This iron ore forecast is terrible for Joe Hockey, but great for home owners

Iron ore has been volatile since the budget, falling heavily before this week’s Chinese stimulus-induced rebound.

But even though the bounce has taken iron ore back above the $60 forecast in the budget, the iron ore analysts at Citibank, fresh from their recent call that prices would crash below $40 a tonne later this year, are back with a downgrade to their long term iron ore price forecast.

It’s a forecast which if correct will play havoc with the forecast revenues in the Federal Budget and see the terms of trade drop and stay lower than most are expecting.

That means Australia’s national income will be lower in the years ahead which likely increases the chances of further RBA rate cuts.

Here’s Citibank’s excellent summary of the past 10 years and why it expects prices to stay low in the decade ahead.

The past decade saw rapid demand growth for seaborne iron ore, driven by Chinese steel production. This led to the entry of new miners, rising production costs, a fragmentation of the market’s traditional oligopolistic structure, and prices being set by marginal producers in China and non-traditional exporters.

We expect the following decade to see a complete reversal, with declining demand for seaborne iron ore, marginal producers forced out of the market, and major miners dominating supply growth. While this should see the market shift back towards oligopoly, pricing power is unlikely to return to the same degree.

With a long tail of existing mines and potential projects, we expect iron ore prices in the 2020s to be set by costs of the second tier of producers, such as Fortescue, whose costs lie just above the two lowest cost producers (Rio Tinto and BHP).

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