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o S a m ir if March 22,1974 A m m n Hfe fS®Ceiflim lm a m m ta g The metals, being cyclically sensi tive, have benefitted substantially from the strong expansion of the 1971-73 period, and nowhere has the improvement been more dra matic than in aluminum. Yet alumi num, along with other basic mate rials industries, will be facing a severe "capacity crunch" during the next several years. The origins of this tight supply situation can be traced not only to the industry's de clining profitability during the sluggish period at the beginning of the 1970's, but also to its inability during the recent boom to attain a return on investment large enough to justify the new facilities required to meet the projected demands of the mid-decade. During the 1969-71 period, the in dustry had to contend with a slow down in consumption, plus a coincident buildup in new capacity which threatened to glut the mar ket for years to come. But these conditions were completely re versed within a relatively short timespan. Today, despite the weakening of the boom, aluminum producers are still straining capacity to meet demand, and are also supplement ing their supplies with heavy pur chases from the government stock pile of metals. Producers complain, however, that price controls have held aluminum prices at artificially low levels, there by preventing the industry from benefitting fully from the economic recovery. In fact, list prices have reached pre-recession levels only quite recently. As a result, com bined profits of the industry's Big Three still lag behind the 1969 peak, although they more than dou bled over the 1971 -73 period. The industry's return on sales amounted to only 4 percent last year— less than the all-manufacturing average and only about half the average earned in aluminum during the late 1960's. Boom to bust to boom The 1965-69 period was one of ex ceptional growth. Production facil ities expanded rapidly, but ship ments rose even faster (8 percent annually), so that full-capacity op erations became the norm through out the industry. Prices and profits rose accordingly, and producers began to make very optimistic ex pansion plans for the 1970's. The domestic industry planned a 7-per cent annual expansion of producing facilities for the 1969-73 period, and producers overseas made plans to boost capacity at well over dou ble the U.S. rate. The recession created severe diffi culties during the next several years as shipments fell in the face of rapidly expanding capacity. By 1971, when the slowdown in economic activity had spread overseas, the domestic industry found itself sad dled with 500,000 tons of excess inventory. A shift in aluminum's trade balance, from net exports of 148,000 tons in 1970 to net imports of 388,000 tons in 1971, contributed to the buildup, as imports soared in the face of a drying-up of over(continued on page 2) Opinions expressed in this newsletter do not necessarily reflect the views of the management of the Federal Reserve Bank of San Francisco, nor of the Board of Governors of the Federal Reserve System. seas demand for U.S. metal. In this situation price discounting became widespread, and the listed price for primary ingot— 29 cents a pound in 1970, later reduced to 25 cents — was all but ignored. Domestic and foreign demand re covered sharply in 1972, and the supply situation became very tight in 1973. Total shipments rose 41 percent over the 1971-73 period, but much of that gain was possible only because of the availability of government stockpile supplies. Last year> domestic producers purchased more than 730,000 tons of stockpile metal, equivalent to 10 percent of total shipments. Production in 1973 was hindered by a weather-related shortage of hydro-power in the Pacific Northwest, which took about 7 percent of the industry's total capacity out of operation by mid summer. Pricing problems With supplies tightening, the selling price for ingot last spring finally reached the published price of 25 cents per pound, ending more than three years of heavy discounting. But even at that level, the price was no higher than in 1960, and was well below the 29-cent peak quota tion of 1970. Continued price recov ery was thwarted by the price freeze and then by the establishment of a 25-cent ceiling price under Phase IV. Under that program, further in creases were to be limited only to those necessary to cover cost in creases incurred during 1973. Producers protested these regula tions, arguing that controls pre vented them from recovering the substantial increase in costs incurred since 1970, and from earning a re turn on invested capital high enough to finance necessary capital expansion. Ironically, their custom ers— the fabricators— supported their arguments*,smcethedomestie* shortage of the metal had been ag gravated by the diversion of sup plies to higher-priced overseas mar kets. During the last half of 1973, as the foreign price climbed to 42 cents per pound, the U.S. became a net exporter of aluminum for the first time since 1970. In December, the Cost of Living Council permitted a 16-percent in crease— from 25 to 29 cents per pound— in the base price of primary ingot. The Council acknowledged that the action was necessary to en courage the expansion of domestic capacity and to reduce the differen tial between foreign and domestic prices. This January, however, the Council rejected a request for a further price increase, ruling that cost-justified increases could not be added on top of the 29-cent base. Modest expansion? The industry's relatively moderate price (and profit) performance, plus Digfcized for FRASER costly environmental programs, may help explain the modest scope of its expansion plans— and may help explain why it is not likely to be faced this time with an excesscapacity problem, as it was after the last boom. For the 1973-77 period, domestic producers plan a 2-per cent annual expansion in primary aluminum capacity, from 4.8 m il lion to 5.3 m illion tons— only about half the expected expansion in de mand. Most of the new capacity w ill come from the enlargement of present facilities. O nly one new plant rsrschedufesd for'construction i — a 187,000 ton/year facility in O re gon under American and Japanese auspices— and that plant may not be built because of opposition from environmentalists and local officials concerned with power shortages. Total capacity in the non-Com munist world is scheduled to rise 6 percent annually during the 1973 77 period, from 12.3 m illion to 15.3 m illion tons. Roughly one-half of that projected increase would come from the expansion of U.S. and (especially) Japanese facilities. But uncertainties surround the Jap anese as w ell as the American out look, in view of the rising power costs and environmental problems confronting Japanese producers. Because of the recent upsurge in petroleum prices, Japanese power costs per pound are now nearly equal to total production costs per pound for most North American producers. These cost (and other) problems are now forcing Japanese producers to search overseas for low-cost production sites. U.S. producers expect domestic de mand to increase only about 4 per cent annually over the 1973-77 period— far below the 9-percent annual growth rate of the 1969-73 period— but imports would have to triple just to keep up with that mod erate growth of consumption. In 1974, supplies could remain tight despite a projected 10-percent drop in demand brought about by declin ing activity in the two major con suming industries, autos and hous ing. Even at that reduced level of demand, full-capacity operations are likely, since producers may off set their reduced shipments with re duced purchases from the govern ment stockpile, relying instead on their own production facilities for ingot. The supply situation could become even tighter with the expected im provement in the business outlook in 1975, and the situation could be come critical in 1976 when metal w ill no longer be available from the government stockpile. Conse quently, the industry w ill be press ing hard on the price front, as a means of ensuring the higher level of profits which it considers neces sary to finance further capacity growth. Yvonne Levy uoj§umsB/v\ • ije in • uoSaJO • epBAaN . oijepi lie M E H • E !U J O p |B 3 . EU O ZU V • E>|SB|V ^ua© m p® d© Q [ u p jr o § © ^ [ BANKING DATA— TWELFTH FEDERAL RESERVE DISTRICT (D o llar amounts in m illions) Selected Assets and Liabilities Large Commercial Banks Loan gross adjusted and investments* Loans gross adjusted— Securities loans C o m m eraal and industrial Real estate Consum er instalm ent U.S. Treasury securities O ther Securities Deposits (less cash items)— total* Demand deposits adjusted U.S. G overnm ent deposits Tim e deposits— total* Savings O ther tim e I.P .C . State and political subdivisions (Large negotiable CD's) Weekly Averages of Daily Figures Member Bank Reserve Position Excess Reserves Borrowings Net free ( + ) / Net borrowed ( —) Federal Funds— Seven Large Banks Interbank Federal funds transactions Net purchases ( + ) / Net sales ( —) Transactions: U.S. securities dealers Net loans (+ ) / Net borrowings ( —) Am ount Outstanding 3 /6 /74 Change from 2/2 7 /7 4 Change from year ago D o llar Percent + + + + + + + + + + 7,764 + 6,737 - 441 + 1,639 + 3,055 + 1,086 - 237 + 1,264 + 5,659 + 1,360 - 898 + 5,241 + 416 + 5,345 + 196 + 3,489 400 123 68 74 4 17 104 173 172 570 — 207 - 234 + 63 + 7 — 239 — 39 78,992 60,137 1,206 20,841 18,518 9,150 5,996 12,859 74,128 21,638 424 50,876 17,783 23,970 6,586 11,122 W eek ended 3 /6 /7 4 W eek ended 2 /2 7 /7 4 51 84 33 24 292 268 - - + 10.90 + 12.62 — 26.78 + 8.54 + 19.76 + 13.47 3.80 + 10.90 + 8.27 + 6.71 — 67.93 + 11.48 + 2.29 + 28.70 + 3.07 + 45.71 Com parable year-ago period - 2 59 57 + 1,583 + 1,341 + 728 + + + 148 78 388 in c lu d e s items not shown separately. Information on this and other publications can be obtained by calling or writing the Administrative Services Department, Federal Reserve Bank of San Francisco, P.O. Box 7702, Digitized for FRASEffrancisco, California 94120. Phone (415) 397-1137. http://fraser.stlouisfed.org/ Federal Reserve Bank of St. Louis
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