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Capital expenditure is key to metals supply

Javier Blas is commodities editor at the Financial Times

Sit down with a mining executive to discuss the outlook for the sector amid the economic woes and within a minute, he or she will highlight the "strong balance sheet" of the company as a key difference today from how things were before the global financial crisis of 2008-09.

In mid-2008, the mining sector entered the crisis in a precarious condition. With the exception of BHP Billiton, most companies were in too much debt. As prices for commodities plunged, they cut their investment programs to conserve cash.

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This time will be different, they say. That is good news: miners did not only cut capital expenditures, capex, in 2009, they also cut their dividends and a few had to ask investors for extra money through right issues.

But there is some bad news too: if miners continue investing through the downturn, as they say they will, mining supply growth would not suffer as it did in 2009 and 2010. Thus, metal prices could take longer to recover.

The London-listed miners Anglo American, Antofagasta, BHP Billiton, Kazakhmys, Rio Tinto, Vedanta and Xstrata , as well as trading house Glencore spent nearly $35-billion in capex in 2008, but cut it to less than $30-billion in 2009 as they moved aggressively to conserve cash.

Capex only increased slightly in 2010. The reduction helped to slowdown the growth in supply over the next two years. When demand rebounded from early 2010 onwards, miners struggled to meet consumption and commodities prices surged to fresh highs.

The London-listed miners are on course to spend $50-billion in capex this year and, on paper, a similar amount in 2011. But will they?

I doubt it, even if executives boast about their stronger balance sheets. Many of the projects announced -- and accounted for in expenditure programs -- are just options, rather than firm commitments.

But probably the big mining companies will not cut as much as they did during the global financial crisis. Thus, I do not think we will see the same supply crunch as we observed back then. Mining executives disagree with my view: they say that even if they do not cut capex programs, smaller miners will, tightening future supply.

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The thinking in the sector is, in any case, rapidly changing as conditions deteriorate.

Six weeks ago, most miners were talking up the sector and, by extension, the global economy. Now they recognize that some customers are delaying shipments, a bad sign, even if the big miners continue to say that their books remain full.

But the announcement on Wednesday by Alpha Natural Resources, the U.S. coal miner, that some clients in Asia have "unexpectedly curtailed" purchases is a sign that order books are on shaky ground.

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