... is the nation’s 6th largest export earner ... earned $14 billion of export revenue in 2014-15 ... is the 2nd largest producer of gold in the world

Cost competitiveness challenge


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Cost competitiveness and the rise of new global competitors are among key challenges facing Australia’s gold mining industry. Over the last decade, emerging gold producing nations in Asia, Latin America and Africa have captured increased market share at the expense of 'mature' producers, including Australia, South Africa and the United States.

Australia ranks as the world’s second highest cost major gold producer (after South Africa). Industry costs have risen markedly since the beginning of the 2000s, with cost inflation accelerating in the latter half of the decade. Between 2005 and 2011, average 'all-in' costs in the Australian gold industry rose at average annual rate of almost 18%. Though rising costs is a global phenomenon in the gold industry, the gap between average costs in Australia and average costs of other major producers has widened in recent years.

The drivers of increasing costs in the Australian gold industry are broadly-based. They include: escalating labour and energy costs, increased costs for equipment, consumables and transport and increased regulatory demands and other government imposts. Technical challenges from declining ore grades have also contributed to higher industry costs. The gold industry’s international cost competitiveness has also been impacted negatively by the higher Australian dollar. Improving the cost competitiveness of both existing and new projects is critical if Australia is to retain its position as a major gold producer and an important employer, export earner and contributor to the Australian economy.

Australian gold production: The modern era

The last quarter of the 20th century witnessed a 'renaissance' in the Australian gold mining industry (Close, 2002). This can be attributed in part to heightened global economic instability from the 1970s. The breakdown of the Bretton-Woods exchange rate system, two oil shocks and associated inflationary pressures saw gold take on a more prominent role as a 'safe haven' investment. As a result, the nominal gold price rose sharply from US$35 an ounce (under the Bretton-Woods regime) to more than US$600 an ounce by the early 1980s.

Alongside the incentive provided by a higher gold price, major technological advancements in mining and gold recovery techniques helped to propel a sharp rise in Australian gold production in the 1980s. Improvements such as the adoption of carbon-in-pulp technology, which allowed production from lower grade ore bodies, resulted in significant productivity gains in the Australian gold industry. In turn, Australian gold production rose sharply from an average of 19 tonnes per annum in the 1970s to 244 tonnes by 1990 (Chart 1).

Chart 1: Australia’s gold production and share of global production

Source: Bureau of Resources and Energy Economics (BREE)

As a result, Australia’s share of global gold production also climbed strongly, from less than 2% through the 1970s to more than 11% by 1990. Despite a trend decline in the gold price in the 1990s, Australian production continued to grow, albeit at a more gradual pace. Gold production peaked at 304 tonnes in 1997, at which point Australia accounted for more than 12% of global production.

Since the late 1990s, Australia has gradually lost global market share. Declining production saw Australia’s share of global production fall to below 10% in the last decade. While increased global demand and a higher gold price have underpinned a recovery in production towards the end of the 2000s, overall Australia’s global market share has continued to drift down.

New and emerging competitors

The global gold industry is characterised by production which is more widely distributed geographically than is the case for most other mineral commodities. No single country accounts for more than 15% of the world’s annual gold production.

At the same time, increased production from emerging gold producers in Asia, Latin America and West Africa is steadily reshaping gold production patterns, with producers such as Australia, South Africa, Canada and the United States coming under increased competitive pressure. The combined market share of these four 'mature' producers has fallen from around 48% of global production in 2000 to 28% in 2012 (Chart 2).

Chart 2: A highly competitive global market: Global production shares

Source: Thomson Reuters GFMS

Over the last decade, China has consolidated its position as the world’s largest gold producer, accounting for almost 14% global production in 2012. The fact that recorded production was negligible as recently as the early 1990s indicates the pace and scale of China’s emergence as a major gold producer. Increased demand for gold from within China has been a key driver of higher production, with China overtaking the United States in 2007 to become the world’s second largest consumer (behind India). In 2012, China accounted for about a quarter of global gold demand.

Apart from China, the most notable production gains in the last decade have occurred in Latin America, Africa and Russia (Chart 3). The production share of Latin American countries as a group has risen from 15% in 2002 to 21% in 2011. The share of emerging African producers (excluding South Africa) has increased from 9% to 14% over this period.

Chart 3: Mine production winners and losers (2002 to 2012) 

Source: Thomson Reuters GFMS

Cost comparisons

A key factor underpinning structural change in the sources of global supply has been the relative cost competitiveness of a number of emerging gold producers. While different sources provide different measures of industry costs, there is a developing industry consensus that traditional measures of mine 'cash costs' do not entirely capture the real cost of producing an additional ounce of gold.

Increased prominence is therefore being given to an all-in cost metric as a way of measuring the full marginal cost of gold mining. A measure developed by Thomson Reuters GFMS provides one widely cited example. The World Gold Council has been developing an all-in cost metric which is expected to be adopted by its members in the latter part of 2013. In addition to total cash costs, all-in cost accounts for costs associated with depreciation and reclamation, plus a measure of costs based on sustaining capital expenditure and administrative overheads (Table 1 provides the Thomson Reuters GFMS definition).

Table 1: Beyond cash costs
Total cash cost – comprises mine site cash expenses (mining, ore processing, on-site general and administrative costs), refining charges, royalties and production taxes, net of by-product credits.
Total production cost – is total cash cost, plus depreciation, amortisation and reclamation cost provisions.
All-in cost – is designed to reflect the full marginal cost of gold mining. In addition to total production cost, it includes ongoing capital expenditure, indirect costs and overheads.

Source: Thomson Reuters GFMS

Chart 4: Average 'all-in' cost comparison of major gold producers

Source: Thomson Reuters GFMS

Using all-in costs, Australia is the world’s second highest cost major gold producer after South Africa (Chart 4). While it is clear that cost escalation has been a global phenomenon in the gold industry, a measure of all-in costs has the advantage of providing a more accurate measure of both the relative and absolute differences in overall costs. While the relative gap between Australian average costs and average costs across the 10 largest gold producers has remained broadly stable in recent years (with Australian costs around 15 to 20% higher), the absolute gap has risen on an all-in cost basis from roughly US$89 per ounce in 2007 to US$176 per ounce in 2011.

Chart 5: 'All-in' cost escalation for Australia’s gold mining industry (by component)

Source: Thomson Reuters GFMS

Chart 5 illustrates escalating industry costs over the last decade, with cost inflation accelerating in the latter half of the 2000s. Between 2005 and 2011, average all-in costs rose by some 168%, an average annual compound growth rate of almost 18%.

Beneath industry-wide averages lies significant cost variation. Not all Australian mines are 'high cost'. As at 2011, roughly one third of Australian production (which includes four of Australia’s largest mines) was in the lower half of the global cost curve. At the same time, about 40% of Australian production lies in the most expensive cost quartile globally.

The cost competitiveness challenge

A range of factors have contributed to the increasing costs of gold mining in Australia. Labour and energy are primary drivers of minerals project cost structures. Australian minerals sector wage costs have outpaced those not just in emerging economy competitors but also in developed economics such as the United States and Canada to the point where they are now among the highest in the world. For example, engineering wages in Australia are about 60% more than the global average (Port Jackson Partners, 2012).

Higher wage costs together with higher input costs for mining equipment, consumables, transport and energy stem in part from overall demand pressures and capacity constraints associated with the Millennium 'mining boom'. Extensive development and the extraction of more marginal resources – where the resources being developed are of lower grade, more remote and technically more challenging – adds to cost pressures in periods of sustained price growth. And with more and more underground deposits, for example, power requirements for pumping, ventilation and lighting have risen steeply, adding to energy costs.

Declining ore grades of existing deposits and the absence of new discoveries of gold deposits have led to deeper, more complex and often larger scale operations to maintain existing output levels, with a correspondingly greater capital commitment. Since the 1980s, measured average ore grades have more than halved from approximately 3.2 grams per tonne of contained gold on average to 1.4 grams per tonne in the last decade (Mudd, 2009).

However, there is strong evidence that unit costs in the gold industry have risen sharply for activities that are not inherently more challenging than those undertaken in the past. In this context, higher government imposts and risks from long and complex regulatory approval processes have added to cost pressures on one of the country’s most trade-exposed industries.

In the case of the Carbon Tax, for example, Australian gold producers face additional costs not shared by major competitor nations. Around 80% of global production takes place in emerging economies that are unlikely to impose anything approaching the Australian carbon price in the next decade. At the same time, Australian producers face compliance burdens in areas like energy reporting which are greater than in most other locations. Among the other factors acting as headwinds to industry growth is the high exchange rate, with its negative impact on Australian dollar earnings.

Conclusion

Ultimately, Australia’s resource endowment of gold will not guarantee market share or revenue growth. Projects must remain cost competitive to secure ongoing investment and to support the tens of thousands of jobs that rely on a successful gold industry. History has shown that the prize for getting the framework for minerals resource development right is immense. For both industry and government, the competitive challenge is to maintain Australia’s position as one of the world’s leading gold producers in an era of heightened competition.

References

Close S.E., 2002, The Great Gold Renaissance: The Untold Story of the Modern Australian Gold Boom, 1982-2002, Surbiton Associates, Melbourne.

Mudd, G. M., 2009, The Sustainability of mining in Australia: Key production trends and their environmental implications for the future, Monash University and Mineral Policy Institute.

Port Jackson Partners, 2012, Opportunity at risk: Regaining our competitive edge in minerals resources, Report commissioned by and prepared for the Minerals Council of Australia.

Thomson Reuters GFMS, 2012, Gold Survey 2012, London.

1 Under the Bretton-Woods system established following World War II, exchange rates of major industrial countries were pegged to the US dollar (yet adjustable subject to financial rules). The US currency provided the anchor for the system based on convertibility to gold at a price of US$35 per ounce. In August 1971, the United States unilaterally terminated convertibility of the US$ to gold.