Feature Article - Steel Update: The Rising Cost of Steel - 08/04

'17'_'_ EARTICLE

'teel t: The Rising Cost of Steel

Structural change in the steel industry will change pricing patterns for moldmakers in the next several years.

By Robert Dicianni

Page 1 of 2

U.S. and global steel prices have soared in the past months, far beyond levels that anyone inside or outside of the steel industry

forecasted last November and December. The purpose of this article is to explain the primary causes of the sudden increase in prices

and to provide some insight into the future direction of prices based on an understanding of long-term factors. Hopefully, this

information will be helpful to those moldmakers with regard to planning for the short and long term.

Cause #1: Chinese Consumption

It is fairly well known that the primary cause of the increase in global prices has been a rapid increase in steel consumption in China.

Figure 1 demonstrates how dramatic this increase is, showing world steel demand over the past few years. The basic message of this

graph is that nearly all of the world's increase in consumption has occurred in China; for the rest of the world, steel consumption has

been flat. This graph could be taken back even farther and still have the same picture. Since 1997, China has increased consumption

from about 100 million tons to around 260 million tons in 2003. This is nearly double the U.S. consumption based on the 2003

figures. It is too early to know for sure how 2004 will finish, but most analysts estimate that China's total consumption will be at least

in the area of about 290 million tons. At the same time China's steel making capacity has also increased, but not as fast as the

increase in consumption. Figure 2- shows China's steel making capacity compared to its consumption.

Cause #2: Raw Material Shortages

Scrap

Scrap is being consumed at a rate that is faster than it is being created. Newly developing countries do not have old scrap. Scrap is

generated from the abandonment of used steel articles. Most countries in the world simply do not consume enough steel objects to

generate significant quantities of scrap. The result of this shortage in scrap has been an unprecedented run-up in scrap prices. Scrap

prices have always been volatile, but the variation has been around a much lower price trend. Figure 3 shows the rapid run-up in

scrap in just a few months; scrap prices increased at a great speed. The imbalance between production from the basic oxygen furnace

and electric furnace production is going to continue to put pressure on the scrap supply. This is going to keep scrap prices higher than

historic trend levels for the next several years. Again, since scrap is 100 percent of their supply, mini mill steel makers have no choice

but to pass the increased costs on to their customers.

Iron Ore

Beyond scrap there are also shortages of iron ore. Over the past 20 years there has been very little investment in iron ore mines.

Only in South America and China has any significant investment taken place. The cause of this dis-investment in iron ore was the

belief that the electric furnace was the production method of choice since it had an apparent cost advantage over the integrated steel

making blast furnace approach. This was supported by the misguided belief that there would be an endless supply of cheap scrap in

the world. In fact there is not. Now that the demand for steel has increased due to China, the shortage of iron ore capacity is starting

to become apparent.

Coke

Probably more critical at this stage than scrap or iron ore is the global supply of coke. Coke is made from coal by furnaces that bake

off impurities, such as sulfur and ash, and bring out the pure carbon in the coal. In the developed world, environmental regulation has

forced most old furnaces to shut down. Very few new furnaces have been built in recent years. Consequently, there is a shortage of

coke in the U.S. and the world. In the U.S. only the Steel Corporation is self-sufficient in coke. All other domestic steel companies

must buy coke on the open market. Much of it, in the past, has come from China. China is now restricting the export of coke to save

for its own internal uses. Figure-4 shows the increase in coke prices. Once again, note the speed at which prices increased.

Cause and Effect

The final result of all these shortages is twofold (see Structural Change

sidebar). First, costs for steel making have gone up. Since these costs have

gone up across all companies all companies have sought to recoup the extra

costs. Of course, costs do not set the price of a product; the market sets the

price.

The other impact from these shortages is supply and demand. The global steel

market has shifted in favor of the supplier. However, the shortages of scrap,

iron ore and coke have had the effect of taking capacity out of the market. Most

steel companies are not capable of running at full capacity. They are losing

production turns due to shortages.

Cause #3 : Shipping

Structural Change

The questions most people are contemplating are: to

what extent will steel prices retreat in future months,

and will they stay low? Veterans in the steel industry

and steel users have seen steel prices spike many times

in the past, only to quickly retreat, many times to new

all time lows. Are we likely to see a return to this type

of pattern any time soon or have we seen a true

structural change in the global steel industry, one that

will alter the familiar pattern of pricing? We have

experienced a structural change in the steel industry

and that this will change pricing patterns for at least the

next several years.

http://www.moldmakingtechnology.com/articles/080402.html 8/8/2005

 EE-RM/STD-00-550 COMMENT 86

Feature Article - Steel Update: The Rising Cost of Steel - 08/04 Page 1 of2 

"'FEATUREARTICLE 

Steel Update: The Rising Cost of Steel 

Structural change in the steel industry will change pricing patterns for mold makers in the next several years. 

By Robert Dicianni 

U.S. and global steel prices have soared in the past months, far beyond levels that anyone inside or outside of the steel industry 

forecasted last November and December. The purpose of this article is to explain the primary causes of the sudden increase in prices 

and to provide some insight into the future direction of prices based on an understanding of long-term factors. Hopefully, this 

information will be helpful to those moldmakers with regard to planning for the short and long term. 

Cause #1: Chinese Consumption 

It is fairly well known that the primary cause of the increase in global prices has been a rapid increase in steel consumption in China. 

Eig~Yr~~ 1 demonstrates how dramatic this increase is, showing world steel demand over the past few years. The basic message of this 

graph is that nearly all of the world's increase in consumption has occurred in China; for the rest of the world, steel consumption has 

been flat. This graph could be taken back even farther and still have the same picture. Since 1997, China has increased consumption 

from about 100 million tons to around 260 million tons in 2003. This is nearly double the U.S. consumption based on the 2003 

figures. It is too early to know for sure how 2004 will finish, but most analysts estimate that China's total consumption will be at least 

in the area of about 290 million tons. At the same time China's steel making capacity has also increased, but not as fast as the 

increase in consumption. E~igure 2 shows China's steel making capacity compared to its consumption. 

Cause #2: Raw Material Shortages 

Scrap 

Scrap is being consumed at a rate that is faster than it is being created. Newly developing countries do not have old scrap. Scrap is 

generated from the abandonment of used steel articles. Most countries in the world simply do not consume enough steel objects to 

generate significant quantities of scrap. The result of this shortage in scrap has been an unprecedented run-up in scrap prices. Scrap 

prices have always been volatile, but the variation has been around a much lower price trend. figure 3 shows the rapid run-up in 

scrap in just a few months; scrap prices increased at a great speed. The imbalance between production from the basic oxygen furnace 

and electric furnace production is going to continue to put pressure on the scrap supply. This is going to keep scrap prices higher than 

historic trend levels for the next several years. Again, since scrap is 100 percent of their supply, mini mill steel makers have no choice 

but to pass the increased costs on to their customers. 

Iron Ore 

Beyond scrap there are also shortages of iron ore. Over the past 20 years there has been very little investment in iron ore mines. 

Only in South America and China has any significant investment taken place. The cause of this dis-investment in iron ore was the 

belief that the electric furnace was the production method of choice since it had an apparent cost advantage over the integrated steel 

making blast furnace approach. This was supported by the misguided belief that there would be an endless supply of cheap scrap in 

the world. In fact there is not. Now that the demand for steel has increased due to China, the shortage of iron ore capacity is starting 

to become apparent. 

Coke 

Probably more critical at this stage than scrap or iron ore is the global supply of coke. Coke is made from coal by furnaces that bake 

off impurities, such as sulfur and ash, and bring out the pure carbon in the coal. In the developed world, environmental regulation has 

forced most old furnaces to shut down. Very few new furnaces have been built in recent years. Consequently, there is a shortage of 

coke in the U.S. and the world. In the U.S. only the Steel Corporation is self-sufficient in coke. All other domestic steel companies 

must buy coke on the open market. Much of it, in the past, has come from China. China is now restricting the export of coke to save 

for its own internal uses. figYr~4 shows the increase in coke prices. Once again, note the speed at which prices increased. 

Cause and Effect 

The final result of all these shortages is twofold (see Structural Change 

sidebar). First, costs for steel making have gone up. Since these costs have 

gone up across all companies all companies have sought to recoup the extra 

costs. Of course, costs do not set the price of a product; the market sets the 

price. 

The other impact from these shortages is supply and demand. The global steel 

market has shifted in favor of the supplier. However, the shortages of scrap, 

iron ore and coke have had the effect of taking capacity out of the market. Most 

steel companies are not capable of running at full capacity. They are losing 

production turns due to shortages. 

Cause #3: Shipping 

http://www.moldmakingtechnology.comiarticles/080402.html 

Istructural Change 

The questions most people are contemplating are: to 

what extent will steel prices retreat in future months, 

and will they stay low? Veterans in the steel industry 

and steel users have seen steel prices spike many times 

in the past, only to quickly retreat, many times to new 

all time lows. Are we likely to see a return to this type 

of pattern any time soon or have we seen a true 

structural change in the global steel industry, one that 

will alter the familiar pattern of pricing? We have 

experienced a structural change in the steel industry 

and that this will change pricing patterns for at least the 

next several years. 

8/8/2005 
Feature Article - Steel Update: The Rising Cost of Steel - 08/04

The final shortage item is shipping. Other industries also are experiencing a

problem with shipping capacity. One of the reasons international trade grew so

much over the past decade is that shipping costs went down. However, trade

has grown so much that there is now a shortage of shipping. The higher cost of

shipping is keeping some steel from being exported to the U.S. and is

hampering the movement of raw materials around the globe. This shortage in

shipping is not going to correct itself anytime soon. The top priority for

shipyards is to build tankers, especially with the demand for double hull tankers

increasing. Next in priority is to build cargo ships and last is to build bulk

carriers. Steel and raw materials ship in bulk carriers. It is expected that it will

take years to build enough bulk carriers to relieve the shortage.

Cause #4: Global Pressure

Our discussion of shortages has been to highlight the fact that the increase in

steel demand in China has put pressure on the global infrastructure for steel.

This infrastructure includes more than just steel making capacity and rolling mill

capacity. It is much deeper. Until demand increased it was hardly even noticed

that these fault lines existed. It will take a long time for this infrastructure

capacity to be increased. We do not believe it can be improved in less than a

three- to five-year period. It appears that the current infrastructure cannot

support global consumption near the level of one billion tons even though

theoretical capacity says that it can.

Page 2 of 2

The seeds of the structural change were sown more

than 20 years ago. Since the early 1980s, profitability

in the global steel industry has been well below its cost

of capital. When an industry does not earn its cost of

capital it does not re-invest in infrastructure. As a

result, throughout the last 20 years there has been

little investment in infrastructure. Investment has been

mostly in finishing mills and electric furnaces. As you

will see this investment has actually exacerbated the

problem.

The wave of steel making capacity built in the 70s and

80s by emerging economies, coupled with the capacity

released from the dissolution of the USSR in the late

80s, led to a large amount of excess capacity in the

global steel market. As recently as last summer,

conventional wisdom put global steel supply at about

one billion tons and global steel demand around 850

million tons. Since that time this overhang in supply has

melted away due to the increase in demand from China

and the rest of the world ending its cyclical economic

downturn. As China's steel consumption has been

growing, it has not only filled up the world's excess

capacity, but it has also put pressure on the global

supply of raw materials for steel making.

It is true that China is planning to increase its own steel making capacity. The 11 .

Chinese government recently announced that it plans to add 120 million tons of steel making capacity in the next few years. The key

point is that even if it adds the capacity it will not solve the problem. There are not enough raw materials to go around; therefore,

additional capacity will only add to the problem, not solve it. The Chinese impact on supply and demand is likely to last for several

years to come.

Based on the understanding of the world supply and demand situation, it is difficult to see prices retreating a great deal. We will

probably see prices level off and plateau soon and they are likely to retreat some time in the second half of this year. However, they

are not likely to drop a great deal as they have in the past. A 20 percent drop in prices may be likely, but it is just as likely that prices

will rebound shortly thereafter, maybe not to current levels but not very far from them either.

We can conclude this discussion with a few thoughts. If we accept the premise that the market dynamics on a global basis has

changed, how does a steel consumer move forward? The best strategy for the future, for steel consumers, is to work to establish a

relationship with a steel supplier. A real old- fashioned relationship where companies work together to solve problems and look for

ways to work together that are in the best interest of both parties. For the past several years, these kinds of relationships seem to

have gone out of style and were replaced by an adversarial system designed to drive down prices to the lowest point possible. This

will be unsuccessful in the future and consumers must reconsider their options.

Moldmaking Challenges

"Costs have risen for tool steel, but as far as we have seen not to the extent of the cheaper steels which use scrap. In talking to one of our mold

base suppliers, he has had problems getting steel and stated that it costs more now for #1 steel than #2. It is a big concern for him and in the

long run our business. We are factoring a slightly higher number now for supplies than in the past. Most of this is based upon steel costs. This

could present a huge problem in the long run. If we can't get steel, we are gone. It's a bit scary that not only has China had a major impact on

what we put out the door it seems now they can affect what comes in our door. Longer term impacts could be devastating. The automotive as

well as most other industries in the U.S and other countries could and most likely will be affected. It will be interesting to see how this affects

our economy in 10 years.

-Gene Bruce, Vice President and Co-owner, Summit Molds, Inc. (Post Falls, ID) and MoldMaking Technology EAB member.

"We all keep down costs by checking prices at various vendors and neither us or our outside mold shops use any kind of factor in quoting. Our

molds are small high precision molds where steel cost is a very small part of the cost. Large molds would obviously be more affected by rising

steel costs. Price and availability have not been a problem so far. In the long run (three to five years) we feel this could become a problem for

all of us. One of my outside mold shop owners told me he no longer eats steel that contains flaws. I asked him how often that happens and he

told me twice in the last two months."

-Russ Westergaard, Tooling Manager, All West Plastics, Inc. (Antioch, IL) and MoldMaking Technology EAB member.

Moldmaking Technology Online is a trademark of Gardner Publications, Inc, copyright 2005.

Mold Making Technology and all contents are properties of Gardner Publications, Inc.

All Rights-Reserved.

http://www.moldmakingtechnology.com/articles/080402.html 8/8/2005

 EE-RM/STD-00-550 COMMENT 86

Feature Article - Steel Update: The Rising Cost of Steel- 08/04 

The final shortage item is shipping. Other industries also are experiencing a 

problem with shipping capacity. One of the reasons international trade grew so 

much over the past decade is that shipping costs went down. However, trade 

has grown so much that there is now a shortage of shipping. The higher cost of 

shipping is keeping some steel from being exported to the U.S. and is 

hampering the movement of raw materials around the globe. This shortage in 

shipping is not going to correct itself anytime soon. The top priority for 

shipyards is to build tankers, especially with the demand for double hull tankers 

increasing. Next in priority is to build cargo ships and last is to build bulk 

carriers. Steel and raw materials ship in bulk carriers. It is expected that it will 

take years to build enough bulk carriers to relieve the shortage. 

Cause #4: Global Pressure 

Our discussion of shortages has been to highlight the fact that the increase in 

steel demand in China has put pressure on the global infrastructure for steel. 

This infrastructure includes more than just steel making capacity and rolling mill 

capacity. It is much deeper. Until demand increased it was hardly even noticed 

that these fault lines existed. It will take a long time for this infrastructure 

capacity to be increased. We do not believe it can be improved in less than a 

three- to five-year period. It appears that the current infrastructure cannot 

support global consumption near the level of one billion tons even though 

theoretical capacity says that it can. 

It is true that China is planning to increase its own steel making capacity. The 

Page 2 of2 

The seeds of the structural change were sown more 

than 20 years ago. Since the early 1980s, profitability 

in the global steel industry has been well below its cost 

of capital. When an industry does not earn it's cost of 

capital it does not re-invest in infrastructure. As a 

result, throughout the last 20 years there has been 

little investment in infrastructure. Investment has been 

mostly in finishing mills and electric furnaces. As you 

will see this investment has actually exacerbated the 

problem. 

The wave of steel making capacity built in the 70s and 

80s by emerging economies, coupled with the capacity 

released from the dissolution of the USSR in the late 

80s, led to a large amount of excess capacity in the 

global steel market. As recently as last summer, 

conventional wisdom put global steel supply at about 

one billion tons and global steel demand around 850 

million tons. Since that time this overhang in supply has 

melted away due to the increase in demand from China 

and the rest of the world ending its cyclical economic 

downturn. As China's steel consumption has been 

growing, it has not only filled up the world's excess 

capacity, but it has also put pressure on the global 

supply of raw materials for steel making. 

Chinese government recently announced that it plans to add 120 million tons of steel making capacity in the next few years. The key 

point is that even if it adds the capacity it will not solve the problem. There are not enough raw materials to go around; therefore, 

additional capacity will only add to the problem, not solve it. The Chinese impact on supply and demand is likely to last for several 

years to come. 

Based on the understanding of the world supply and demand situation, it is difficult to see prices retreating a great deal. We will 

probably see prices level off and plateau soon and they are likely to retreat some time in the second half of this year. However, they 

are not likely to drop a great deal as they have in the past. A 20 percent drop in prices may be likely, but it is just as likely that prices 

will rebound shortly thereafter, maybe not to current levels but not very far from them either. 

We can conclude this discussion with a few thoughts. If we accept the premise that the market dynamics on a global basis has 

changed, how does a steel consumer move forward? The best strategy for the future, for steel consumers, is to work to establish a 

relationship with a steel supplier. A real old- fashioned relationship where companies work together to solve problems and look for 

ways to work together that are in the best interest of both parties. For the past several years, these kinds of relationships seem to 

have gone out of style and were replaced by an adversarial system designed to drive down prices to the lowest point possible. This 

will be unsuccessful in the future and consumers must reconsider their options. 

I Moldmaking Challenges 

"Costs have risen for tool steel, but as far as we have seen not to the extent of the cheaper steels which use scrap. In talking to one of our mold 

base suppliers, he has had problems getting steel and stated that it costs more now for #1 steel than #2. It is a big concern for him and in the 

long run our business. We are factoring a slightly higher number now for supplies than in the past. Most of this is based upon steel costs. This 

could present a huge problem in the long run. If we can't get steel, we are gone. It's a bit scary that not only has China had a major impact on 

what we put out the door it seems now they can affect what comes in our door. Longer term impacts could be devastating. The automotive as 

well as most other industries in the U.S and other countries could and most likely will be affected. It will be interesting to see how this affects 

our economy in 10 years. " 

-Gene Bruce, Vice President and Co-owner, Summit Molds, Inc. (Post Falls, ID) and MoldMaking Technology EAB member. 

"We all keep down costs by checking prices at various vendors and neither us or our outside mold shops use any kind of factor in quoting. Our 

molds are small high precision molds where steel cost is a very small part of the cost. Large molds would obviously be more affected by rising 

steel costs. Price and availability have not been a problem so far. In the long run (three to five years) we feel this could become a problem for 

all of us. One of my outside mold shop owners told me he no longer eats steel that contains flaws. I asked him how often that happens and he 

told me< twice in the last two months." 

-Russ Westergaard, Tooling Manager, All West Plastics, Inc. (Antioch, IL) and MoldMaking Technology EAB member. 

Moldmaking Technology Online is a trademark of Gardner Publications, Inc, copyright 2005. 

Mold Making Technology and all contents are properties of Gardner Publicatio[LS,Inc. 

AIIR.igbt;;Bl"servl"cJ . 

http://www.moldmakingtechnology.com/articles/080402.html 8/8/2005