PART 2

Market economics

37
 CHAPTER 2.1
economics of the
Minerals industry
Phillip C.F. Crowson
Mining is like any other economic activity in that its contribu-
tion to the gross domestic product (GDP) is measured by its
value added—that is, its worth based on the sum of wages, sal-
aries, rent, royalties, direct taxes, interest payments, and gross
profits involved in producing its final products. However, its
modest share of the global gross product greatly understates
its importance. Like other primary industries, it produces the
raw materials that form the essential basis of all other eco-
nomic activities. Mineral products perform the same function
for the global economy as the vitamins and trace elements in
the human diet. Without their continuing supply, economic
activity would gradually wither and die.
BounDARieS
The minerals industry embraces a wide range of different
products with differing methods and structures of production
and with diverse markets. Its boundaries are conventionally
defined to exclude petroleum, natural gas, and water, although
hard-rock mineral fuels such as coal and uranium are included.
Distinctions are also drawn between mining and quarrying for
sand, gravel, and construction materials, although those share
the characteristics of other mineral products. The downstream
boundaries of the industry are imprecise as it merges, in many
instances, into processing and manufacturing industry. That is
especially true of some industrial minerals, particularly those
used in chemical manufacture, but it also applies to metallic
minerals.
Where the division is made is largely one of convention.
The production of pig iron and steel, for example, is regarded
as manufacturing, so the boundary with mining is the output
of iron ore. For copper the division is less clear-cut, with some
mines producing copper metal on-site and others selling ores
and concentrates. Conventionally primary nonferrous met-
als are grouped as mineral products, but their semifabricated
shapes and wrought products are grouped as manufactures.
That raises questions about a metal like aluminum, for which
the major input is not the mineral raw material but energy.
Mines produce ores rather than finished salable products.
With few exceptions, most run-of-mine output requires some
Phillip C.F. Crowson, Hon. Prof. & Professorial Research Fellow, Centre for Energy, Petroleum & Mineral Law & Policy, University of Dundee, Scotland
39
degree of processing before it can be sold. In some instances
that may be no more than simple washing and sorting, but, at
the other extreme, complex metallurgical or chemical process-
ing may be necessary. Mineral producers aim to maximize the
profitability of their operations and will balance the costs of
additional processing against any advantages gained from
selling higher-value products.
DeMAnD
Few mineral products are demanded for their intrinsic worth
but instead for their various properties. Most are intermedi-
ate goods used as raw materials or processing aids for more
finished products. The main exceptions are precious gems and
precious metals in some but not all of their uses. Whereas each
mineral has a specific set of properties, whether physical or
chemical, few of those properties are unique to any one min-
eral product. End users of the finished product may be com-
pletely unaware of what minerals are used in its manufacture
and are merely interested in whether the product meets their
needs satisfactorily. In short, demand for minerals is derived
from demand for finished products, and in many instances the
minerals used account for a relatively small proportion of the
product’s total cost.
This derived nature of demand means that it is difficult
for producers of many mineral products to differentiate their
material from that of other suppliers, except concerning its
inherent properties. While the properties of a specific min-
eral product may make it ideally suited for some end uses,
most uses will normally have substitutes of varying degrees of
effectiveness. The fertilizer minerals are a partial exception in
that regard, because growing plants require potash, phosphate,
and nitrogen in varying combinations, but even the consump-
tion of fertilizers is dictated by the demand for agricultural
products and by farmers’ cost structures. Demand for mineral
products is always at the mercy of fashion, of technological
changes in end-use markets, of governmental regulations,
and, above all, of relative prices. These characteristics are not
unique to mineral products but set them apart from the general
run of manufactures.
40 SMe Mining engineering handbook
Substitution and Prices
That substitutes exist for most mineral products in many of
their uses circumscribes their producers’ market power. A
marked shift in a product’s relative price will impact the size
of its market. Some substitution may be straightforward, as
in the use of different minerals as fillers or extenders in the
plastics industry, or of different materials in the manufacture
of refractories. Sometimes the most effective substitutes are
abstinence, as in a farmer’s decision not to apply phosphate to
his fields one year, or a change in processing technology, such
as heat treatment to replace the addition of alloying elements.
It will often involve process adaptations or investment in new
technology and equipment. In those cases substitution will be
spread over a period, rather than instantaneously, but when it
has occurred, it is unlikely to be reversed quickly. Changes in
relative prices often drive irreversible technological change.
Often demand for a specific mineral product will be
affected not by changes in its own relative price but by the
prices of the products in which it is incorporated or used in
processing. For example, the demand for fillers and coating
clays is driven by changing demands for paper, and for zinc in
galvanizing by markets for steel products. Changes in end uses
and in consumers’ spending patterns, driven by demographic
and technical change, and sometimes merely by fashion, can
open up new markets for individual minerals and wipe out
existing markets.
Markets for Mineral Products
Most types of economic activity, including trade and services,
depend on mineral products, but their use is biased toward the
goods-producing sectors. Demand for many mineral products,
and for metals in particular, is heavily reliant on construction,
capital goods industries, and the manufacture of vehicles and
consumer durable goods. Because these markets are responsive
to changes in expectations and to movements in interest rates,
they are typically the most volatile segments of overall expen-
diture. Even where mineral products are used for processing or
in goods for immediate consumption, their demand can fluctu-
ate by far more than overall economic activity and is at the
mercy of variations in work in progress and in the holding of
inventories of all types throughout the production chain—from
mine to final consumer. In general, therefore, demand for min-
eral products is more volatile than economic activity, as mea-
sured by changes in industrial production or GDP.
Demand, incomes, and intensity of use
Typically an economy’s demand for goods rises with per cap-
ita incomes. When these are near subsistence levels, and only
the most basic needs can be satisfied, the usage of minerals
per unit of output tends to be low. Initially, many of the needs
for mineral products will be met by imports of finished goods
rather than by domestic manufacture. As per capita incomes
rise, the demand for more sophisticated products will also
expand, thereby raising the economy’s intensity of mineral
use per unit of output. Rapidly growing demands for invest-
ment in modern infrastructure of all types will further boost
the intensity of use (IU). The demand for mineral products,
and especially for the building blocks of steel, cement, and
construction materials, will tend to increase far more rapidly
than the GDP. Eventually, the nation’s basic infrastructure will
be developed and individuals will devote an ever increasing
proportion of their growing incomes to services of all types
rather than to products. The goods that are purchased will tend
to be less materials intensive than those purchased at lower
levels of income. Consequently, the economy’s IU of min-
eral product per unit of GDP will eventually peak and then
fall back. Although its absolute demand for mineral products
may continue growing with expanding per capita incomes, a
point may be reached where even that ceases to rise and even
weakens.
Smaller economies with limited populations and/or inher-
ent geographical disadvantages may never develop their own
materials-based manufacturing industries but continue to rely
on imports. This means their IU of many mineral products will
never rise substantially, regardless of the levels of their per
capita incomes. By contrast, some economies may develop
large export-oriented manufacturing capabilities so that their
apparent IU not only rises rapidly but also reaches atypi-
cally high levels. Densely populated countries with limited
land area will have different consumption patterns than more
sparsely populated bigger countries, even at similar levels of
per capita income. In short, each country’s IU of mineral prod-
ucts depends on far more than per capita incomes alone, but
those provide the main impetus for change.
The basic pattern of changing intensities over time as
incomes rise can be traced in the historical experience of the
mature industrial economies and is still being written in the
newly industrializing and developing countries. Continuing
technological change, both in products and production pro-
cesses, and shifts in relative prices, especially of energy, mean
that newly industrializing countries do not slavishly follow
the path of their predecessors. Each country will naturally
adopt the cheapest and most effective set of technological
options available, which will probably, but not necessarily, be
less materials intensive. Global demand reflects both the sum
total of the component economies’ varying patterns of IU and
their GDP rates of growth. To the extent that some of the final
output of the rapidly growing economies, such as China and
India, is based on exports to the mature economies, their ris-
ing demands for materials will be partly at the expense of the
mature economies rather than merely additional to them.
Demand, Supply, and Prices
Since production is relatively slow to react to swings in
demand and tends to be more stable in the short run, supply
and demand are seldom in precise balance. There is normally
a dynamic equilibrium over time, with capacity moving in
step with demand, but market balances can quickly veer from
shortage to excess with little warning. The consequence is
volatile prices for most mineral products. In some instances,
a buildup or reduction of inventories can cushion the immedi-
ate impact, but many products are not amenable to large-scale
stockpiling. Producers are therefore forced to reduce their
output when demand falls, but they can seldom react quickly
enough when demand surges. Even the mere existence of
accumulated inventories can adversely affect expectations and
depress prices.
Demand and Recycling
Quite apart from changes in inventories, supplies of many
mineral products are not met by newly mined material. Even
some of the minerals used as processing aids may be recycla-
ble, although most are dissipated in use. Where mineral prod-
ucts are processed into capital goods and consumer durables
they become part of the global capital stock and potentially
available for recycling when the goods are scrapped. Products
 economics of the Minerals industry
used in packaging can also be recycled. The extent to which
recycling supplements primary production depends on the
nature of the original end uses, the lives of the finished goods,
the available technology, and governmental regulation. It is
also governed by the rate of demand growth. Even in mature
markets, recycling alone cannot meet new demand, but its
ability to satisfy part of that demand does constrain the com-
mercial freedom of the mining industry. Much recycled mate-
rial will be supplied for environmental reasons as a result of
governmental regulation or fiscal incentives. Its supply is thus
fairly insensitive to price, a contrast to the supply of newly
mined material.
SuPPly
Attention is normally focused on minerals supply, and in par-
ticular on its nonrenewable nature and site specificity. These
are extremely important but over a rather longer time span
than the immediate characteristics of supply and demand.
It is often overlooked that the mining industry exists solely
because there is a demand for its products rather than because
ore deposits exist. Unless there are potential end uses for the
products of their exploitation, ore deposits would be not much
more than interesting geological phenomena.
geographical location
It is a truism that viable deposits of most minerals are not
scattered evenly across the globe but that their geographical
distribution is uneven. The lower a mineral element’s crustal
abundance, and the higher the concentration factor required
for economic mining, the scarcer and less evenly spread geo-
graphically it becomes. In sharp contrast to manufacturing
and to mineral processing, the location of mines is dictated
by a combination of geology and geography. Yet the contrast
can be overstated because the existence of known ore deposits
does not necessarily guarantee that they will be mined. That
will depend on a wide range of technical, economic, social,
environmental, and political factors.
Mining is not the only type of economic activity whose
location is geographically predetermined. Others include, for
example, certain forms of agriculture, the generation of hydro-
electric power, and even tourism. It is, however, unquestion-
able that mining can only occur where mineral deposits exist,
often in places that are remote and inhospitable. Historically,
mining was regarded in nearly all locations as having a prior
claim on land use and taking precedence over alternative uses,
almost regardless of where the mineral deposits were located.
That is increasingly less likely today, with mining having to
compete with other potential uses. This applies not just near
urban centers in densely populated countries but also in popu-
lated regions where the preservation of the natural landscape
may take precedence over any form of development.
All forms of mining involve some, often irreversible, dis-
turbance to the physical landscape. When today’s advanced
economy countries were industrializing and needed minerals
both as raw materials for industry and to create infrastructure,
such disturbance was accepted as an unavoidable consequence
of accessing mineral wealth. Moreover, mines tended to be rel-
atively small and not too obtrusive on the landscape. Metallic
minerals were largely extracted from underground workings,
which produced limited amounts of waste. By contrast, much
modern mining is carried out on a large scale, often through
open-pit workings that both scar the landscape and create sub-
stantial volumes of waste rock.
41
ore and Waste
The product of all mines is ore. Even where it is mined under-
ground from rich veins or seams, its extraction will neces-
sarily require the removal of waste rock. Historically, miners
followed the often narrow veins using muscle power to extract
the ore with pick and shovel, and the amount of waste was
kept to an absolute minimum. With the introduction of ever
more complex machinery and equipment, mines produce a
greater proportion of waste. The underground workings now
have to be large enough to provide access for and to accom-
modate modern equipment. Open-pit mines have to remove
any overburden and sufficient surrounding rock to ensure the
stability of the pit walls. The deeper the mine, the greater the
volume of waste removed.
In most instances, the run-of-mine product requires treat-
ment and upgrading before it can be profitably sold. Even coal
may require washing. Most industrial minerals are subjected
to a variety of physical or chemical processes in order to maxi-
mize their market value. Metallic ores usually contain only
modest proportions of commercially valuable products whose
extraction generates large amounts of tailings. Today a typical
mine covers a much larger land area than it did in the 19th
or early 20th century, and it alters the landscape irreversibly.
That makes the mine a much less desirable neighbor than in
earlier times, to the extent that local communities are often
unwilling to trade the environmental and social costs for the
benefits. Even so, mining of all forms accounts for a modest
proportion of the earth’s surface.
Depletion and Transport
The mining industry’s substantial need for supplies of energy,
power, and water—both in the extraction of raw ore and in
its subsequent processing—partly governs its location. These
requirements certainly help dictate the form in which mineral
products are transported and the nature and extent of upgrad-
ing on the mine site. So too, crucially, does the availability of
transport. Indeed, there has been an almost symbiotic relation-
ship between the development of transport systems and the
mining industry.
That relationship has been fostered by the main charac-
teristic of the mining industry: its dependence on the extrac-
tion of nonrenewable resources. Individual ore deposits are
strictly finite, either because they are physically bounded or
because the costs of extracting the remaining ore become
prohibitive. Naturally, any society will first exploit the most
accessible and easily worked ore deposits. As these become
worked out, it will develop technologies to extract more ore
from the existing workings, whether by going deeper or by
process innovations. These productivity improvements will
be accompanied by a search for new ore deposits, which will
probably be increasingly distant from population centers and
their markets. Hence, the imperative is to improve transport
links and reduce transport costs in order to enable the develop-
ment of more distant mines at acceptable costs.
Mineral deposits will only be exploited if the mines based
on them can profitably ship their products to the marketplace.
With relatively few exceptions, mines are primarily developed
with the expectation of earning profits, over and above their
operators’ capital costs. If they are persistently unprofitable,
they will close down, even if the underlying mineral deposits
are not depleted. The emphasis is on persistently, as explained
later. The cost of transport relative to the price of the final
product dictates the geographical reach of each mine’s market
42 SMe Mining engineering handbook
and strongly influences the nature and degree of processing
at the mine site. Those products with high value-to-volume
ratios, such as gemstones and precious metals, can be trans-
ported long distances easily and will have global markets. At
the other extreme, products with high volume-to-value ratios,
such as sand and gravel and construction materials, will secure
only local markets. Marked reductions in the costs of deep-sea
shipping since World War II have widened the geographical
markets for bulk products, such as iron ore and coal, from the
national to the regional and even to the global.
Where mineral deposits are located deeply inland, remote
from major markets for their products, they can only compete
if their products are upgraded locally in order to minimize
transport costs. Such upgrading will, in turn, rely on the prox-
imity of sufficient competitive sources of energy. Whereas
Chile’s copper mines are fortunate in being close to the sea,
which can be used to profitably ship concentrates, those of
central Africa depend on local smelting and refining to mini-
mize the volumes being transported to ports.
Competitive influences
A mine’s ability to compete mainly depends not on relative
transport costs, important though those are, but on the char-
acteristics of its mineral deposit, on the mining method used,
and on the nature of its processing plant. These inherent influ-
ences will inevitably be modified by the political, social, and
economic conditions of the host countries, including such
factors as wage inflation, energy costs, and exchange rates,
which are outside the mining company’s control. Such factors
tend to be relatively more important for manufacturing indus-
tries, including mineral processing plants such as smelters and
refineries, than for mines.
The nature of each ore deposit normally dominates the
inherent influences on relative costs. Since few mineral depos-
its are identical in all respects, their costs, and hence their
profitability, will tend to vary. Some will be close to ample
supplies of water and energy, and easily accessible, while oth-
ers will be more remote. Some may outcrop at or near the
surface and be amenable to surface mining through open-cast
methods, whereas others may be so deep as to require extrac-
tion through shafts or adits. The nature of the host rocks and
of the minerals themselves will vary from the easily worked
to the physically demanding. In some instances, the commer-
cially valuable components may be easily liberated, whereas
in others, complex physical and chemical processing may be
needed. Perhaps the major factor is the grade of a deposit—
the proportion of salable materials it contains. Other things
being equal, which they seldom are, the higher the grade of a
mineral deposit, the lower its relative costs compared with a
similar but lower-grade deposit.
For many raw minerals, the average grade is less impor-
tant than the extent to which a mine can maximize its output of
the higher-priced types of the basic product without expensive
processing. Typically the higher-value uses offer sizable pre-
miums over the more common uses. Metallic ores are seldom
pure, but they contain a variety of different elements and com-
pounds. Obviously, the higher the content of the main metal,
the more attractive the deposit, but the nature and importance
of co- and by-products are also relevant. Some are highly
desirable and raise the potential value of the ore, whereas oth-
ers are toxic and reduce the marketability of the mine’s prod-
ucts. Sometimes the costs of their removal and safe storage
outweigh any mining benefits. Where mines yield a range of
by-products, their production decisions can become complex,
especially where, as is usually the case, the grades of the con-
stituent elements vary throughout the ore body. Sometimes
those decisions may appear perverse, as when maximizing
profitability may involve concentrating on by-product recov-
ery at the expense of the main product’s output, irrespective
of shifts in its demand and prices. This merely emphasizes
that the underlying objective of mine managements is usually
creating value for shareholders rather than ensuring supplies
of raw materials.
ore grades and exploration
The relative grades of ore of different deposits, even allowing
for the contributions of all the salable products, are not nec-
essarily reflected in the relative costs per unit of product. The
higher the grade, the more a deposit is able to support deep
underground mining, which usually costs far more per ton of
ore than open-pit mining. Also higher grades may be able to
offset the additional costs of complex treatment and processing.
In theory, the higher-grade, more easily processed, and
more accessible deposits are mined first. Certainly, the aver-
age grades mined of some metallic ores such as copper have
tended to decline over time, being substantially lower today
than in the 19th century. The tendency toward declining
grades has in many cases been countered by falling transport
costs and by improvements in the technology both of extrac-
tion and processing and of exploration. The average iron con-
tent of ores mined in Western Australia and Brazil today is
much higher than the typical grades of iron minerals earlier
processed in most of Western Europe. The uranium deposits of
Ontario exploited in the 1950s had much lower average grades
than the latest generation of Canadian mines.
ore Depletion and Technological Change
In essence, each generation will tend to exploit the best depos-
its of which they are aware with the technologies at their
disposal. As geological knowledge increases, both through
a better understanding of the nature and genesis of mineral
deposits and through continued exploration with ever more
sophisticated techniques, the number of known mineral
deposits also rises. Some may have higher ore grades than the
deposits already being worked but in many cases will suffer
from offsetting disadvantages, such as remoteness from mar-
kets or poor accessibility. Simultaneously, the technology of
ore extraction and processing is continuously changing and
enabling the economic development of previously sterile min-
eral deposits. Such technological changes can be driven both
by end-use requirements and by a need to remove existing
constraints and bottlenecks in supply.
Over time, changes in the costs of producing mineral
products result from a continuing tug of war between the cost-
raising effects of ore depletion and the cost-reducing impact
of technological change and rising productivity. That leaves
aside such general economic influences as movements in
general price levels, wage rates, energy costs, and exchange
rates. The result is never a foregone conclusion. There have
been periods where the forces of depletion have prevailed and
inflation-adjusted costs of production have tended to rise, as
in the 1950s and 1960s. There have also been lengthy peri-
ods, as in the 1980s and 1990s, where those forces have been
outweighed by productivity improvements and real costs have
tended to fall. That the real prices of most mineral products
have not shown any marked trends over long periods suggests
 economics of the Minerals industry
that the opposing forces have been fairly evenly balanced. In
that regard, however, the past is not necessarily a good guide
to the future, if only because there have been wide and pro-
longed fluctuations around the long-term averages. While all
mineral products are subject to some common influences, the
historical behavior of their prices has differed widely, reflect-
ing both their different end uses and the varying influences on
the nature and locations of their production.
Capital expenditure Requirements
The industry’s requirements for capital spending vary with
the location and nature of each mineral deposit. In addition to
construction of the mine itself and of the associated process-
ing plant necessary to produce a marketable product, usually
an associated infrastructure is needed. This will naturally be
less when the mine is situated near an established town or an
existing mining district, with existing supplies of water and
power and established transport links, than when located in
virgin territory. Even in the former instance, existing facilities
will probably need supplementing and upgrading. Although
mining may not be the most capital intensive of industries, it
is one of the leaders.
The lead times before a mine produces any income can
be considerable, especially if full account is taken of the
period from initial exploration to commercial production.
Even the lead time from first discovery to a decision to invest
will normally exceed a decade for a large mineral deposit.
The expenses of prefeasibility and feasibility studies in fully
delineating the deposit, developing a viable extraction and
treatment process, and carrying out the requisite environmen-
tal assessments will normally be capitalized. Construction
itself is likely to be spread over several years, and it normally
takes about 2 years from start-up for a large mine to reach and
sustain its design capacity. There has, however, been a near-
universal tendency for the scale of mines to increase over time.
Unlike many productive enterprises, the mining indus-
try not only has a heavy burden of capital expenditure before
starting production but also large continuing needs over the
life of its mines. This is an inevitable feature of the deplet-
ing nature of mineral deposits. In addition to normal capital
spending on replacement equipment and maintenance, the
industry has to meet the capital costs involved in extracting
ore from increasing depths and more remote sections of the
deposit, and in maintaining production in the face of declining
ore grades. Without such continuing capital expenditure, an
individual mine’s output would soon tail off and decline.
So, too, replacement investment is needed in each
mineral-producing sector. Although mine closures are likely to
be bunched in periods of weak market conditions, some take
place even when markets are buoyant. When total demand is
static or even falling, new capacity is needed to offset losses
from mine closures and from reductions in the output of some
continuing operations. As the overall demand for most min-
eral products rises over time, the gross annual additions to
capacity normally need to exceed the net additions—and in
many instances by a substantial margin. The balance depends
on the typical life and size of mines, which are a function
of the nature of the underlying deposits, and on the rate of
demand growth.
Additional capacity can come from expansions of exist-
ing facilities on known mineral deposits or their extensions,
or from the exploitation of previously undeveloped deposits.
Usually mining companies only prove sufficient ore to justify
43
their initial capital expenditure. As mining progresses and the
operators obtain a better understanding of their ore deposits’
characteristics, they will often delineate additional material
that can justify mine expansion. The expansion of existing
mines on known ore deposits usually accounts for a substan-
tial share of annual changes in net capacity. At one extreme,
such expansions may involve no new capital spending, per-
haps by the use of different explosives in the mine or a new
reagent in the processing plant, while, at the other extreme,
substantial capital expenditure is needed to deepen or extend
the mine. A common feature is the introduction of the latest
available technology, allowing improved productivity and off-
setting underlying cost increases.
economies of Scale
As mines expand and become larger, they can exploit econo-
mies of scale. The larger the mine, the more it can reduce its
fixed costs per unit by spreading them over an increased out-
put. It can justify investment in larger items of equipment,
such as shovels and trucks, or in more capital-intensive min-
ing methods than smaller mines. It can also support the mining
of much-lower-grade ores than smaller operations. Indeed, it
is only by operating on an ever-increasing scale that the min-
ing industry has been able to offset the costs of extracting and
processing leaner ores in more remote locations. From time
immemorial there has been an inexorable trend toward more
capital-intensive and larger-scale mining methods. This trend
accelerated across the board from the late 1980s, resulting
in reductions in the number of mines for each product and
a strong rise in their average size. Open-pit mines tend to
operate on a much larger scale than underground mines, and
their relative expansion was favored for many years because
of their ability to exploit technical economies of scale to the
utmost.
That ability was enhanced by the growth of debt-based
project finance in the post-war decades. Historically, the risks
involved in mining inhibited companies from relying unduly
on debt finance. That necessarily meant a dependence on
equity markets and internally generated funds that tended to
constrain companies’ abilities to optimize the scale of their
mines. The scope of the local market was often a further limi-
tation when transport costs acted as a constraint. Thus mines
tended to start off relatively small and expand when market
conditions and finances permitted. In the past two decades,
however, the availability of project finance on a large scale
and the existence of a global market enabled companies to
develop at a technically optimum scale from the outset.
Increasing scale is a mixed blessing. The larger the mine,
especially if open pit, the greater its environmental and social
impact on the surrounding neighborhood. Moreover, the larger
mines’ needs to minimize their fixed costs per unit of output
reduce their flexibility to respond to changing market condi-
tions. That can potentially lead to a greater volatility of prices
than in markets with a larger number of smaller operations.
In practice, most mines tend to maximize their through-
put during periods of low prices, often by raising the average
grade of ore mined. If mining companies aim to maximize the
net present value (NPV) of their ore deposits, they might logi-
cally reduce their cutoff grades when prices weaken, but their
objectives are more complex. They also need to watch the prof-
itability of their capital investment, which is different from the
implied value of the mineral deposit. Corporate survival will
tend to take precedence over theoretical maximization of NPV.
44 SMe Mining engineering handbook
Closures and Cutbacks
Mines tend to remain in production as long as possible, even
when prices fail to cover their costs. Experience shows that
downturns do not last indefinitely, and companies hang on in
the hope of improved conditions, as long as variable costs are
covered and some contribution is made to fixed costs. Banks
may support a loss-making mine’s continued operation to
ensure the eventual repayment of their loans. In many cases,
the costs of closure may exceed the costs of continued produc-
tion because of the need for rehabilitating the site. The con-
tinuing expenses of care and maintenance need to be taken
into account. If mines are crucial contributors to the local
economy, governments may be prepared to underwrite their
losses to maintain a district’s economic and social stability.
In some cases, the mine’s product may be essential for down-
stream operations, and the need for a continued supply of raw
materials counterbalances any cash losses.
The rigidity of production in the face of falling prices
is greatest in terminal markets of last resort or where the
costs of stock building are low relative to the value of out-
put. By-products have to be stored in one form or another
when their market conditions weaken differentially to those
of the main product. Thus the sour gas producers of Canada
have periodically vatted large quantities of by-product sul-
fur, whose removal is essential for the sale of gas. The costs
of mining and stockpiling most industrial and bulk minerals
are prohibitive, and their mines will normally have to reduce
their output when demand falls and prices weaken. By con-
trast, producers of products with terminal markets, namely the
major nonferrous and precious metals, can always sell their
entire output as long as they are prepared to accept the going
prices. Even when users are unable or unwilling to purchase,
they can place their product in warehouses.
Pricing and Barriers to entry
The ease or difficulty of building up inventories is only one
of the factors explaining the pricing of mineral products. The
most important are the responsiveness of supply to chang-
ing demand and prices, and the level and nature of barriers to
entry. These factors are closely intertwined. Where the barri-
ers are high, the existing producers will enjoy some monopoly
power and will be able to influence prices. In the short term,
that power will be circumscribed only by the availability and
effectiveness of substitutes, including recycled materials; by
any countervailing power of purchasers; and by the extent
to which the existing producers share similar objectives and
philosophies. In the longer term, the existence of apparently
attractive profits will attract new entrants, whose successful
penetration of the market will depend on the causes of high
barriers to entry. Where the barriers to the entry of new sup-
pliers are low and easily surmountable, markets will tend to be
competitive, with prices more closely reflecting the interplay
of supply and demand.
Easily the most important constraint on new produc-
tion is the availability of untapped mineral deposits. That
is not just a function of a mineral’s crustal abundance, vital
though that is, but also depends on the number and nature
of the potentially mineable deposits. The crustal abundance
of platinum is slightly higher than that of gold, but the com-
mercial deposits are few and geographically concentrated,
whereas deposits of gold are much more widely dispersed.
Therefore, platinum’s barriers to entry are considerably
higher than those of gold. Even where unexploited mineral
deposits are known to exist, they may not be commercially
viable with the existing technology. In some instances, the
possession of proprietary technology by the existing pro-
ducers sets a high hurdle for new entrants. Elsewhere the
limited size of the total market and its concentration may
restrict the scope for new suppliers to secure sufficient sales
to justify investment.
Most of the barriers except geological shortage can
eventually be surmounted or circumvented. Even that
encourages exploration, which may result in the discovery
of new deposits that, in some instances, may be superior in
many respects to the deposits already being mined. The exis-
tence of processing constraints fosters technical research and
development that often results in less expensive or more effi-
cient processes, thereby enabling the new entrant to leapfrog
over the constraint. Even the small size of an existing market
is not an absolute barrier for innovative new entrants that
search out and develop new uses. In order to keep prices in
check, most purchasers will be keen to encourage additional
suppliers. Users naturally favor a degree of excess capacity
among their suppliers. Over time the role of falling transport
costs in lowering the locational barriers to entry and expand-
ing the geographical reach of markets has greatly reduced
the abilities of local and regional suppliers to control their
prices and market conditions.
Frequently, artificial impediments to new entrants can
be as effective as technical limitations. For national markets
these include subsidies and trade barriers of all types. Shielded
from the full ravages of foreign competition, local suppliers
can wield considerable control over their local markets. Most
tariffs and similar obstacles to trade in mineral products have
been eliminated or greatly reduced over the years in succes-
sive rounds of international tariff negotiations. Nevertheless,
some tariff barriers still remain, mainly affecting countries
that want to do more than simply extract and export their
minerals without further processing. Imports of basic mineral
products may be duty free, but there may be seemingly modest
tariffs on downstream products, including semimanufactures.
In such instances, there may be fairly heavy effective protec-
tion on the value added in the downstream products.
PoliTiCAl fACToRS
Trade barriers aside, most administrative and political fetters
on supply are in mineral-rich rather than importing countries.
Even where many known mineral deposits are awaiting devel-
opment, and seemingly able to produce profitably with exist-
ing technology, their exploitation depends on a benign, or at
least neutral, social, political, and economic environment. In
many mineral-rich countries, the environment is anything but
benign. As noted earlier, mineral enterprises commit consid-
erable resources to developing mines over many years before
commercial production starts. The prospective lives of their
investments stretch many more years from start-up. At each
stage, the technical and economic risks are high, with an
ever-present possibility that the investment will fail. After the
investor has committed resources to developing a deposit, it
is a captive hostage to fortune. The company’s capital is well
and truly sunk, and it is impossible to transfer the investment
to a more accommodating environment. Thus a mining com-
pany’s bargaining power with the host country weakens con-
siderably after its capital is invested.
This change in relative bargaining strength is not nec-
essarily reflected in any change in the terms under which a
 economics of the Minerals industry
mine is developed. It does, however, focus exploration and
mine development on countries with relatively stable political,
social, legal, and economic frameworks. Where these essen-
tial preconditions are not met, many companies will tend to
shun investment, no matter how geologically prospective the
country. Investors in riskier countries will seek commensu-
rately high returns and will tend to concentrate on developing
mines with limited needs for expensive infrastructure and with
rapid payback periods.
By no means are all the administrative and political bar-
riers to entry confined to developing countries. For example,
Australia restricted the development of new uranium mines
for several decades because of opposition to nuclear power.
Concern over potential environmental damage from mineral
development has also led to specific prohibitions on mining in,
or near to, national parks and areas of natural beauty in North
America, Australia, and Western Europe.
Such environmental concerns are but a part of the strong
atavistic feelings aroused by mining throughout the world. No
matter that mineral deposits have little or no value until their
contents are extracted by mining, there are widespread and
deeply held beliefs that its rewards should accrue not to the
investor but primarily to the state as the custodian of the pub-
lic interest. With but a few exceptions, most mineral rights
throughout the world are vested in the state. Where undevel-
oped mineral deposits are sold or auctioned, their prices reflect
a mixture of the capital already expended in their exploration
and discovery, and the expected rent accruing from their future
development and exploitation.
Mineral exploration
Like any other form of investment, mineral exploration is
made in the expectation of yielding a return over and above the
capital invested. Although the risks of failure are high, com-
panies do not explore in the pursuit of average rates of return,
but in the hope that they will, so to speak, hit the jackpot with
a highly attractive discovery. Their return may come either
from their own development of mines to exploit any discover-
ies or from selling the discovered deposits to other companies.
Thus, guaranteed property rights that can be legally enforced
are as essential for exploration as for mine development. The
exploring company needs an assurance that it can profit from
any discovery it makes.
Mineral Rents
The mining industry’s economic contribution is measured
by its value added: the sum of the rewards paid to the pri-
mary factors of production, namely land, labor, and capital.
For all but the marginal producer, a proportion of the value
added reflects rents accruing to the resource. In that regard,
mining is like other primary industries such as agriculture
and forestry where part of the annual income springs from
the characteristics of the natural resources used. Rent is the
difference between the value of the product and the sum of
the opportunity costs of all the resources involved in making
the product, including the minimum rate of return to capital
required to make an investor commit funds in the first place.
In the short run, it can accrue to any of the factors involved,
including labor and management, but such quasi-rents are
normally competed away in the longer term, unless there
are artificially high barriers to competition for these fac-
tors. By contrast, the rent accruing to the resource reflects its
45
inherent nature with prevailing technologies and geological
knowledge.
Resource rents are only mobilized when a mineral deposit
is mined. They require the application of the other production
factors, notably labor and capital, before they are valorized.
When undeveloped mineral deposits are sold or auctioned,
those involved are making implicit assumptions about the
NPV of the future rents that their exploitation will yield.
Those assumptions may prove wide of the mark, whether
unduly optimistic or far too cautious.
The concept of mineral rents may be straightforward, but
their estimation is complex. Even where prices and demand
are stable, costs and incomes will vary from one year to the
next. Heavy capital expenditure is incurred before commercial
production and at periodic intervals during subsequent years,
and capital costs are also associated with final closure. Given
the costs involved in the discovery and proving of ore, the life
of the mine is unlikely to be known with certainty. Typically,
companies only prove sufficient mineral content to justify
their initial investment, no matter how large the underlying
deposit. As mines near the end of their productive lives, their
operating costs tend to rise as their grades decline and they go
deeper. In practice, demand and the prices of inputs and prod-
ucts can fluctuate considerably, even where their underlying
trend is stable. All too often it is not. For these varying rea-
sons, the amount of rent will vary from one year to the next.
That means that all incomes and expenditures should be con-
verted to NPVs in order to ascertain a mineral deposit’s rents.
This raises further complications. Should future values
be discounted at the investor’s opportunity cost of capital or
at some other rate? In any case, what is the opportunity cost
of capital? It is likely to vary among different categories of
potential investor and among different countries. The mini-
mum required rate of return will be lower for a short-lived
operation requiring minimal facilities in a developed country
than for a long-lived large-scale mine needing massive infra-
structure in an unstable developing country. A large diversified
mining company may be able to raise funds far more cheaply
than a much smaller company without an established track
record, but the cost of finance to governmental agencies may
well be lower still. Since mineral rents ultimately arise from
the nature of the underlying resource, these opportunity costs
are in any case less relevant for discounting future values than
the national social discount rates of the host countries. These
are also likely to differ, probably being much lower in a rich
advanced economy than in a poor developing country.
Rent and Depletion
No matter how future values are discounted to present val-
ues, part of the rent more properly represents the cost of the
depletion of the resource rather than a genuine surplus. As
such, this user cost element of the rent should naturally go
to the owner of the resource, usually the state, as recompense
for its exhaustion. This user cost is specific to nonrenewable
resources, as the productivity of most agricultural land can
be maintained or restored by appropriate husbandry. The pre-
cise magnitude of user costs varies from mineral to mineral
and over time. Theoretically, its annual incidence should in
some manner reflect the rate of net depletion of each deposit.
As already noted, however, the ultimate size of most mineral
deposits and the lives of the mines they support can normally
be assessed only retrospectively rather than in advance.
46 SMe Mining engineering handbook
Rent and Taxation
There is no theoretical basis for sharing among the various
stakeholders any remaining rents beyond user costs. In prac-
tice, the owners of the mineral deposits, usually the state,
make strong claims for retaining the lion’s share through taxa-
tion. That presupposes that the potential rents of each deposit
are not captured by purchasers of mineral products through
prices that fail to cover full costs or are prematurely wiped out
by new entrants or technological developments. Changes in
geological knowledge, in mining and processing technology,
and in end uses can affect the inherent profitability of operat-
ing mines and even lead to their early closure before they have
extracted the full potential of their mineral deposits. In such
instances, some of the potential rent will remain sterilized.
That mineral rents are both unpredictable and unstable and
can only properly be assessed retrospectively make them an
unsatisfactory basis for taxation. Governments want and need
some degree of certainty in their fiscal receipts. Typically, roy-
alties that are linked in some manner to output provide such
certainty and are relatively easy to compute. That is a further
advantage for many host nations that have limited administra-
tive capacity and shortages of skilled labor. Companies are
liable to pay such royalties as long as they produce, even when
they make no profits, so that governments are guaranteed an
income. Ad valorem percentage royalties based on turnover
are more flexible than fixed royalties based solely on volumes
of production. The great disadvantage of any output-related
royalty, no matter how it is calculated, is that it is a fixed cost
and consequently raises the economic cutoff grade for mining,
potentially sterilizing marginal parts of a mineral deposit that
might be extracted and processed in its absence. Nonetheless,
governments regard that as a price worth paying for royal-
ties that typically average in the 1%–3% range. Higher royalty
rates are often applied to precious metals and gemstones. In all
cases they are seen as payments to the owners of the resource
and may be conceptually regarded as covering user costs.
Most governments also levy income taxes of varying
coverage and complexity. Attitudes to appropriate rates and
allowances change over the course of the economic cycle with
shifts in product prices and profitability. During the 1980s
and 1990s, there was a tendency for the overall tax burden
on mining projects to fall. Competition between putative host
countries to attract new investment led to a narrow range of
tax incidence. Those countries with tax burdens significantly
above the prevailing norm were considered unlikely to cap-
ture foreign investors. In reality, tax is only one factor among
many in influencing investment decisions and is by no means
the most important. The boom of the mid-2000s caused host
nations to reassess their tax regimes and to seek additional
revenues. Some countries raised or imposed royalties and oth-
ers reexamined their income/profits taxes in order to capture
greater shares of increased profits. The sharp drop in the prices
of many minerals in the second half of 2008 demonstrated the
volatility of the industry’s profits and that host countries were
chasing an elusive moving target.
Mining and economic Management
Volatile and unpredictable earnings because of fluctuating
demand and prices can be readily absorbed by a broad-based
and widely diversified economy, even if the local impact
may be great. They are much less manageable for developing
countries with few or no alternative sources of income and
employment. The problems of economic management for such
countries were compounded when mineral prices appeared to
be on a long-term declining trend in real terms. They were
then faced with falling terms of trade so that it became pro-
gressively harder to earn sufficient foreign exchange to finance
imports. Although the mid-2000s’ boom apparently disrupted
previous trends, it might be premature to announce their death.
For many economies, the start-up of new mining projects
can cause sudden spurts in incomes, employment, and foreign
exchange earnings. This lumpiness accentuates the problems
caused by the underlying volatility of most sectors of the min-
erals industry. Unless it is appropriately managed, a surge in
activity arising from new mine development can unbalance the
host economy. The effects tend to be much more pronounced
in the oil and gas sector than in nonfuel minerals, but they
are nonetheless observable. A strong rise in exports affects the
balance of payments and tends to cause the currency to appre-
ciate. At the time, resources, especially labor, are attracted
away from their existing uses into the newly expanded min-
ing sector, and costs are bid up. The competitiveness of the
existing sectors declines, leading to reduced sales and rising
unemployment, so that booming mineral exports are accompa-
nied by a shrinking economic base in the rest of the economy.
These are the symptoms of Dutch disease, named after the
experiences of the Netherlands following large natural gas
discoveries in the 1960s. It is not an inevitable accompani-
ment of mineral development and can be countered by the host
government taking timely and appropriate budgetary and fis-
cal action.
institutional Capacity and Mining
Unfortunately, some host countries lack the necessary insti-
tutional capacity and administrative competence to adopt and
pursue appropriate fiscal policies. Nor are they always capable
of installing and operating systems for offsetting volatile tax
receipts. Such systems include stabilization funds that receive
all mineral tax revenues as they are earned but only release
them for government spending over a period based on an
estimate of likely average earnings over the business cycle.
Effective stabilization funds can insulate governmental spend-
ing from extreme fluctuations in tax receipts, but they are
not a universal panacea. Aside from the inherent difficulties
involved in assessing future trend prices and revenues are the
problems of ensuring the independence of a fund’s manage-
ment and operations from political and bureaucratic interfer-
ence. Those are issues for mature democracies, let alone for
most developing countries.
Geology knows few (if any) political or social boundar-
ies, and mineral deposits are often located in unstable coun-
tries riven by tribal and social tensions. That their exploitation
might finance civil wars, exacerbate preexisting tensions, or
involve corruption is not the fault of mining in and of itself.
With proper management, mineral wealth can be used to
ensure economic and social development and eliminate such
tensions. All too often, however, powerful interest groups
seek to capture the potential benefits of mineral development
for their own ends rather than for the national good. At the
extreme, such rent-seeking behavior might become kleptoc-
racy by the ruling elite.
When the obvious environmental impacts of mineral
development, no matter how well and sensitively those are
managed, are added to its potential adverse economic and
social consequences in poorly managed countries, it is under-
standable that the mining industry’s critics talk in terms of an
 economics of the Minerals industry
inevitable resource curse. In many instances, however, host
countries have few, if any, alternative sources of potential
wealth creation. They lack the luxury of choosing between
mining and other economic activities. Furthermore, weak
institutions and poor governance are the major causes of most
of the ills that have been ascribed to dependence on mineral
development. The appropriate response is to tackle those
issues directly rather than abjure mining on the grounds that it
might make them worse rather than help solve them.
Resource Depletion and Sustainability
Regardless of the effectiveness and competence of host gov-
ernments, all mineral-rich countries have to cope with the con-
sequences of reserve depletion. No matter how extensive a
country’s mineral deposits, they will eventually be exhausted.
In this narrow sense, mining is not sustainable. Often the min-
erals extracted will have been exported rather than retained
within the country and hence will not be potentially available
for recycling locally. Unless new discoveries and technologi-
cal developments unlock additional mineral resources, alter-
native means of wealth creation will be required to maintain
existing living standards, let alone meet the rising needs of
an expanding population. Investment of some of the proceeds
of today’s mining in other means of generating wealth may
be economically and socially desirable, but the imperative of
satisfying immediate needs may be difficult to resist, even in
well-governed nations. In weakly governed states they may
be irresistible.
Historically, mining has often provided the springboard
for sustained economic development, both through its require-
ments for infrastructure, its demands for goods and services,
and downstream linkages into further processing. As well as
47
their direct employment and purchases, mining developments
can create indirect demands from their workers and suppliers.
The size of such multiplier effects depends on the location and
nature of the initial projects, and on the extent to which those
of the mine itself or all the facilities associated with the proj-
ect are taken into account. Often the main, indirect benefits
may be realized far from the mine itself and for many coun-
tries and regions may indeed leak overseas. Similarly, there
may be little prospect of economic downstream processing in
many countries that lack appropriate infrastructure or suitable
labor. Compared with earlier times, changes in communica-
tions and technology have greatly reduced the potential for
local multiplier effects.
Even in advanced countries, mine closures raise economic
and social problems. There is a perennial debate between those
who would create alternative employment opportunities near
worked-out mines and those who would completely abandon
remote mine-based settlements and move their inhabitants
elsewhere. If alternatives can flourish without artificial sup-
port such as subsidies, the former may be the more sustainable
approach. In other cases, it is best to tackle the social disloca-
tions involved head on and accept that townships orphaned by
mine closures are unlikely to be sustainable.
The paradox is that mineral development mobilizes
wealth by using up the potential wealth inherent in natural
resources. Provided that some of the wealth thus mobilized is
reinvested in providing for future needs, then mining makes
a proper contribution to sustainable development. An unex-
ploited mineral deposit is completely sterile, making no con-
tribution toward meeting either present or future needs. There
is never any guarantee that its contents will be needed in the
future.