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April 26, 2012 - 2:08pm
„History does not repeat itself, but it sure does rhyme.“ (Mark Twain)
Between
1970 and 1979, the silver price was increasing steadily from $1.50 to
$6, before taking off in September 1979 from $10 to $50 within 5 months.
During that bull cycle, demand for silver did not increase but actually
declined (sharply in 1979). It was as late as 1983 when demand
increased confidently from 12,000 to 27,000 tons per year until 2000 –
yet the silver price was in a 20 year bear market during that time. In
2003, when silver started its new bull market, the demand actually
dropped to 23,000 tons until 2005 – during which 2 years silver almost
doubled from $4.50 to $8. Since 2005, demand is rising stronger than
ever, having reached 33,000 tons in 2010, whereas the silver price is
rising strongly as well.
The
initial comparisons indicate one important phenomenon in the silver
market, namely that (industrial) silver demand is “price inelastic”:
that is, changes in price have a relatively small effect on the quantity
demanded. The demand for other commodities is known to be “price
elastic”: that is, changes in price have a relatively large effect on
the quantity demanded (if tomato prices blow up, go bananas). This
basically translates into: no matter if the silver price crashes or
explodes, demand – unimpressed – will keep its own dynamic pace, because
demand does not respond to price changes. Firstly,
silver is the most broadly used metal, because of its unique
characteristics, such as highest thermal and electrical conductivity of
all metals. In most of its few thousand application fields, silver is
considered a non-substitutable product. In contrast for example, when
the platinum price increases too strongly, automotive demand
traditionally substitutes for cheaper palladium thus potentially driving
down the platinum price.
Secondly, silver typically makes up only a
relatively small component in the total of the product and the total of
its costs. Both these demand characteristics/inelasticities
(not substitutable and small cost component) are crucial to understand
the silver price, because they remind that no matter if price explodes
or crashes, (industrial) demand virtually does not care, but keeps on
consuming as per its own factors/fundamentals. Notwithstanding, an
increased demand principally has a positive effect on the price, of
course (GFMS
expects fabrication demand in 2012 to rise by approx. 3-5% to around
29,000 tons silver, whereas fabrication demand accounts for more than
80% of total demand; fabrication demand includes industrial
applications, photography, jewelry, coins and silverware).
Now
let’s have a look at the price elasticity of supply – a way to show the
responsiveness (“elasticity”) of the quantity supplied to a change in
its price. What happens to the silver supply if the price crashes or
explodes? Nothing much either. Surely, if
price explodes people tend to melt their forks and knives besides
selling their silver investments, hence private and commercial recycling
and selling will increase in the short-term (yet silver is already
being recycled “where possible”, and most of the silver ever consumed by
industry can be considered as lost respectively not recyclable). More
importantly, core supply (mining) does not change significantly if the
silver price changes. This
shows us a second important phenomenon of the silver market, namely that
silver is supplied predominately as a bi-product during the mining of
other metals, such as gold, copper, zinc and lead (in 2011,
mining accounted for 73% of total supply, whereas primary silver mines
only contributed 29%). This implies that the silver mining output does
not depend on the silver price, but rather on the price of the primary
metals, such as gold, copper, zinc and lead. For example, if the copper
price doubles, copper mining typically expands generating more silver
output. If the copper price is cut in half, silver output shrinks no
matter if silver price doubles or quadruples. The mining and consumption
of primary metals like copper and zinc is dominated by the automotive
and electrical industry thus largely depending on economic growth in
developed and/or non-developed countries. If economic growth collapses
in the future, less silver is mined which principally translates into higher prices. If
economic growth flourishes in the future, more silver is expected to be
mined – however, so much more silver must be mined to even meet demand
that it is (more or less) safe to consider it as not realistic (in
today’s terms): In 2010, total silver supply was 23,000 tons and total
demand was 32,000 tons.
The difference is called (supply-demand)
deficit, whereas the “chronically missing silver” comes from destocking.
Why is someone filling up the gap as the price shall “correct the
deficit” by way of rising thus decreasing demand? Because it would not work, of course (as we have seen above).
Thus, when destocking has come to an end and industries do not get
supplied with sufficient silver (no matter where the price may trade or
be fixed at), the respective (silver-containing) product can not
be produced in “unlimited” quantities anymore thus (increasingly)
limiting the production output and its economies of scale. Hence, it is
the price of this “limited edition” (silver-containing) product that
will increase in order to get supply and demand balanced out,
whereas the silver price principally does not to change as it would not
effectively increase supply or decrease demand (as we have seen above). Notwithstanding, a decreased supply principally has a positive effect on the price, of course.
Finish reading with more charts @Silverseek
