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MARCH 1964 IN THIS ISSUE THE ALUMINUM INDUSTRY: ITS PROBLEMS AND PROGRESS FEDERAL RESERVE BANK OF CLEVELAND Additional copies of the ECON OM IC REVIEW may be obtained from the Research Department, Federal Reserve Bank of Cleveland, Cleveland, Ohio 44101. Permission is granted to reproduce any material in this publication. MARCH 196 4 THE ALUMINUM INDUSTRY: ITS PROBLEMS AND PROGRESS HE TOTAL production of primary alumi num in the United States ranks second only to steel in the production of all primary metals. From 1950 through 1963, domestic production of primary aluminum increased by more than three times as much as total industrial production, while the combined output of other primary metals (steel, copper, lead, magnesium and zinc) was virtually unchanged.1 The expansion of the aluminum industry T 1 Primary aluminum refers to aluminum produced from bauxite ore. Secondary aluminum is recovered from scrap and is not freely substitutable for the primary product because of impurities. Primary producers account for more than 80 percent of total production in the United States as well as for the bulk of the capital invested in the aluminum industry. has not taken place without problems. Re cently, for example, the industry has had to cope with excess capacity, unstable prices, and relatively low profits. These problems are being overcome in part by the improve ment of existing markets and the development of new ones. In fact, steadily increasing con sumption of aluminum may bring about re newed expansion of productive capacity. This article surveys the aluminum industry. It discusses various technical aspects of aluminum, geographical factors, and the structure of the industry. The article also considers the relationship of capacity to production, the behavior of aluminum prices and profits, expanding markets, world trade in aluminum, and international expansion of the industry. 3 ECONOMIC REVIEW From 1 9 5 0 to 1 9 6 3 the production of prim ary aluminum increased more than th ree tim es as much as total industrial production w h e re a s the output of other prim ary m etals showed little change. 1. IN D E X 1950=100 Because of a shortage of high grade sources in the U. S., four-fifths of the aluminum in dustry's supply of bauxite has to be imported from Jamaica, Surinam, Dominican Republic, Haiti, and British Guiana. The other one-fifth is mined domestically, primarily in Arkansas. Inasmuch as bauxite is found near the surface of the earth, it is mined with large power shovels. After being crushed and dried, it is shipped to refining plants located in the Gulf Coast region of the United States (Texas, Arkansas, Louisiana, Mississippi, and Ala bama) . In the refining process, bauxite is mixed with a solution of caustic soda. When the mixture is heated under pressure, the hydra ted alumina contained in the bauxite dissolves. After being precipitated from the solution and washed, the hydrated alumina is dried in large kilns. The resultant white powder (pure alumina) is shipped to reduction plants. Sources o f d a ta : U. S. Departm ent o f the Interior; Aluminum Association; B oard o f G overnors o f the F ed e ra l Reserve System THE PRODUCTION PROCESS Primary aluminum is obtained commerci ally from bauxite ore, which is essentially aluminum in chemical combination with oxygen and water plus other materials re garded as impurities.2 Bauxite is found in large quantities in many parts of the world. 2 High grade bauxite contains from 50 to 6 0 percent alumina (aluminum oxide), 15 to 32 percent water, 2 to 7 percent silica (silicon dioxide), 2 to 2 0 percent iron oxide, and 2 to 4 percent titanium oxide. Traces of a number of other minerals are usually present. 4 In the reduction process pure alumina is smelted in large electrolytic furnaces called cells or pots and separated into its component parts—aluminum and oxygen. In each cell, a direct electrical current is passed through a solution of alumina and cryolite. The elec trical current passes out of the furnace through the carbon lining of the pot. The current causes metallic aluminum to be deposited on the lining where it settles to the bottom of the cell. At intervals the aluminum is siphoned from the pots and the molten metal then is cast into ingots of various forms and sizes. From ingot form, the metal is rolled, extruded, forged, or cast into semi fabricated shapes required by manufac MARCH 1 9 6 4 turers that fashion them into a myriad of finished products.3 GEOGRAPHICAL LOCATION AND ELECTRIC POWER Because the production of primary alu minum requires large quantities of electrical power, the industry has located reduction plants where inexpensive electric power is available. As shown in the Map low-cost hydroelectric power attracted the industry to the St. Lawrence river valley early in the century. A shortage of electric power in northern New York, however, soon caused an increase in its cost, and the industry began to move to areas with lower costs. During World War I the industry expanded in the Tennessee and Yadkin River Valleys, where it was able to obtain electric power from falling water. The industry developed its own facilities many years prior to the pur chase of electric power from the Tennessee Valley Authority. During World War II, vast quantities of aluminum were needed for the aircraft in dustry located in the Pacific Coast region. To encourage aluminum production in that region, the Federal government subsidized the development of hydroelectric power sites in Washington and Oregon. The combination of government subsidies and the wartime demand for large quantities of aluminum was a major influence in the aluminum indus try's decision to locate in the Pacific North west. 3 Semifabricated shapes include sheet and plate, rod and bar, extruded and drawn products, tubing, castings and forgings, wire and cable, foil, and powder and paste. The Korean War brought about another surge in demand for aluminum. Because of a shortage of hydroelectric sites in the nation, the industry expanded to the Gulf Coast and Arkansas where electrical energy could be derived from natural gas. By 1955, however, it became apparent that low-cost gas could not be relied on in the long-range expansion plans of the aluminum industry. The wide spread use of gas as a source of domestic heating led to the rapid construction of gas transmission lines; it also committed large gas reserves to be used for the eastern and midwestern states. The increasing cost and potential shortage of natural gas caused by this market expansion forced the aluminum industry to search elsewhere for an alterna tive source of cheap and abundant electrical power. Because coal is another source of fuel that may be used for producing electric power, and a fuel of which this nation has a relative abundance, the industry considered the possibility of producing primary aluminum in the Ohio River Valley, where vast deposits of bituminous coal are located nearby.4 (A portion of the Ohio River Valley lies within the Fourth Federal Reserve District.) The combination of substantial coal re serves, the mechanization of coal mining, and innovations in steam generating plants re duced the cost of producing electric power in the Ohio River Valley. Although electrical power rates in this area are greater than rates in the Pacific Northwest and in most other areas of primary aluminum production, the 4 The Ohio River Valley consists of a portion of six states (Ohio, Indiana, Illinois, Kentucky, West Virginia, and Pennsylvania) that border on the Ohio River. 5 ECONOMIC REVIEW GEOGRAPHICAL AREAS OF ALUMINUM PRODUCTION <$> ST. L A W R E N C E R I V E R V A L L E Y <2> T E N N E S S E E & Y A D K I N R I V E R V A L L E Y S <§> P A C I F I C N O R T H W E S T <$> G U L F C O A S T & A R K A N S A S <S> O H I O R I V E R V A L L E Y Source o f d a ta : U. S. Departm ent o f the Interior The aluminum industry has located reduction plants in regions w h ere inexpensive electrical pow er is availab le. Initially, the industry built facilities in the St. Law rence River V alley. Later, it developed in the Tennessee and Yadkin River V alleys. During World W ar II, the industry expan d ed in the Pacific N orthw est. Plants w e re constructed on the Gulf Coast and in A rkansas during the Korean W ar. Since 1 9 5 7 , the Ohio River V alley has exp erien ced a rapid growth in the production of prim ary aluminum. 6 MARCH 1 96 4 Ohio River Valley is located closer to alu minum consuming firms (aluminum fabrica tors). In fact, approximately 70 percent of the total aluminum market is within 500 miles of the Ohio River Valley. In addition, the basic raw material (alumina) is transported inex pensively from the Gulf Coast to the Ohio River Valley by rail or via the Mississippi and Ohio Rivers. The net overall saving in the transportation cost of alumina and primary aluminum apparently more than offsets the difference in the cost of electrical power. Since 1957, the Ohio River Valley has become the third largest area of primary aluminum production in the United States. This area accounts for approximately 20 per cent of the nation's primary aluminum output as compared with 27 percent for the Pacific Northwest and 3 0 percent for the Gulf Coast and Arkansas. INDUSTRY STRUCTURE For more than 50 years after the start of aluminum production, only one firm pro duced primary aluminum in the United States. In 1941, however, a second firm, with an established reputation in the output of aluminum foil, began to produce primary aluminum in anticipation of heavy defense needs. During World War II, the Federal government also constructed additional facili ties to meet the increasing demand for alu minum. At the end of the war, the Federal government sought to encourage additional competition in the industry by selling some of its plants to firms who wished to enter the industry. As a result, a third company en tered the industry in 1946. Three more firms in the 1950's started to produce primary aluminum to supply their own fabricating operations and to obtain a share of total capacity. In 1963 a foreign-owned corpora tion began to produce primary aluminum in the United States. The industry now has seven producers engaged in both the production of primary aluminum and in a number of semi fabricated shapes. Nevertheless, the three largest producers account for 80 percent of primary aluminum production and 65 per cent of the production of semifabricated shapes. A high degree of vertical and horizontal integration characterizes the operation of the three largest producers. That is to say, each firm has established facilities at all stages of aluminum production, from the mining of bauxite to the final sale of aluminum products (vertical integration). Each firm also has extensive control over an increasing number of operations at any one stage of its produc tion and sales (horizontal integration). In addition to the major producers, there are several thousand foundries that produce aluminum castings and more than 200 fabri cators making semifabricated shapes ex clusively. CAPACITY AND PRODUCTION From 1950 through 1963 primary alu minum capacity in the United States more than tripled, with the increase occurring at an uneven pace. In 1963 capacity was estimated at approximately 2.5 million tons of primary aluminum (see Chart 3). The in crease in capacity represents a considerable capital outlay because the investment per 7 ECONOMIC REVIEW stepped-up purchases for the Federal government stockpile of aluminum. Another incentive was the privilege of selling large quantities of aluminum to the government at a fixed price, if future markets were unable to absorb all of the metal produced.5 Production kept pace with the expansion in capacity from 1950 through 1956. In 1957, how ever, a decline in production Source o f d a ta : U. S. Departm ent o f the Interior ton of basic aluminum capacity is much larger than for any other metal. Integrated facilities for producing primary aluminum from bauxite are estimated to cost from $ 1 ,000 to $1,400 per ton of capacity, depending upon the size of the plant; this compares, for example, with $ 1 0 0 to $ 1 50 per ton for producing steel. The early phase of the expansion in capa city was partly in response to encouragement by the Federal government. To induce rapid investment, the government offered to the aluminum industry both accelerated depreci ation allowances for new facilities and 8 marked the beginning of a fiveyear period when the outputcapacity relationship was below the desired ratio (see Chart 3). Because of excess capacity, the construction of new plant facili ties was curtailed as quickly as possible, so that capacity showed only a slight increase in 1959-63. Resumption of capacity expan sion is scheduled by some of the large producers in the face of rising output, which is approaching full capacity utilization. The causes of excess capacity are easily identified. During the early 1950's a large portion of primary aluminum production, instead of being consumed in military or civilian products, was allocated to the Federal government's strategic stockpile. Hence, from 1950 through 1956, the shortage of aluminum was probably caused by the strong demand for stockpile purposes. Because of govern 5 This provision is known as "put rights” , under which the industry sold approximately 9 0 0 thousand tons of aluminum ingot to the government from 1956 to 1963. MARCH 196 4 mental incentives and because of inaccurate forecasting of demand, the industry expanded facilities in excess of demand. In addition, several major commercial markets for alu minum, notably residential construction, home appliances, and automobiles, also experi enced slack demand in 1957-58 and in 1960-61. The combination of these circum stances burdened primary aluminum pro ducers with excess capacity, particularly in 1958 and 1961. A sharp rise in exports in 1960, however, allowed primary aluminum production to rise slightly from the 1959 level. THE BEHAVIOR OF PRICES AND PROFITS The rate of capacity at which the industry operates has a strong influence on the price of primary aluminum. Historically, the price has increased less rapidly than wholesale prices.6 From 1950 to 1957, however, the price of primary aluminum increased faster than wholesale prices as illustrated in Chart 4. The rapid increase in the price of primary aluminum reflected shortages when the in dustry was operating near full capacity. During the period of excess capacity that started in 1957 primary producers competed vigorously for orders to activate their idle capacity, and the price of primary aluminum as well as prices of semifabricated shapes declined sharply, while wholesale prices remained steady. Since October 1963 the industry has once again been operating near full capacity, and at the close of March 1964 the price of primary aluminum had increased from 22 3^ cents per pound to 23}-^ cents.7 The prices of a wide range of semifabricated shapes also have increased during this period.8 Partially because of declining prices, profits after taxes for the three largest producers fell The price of prim ary aluminum increased fa ster than w holesale prices from 1 9 5 0 to 1 9 5 7 . Commencing in 1 9 5 7 , ho w ever, the price of prim ary metal declined rapidly w hile w holesale prices rem ained stead y. 4. IN D E X 1950=100 6 Aluminum prices have been more stable and have risen less than the prices of other metals. 7 Although the price of primary aluminum increased in October 1963, the average price of primary aluminum for 1963 was lower than that for 1962. The decline was caused by the sharp decrease in the price of primary aluminum from 24 cents per pound to 2 2 x/2 cents in December 1962. 8 The prices of some semifabricated shapes have been adjusted upward to eliminate the practice of so-called "commodity pricing”, i.e., selling a standard product for a specific application at a price lower than the pub lished price. *U n allo yed ingot Sources o f d a ta : Bureau of La b o r Statistics; Aluminum Association 9 ECONOMIC REVIEW 5. ALUMINUM IN CONSTRUCTION sharply from 1957 to 1960. Although the average price of primary aluminum con tinued to decline from 1961 to 1963, profits after taxes for the three largest producers did improve slightly. MARKETS FOR ALUMINUM ALUMINUM IN TRANSP OR T ATIO N The aluminum industry recognized that the solution to its problems depended in part on its success in increasing the demand for alu minum through expanding existing markets and creating new uses for the metal. In devel oping new uses for aluminum, the industry has utilized the advantages of aluminum, i.e., lightness, resistance to corrosion, machinability, appearance, electrical conductivity and ease of fabrication. Existing markets for aluminum are com prised of five major industries, namely, con struction, transportation, consumer durables, electrical equipment, and packaging, as well as other uses of aluminum. In 1963 these users consumed approximately 6 ,250 million pounds of aluminum. ALUMINUM IN CONSUMER DURABLES The construction industry is one of the largest users of aluminum. It consumed about 1,440 million pounds or almost one-fourth of total aluminum shipments in 1963. As shown in Chart 5, the size of this market has in creased more than 50 percent during the past five years. The increasing use of alu minum in construction reflects the wide acceptance of curtain wall construction for office buildings and the expanded use of aluminum in residential housing.9 Bridges, Sources o f d a ta : Estimates b y the Aluminum Association and b y the aluminum industry 10 9 The average new house consumed 2 3 0 pounds of aluminum in 1962 compared with 8 0 pounds in 1955. MARCH 1964 highway accessories, and the general con struction field are other important outlets. The transportation industry is another im portant market for aluminum. Although its ALUMINUM IN ELECTRI CAL INDUSTRY use of the metal declined in 1955-58 because of the reduction in military aircraft produc tion (see Chart 5), the transportation industry has been the largest expanding market for aluminum since 1958. In 1963 it consumed about the same quantity of aluminum as the construction industry. The use of aluminum for transportation applications has more than doubled since 1958, partly because of record consumption by the automotive industry.10 Other important uses for aluminum in trans ALUMINUM IN PA CK AGIN G portation are: commercial aircraft, railroad cars, cargo containers, ships, and mobile homes. The amount of aluminum used in consumer durables showed little change from 1955 through 1963 (see Chart 5). This market consumed approximately 650 million pounds of aluminum or more than 10 percent of total shipments in 1963. The electrical equipment industry's con ALL OTHER USES OF ALUMINUM sumption of aluminum increased more than 40 percent in 1960-63 (see Chart 6). In 1963 the demand for aluminum by this industry was equivalent to the amount used by manu facturers of consumer durables. Increased aluminum consumption by the electrical equipment industry is a result of many new applications ranging from light bulb bases 10 The average amount of aluminum used in passenger vehicles increased from 52 pounds per car in 1958 to 7 0 pounds in 1963. Sources o f d a ta : Estimates b y the Aluminum Association and b y the aluminum industry 11 ECONOMIC REVIEW to cross-country transmission cables. Pro ducers of electronic equipment (automatic controls, computers, and communications systems) have relied heavily on aluminum's properties: electrical conductivity, corrosion resistance, ease of fabrication, and nonmag netic quality. Large quantities of aluminum are used in the production of wire and cable, conduit, lighting fixtures, motors and genera tors, and transformers. The use of aluminum by the packaging industry more than doubled from 1958 through 1963 (see Chart 6). The sharp rise in 1959 was caused by the increased use of aluminum for flexible foil packaging and semi rigid foil containers. In the past three years, the gain has been stimulated by the increasing consumption of aluminum for cans, foil con tainers, and household foil. In 1963 pack aging consumed about 480 million pounds of aluminum or approximately 7 percent of total aluminum shipments. The total of all other uses of aluminum has doubled during the past five years, as illustrated by Chart 6. The gain has resulted from a wide variety of uses: e.g., industrial equipment, irrigation pipe, rocket fuel, and deoxidants, as well as for export purposes. EXPORTS AND IMPORTS Exports of primary aluminum increased from 56 .0 million pounds in 1957 to 5 70.0 million pounds in 1960, an all-time high (see Chart 7). This overall advance was in large part an outgrowth of the acquisition of foreign facilities by U. S. manufacturing firms that consumed large quantities of aluminum from the United States. In 1960 a sharp rise in exports represented a buildup in inventories 12 at the newly acquired foreign facilities. After declining sharply to 2 5 7 .7 million pounds in 1961, exports of aluminum have increased steadily. Exports of primary aluminum amounted to approximately 3 30.7 million pounds in 1963. The United Kingdom, West Germany, Italy, Argentina and France were the principal destinations of these exports. Despite the overall improvement in primary aluminum exports, imports of aluminum have exceeded exports by a substantial amount for a number of years, with the exception of 1960. In 1963 imports of primary aluminum amounted to about 8 31.2 million pounds. More than 65 percent of these imports came from Canada, with Norway and France supplying about 21 percent and 8 percent, respectively. Imports of primary aluminum remain at a high level because the price from Canada and several other foreign countries is less than, or competitive with, the price of similar domestic products, even after payment of a 5 percent tariff on imports of primary aluminum into this country. In addition, because the large aluminum fabricators also produce primary aluminum there is a tendency on the part of other fabricators in the United States to purchase their aluminum abroad rather than from their competitors. In attempting to sell aluminum in other markets, U. S. exporters of aluminum are confronted by obstacles and hindrances similar to those that face exporters of other nations, e.g., the ad valorem tariff on alu minum imposed by other major countries is more than in the United States. (It should be remembered that the ad valorem tariff is determined as a percent of price, and country- MARCH 196 4 Exports of prim ary aluminum expan d ed rapidly from 1 9 5 7 to 1 9 6 0 . After a sharp decline in 1 9 6 1 , these exports increased stead ily. Imports of prim ary aluminum, how e v er, have exceed ed exports by a substantial amount for a number of y e a rs. Exports and imports of sem ifabricated shapes remain at a low level. 7. Sources o f d a ta : Aluminum Association; U. S. Departm ent of Commerce to-country comparisons are especially diffi cult to make because of price variations.) To expand foreign trade, the U. S. aluminum industry is arguing for "equal opportunity" in free world aluminum markets. That is to say, U. S. firms advocate the reduction of foreign tariffs on primary metal and semi fabricated shapes to the levels of those of the United States. If this goal cannot be achieved, U. S. producers advocate raising the U. S. tariff to the same level as those maintained by other countries. Aluminum scrap is not subjected to a similar tariff situation and has become an important product in international trade. Foreign producers demand large quantities of aluminum scrap because many semi fabricated shapes may be produced at a lower cost by the remelting of imported scrap rather than by the importing of primary metal. The countries in which these foreign producers are located include West Germany, Italy, and Japan, all of which have a deficiency of primary aluminum capacity. Consequently, aluminum scrap has been exported from the United States in increasing amounts, expand ing from 36.3 million pounds in 1957 to 142.1 million pounds in 1963. 13 ECONOMIC REVIEW WORLD-WIDE EXPANSION The U. S. aluminum industry already had extensive overseas interests prior to 1957 inasmuch as large quantities of bauxite were mined in foreign countries. In the late 1950's, additional aluminum firms were acquired in England. Following the acquisition of these facilities, the industry acquired many plants in Western Europe. In the past few years, U. S. aluminum producers also have estab lished additional facilities in South America, Africa, Asia, and Australia. The purpose of developing an overseas network of plants is to serve the expanding world aluminum market. At the present time, aluminum consumption in the United States is about 28.5 pounds per capita; this compares with 10.8 pounds per capita in the European Common Market countries, 10.0 pounds in Australia, 4 .4 pounds in lapan, less than 1.0 pounds in Africa, India, and South America. Such a comparison suggests that aluminum consumption may increase in many nations. CONCLUSION The recent problems experienced by the aluminum industry are being overcome for the most part by aggressive marketing poli cies. Such policies are indispensable to the expansion of the aluminum industry in the face of competition both here and abroad. Following several years of virtually no change in capacity, the steadily increasing consumption of aluminum suggests that the industry again may be on the verge of a new period of expansion. If such an expansion occurs, the Ohio River Valley may be a beneficiary because of its locational and resource advantages. THE FEDERAL RESERVE SYST EM : PURPOSES AND FUNCTIONS The fifth edition of THE FEDERAL RESERVE SYSTEM : PU RPO SES AND FUN CTIO N S commemorates the fiftieth anniversary of the signing of the Federal Reserve Act by President W oodrow Wilson on December 2 3 , 1 9 1 3 . The new edition has been expanded to include chapters on the o rg an iza tion of the Federal Reserve System for policy making, on the open market policy process, and on the balance of payments. These and other changes that have been made throughout the text are designed to c la rify the System’s role and functioning in light of changes that have occurred in the national and world economies and in light of further advances in monetary knowledge. Published by the Board of Governors of the Federal Reserve System, Washington, D .C., December 19 6 3 . Copies may be obtained by writing to: Research Department Federal Reserve Bank of Cleveland C leveland, Ohio 44101 14 MARCH 196 4 RECENTLY PUBLISHED FEDERAL RESERVE BAN K OF A TLA N TA , G EO R G IA THE INTERNATIONAL M ONETARY SYSTEM: AS IT IS THE INTERNATIONAL M ONETARY SYSTEM: AS IT MIGHT BE Monthly Review, Jan u ary and February 1964 FEDERAL RESERVE BAN K OF BOSTON, M ASSACHUSETTS WHY FINANCE COMPETITORS? FEDERAL RESERVE BAN K OF M INNEAPOLIS, M INNESOTA THE AN ATO M Y OF INNKEEPING FEDERAL RESERVE BAN K OF NEW Y O R K , NEW YO R K FEDERAL RESERVE BAN K OF SAN FR A N CISCO , C A LIFO R N IA New England Business Review, February 1964 Monthly Review, February 1964 TREASURY AND FEDERAL RESERVE FOREIGN EXCHANGE OPERATIONS, AND THE GOLD POOL Monthly Review, March 1964 THE TAXES THAT WON’T BE CUT Monthly Review, Janu ary 1964 15 Fourth Federal Reserve District
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