Are Australian business media and analysts missing a major development in the global iron ore market, just as they chirp about the glory days for the Australian iron ore and coal sectors being over?

So far they have missed the growing emergence of India as a possible new source of demand for Australian iron ore. Already Indian steel companies are importing ore from South Africa and Mozambique, according to media reports, because of the sudden emergence of a severe supply shortfall. How long before they come calling on the likes of BHP Billiton and Rio Tinto?

Chinese steel production and demand for iron ore and coal rightly continues to grab the attention of Australian analysts and media. Booming Chinese demand has transformed the Australian economy since 2006, triggering the first stage of the resources boom and boosting national income (and exports income) via record prices and shipments, as we saw on Tuesday with Rio Tinto and Fortescue Metals telling the market of all-time highs for their iron ore shipments from the Pilbara in WA.

That was in response to a surge in Chinese iron ore imports in November and December ahead of the annual cyclone season in WA and the earlier Chinese New Year, which starts on January 23 and shuts down much of China for 7-10 days. As well, Chinese steel mills, which had cut demand in mid year because of high prices, emerged as significant buyers after world iron ore prices dropped by about $US50 a tonne in September and October to snap up the cheaper ore supplies.

Iron ore imports into China hit 64 million tonnes in December, the second highest rate of the year up from 44 million tonnes several months earlier. Crude steel production rose to just over 52 million tonnes last month, up from the 14-month low of just over 48 million tonnes in November. But Chinese mills are reportedly buying lower quality iron ore (of which they need much more to match the 62% iron content of the high grade  Pilbara ores of BHP and Rio). That was behind the surge in Fortescue exports.

The slowdown in demand for iron ore from China led to global prices falling sharply to about $US120 a tonne. Prices are back about $US140 a tonne after cyclone Heidi in WA and heavy rains and flooding in Brazil’s iron ore states. Global demand for coking coal has also eased, triggering a less noted drop in prices as well. But those developments have seen local analysts and the business media gloomily forecasting an end to the boom and the industry’s “salad days” of record prices, record demand and record exports.

But without much warning India now seems to be in danger of needing a quick surge in iron ore imports, despite it being the world’s third biggest exporter. That position is running headlong into the reality that as the world’s fourth largest steel producer (output is running at 70 million tonnes a year) and with ambitious growth plans, India needs all the iron ore it can get, especially from its own industry.

The rise in steel demand and output has already seen India chase supplies of coking and thermal coal in Australia. India is a massive coal producer in its own right, but wants high quality coking and thermal coal imports. Chinese companies have found themselves outbid by Indian groups for coal assets in the past two years in Queensland and NSW. Now it seems to be on the cusp of wanting to import iron ore, with suggestions it could need 20 to 30 million tonnes this year.

Despite a surplus last year, Indian steel companies and the government now seem to be worried that am iron ore deficit is looming later this year for two reasons.

India boosted its export tax on iron ore at the start of this month to 30%, from 20%. A year ago it was about 5% and the increase last year slashed exports. The central government wants to keep as much iron ore in India for its growing steel industry. So it is attempting to price Indian iron ore out of export markets. Exports have fallen from more than 120 million tonnes a couple of years ago to just over 97 million in 2011 (which has helped support world prices).

Compounding the impact of the tax increase though has been moves by the central and various state governments to crack down on illegal iron ore mines (who produce ore cheaply and sell to local mills or to bigger exports on a no questions asked basis).

This campaign has seen iron ore production fall sharply, especially in Goa, Orissa and Karnataka states. Police have even arrested the head of the biggest illegal iron ore groups in Karnataka state as part of the belated attack on corruption throughout the country, especially by business leaders and their companies.

The impact of the crackdown and the successive increases in export duties has seen a shortage of iron ore develop, which seems odd because on official projections, there seems to be a surplus of iron ore available in the coming year. But according to reports from mining and steel companies and in the Indian business press, that’s not the case. Official estimates haven’t been adjusted for the impact of the tax increases and the crackdown on illegal mining.

The Business Standard report last Friday that the country is facing the prospect of an iron ore deficit later in 2012:

“From a huge surplus until last year, the country has slipped into deficit, thanks to a stern action taken by the government to nab illegal miners. Shutting down of operations by miners amid threat of government actions has seen a massive cut in iron ore supply, forcing steel mills to look for alternative sources of raw materials.

“India is going to remain in huge supply shortage next financial year.”

The crackdown on illegal mining has had a dramatic impact on output of ore and led to the emergence of the deficit. In Karnataka state, illegal mining saw a sharp fall in the state’s available iron ore resources. The state government launched its crackdown last year and the Supreme Court imposed a blanket ban on mining in Karnataka.

As Karnataka accounts for over 30% of Indian crude steel production, the effects of the ban on mining in the state has seen a severe shortage in iron ore availability emerge. A similar situation is reported in Orissa and Goa, the two other big iron ore mining states.

Further complicating the situation is the growing weakness of the Indian economy, the fall in the value of the rupee in recent months and a shortage of US dollars to finance iron ore imports. But from the various reports, its clear a combination of government policy,  the inefficiencies of Indian transport and business sector could produce an unexpected boost for the Australian iron ore industry at a time when China is definitely cooling.

And then there’s the biggest benefit from all of this for Australia: Indian iron ore exports to China will continue to fall not matter what the short-term outlook is. India wants to produce more steel and wants to use its own higher quality iron ores to do so. Falling Indian exports will support global prices and maintain demand from China.

China imported a record 686 million tonnes of iron ore in 2011, India’s share was estimated at 10-12% of that. That share will fall as the tax hike and the domestic deficit divert ore to India’s growing steel producers. Australian and Brazilian exporters stand to benefit both ways.