VINACHEM

The structure of global REE supply and supply chains is illustrative of pervasive, high-level conflicts of varying intensities as shifts in economic and geopolitical influence unfold. These conflicts entail global imbalances in raw materials flows and import dependencies of both commodities and manufactured components that are gaining increasing attention given their strategic importance for defense systems and non-defense imperatives. Supply and value chains, producers and customers across defense and non-defense applications all could benefit from expanded civilian REE uses — so long as key players can align the enormous suite of intensely competing interests well enough to foster cooperation.

One of the main sources of tension is the pronounced push for alternative energy technologies, which is generating intense additive strain on already vulnerable supply chains. We make an observation in our conclusions that the ultimate “de-riskers” are voters and taxpayers, and that political messaging must be clear. Citizens are being called upon to backstop aggressive mandates and subsidies for alternative energy technologies, like wind and solar, as well as a historic, wholesale conversion of transportation to battery electric mobility. Classic “guns vs. butter” debates are encumbered by historically high debt loads across countries, worries about economic performance and growth, clashing ideas about the roles of markets and government, and discord between economic and environmental priorities. Much of what we lay out in this paper cuts across many other issues regarding minerals and elements of interest. Readers can draw caution flags and lessons for a wide array of materials-dependent energy and defense headlines.

Although the global REE market is small (rare earth oxides, REOs, comprise about 0.01% of total mined tonnage for nonfuel minerals), their importance to a wide variety of strategic technologies cannot be understated. Contrary to their name, the 17 elements that comprise the REE group are actually common in occurrence, though difficult to extract given their typically low concentration in many ores and rapid oxidation. REE are critical in a wide variety of high-tech end-use applications. These include common household items such as digital cameras, computers and integrated smartphones. REE sensitivity especially affects defense. The Congressional Research Service reported that every F-35 Lightning fighter jet requires approximately 920 pounds of REE, while each DDG-51 Aegis destroyer warship would require around 5,200 pounds of REE. Different REE are combined into various components for end uses ranging from permanent magnets for electric motors and guidance and control systems, to displays, catalysts for petroleum refining, and other industrial processes and electronics. While defense applications clearly benefit from broad commercial uses that enhance economies of scale for REE production and REE-dependent components, rapid growth in non-defense uses such as electric vehicles and wind power — without commensurate expansion of REE supply and manufactured components — can induce supply chain stress.

The COVID-19 pandemic during 2020 and Russia’s invasion of Ukraine in February 2022 highlighted fragilities in global commodity supply chains and trade flows. These events also peeled away layers overlying growing tensions among competing world powers and shifting balances of power and influence. They serve as sobering reminders that relying on dominant suppliers and revisionist actors for vital commodities can create significant pitfalls. In particular, rising trade and geopolitical security tensions with China could threaten REE supply, potentially influencing up to $1 trillion of goods.

The world experienced a wakeup call on the consequences of China withholding REE supply in 2010, an event we address later. Chinese officials would be unlikely to restrict rare earth supplies for purely political reasons during times of relative peace. A 2014 World Trade Organization (WTO) ruling limits their ability to reduce exports while maintaining domestic production. Additionally, supply disruptions would weaken their dominant position as the West develops alternatives. However, in the event of military confrontation between the U.S. and China, increasingly likely given hot spots like Taiwan, the Chinese could be inclined to limit rare earth exports given their end uses in defense technologies and other strategic goods. With the newly consolidated rare earth industry and the sovereign-owned China Rare Earth Group at the helm, Chinese officials are now better equipped to institute and enforce production and export restrictions, manipulating prices in a manner beneficial to their priorities.

China’s 2021 REE industry reorganization is the most recent chapter in the industry’s rather turbulent regulatory history — and likely not the last. Consolidation to a structure dominated by a small handful of firms has been a decades-long priority of the central government. Reducing production and pricing inefficiencies, standardizing mining practices for improved social and environmental sustainability, and increasing the state’s ability to enforce regulations were the primary motivations of the reorganization. Highly pervasive illegal mining, supported by bureaucratic friction between the central and local governments, remains a key issue for Chinese central planning. Many of their central priorities (especially in realms of technological competition and decarbonization) are highly dependent on stable rare earth prices and supplies to meet rising domestic demand. As such, the merger is a signal of Beijing’s resolve to chop off dead wood and overhaul an industry with key players that regularly go rogue.

China’s Rare Earth Dominance

China’s share of REE global production is about 60%. China’s mined production share would likely be even higher if it were possible to account for supply from illegal mining operations. Chinese firms retain firm command of upstream production even with declines in market share in recent years.

China’s even stronger position in producing rare earth products, such as rare earth permanent magnets, supplements their premier position in global mined supply.

Rapidly accelerating demand for rare earth products further downstream — such as rare earth hydrogen polishing, battery energy storage materials and sintered permanent magnets — was heavily supported by the growth of China’s upstream rare earth extraction industry. The various industries that make up the rare earth ecosystem in China developed symbiotically and in geographical clusters, primarily in resource-rich areas such as Xiongan in Inner Mongolia. Foreign investment and direct outsourcing to China buttressed the industry’s growth.

The outcome is that China’s control across virtually all nodes of rare earth metal supply chains is even more pronounced. China controls 85% of global refined REE supply using its domestic mined concentrates and imports. Chinese firms control the majority of permanent magnet production. China also holds an 87% market share for the industry-standard neodynium-iron-boron (NdFeB) magnet, accounts for approximately half of global supply for the high-performance NdFeB magnets, and dominates advanced-sintered NdFeB magnets that are required for certain “green” technologies like electric vehicles (EVs) and wind turbines. More than 90% of all EVs sold worldwide in 2017 were equipped with drivetrains that use the industry-standard NdFeB permanent magnet.

From center: Rare earth mining, oxide separation, metal refining and magnet manufacturing.

In typical fashion, downstream REE applications provide a higher value-added than upstream industries. Commercial imperatives, along with the geopolitical implications of further downstream control, remain an explicit motivation of Chinese policies affecting the rare earth industry. From high-level Chinese government communiques, which set the broader direction of the industry as a whole, to state-led mergers, downstream expansion figures as a central priority.

Now, the same countries from which inbound investment was sourced — primarily the U.S. (whose laissez-faire market policies were abused by Chinese state-directed incentives) — are fighting to claw back their production.

A Regulatory Progression

China’s strong position reflects decades of regulatory policies through which the Chinese government prioritized developing the rare earth ecosystem from upstream extraction to downstream manufacturing. As early as the 1980s, China’s government began issuing export tax rebates for domestic producers as a means of supporting the young industry. As the industry expanded, so did protectionist policies: In 1990, China declared REE a “strategic resource,” thereby prohibiting foreign investment in the sector. In the decades that followed, the government and rare earth producers regularly met to discuss ways to control production and exports as a means of conserving the country’s mineral resources and protecting the environment. While the government now focuses more on developing downstream capabilities, a shift from their extractive focus decades ago, rare earths still figure prominently in high-level communiques. For instance, China’s most recent Five-Year Plan focuses on developing more value-added production, “such as high-end rare earth functional materials, high-purity special steels, high-performance alloys, high-temperature alloys, [and] high-purity rare metal materials.”

In the past few decades, Chinese regulators have focused more on increasing the industry’s economic, social and environmental sustainability. Several high-profile incidents occurred during this time, including a trade dispute with Japan in 2010 over conflicting claims in the South China Sea. The suspension of REE exports to Japan (detailed later) signaled that Beijing was highly conscious of the geopolitical implications of their control of rare earths, along with the benefits of greater political alignment between governmental and industrial priorities. In general, China’s rare earth policies of the last decade and a half were primarily motivated by a desire to enhance economic growth and maximize returns from the development of its rich endowment of rare earths, while also managing the conflicting desire for sustainable development.

To achieve greater alignment between sovereign state industrial priorities and the sometimes-rogue domestic rare earth industry, Chinese officials have not been shy in utilizing a broad range of policies. Since the 1980s, the Chinese government has used a combination of tax incentives, production and export controls, and forced consolidation to reorganize the Chinese rare earth industry. The administrative expansion over rare earths has delayed “marketization” of the industry, which is highly dependent on government policies for development. The consolidation of three of Chinas “Big 6” rare earth SOEs is simply the latest foray by China’s administrative state, a culmination of decades of attempts to control the rare earth industry.

Production Controls

In the 1990s, China’s leadership tasked the National Rare Earth Development and Application Leading Group (Rare Earth Office) of the Chinese Ministry of Land Resources (MLR) with developing production plans for the rare earth industry. These included setting overall production quotas for the entirety of the domestic industry as well as quotas for individual provinces. However, the Ministry of Industry and Information Technology (MIIT) began setting its own quotas for rare earth production, which appeared simultaneously with quotas from the MLR and caused compliance confusion given that the MIIT set their benchmarks significantly higher than the MLR. In 2010, the two bodies started using the same target as a production cap.

Throughout the history of the quota regime, actual production has significantly outpaced caps set by the MLR and MIIT. This is primarily because provincial governments are in charge of allocating their allotted quotas to individual companies and enforcing production caps. Thus, conflicting interests often create wedges between central and local regulators. Local rare earth industrial clusters, which include a range of operations from extraction to downstream innovation for rare earth products, often demand a supply of rare earth metals (REM) that exceed the quotas. The economic benefits that booming rare earth industries brought to areas such as Inner Mongolia and the Fujian, Jiangxi and Xinjiang provinces pushed some local regulators to overlook overproduction. Proper enforcement of production quotas is a prerequisite for Beijing to control prices, achieve sustainable resource management and manage trade flows (among other priorities). Consequently, policies that better align local production with national production quotas are highly sought after in the capital.

In recent years, the MIIT has consistently raised the domestic production quota to mitigate demand increases. The full-year rare earth mining quota for 2022 was set at 210,000 tonnes, a new record and a 25% increase from 168,000 tonnes in 2021, the previous record. As such, tightening regulations do not necessarily accompany cuts in the production quota as they did in the 2010s. Rather, the state purports to increase output in a sustainable manner aligned with central priorities, a reigning in of sorts for an industry that must grow to meet rising domestic and international demand. The China Rare Earth Group and future super-conglomerates are valuable vehicles to reach these goals, although consolidation comes with significant baggage for the domestic Chinese and international markets alike.

Export Controls

Especially during earlier years in China’s rare earth industry, officials in Beijing often resorted to export controls as a means of managing domestic operations. Chinese export controls on rare earths have also been among the most highly controversial in the global mining community given China’s supply dominance.

Following the end of the export rebate regime, China introduced export quotas in 1999 to control total production and illegal activities at its borders and spur downstream expansion.

In 2010 Chinese customs officials halted REE shipments to Japan over a flare-up in the South China Sea spawned by territorial claims to the Spratly Islands (recognized as Japanese by international courts, but long claimed by the Chinese). Following this confrontation, the cost of REE skyrocketed. One of the immediate impacts was that Japanese petroleum refiners could no longer import catalysts from China. The Japanese government led negotiations with China to regain access to REE stockpiles, but the incident added to existing tensions in the region and triggered reactions worldwide.

In 2012, the U.S., EU and Japan filed a formal complaint to the WTO alleging that Beijing’s trade restrictions violated international trade rules and had to be removed. In 2014, a WTO panel ruled that Chinese export restrictions were irregularities, and they were discontinued. Following this, Chinese regulators opted for domestic-facing policies in attempts to reorganize the industry, which are more difficult for multinational organizations to challenge. For example, draft controls issued by the MIIT in January 2021 stated the applicability of the Export Control Law (ECL) to rare earth exports, which would be subject to more scrutiny and restrictive permitting from the state if fully adopted. Chinese regulators also instituted a covert value added tax (VAT) rebate-upon-export scheme designed to incentivize downstream exports of products as opposed to ore. For example, rare earth permanent magnet exports receive a 13% VAT rebate equal to a full refund of China’s VAT. In contrast, rare earth concentrate exports do not receive a VAT rebate. China’s bureaus review VAT rebate policies biannually and may change them according to the state’s industrial priorities, a tactic which arguably amounts to trade manipulation. This illustrates how China’s use of unconventional export controls are more difficult to observe and counter in multinational bodies like the WTO. As opposed to earlier export controls, which directly restricted trade, regulators have shifted to an approach based on increasing central oversight and a permitting regime that re-centralizes export licenses to SOEs more amenable to central coordination and enforcement efforts.

Consolidation

Historically, major top-down mergers and acquisitions have not been the primary means of consolidating the Chinese rare earth industry. Rather, the government favors a model dominated by few firms through more restrictive permitting, selective quota allocations and crackdowns on illicit mining activities. As a result, in the half century of the industry’s existence, rare earth enterprises have consolidated considerably. Six firms constitute 90% of China’s domestic operations.

The government has been urging consolidation since the publication of the “Several Opinions of the State Council on Promoting the Sustainable and Healthy Development of the Rare Earth Industry” and the “Situation and Policy of China’s Rare Earth Industry,” both issued by the State Council in 2011 and 2012, respectively. According to these documents, eliminating duplicate projects, avoiding unnecessary competition among firms and achieving greater alignment with government priorities were the underlying motivations of consolidation. Since the 2014 WTO decision, which removed export controls from their quivers, Chinese regulators have intensified their push for consolidation as a means of better managing the domestic industry.

Prior to the 2021 consolidation, the six major rare earth SOEs were China Rare Earth Group Co., Xiamen Tungsten Co., Guangdong Rare Earth Industry Co., CHINALCO, Ganzhou Rare Earth Group and Minmetals Rare Earth Group Co. In previous consolidations, the “Big 6” SOEs absorbed smaller rare earth enterprises that were unable to compete in an environment with more stringent permitting requirements that favored the dominant firms. The 2021 reorganization involved a deeper, strategic restructuring of the industry’s dominant players. The merger of three of the “Big 6” dominant SOEs (CHINALCO’s rare earths division, Minmetals and the southern division of China Rare Earth Group), along with other entities as we describe later, is rather atypical in the sense that it broke the structure of the six dominant pillars upholding the industry.

Barriers to Proper Resource Management

The subnational dynamics of resource endowment versus resource management create significant disruptions to efforts by the central government to control local production. Resource-rich areas in China, especially within the context of REE, typically have lower economic attainment than the coastal provinces. Exploiting REM and developing downstream capabilities emerged as “leverage” in the competition between localities and provinces. Coupled with a deep administrative bureaucracy that conceals rent-seeking behavior and “selective” enforcement by officials to the benefit of local miners, management gaps quickly and consistently emerge.

The preponderance of illegal mining operations around China stands out as the most obvious effect of these dynamics. These miners, who account for upward of 40% of total REM output in China by some estimates, pose problems from a resource management perspective for several reasons. By design, these entities decrease the state’s ability to enforce production quotas, export controls and environmental regulations, making it difficult to align the broader rare earth industry with government priorities. In a more practical sense, illegal miners “seek the higher valued REE — especially the magnet materials neodymium, praseodymium, dysprosium and terbium — and simply dump onto the market the low-value elements regardless of price.”

When they slip under the regulatory radar, illegal firms bypass several costly steps and gain an advantage over their legally sanctioned counterparts. They can circumvent major transactional costs associated with permitting as well as operational costs associated with tightening environmental and labor restrictions and rules. The more stringent the regulatory environment, the more costly it is for legal firms, which causes illegally sourced products to appear at a discount. These financial realities have a compounding effect, further incentivizing illegal production.

Highly pervasive illegal mining can turn the rare earth industry, or any business in any country, into a runaway train, from a regulatory standpoint. It is therefore not surprising that official crackdowns in China on illegal mining have intensified over the last decade. The most recent wave began in 2009 amid concerns that illegal production was causing prices to depress, along with intense environmental degradation. Based on MIIT information, during the period of the 12th Five-Year Plan (2011-2015), regulators closed 14 REE mines and 28 companies, seized more than 36,000 tonnes of illegal rare earth products and imposed 230 million yuan in fines. More recently, MIIT guidelines published in January 2019 indicated that efforts to eliminate illegal mining, production and smuggling of rare earth materials would be escalating. This included establishing a traceability system to stop buyers from using illegal materials, under threat of suspending their licenses. The recent regulatory action suggests a focus on ridding the entirety of the rare earth supply chain of illegal REM.

Many experts agree that global demand for rare earth products will soon outpace supply.[38] As such, market participants should expect pressure from efforts to secure REE supply chains to influence prices and heighten the stakes of illegal mining. Bribes and local-level rent seeking will likely flow as lucrative contract opportunities arise with increasing frequency. Countering this pattern are desires by central state officials to use legal channels to capitalize on and capture price appreciation from increasing demand. Better yet for Chinese political interests would be to realize these gains through dominant SOEs that carry more oversight from both corporate — but ultimately political — administrators. In an era of widening value chains, greater supply flexibility comes at a premium. Thus, centralizing suppliers can be seen as an anti-resiliency measure.

Geopolitical Implications

U.S. dependence on China for REE and downstream rare earth products is especially strong, as very little REE mining and magnet production and none of the REE processing is done in the U.S. To mitigate China’s stranglehold on the rare earth industry, the U.S. industry and policymakers face the challenge of developing a domestic rare earth ecosystem — from extraction to midstream processing to further downstream manufacturing. China currently is the only country in the world with a fully integrated permanent magnet supply chain. In total, Chinese production accounts for approximately 58% of rare earth mining, 89% of rare earth separation, 90% of metallization and 92% of NdFeB global markets.

Besides China, the U.S. imports REE from Estonia, France and Japan, but these flows are misleading. In fact, Estonia procures its rare earth feedstocks from Russia, while France and Japan are simply processing links with no domestic mine production of their own, using feedstocks of mixed sources including China and Russia. Because U.S. allies in Europe and Japan currently only possess downstream manufacturing capabilities with no mining output, potential supply disruptions from China could affect allied supplies of downstream rare earth products.

Currently the only producer of US is MP Materials from its Mountain Pass facility in California (at the edge of the Mohave Desert), which primarily supplies light REE, though there is a planned expansion into heavy REE processing as well as metal conversion, alloying, and magnet manufacturing in their new facility in Fort Worth, Texas. Mountain Pass sends the 42,000 tonnes of REO contained in the concentrate it produces to China for further processing due, in part, to the absence of domestic customers. Additionally, Noveon (formerly known as the Urban Mining Company), the only operational U.S.-based permanent magnet manufacturer, produces a small amount of NdFeB permanent magnets.

Besides MP Materials, there are other American enterprises working to develop the domestic rare earth industry. The Texas Mineral Resources Corporation (TMRC) is actively working to develop a rare earth project at Round Top in South Texas, which looks to extract light and heavy REE to be processed on-site. According to the company’s site, the project is still in extremely early stages, as TMRC is still “focused on the exploration and development” of their deposit. Developing domestic separation and other processing capabilities on-site simultaneously cuts down logistical costs and will chip away at China’s current dominance of entire global rare earth value chains.

Considering the recent flare-up in U.S.-China tensions over Taiwan, occurring against the backdrop of global turmoil caused by Russia’s invasion of Ukraine, it is important to note that the current dynamics over rare earth trading would not hold in the event of China’s invasion of the island. Will Chinese rare earth enterprises’ responses resemble those of Russia’s Gazprom in the first half of 2022, a game of limbo to balance their own revenue with geopolitical bridge-burning? Or will China act swiftly to cut off rare earth supplies to its adversaries given their end-use applications for defense technologies that maintain U.S. military technological superiority? How would these actions carry across to other alliances such as the North Atlantic Treaty Organization and member countries? China’s deep economic integration with the West suggests that any decisions to alter trade will carry heavy implications for all involved. As a result, their response will be highly dependent on the level of support, especially militarily, that the U.S. and its allies give to Taiwan. In any case, as Chinese officials continue to consolidate the major rare earth SOEs, they gain greater control over the industry and more leverage in their ever-evolving power plays with the West.

The U.S. Policy Response

For the U.S. to secure a sustainable rare earth supply chain, rare earth processing and manufacturing technologies must be commercially viable. Herein lies the U.S. government’s main role: mitigating China’s non-market approach that is causing U.S. and allied rare earth industries to hollow out in favor of subsidized and incentivized operations in China. This requires a meticulous approach, utilizing public funding as a jumping-off point for a rebounding domestic rare earth industry rather than a long-term funding scheme that more closely resembles the Chinese command-economic approach. 

Rare earths occur with phosphates in the U.S., which could become a potentially alluring option. Phosphates are extracted for a variety of uses and are of interest for developing a competing battery chemistry (lithium-iron-phosphate or LFP). However, phosphates and REE-containing minerals in sands deposits also bear the radioactive elements thorium and uranium. This presents a persistent dilemma since existing U.S. regulations limit the extraction of these radioactive elements and thereby discourage the pursuit of REE.[80] REE can be harvested from other sources, such as agricultural wastes, and could be captured from deepwater seabeds, affording an exploration frontier. Overall, however, REE exist within an inadequate framework for nonfuel minerals — especially given how critical they are to both legacy and alternative energy technologies, much less non-energy and defense uses.

The U.S. government, of course, has its own part to play. First, strategic planners must honestly distinguish rare earth demand for defense and other strategic purposes from non-strategic demand. While both strategic and non-strategic demand must be balanced in order to stabilize supply, delivery delays for defense purposes carry significant implications for combat readiness, especially in an era of heightened major-power tension. It is also crucial that the U.S. government ensure its strategic stockpiles of REE are filled to aid in these efforts.