Unknown unknowns part of risk calculus

With the price of iron ore starting this year even stronger than it finished 2023, it is hard to argue against it being the greatest influencer on the year ahead.

The red dirt has underpinned Western Australia’s economy for the past two decades, generating jobs and dividends that have made almost everyone in the state wealthier than most of the rest of the world, not just per capita but in real terms.

It’s easy to remain positive about iron ore, despite all the headwinds in the global economy, including in China, the world’s biggest steel maker.

Even in the depths of the GFC in the late noughties, and then about a decade ago during the mining downturn, Chinese demand for iron ore has kept the price strong enough for big miners to be profitable and, to a degree, maintain investment in the sector.

Is that changing?

We all know China is suffering from extreme growing pains, albeit masked by an opaque system when it comes to market information.

China is a planned economy overseen by a totalitarian state. Theoretically, it has more control over its destiny than liberal democracies because it can more greatly influence where money is spent, and how much its citizens know about the turmoil.

It is difficult to imagine that dramatic cuts in steel production are part of such a mechanism.

And its efforts to develop alternative sources of iron ore outside WA are a long way from threatening the convenience of production here.

China would have reduced its reliance on WA iron ore already if other options had been available to it.

Its attack on niche exporters such as those in barley, wine and lobster may have hurt some producers, but overall had little impact on the nation’s economy save warning us to diversify our customer base.

But could China do enough to squeeze the iron ore price and reduce producer profitability? I’m sure it would like to.

Outside of iron ore, WA’s other key commodities appear more volatile.

Gold remains high and, with ongoing (and perhaps spreading) wars in Ukraine and the Middle East, it is difficult to imagine demand will ease.

Lithium, nickel and other minerals linked to the energy transformation have proved less robust but, again, it is hard to imagine we won’t see improvements given the focus on trying to reduce dependence on fossil fuels.

And anyway, in that regard, we have a hedge. Plentiful oil and gas resources mean we can win whichever way the wind blows.

Nevertheless, in the background, we must not be complacent.

History tells us that wealth must be protected from the envy of others.

As the world seems intent on shifting from a single global economy back to a system dominated by two blocs more suggestive of the Cold War, we need to be very careful that our strong terms of trade can be maintained.

Our decades-long wealth drive could be curtailed by the development of a secondary economic unit in which China is dominant and Russia and Iran become its most important minerals and energy suppliers.

The wars instigated in Europe and the Middle East by two of those key players or their proxies are unsettling the global order.

Trade relations can overcome many diplomatic difficulties, but war is more challenging in that regard.

It tends to be black and white for most, especially when one side is clearly in the wrong, as Russia and fellow traveller Iran clearly are.

So far, our largely firm position against Russia’s invasion of Ukraine and a somewhat more subdued backing of Israel has not cost us.

We have also withstood a barrage of state-sponsored cyberespionage, sabotage and theft without responding to the countries that allow it (including China) with the intensity that would surely be the case if roles were reversed.

But for how long can this continue?

Australia relies on being part of the Western alliance and will need to pick sides more clearly if hostilities expand. Let’s hope it doesn’t come to that.

It might not be niche industries that face disruption as a result.

For those of us living in the richest state, with wealth dependent on international trade, the next year contains risks that are easy to imagine but hard to predict.