Harry

Likewise.

It might have helped your readers to judge the issue if you had included what I actually said somewhere in your post.

Where do I argue that ‘the main issue is politics not economics’?

You contend:

On the issue of providing evidence for monopoly power. The massive BHP profits for a start ($13.7b in 2007), the annual negotiations over iron ore and coal prices (contract iron ore prices rocketed 85% in 2008/09) and the enormous market share China takes from Australia suggest this is not a price-taking industry where prices are driven to the marginal cost of extraction. There will be additional transport economies in the Pilbara resulting from the merged operations but essentially a Rio-BHP unit in the north-west will have enhanced market power which is the reason their share prices both rose so strongly after the announcement. They rose when they saw the Chinalco deal was not going through.

Really, and where are prices now? Prices rose in the face of a huge adjustment in the industry in China (and to a lesser extent India). Such price surges provide no evidence of sustainable monopoly power. By-the-by Australian suppliers have been delivering into the Chinese market at a margin significantly below the average cif price until recently. The lift in supplies to Chinese mills was significantly domestic, from India and Africa. Australia has been ‘undersold’ into China by up to 20 percentage points on its market share in the rest of Asia. Explain that with your model?

The lift in BHPB and Rio shares is again no evidence of sustainable monopoly power.

Some knowledge of the economics of these industries is essential to presuming to weigh in on these issues, Harry.

To date, there is not a shred of evidence to support the assertion that ‘China’ is a monopsony buyer (the spelling of which, incidenatally, is a cheap issue on which to score a point).

Almost all the buying is done by totally fragmented Chinese users. Chinese metals industries are by far the most fragmented in the world. Some Chinese industry leaders may wish it were otherwise, and there is a risk that the Chinalco set back will strengthen their position.

To date, there’s not a shred of evidence that China’s offshore resource investors have subsidised onshore consumers by supplying ore cheaply.

But, there is a huge perception problem for China because the process of separating government ownership from management control, even if the two are separate in practice, is a gigantic work still in progress (and there are plenty of exceptions to this, where SOE’s at the margin are still required support government social and otherpolicies).

And on your glee about the threat of anti-trust action in China on BHPB-Rio, what does BHPB think about that?

Best
Peter

Peter

I’ve been on the road and just caught up with your comment. It is thoughtful and deserves a response.

My piece presumed nothing about whether the deal was in the end commercially acceptable to the parties principal. It clearly wasn’t, for a variety of reasons that are now becoming clear. My point does not rest on whether it was or not. What is important is that the way in which the commerce, the policy and the politics were managed has left us with a set of problems that we have to deal with.
On Peter Costello and Mr Turnbull, you know I am sure as well as I do that they (and Joe Hockey) said other things that were a sad joke (see an earlier post of mine). Moreover, Mr Turnbull used the argument you cite to declare the deal not in Australia’s national interest. That, too, is a joke to anyone who knows the nature and structure of these trades and investment links which, for good commercial reasons, commonly involve just such buyer-customer associations. National leaders are irresponsible if they mess with the national interest in this way.

One got to remember is the fact that Rio was having very high debt to equity ratio and the market situation during late last year and early this year was so dangerous that some companies were fighting for their own survival. The deal and the Rio board had to take that into account. Yes, it turned out that the world banking and finance crisis almost subsided now, but back then, the whole system was in danger of collapse and many companies, especially those with high debt would have gone under if the banking crisis was not averted by the unprecedented and concerted efforts by the governments of major large countries/economies.

Individual shareholders may or may not have got the whole and true picture as the board in most of time, unless the board is acting strangely but that is relatively rare. On the other hand, shareholders have every right to be concerned and often get emotional.

Even now it is unclear whether the deal with BHP will bring benefit to Rio or not, given that many major countries are voicing their concerns about the monopolistic nature of the deal. They may devise some scheme to counter any savings and pricing monopoly behaviour that would potentially benefit Rio. Don’t worry about WTO rule, if there are many countries that think it is unfair, they will act and design new rules. The matter of fact is that WTO rules are made by its member countries. They can make them and they can change them.

Perhaps Professor Drysdale is correct in saying our broader national interest has been damaged by this proposal. Let us hope that future arrangements are more soundly based and for the benefit of both countries.

I’m afraid that China and Chinese investors will see it in no other way but that potential profit can flow any which way except theirs.

What’s your evidence of the outcome having been a consequence of the
consideration of monopoly power issues?

In any case that issue was dealt with
analytically by ours and other competition authorities. Anyone who has
studied this industry over the years knows that what
monopoly-monopsony power issues there are, are confined to the rents
on transport cost differentials (see Smith ER). I
don’t know what dream world market you assume exists for these
commodities but all of them are subject (over a remarkably period of short time)
to contestability on a large scale. This is applied international resource
economics 101.

On the FIRB policy question, if you’ve read anything of what I’ve had
to say,you’d know that I’ve never contested the national interest
test; quite the reverse. I helped set the
thing up as a political buffer. But with sloppy Joe Gullett type
arguments still around, I’m beginning to think that perhaps we need to
define it more
rigorously

And if you don’t think that this episode hasn’t messed in the Australian
investment environment, get out and take a careful look.

Best

Peter