China Could Can Aluminum Price

If only the Chinese would eat more TV dinners and drink more soda. It wouldn't help their waistlines, but aluminum producers would be grateful.

Unlike in developed economies like the U.S., packaging for indulgences like processed food and fizzy drinks accounts for just 6% of Chinese aluminum consumption, according to Paul Adkins, managing director of Beijing-based consultancy AZ China. The U.S. figure is closer to 40%. In China, construction and transportation uses—particularly the manufacture of cars—are far more important, accounting for 53% of demand.

Aluminum bulls, who have bid up cash prices by roughly a third since July, should be nervous. Policy changes in China will likely squeeze demand and raise supply in a country that accounts for almost 40% globally of both.

On the supply side, the unwinding of energy-efficiency measures has helped reverse a decline in Chinese aluminum production. February saw the biggest monthly increase in a decade, on an annualized basis, according to the Royal Bank of Scotland. At today's price of about $2,600 per metric ton, even the least efficient Chinese producers cover their cash costs, RBS says. The bank puts capacity utilization at 75% and global aluminum inventory equivalent to a comfortable eight weeks of demand.

In terms of Chinese demand, construction's outlook is mixed. On one hand, Beijing has tried to rein in property speculation via targeted restrictions and tighter monetary policy. This should curb property prices and building activity. Against that stand government plans to build 10 million new budget residences. It remains to be seen, however, how far Beijing can push that policy on local authorities used to tax revenues from high-end housing developers.

Policy is also a wildcard in the automotive sector. Beijing and Shanghai have imposed restrictions on vehicle ownership to ease traffic. Credit Suisse reckons another 11 large cities might emulate this move, possibly curbing overall vehicle sales by 10%. Vehicle sales already slowed sharply in February.

The medium-term outlook is also debatable. The standard view is that China is catching up with Western demand levels. Yet Goldman Sachs reckons China's per capita aluminum consumption of about 12 kilograms in 2010 was already high relative to per capita gross domestic product. Established industrial economies consumed less than half that amount at a similar stage of development.

AZ's Mr. Adkins goes further: "In America, the poorest farmers still drive their cars, drink beer from aluminum cans and eat frozen food. Not in China." He says it makes more sense to calculate China's per capita aluminum consumption using just the urban population, which is less than half the total. On that basis, the figure is a very high 26 kilograms.

The idea that China's appetite for aluminum will spiral upward as its population gets wealthier, therefore, is potentially flawed. A catchup toward Western income levels remains a reasonable view. Wholesale adoption of Western habits is not.