Fri. Sep 20th, 2024
Occasional Digest - a story for you

On July 3, 2023, China decided to impose restrictions on gallium and germanium exports from August onwards. This clearly appeared to be a retaliatory measure against Washington’s sanctions, which aimed to restrict semiconductor exports and prevent China from gaining access to Western technologies.  However, China also wanted to point out that Western countries depended on it for critical raw materials (CRMs) with both economic and strategic applications.

               Gallium and germanium are not rare earths, but they are nonetheless among the 34 Critical Raw Materials (CRMs) listed by the European Union in its latest report about  CRMs in 2023. More specifically, they are essential for the energy transition, especially in solar panels. Beijing thus seems to be going on the offensive in a sector it increasingly dominates and where it aims to become hegemonic.

               Long before Europe, China recognised the importance of CRMs and realised that it was essential to secure their supply, as it was not in a position to produce all the materials it needed. It therefore built a long-term strategy around them. Twenty years ago, it began to implement a policy of overseas investment. Then, with the Made in China 2025 plan, it set out to build strategic industries in the fields of defence, science and technology, with a mining strategy aimed at restoring China’s status as a world power.

               China has succeeded in gradually building an ecosystem built around critical raw materials, including rare earths.  With less stringent environmental standards and lower production costs than Western countries, China has paid the ecological price but was able to secure a key position in this field. First, it welcomed numerous foreign companies, then absorbed technologies to increase its domestic production, gradually squeezing out international competition.

               The case of the Mountain Pass mine is a good illustration of Western decline in the strategic rare earths mining sector. As the country’s largest mine, it allowed the US to dominate the rare earths market in the 1980s and 1990s, before being closed in 2002, to the grounds that it was better to pollute elsewhere at a cheaper price. This allowed Beijing to become hegemonic in this field, eventually controlling over 90% of the world market and exercising a form of blackmail that could go as far as suspending exports in the event of geopolitical tensions, as was the case with Japan in 2010.

               However, China has gradually moved upmarket and does not content itself any longer with extracting and producing rare earths and other critical materials. It has expanded in processing activities to become the world’s leading refiner of strategic minerals. Today, for example, it refines 68% of nickel, 40% of copper, 59% of lithium and 73% of cobalt.   This means that many countries with mines are dependent on China for refining, as they do not have or no longer have the capacity to do so themselves, thus creating a situation of dependency. While having resources and mines is essential, it is not enough to control the entire value chain for critical minerals. Mastery of the various mineral processing technologies is also essential. This is an area where Europe and the United States are lagging far behind, making them highly dependent on China.

               Not only does Beijing currently control most of the world’s critical minerals refineries, but its control of upstream raw materials is also growing. This has made it a dominant player, especially in electric vehicle batteries, wind turbines and solar panels manufacturing. China has perfectly understood that CRMs are the essential fuel for the energy transition and the new technologies of the 21st century, just as oil was the fuel that underpinned American dominance in the 20th century.

               China has therefore adopted a long-term strategy that anticipated a future explosion of demand for CRMs  over the next two decades. Indeed, according to several sources, demand for lithium will indeed increase 40-fold by 2040 to meet the needs of the energy transition. With potential resources depletion coupled with a sharp increase in CRM demand, competition for access to mines and mastery of conversion stages will be key issues in the future. Beijing has therefore had to find solutions not only to secure supplies of resources such as lithium and cobalt, which it has little or none of on its territory, but also to play a dominant role in the sector. China had to control the CRM supply chain so that it could become dominant in the energy transition as well as in the future technologies where CRMs are crucial. Therefore, it was and still is vital for China to get access to CRMs which are a key element of the new technologies of the 4th industrial revolution.

              
               China’s strategy is based on the Belt Road Initiative and revolves around acquisitions, stakes in mines or the provision of infrastructure in exchange for the exploitation of raw materials. This has allowed Beijing to secure its supply of essential minerals for new technologies, and gain an even more dominant position in the global market. To increase its dominance in the CRMs, China used state-owned enterprises or private companies which were close to the Chinese Communist Party. Beijing has been particularly active in controlling lithium and cobalt mines, which are essential to the energy transition industries.

               In the case of lithium, for example, Beijing now refines 60% of the world’s lithium on its own soil, and controls 60% of the world’s production of battery components. What’s more, of the 200 mega-battery factories planned worldwide by 2030, some are in Europe and the US, but 148 are in China. The paradox is that China produces only 16% of the world’s lithium, but refines two-thirds of the world’s production on its territory, allowing it to produce 75% of the world’s lithium batteries. However, as being only the world’s third largest lithium producer, far behind Australia and Chile, China had to find other sources of supply to meet the growing demand for electric vehicle batteries. It has acquired major stakes in mines in Chile, Bolivia and Argentina, as well as in Australia. The latter is vital for Beijing, since 90% of Australian production is exported to China. Chinese companies also hold significant stakes in Australia’s major mines, notably Tianqi Lithium, which has a joint venture in Greenbushes – by far the world’s largest lithium producer – and Ganfeng Lithium, which has stakes in Australia’s other two largest lithium mines.

               However,, China has sought to diversify its supply in Africa, opening a mine in Zimbabwe in July 2023 amid deteriorating relations between Beijing and Canberra and the latter’s desire to reduce its dependence. In addition, other projects are underway in Mali and Namibia, reinforcing China’s stranglehold on the CRMs, much to the chagrin of Western countries trying to catch up in overseas mining investments. What’s more, China has not only invested heavily in a long-term strategy and provided the infrastructure needed to operate these mines, but it also controls the entire CRM value chain, unlike Western countries. Nevertheless, China’s future lithium Eldorado may lie in Afghanistan, from which the US was ousted by the Taliban in 2021. The reserves could be the largest in the world, but the country’s instability and lack of infrastructure are serious handicaps. However, China has a strong presence in the country and could take advantage of the loss of American influence in the region to increase its presence in the lithium market.

               Cobalt is also an essential CRM for the energy transition. However, the number of players involved in the production of this mineral is much smaller, increasing competition between countries for access to the precious metal. The Democratic Republic of Congo, with 130,000 tonnes in 2022, is by far the world’s leading producer, ahead of Indonesia (10,000 tonnes) and Russia (8,900 tonnes). Because of the economic and strategic stakes involved, DRC has been the target of Chinese investment in its mining sector, and 15 of the country’s 19 cobalt-producing mines are now owned by Chinese companies. This has allowed Beijing to get its hands on the Tenke Fungurume cobalt and copper mine, which China Molybdenum Company (CMOC) bought from the American group Freeport-Mc Moran for $2.65 billion in 2016. China also has a stranglehold on cobalt refining.  Chinese refining activity reached 140,000 tonnes by 2022, accounting for 77% of global refining capacity. Finally, despite some disputes with the Congolese state, CMOC started cobalt production at the Kisanfu mine, which is expected to become the world’s largest cobalt mine, with an announced output of 30,000 tonnes per year. With this new mine, CMOC will overtake Glencore to become the world’s leading cobalt producer.

               China has thus been able to establish its dominance in CRMs thanks to a long-term strategy that was initially based on rare earths. However, this strategy is not enough to understand clearly China’s dominance today.  To understand the context, we need to go back to the 1980s and 1990s, when Beijing realised that it was lagging behind Western countries. In 1986, Deng Xiaoping launched the “863” public technological and industrial development programme, which aimed to provide the country with the technological capacity to catch up industrially in areas of strategic importance for economic development and security. In the early 1990s, however, Chinese companies still lacked the technological and industrial know-how required for industrial upgrading of key components, which was held by American, European and Japanese companies. What’s more, the first Gulf War made the Chinese authorities aware that they were lagging behind the USA in military terms. It was therefore decided to take over foreign companies so that China could catch up technologically.
              
               Beijing was particularly interested in the dual technology of permanent magnets. These played a decisive role in the civilian wind turbine and electric vehicle industries, as well as in the defence. One technological turning point was the 2015 Chinese takeover of Magnequench, a subsidiary of General Motors. This takeover was controversial because of the strategic importance of Magnequench, which supplied 85% of the magnets for the US military’s homing missiles. What’s more, the Sextant investment fund that bought Magnequench was actually co-owned by two Chinese groups, each with a minority stake, but which together held the majority (62%). These two companies – San Huan New Material and The China National Non-Ferrous Metals Import and Export Corporation – were both headed by sons-in-law of Deng Xiaoping. In 2002, all of Magnequench’s assets were moved to Tianjin, China, and the company was renamed Neo Performance Materials. With this takeover, Beijing could acquire the patents for the production of neodymium permanent magnets, which had previously been the exclusive domain of the US and Japan. Thanks to the transfer of technology following the acquisition of Magnequench and the availability of CRMs on its territory, China now accounts for 80% of the world’s production of neodymium magnets, which are not only at the heart of the new economy but also indispensable to the defense industry.  As a result, the Chinese army could benefit from the development of long-range cruise missiles. 

               According to the European Union’s 2023 report on CRMs, China is the sole global supplier of dysprosium (100%), neodynium (100%) and yttrium (100%). Similarly, China also dominates the supply chain for germanium (83%), gallium (94%) and natural graphite (67%). These CRMs are vital in the defense sector, particularly for fighter aircraft, but also for missiles, radars… What’s more, according to the Hague Centre for Strategic Studies, their supply chain is considered high risk, and in the case of natural graphite very high risk. In a context of rising tensions between Beijing and Washington, the risk of supply disruptions is increasing. Admittedly, Western countries are increasingly resorting to friendshoring to counter the Chinese threat, and measures to diversify supplies have been put in place. However, some supply disruptions could become national security threats for Europe and the United States, especially in the defense sector, where substitution of CRMs is not an option. Indeed, substitution often has an impact on quality. A lower quality can be accepted for civil use if the cost is lower. However, in the defence sector, countries need top quality CRMs for their army to remain competitive and preserve their national security.

               Some CRMs, such as gallium, are dual-use resources with both civil and military applications. Not only does China produce 98% of the world’s supply of raw gallium, but gallium-based semiconductors are also essential to the US defence industry, particularly in next-generation missile defence and radar systems. China’s dominance in gallium, combined with the forthcoming restrictions on gallium exports, therefore represents a critical vulnerability and national security threat for Western countries that could be exploited by Beijing.

               China’s CRM strategy therefore encompasses not only economic issues, but also technological and military ones. With the Inflation Reduction Act in August 2022 and the European Critical Raw Materials Act in March 2023, the US and Europe  also adopted a strategy to reduce their dependence and critical vulnerability to China. Will that be enough? That remains to be seen.

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