), pp. 72-73.

[3] China Ministry of Industry and Information Technology, Rare Earth Development Plan, 2016–2020 (2016), https://www.miit.gov.cn/n1146295/n1652858/n1652930/./5287774.doc.

[4] Nathaniel Taplin, “Rare Earths Are Only a Pawn in Trade Fight,” Wall Street Journal, Jun. 7, 2019, p. B12.

[5] Of the three rare-earth-metals processing plants being built in the United States, one will be ready in 2020 and two more in 2022.