China’s Rare Earth Metals Aren’t the Trade War Weapon Beijing Makes Them Out to Be

May 29, 2019, 9:40 AM UTC

China has a stranglehold on rare earth supplies. It could use that to throttle the U.S.

That was the thinly-veiled threat President Xi Jinping sent during his first domestic trip since trade negotiations imploded this month. Flanked by his chief negotiator, Vice Premier Liu He, Xi took a tour of a factory in Jiangxi province that spins rare earth elements into permanent magnets—the type used in electric cars, wind turbines, and even guided missiles.

Rare earths—there are 17 in all—are vital to much of today’s tech with uses in every segment from consumer electronics to national defense. Despite their name, however, rare earths are not rare. According to the United States Geological Survey, the ores are roughly as common as those of copper or lead. But, because rare earth ores oxidize quickly, extracting the vital metals is both difficult and extremely polluting.

China, aided by its low labor costs and lax environmental regulations, became the dominant force in the rare earth market during the 1980s, surpassing the U.S. China, which sits on close to 40% of global rare earth deposits, produces 120,000 metric tons of rare earth a year, or roughly 80% of the global supply. For comparison, Australia, the world’s second largest supplier, produced just 20,000 metric tons last year.

Following Xi’s visit to Jiangxi, the nationalistic Global Times called rare earths “an ace in Beijing’s hand,” and on Tuesday the National Development and Reform Commission, China’s economic planner, raised the prospect of weaponizing rare earths. On Wednesday, the Party’s mouthpiece paper, the People’s Daily, thundered in an article about rare earths: “Don’t say you haven’t been warned.”

Labourers work at the site of a rare earth metals mine at Nancheng county, Jiangxi province
Laborers work at the site of a rare earth metals mine at Nancheng county, Jiangxi province in October 2010. (Jie Zhao Corbis via Getty Images)
Jie Zhao—Corbis via Getty Images

Beijing has weaponized its dominance in the rare earth market before. In 2010, when China and Japan clashed over ownership of islands in the East China Sea, Beijing halted shipments of rare earths to its rival, disrupting supply lines for major manufacturers like Toyota and Panasonic. But Beijing emerged weaker for it.

The blockade was enough to alert the rest of the world to China’s unchecked power over the precious minerals. A coalition of countries led by the U.S. appealed to the WTO which, in 2014, ruled that China can’t put limits on rare earth exports. That year, an article published by the Council on Foreign Relations, a U.S. think tank, said “even in the apparently most-dangerous case of rare earth elements, the problem rapidly faded.”

What China can do

Beijing sets a quota for rare earth production twice a year. In the first half 2019, the cap was placed at 60,000 tons—up from 45,000 the preceding half. “If China wanted to reduce exports of rare earths, the logical step would be to lower the mining quota,” says Helen Lau, a metals and mining analyst at Argonaut Securities. Quotas for the remainder of the year are due in June and will be the first indicator of whether authorities are making good on their threats.

Beijing could claim to be lowering the quota for environmental reasons, Lau says, and a lower quota would naturally reduce the amount of rare earth available, which would limit supplies and increase costs for the U.S. But even this approach carries risk: a reduced quota limits supplies for China’s more significant customers too.

The U.S. imports 80% of its rare earth needs from China, but overall demand for rare earths in the U.S. is low. American demand accounted for just 4% of China’s rare earth shipments, totaling around $160 million in 2018.

Partly, that’s because most U.S. manufacturers that require rare earth metals have already moved to China. America’s remaining industries tend to import finished rare earth products, such as magnets, which are a trickier target for China to hit.

If China limits the export of finished components, the impact would affect China’s domestic industry first. That might be a sacrifice Beijing is willing to make, but it would be a peculiarly forward approach. Beijing prefers indirect measures that afford the government deniability— the recent halt of Canadian canola imports due to a phantom pest infestation is proof. However, the fiery rhetoric of China’s state media suggests Beijing might be desperate enough to forego pretenses.

There’s ore in them thar hills

Meanwhile, the U.S. is seeking alternative supplies. At a site called Mountain Pass in California’s San Bernardino county, the only rare earth mine in the U.S. is back in operation. Once the world’s leading supplier of rare earths, today the mine simply ships unrefined ore to China for final processing. A conglomerate called MP Materials bought the mine in 2017 after the site’s previous owner, Molycorp, filed for bankruptcy, beaten on prices by China’s competitiveness.

SEPTEMBER 11, 2009. MOUNTAIN PASS, CA. John Espinoza looks down on ground water that has accumulate
A photo from 2009 shows the ground water that accumulated in the pit of the Mountain Pass rare earth mine. (Photo by Don Bartletti/Los Angeles Times via Getty Images)
Don Bartletti—LA Times via Getty Images

The consortium, which includes a Chinese shareholder, says it will re-open the mothballed processing facilities at Mountain Pass next year so that the mine can extract rare earth metals at home. It’s a move expedited by the trade war. Beijing slapped 10% tariffs on ore imports last year and is set to increase them to 25% on June 1.

The mine’s CEO, Michael Rosenthal, has said MP Materials will focus on extracting higher-value ores to avoid following its predecessor, Molycorp, into bankruptcy. MP Materials will still need to contend with competition from China and strict environmental regulation from California. However, if China blocks rare earth exports, MP’s main competition disappears.

Down south, Texas chemical manufacturer Blue Line Corp and Australian miner Lynas are also in talks to open a rare earth processing plant and, earlier in May, a bipartisan group of lawmakers introduced legislation to safeguard U.S. mineral supplies. Meanwhile Japan discovered a treasure trove of rare earths that could supply the earth on a “semi-infinite basis.”

Loosening China’s grip on the industry will take time and money, but there’s a compelling incentive to do so, especially as China threatens to be an unreliable supplier. Blocking rare earth exports—again—might well be a ‘nuclear option’ for China, but Beijing could suffer the fallout.

More must-read stories from Fortune:

—What killed Jamie Oliver’s restaurant chain?

—Where Google’s ban on Huawei will hurt the most

Europe’s vacation hot spots have a message for tourists: Sorry, we’re full

—The boom, bust, and rebirth of Perth

—Listen to our new audio briefing, Fortune 500 Daily

Catch up with Data Sheet, Fortune‘s daily digest on the business of tech.