Beijing’s motives behind rare-earth metals

Opinion & Commentary

Beijing's motives behind rare-earth metals

John Lee | Forbes | 03 January 2011

The announcement by the Chinese Ministry of Commerce that it will cut first half export quotas of rare-earth metals by about 35% will cause further angst for many American and Japanese companies relying on these metals. But far from an isolated policy, the restrictions will add weight to a growing suspicion amongst its trading partners that Beijing is increasingly taking a zero-sum rather than 'win-win' approach to open markets and free trade.

'Rare earth' metals consist of about one dozen metals that are used in a range of increasingly important commercial products such as energy-efficient applications from hybrid cars to wind turbines, in addition to mobile phones and iPods. They are also essential used in the radar systems and lasers required in weapons such as America's advanced arsenal of 'smart bombs' and other precision-guided explosives.

These metals are not actually all that rare. But through a combination of cheap loans to its state-owned miners, as well as cheap labor and poor but cost-efficient working and environmental standards, China now supplies more than 95% of the global market. For example, the United States has some reserves but imports 87% of its needs from China.

China's status as the dominant supplier has not been an accident. Realizing the growing importance of these metals, Beijing has spent the best part of the past sixteen years attempting to control the market in the supply of these materials. While state-owned Chinese mines were able to mine these metals at much cheaper prices than foreign competitors – in the process pushing these competitors out of the market – foreign governments and corporations were content to increase their reliance on Chinese suppliers.

Even before the current announcement to cut export quotas by 35%, Beijing had been cutting export quotas of rare earth metals to regional 'strategic competitors' such as Japan by an average of 6% each year over the past decade. In 2009, China only sold 38,000 metric tonnes to Japan--the approximate amount that Japanese manufacturers Toyota ( TM - news - people ) and Honda ( HMC - news - people ) needed in all of 2008. The country's Ministry of Industry and Information Technology (MIIT) released a white paper in 2009 proposing to severely scale back, or even halt all exports of rare earth metals. Subsequently, China made a decision to slash exports of all rare metals by 72% in the second half of 2010. The decision to slash export quotas in the first half of 2011 means that only 14,508 tonnes will be sold to foreign markets from January to June.

Beijing knows that governments and mining companies around the world will respond by reopening existing mines and developing new ones outside China. Indeed, the production of these metals is being accelerated by miners operating in countries such as Australia, Mongolia, Thailand and Ukraine. But reviving defunct mines and opening new ones require significant capital and will take several years. As Wang Caifeng, a former senior official with MIIT recently boasted, China is well positioned to hold its bellwether position in the global rare-earth industry in the long-term.

This all begs the question of why Beijing is pursuing these policies in the first place. In September 2010, Ministry of Commerce officials claimed that it was all about meeting spikes in domestic Chinese industrial demand for rare earths metals. Following the current announcement to slash quotas, Chinese officials have cited concerns over environmental degradation associated with mining these metals. Even if there is some truth to these two justifications, there is troubling evidence that Beijing is attempting a bigger strategic play than it is letting on.

For starters, it is well known that Beijing pursues a policy of developing domestic champions that can compete with the leading international firms. When it comes to increasingly lucrative sectors that rely on access to rare earth metals, China seeks to give these domestic champions a head-start against established foreign giants. For example, Chinese automobile companies such as Chang'An Motors seeking to thrive in the booming low-carbon hybrid engine car industry have privileged access to rare earth metals needed for the production of hybrid batteries. Meanwhile, competitors such as Toyota have to largely make do with Chinese suppliers who are effectively selling these metals to Japan at black-market prices.

Moreover, given the number of years needed to mine enough rare earth metals from sites outside China, Beijing is attempting to force foreign companies who want access to large quantities of rare earth metals to form joint-ventures with local firms and base their manufacturing operations within China. Revealingly, any foreign company in such a joint venture is not subject to any quota restrictions.

This is where it gets murky. With Beijing's encouragement, many of China's commercial champions are understandably seeking to move up the technology chain. Foreign manufacturers are compelled to engage in joint ventures with a local firm. To be sure, legitimate technology transfer from joint ventures between local and foreign firms operating within China is one thing. But large scale industrial espionage and theft, especially when it is initiated by state-owned giants is another.

A glaring example is BMW's Mini which, when sold to Chinese consumers, must be manufactured in China. The Lifan 320 by the Chongqing based Lifan Group has virtually identical technology and design. Ditto the Nobel made by Shuanghuan Automobile Co, which is a clone of the Smart model made by foreign joint venture company Daimler. The German engineering company ThyssenKrupp have videotapes showing Chinese partners secretly examining parts of their revolutionary Transrapid magnetic levitation train. Not long after, Chinese companies developed their own working prototype of a magnetic levitation train. After all instances, senior Chinese officials have denied industrial theft and have refused to seriously investigate any of these allegations. Neither has Beijing changed the rules on the necessity of foreign high-technology manufacturers forming joint ventures with local firms when manufacturing in China.

The problem is that many products requiring rare earth metals are in lucrative and cutting-edge sectors. The suspicion is that illegitimately optimising imported technology has become one primary strategy for many of China's domestic champions – an approach that is condoned by the Chinese Communist Party. If so, this goes to the heart of whether China is emerging as a responsible stakeholder in the global economic system.

Dr. John Lee is a fellow at the Center for Independent Studies in Sydney and the Hudson Institute in Washington DC. He is the author of Will China Fail?: The Limits and Contradictions of Market Socialism.