with a Quick Look at Industrial Sand*
John T Cuddington
William Jesse Coulter Professor of Mineral Economics
Colorado School of Mines
94 th Annual Conference – May 20-22, 2012
Casting Industry Suppliers Association - CISA
Bonita Springs, Florida
* Motivated by Chuck Fowler’s presentation late on Day 1 of the conference
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S Why do metal and energy prices matter to the casting industry?
S How can economic analysis help us organize our thinking about trends, cycles and volatility in prices?
S What does the empirical evidence on metal and energy prices show?
S What are the implications of metal/energy price dynamics for the casting industry?
2

S Prices are important to casting industry
S Metal and energy prices are key inputs into the casting process
S Casting is energy intensive
S Metal and energy prices have significant impacts on:
S Profitability
S Competitiveness vis-à-vis other forms of casting
S Prices provide key information in decision-making:
S Capacity expansion and upgrades
S
S
Strategic planning
Input substitution
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S Standard economic research methodology
S Develop/refine theories
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Study empirical evidence, ‘stylized facts’
Repeat
S Supply and Demand -- starting point for most analyses of prices
S Nonrenewable resources – are they different? Exhaustible?
S How can anything involving nonrenewable resources be sustainable?!
4

S Metals and Energy - multi-step, multi-product production process
S
S
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Reserves of nonrenewable resources are intermediate inputs into mining and milling
Exploration produces ‘inventories’ of reserves of varying quality (ore grade, multi-ore content, accessibility)
Bulk metals are intermediate inputs in production of either final consumption goods and/or capital equipment (often involving foundries)
S Reserves of nonrenewable primary products change over time
S
S
S
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Discovery and depletion (via mining activity)
Economic value changes as prices and technology change
Reserve/production ratios have not dropped in spite of large increases in global production
“Fixed stock” view of nonrenewable resources is not particularly useful.
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S Mining is very energy and capital intensive
S Short-run supply is often (capital) capacity constrained (i.e. vertical SR supply curves); input substitution is limited
S Long-run supply is very price elastic (i.e. horizontal LR supply curves)
S Implication: Long-run price analysis focuses on primarily on supply
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S Technological change occurs at each step of the multi-step production process
S Increasing globalization due to falling transport costs and improvements in communication
S Globalization spread multi-step production process across several countries
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S The production process to generate new productivity-enhancing ideas is similar to the exploration for reserves
S Production process is highly uncertain
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Quality of output varies
Incentives and property rights are important for stimulating production
S There are often free-rider problems and first-mover advantages
S Secrecy sometimes helps in gaining a competitive advantage – at least for a while
S To be successful, you can’t rest of your laurels.
8

S Long-Run minerals demand depends on:
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Population growth
Growth in per capita income
Structural transformation that accompanies economic development
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Shifts in the composition of demand (agricultural goods, manufactures, and services)
Shifts in composition of global supply affects the derived demands for metals and energy
S Technological change; input substitution Structural transformation is a key component of ‘super cycle’ hypothesis
S Short-run metals/energy demands are strongly pro-cyclical (global biz cycles matter)
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S Some mineral product prices are so-called producer prices that change gradually over time in response to supply-demand imbalances
S Others are ‘flex price’ goods traded on formal exchanges, often with both spot and forward pricing
S The latter are ‘hybrid assets’ – part real asset, part financial asset
S Forward-looking expectations and ‘news’ drive pricing of financial assets
S Introduction of formal markets facilitates price discovery and transparency, but also raises (apparent) price volatility
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P
$/unit
D
0
D
1 S
SR
MC capacity
SR
11
S
LR
Q units/period

S Looking at longest available data spans:
S Average growth rates in real metal and energy prices are small
S Year to year variability is huge
S Little evidence that world is running out of nonrenewable resources
S Over 20-70 year periods:
S Prices may drift up or down – reflecting the tug-of-war between depletion and technological change
S Some evidence of ‘super cycles’ especially in the post WWII period
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400.0
40.0
4.0
0.4
1875 1900 1925 1950 1975 2000
Nominal oil price (BP series) in log scale
Real oil price using the CPI as a deflator in log scale
Real oil price using the PPI as a deflator in log scale
‣
Nominal vs. real crude oil prices using two different price deflators: CPI and PPI

6
5
4
3
2
1
0
-1
-2
1875 1900 1925 1950 1975 2000
Trend component = BP(70,infinity)
Oil price in log terms = BP(2,70) + BP(70,infinity)
BP component = BP(2,70) = BP(2,8) + BP(8,20) + BP(20,70) = BC + IC + SC
BP(2,70)
=
1.0
0.5
0.0
-0.5
-1.0
60 70 80 90 00 10 20 30 40 50 60 70 80 90 00 10
Business Cy cle Component=BP(2,8)
+
.8
.4
.0
-.4
60 70 80 90 00 10 20 30 40 50 60 70 80 90 00 10
Intermediate Cy cle Component=BP(8,20)
+
1
P
P
P
P ?
P ?
0
T ?
T ?
T
-1
T
T
60 70 80 90 00 10 20 30 40 50 60 70 80 90 00 10
Super Cy cle Component=SC(20,70)

-0.4
-0.8
0.4
0.0
1.2
SC 1
~1850-1884
0.8
Uncertain Period
1884-1966
SC 2
1966-1996
SC 3
1996-?
1875 1900 1925 1950 1975
SC in real oil price using the CPI as a price deflator
Principal component in the super cycle of metals prices
2000
‣
Trend increased by roughly 125% over the past 65 years (real terms) 
~2%/year
‣
Comparison to Metals, correlation coefficient: pre-WWII 0.71, post-WWII 0.88

Trend and Super Cycles in Coal Prices
400
SC1 ???
18??-1845 1845-1871
???
1871-1918
SC2
1918-1963
SC3
1963-1998
SC4
1998-20??
200
160
120
80
60
40
20
1800 1850 1900 1950 2000
Real price of coal ($/short ton)
Super cycle of the real coal price super imposed on the trend
Trend in real coal price
‣ Downward trend of about -1.3% annually from the Great
Depression to 1972 and -0.5% afterwards

Super Cycles in Energy and Metals Prices
After WWII
1.2
0.0
-0.4
0.8
0.4
-0.8
1950 1960 1970 1980
SC coal prices
SC oil prices
SC metals prices
1990 2000 2010
‣ Especially after WWII

S Slides that follow show monthly data on nominal U.S. dollar prices from IMF
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19

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S Metal and energy prices are strongly pro cyclical
S
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Rise sharply in biz cycle upturns
Fall fall sharply during recessions
S Metals and energy products traded on formal exchanges are
‘hybrid assets’
S
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Part financial asset where expectations about future conditions are key drivers
Part real asset where supply, demand and inventories are fundamental determinants of prices
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A More Granular Analysis: Real Price of
Industrial Sand with LT Trend – 1902-2010
(USGS)
22

A Super Cycle in Real Sand Prices – 1902-
2010 (USGS)
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Implications for the Casting Industry
S Long-term contracts to supply casted products are risky when longterm trends (20-25 years) in key input prices are difficult to predict
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Long-term investments in capacity and/or new technologies are risky
‘Real options’ to adjust production mix, capacity, input supply sourcing, etc. are valuable
S Link between nominal mineral price movements and general inflation is surprisingly weak
S Some input price risk can be passed on to consumers of your products
S Short-term price risks can be addressed with financial hedging strategies
S Exchange rate effects on dollar metal and energy prices can be large.
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S Your hospitality in this beautiful setting
S Opportunity to learn more about foundries, the casting industry, and its suppliers
S Please explore collaborations with faculty and graduate students in our Mineral and Energy Economics Program
S My e-mail: jcudding@mines.edu
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