As we all know, BHP and Rio had been in courtship for quite some time already. Last Friday, a third party, Chinalco came in and announced a $14 billion share market raid. Up till then, it was a pleasant courtship. But with the arrival of a unwelcome (to BHP) third-party, this courtship had developed into a more complicated love triangle, with plots, sub-plots and veiled talks.
What is the intention of the Chinese?
The Chinese Foreign Minister claimed that this was “an independent decision by the two companies [Alcoa and Chinalco].” In the same vein, Chinalco’s president signalled their intention not to increase their stake in Rio. In other words, the Chinese is signalling their intention as just purely commercial in nature.
We cynically doubt so.
Traditionally, the annual price for iron ore is determined by chivalrous negotiation between the producers (e.g. BHP, Rio, CVRD) and customers (Chinese, Japanese and Korean steel mills). Last year, BHP had been toying and pushing with the idea of turning iron ore price determination towards the more conventional free market model. Of course, that angered China as it is in their interest to contain iron ore prices. We guess the Chinese must still be smarting from BHP’s attempted spat. The recent move by Chinalco could just be the first round of a payback.
But more importantly, unlike BHP, much more than just commercial profit is at stake for Chinalco (assuming that Chinalco is a front for Chinese government manoeuvring). As we said before in Why did the foreigners bail out cash-starved financial institutions?,
… with China at a very resource intensive phase of their development, any insufficiency of resources and capital goods can result in the stoppages and delays of their capital investment projects in the current pipeline. When that happens, the current trajectory of their economic growth will be shot down, resulting in the mass in-completion of half-finished projects. Such an outcome will be dire, as their banks will then be piled with massive bad debts. That will be what we call a ?crash.? That explains why China is buying up political and economic influence in Africa in order to secure African raw materials. China?s trillions of US dollars reserve is a form of savings that will be used to acquire their future needs for resources to power their economy in the long term.
If BHP succeeds in taking over Rio, a ‘Greater BHP’ will be in a stronger position to extract more drops of blood from the Chinese (and Korean and Japanese as well) steel mills. For BHP, the potential reward is merely commercial profit. But for China, any defeat is detrimental to their long run national economic interest.
It is obvious that the Chinese cannot show their true intention. Their attempted takeover of Unocal, an American oil giant, was dashed when it became a political issue. This time, the Chinese are determined not to repeat the same mistake. They will be careful not to turn this into a political drama. That explains why they are, up till now, taking the softly softly approach.
It will be interesting to watch what the Chinese will do for their next step.
