Email of the day (1)
"In Comment of the Day on April 22nd viz:
"Moreover, globalisation and the increasing acceptance of capitalism in its various forms have made the world a more competitive village, in which the relative success of countries can rise or fall more quickly than ever before. This is arguably for the greater good, shortages of natural resources and environmental concerns excepted."
"You seem to be implying that capitalism (or more capitalism?) might lead to shortages of natural resources. This is a common view - along with the view that resources are finite and "eventually" we will run out. But these are views that are not supported by the evidence, so if you will permit a rather lengthy response under the "empowerment through knowledge" theme I'd like to set out a few examples below to illustrate why you and just about everyone else shouldn't worry overly much.
"Of course no one can disagree that if you dig something out of the ground (coal, for instance) and burn it, there is less coal left in the ground. But this is irrelevant. What counts is the availability and cost (of coal, in this example) in the future [and/or a suitable substitute] and the kind of economic system (capitalism, state ownership, degree of regulation) that will deliver.
"I can probably best illustrate by example:
"Example 1 (from your country): In the mid 1860s the British government was worried about over-exploitation of British coal resources which were underpinning British leadership of the world. They commissioned William Stanley Jevons - one of the co-discoverers of the marginal utility theory, and one of the most eminent economists of the time - to examine the problem. His study called The Coal Question (1865) suggested the folly of exploiting Britain's coal resources in ever-increasing quantities. He predicted that with the exhaustion of these limited reserves "we must not only cease to progress as before-we must begin a retrograde career." Well, he didn't get everything right! 100 years later, Britain was still producing 192 million tonnes of coal per year - almost double the 1865 production of 102 million tonnes - and by the time coal mining in Britain did significantly decline the importance of it for British hegemony in the world had long since passed (certainly not due to the exhaustion of domestic coal). Lesson: even if we run out, by then it won't matter. If it does matter, we won't run out! Second lesson (think: Club of Rome) - how woeful we are at [under]estimating the resourcefulness of people given the right (capitalist!) incentives.
"Example 2: When I was an undergraduate in 1971 I visited a gold mine once owned by my grandfather that was about to close due to "exhaustion" of gold reserves. The grade being mined then was about 7 grams per ton - an uneconomical grade. The mine did close shortly thereafter. Yet today, through advances in technology, there are many profitable mines who regard 1 gram per ton (one-seventh of this) as "pretty good ore." Not only that - some of these mines move 5+ tonnes of over burden just to get at that "ore" that itself contains just one part per million of gold! It is the nature of many deposits that if you have X reserves at a 7 gram/ton cut-off, you have perhaps 4X reserves at 3.5 gram/ton cut-off, perhaps 16X reserves at 1.75 gram/ton cut-off etc. Malthus in reverse. If you plot these trends over time many of us in the industry can envisage a time when we can profitably exploit grades equivalent to back-ground levels of occurrence in the earth's crust (the Au content in sea-water, for example). BTW: the gold mine has since re-opened.
"Whilst the profitability of mines definitely goes up and down with commodity prices, the trend is evident over a long period of time with declining real commodity prices. William Baumol has written extensively about this (see, for example: "The Puzzle Revisited: Growing reserves of Exhaustible Natural Resources") but the answer is grounded in simple economics. It is very expensive to drill out and look for mineral reserves. No capitalist enterprise will spend the money to do this very far into the future. As the cost of exploration increases as a proportion of the overall cost structure of a mine, then we would expect that the reserves expressed as years at current rates of production, will decline. But in fact it isn't declining. Reserves, by total quantity, and in terms of years of production at current rates are increasing.
"Amusing story: I was at the Coeur d'Alene Silver mine in 1978 when it had been in operation (then) for 98 years. They quoted me that they had 5 years of reserves. I asked "does this mean that, after 98 years of operation, you will probably close the mine in 5 years?" No, they said: "In 98 years of operation we have never had more than 5 years of reserves in front of us." [the mine has now closed, but who knows, it could easily re-open].
"What has happened over the last two decades or so (in the western world) is that the rules for reporting reserves have stiffened (witness the Shell debacle of a few years ago when they had to re-state their reserves). So the cost of proving up reserves (to international standard definitions) has increased substantially. What used to be called "reserves" now get called "resources" if they don't meet these international standard definitions. But this doesn't mean that there is any less known mineral available for future exploitation, or that the un-proven deposits or parts of deposits are any less viable than the parts that are known to the higher definitional standard.
"I could give other examples. The world will not run out of natural resources. And, if history is a guide, industry will provide these resources as ever-declining real costs of production.
"Keep up the good work at Fullermoney. I like to think I know a thing or two about the resources industry, but I'm surely in need of plenty of help in investing in the worlds markets!
"About me (FYI): I have been a Fullermoney subscriber for about 10 years (I think) - attended TCS in London in early 2000s. My background (now part-time): Designing mines, founder of Runge Limited - public listed company in mining technology services. (One of biggest mine planning/consulting organizations in the world www.runge.com ). Author of book Mining Economics and Strategy. Ian Runge."
Eoin Treacy's view Thank you for this highly educational piece. David asked me to post this email because he was under time pressure before leaving on holiday and we both feel the quality of the content is such that we did not want to wait a week before sharing it with subscribers. I fully intend to set some time aside at some point to read your book which on first glance appears fascinating.
On aggregate ore grades continue to decline. We are fully in agreement that more often than not, it proves to be folly to underestimate the ingenuity of human beings when put under pressure. This is more particularly the case when new technology is needed in order to profit from an inelastic supply situation. The advent of shale and tight gas could be an example of just such an event unfolding; where new technology has increased the availability of the commodity by tapping previously inaccessible formations.
However, from an investor's perspective one of the main concerns centres on the timeliness of such innovation. Over the long-term, it might well be economically viable to extract gold from sea water but that has little impact on the supply/demand ratio in today's market. When a method is eventually developed to economically develop background levels of various minerals, we will likely be entering a golden age of human development but we are not there yet and the commodity bull market looks like it has further to run.