_{Source: BLOOMBERG}

China controls 97 percent of production of materials known as rare earth oxides, giving it “market power” against the U.S., the Government Accountability Office said in the report. The materials -- found in General Dynamics Corp.’s M1A2 Abrams tank and Aegis SPY-1 radar made by Lockheed Martin Corp. -- are so irreplaceable that suppliers to military equipment makers could be buying from China for years to come, the GAO said.

The U.S. needs to rebuild a domestic industry for the metals after mining in the U.S. lapsed and production migrated to Chinese suppliers, according to members of Congress including U.S. Representative Mike Coffman, a Colorado Republican.

“The People’s Republic of China is not an ally of the United States,” Coffman, who asked for the GAO report, said in an interview in February. “They feel increasing leverage. This gives them another tool.”

The U.S. Department of Defense is investigating potential “vulnerabilities” in the supply chain and will produce its own report by the end of September, the GAO said. Pentagon spokesman Geoff Morrell did not immediately respond to an after-hours e- mail seeking comment.

Spokesmen for Lockheed, based in Bethesda, Maryland, and General Dynamics of Falls Church, Virginia, declined to comment on rare earths ahead of the report’s release. The report is due to be made public tomorrow, according to a person with direct knowledge of the matter.

Export Quotas

The issue gained attention last year when China’s Ministry of Industry and Information Technology said supplies were running short of two rare-earth elements, also in demand for wind turbines and hybrid cars. The ministry’s press office didn’t respond to faxed questions asking for comment.

China established domestic production quotas on rare-earth materials and decreased export quotas, increasing prices, the GAO report said. The nation also increased export taxes to a range of 15 to 25 percent, raising prices for non-Chinese competitors, it said.

Shortages of some elements “already caused some kind of weapon system production delay,” the GAO said, citing a 2009 National Defense Stockpile report.

The term “rare earths” refers to a group of 17 chemically similar metallic elements, including lanthanum, cerium, neodymium, europium and yttrium. While they’re actually relatively abundant in the earth’s crust, finding deposits significant enough to mine is less common, the U.S. Geological Survey says.

China, the countries that made up the former Soviet Union and the U.S. have the largest reserves.

U.S. Closures

A U.S. mine in Mountain Pass, California, owned by Molycorp Minerals LLC, was once the world’s dominant producer. It closed a separation plant in 1998 after regulatory scrutiny of its wastewater line and suspended mining in 2002, the GAO said.

As mining lapsed, so did companies that turned the ore into metals found throughout U.S. weapons systems, the GAO said. Magnequench International Inc., a maker of neodymium magnets, closed an Indiana plant in 2003 and moved equipment to China.

By the end of 2005, magnet makers in Kentucky and Michigan also closed.

“Government and industry officials told us that where rare earth materials are used in defense systems, the materials are responsible for the functionality of the component and would be difficult to replace without losing performance,” the GAO report said.

Samarium Cobalt Magnets

It cited several specific weapons systems, including the M1A2 Abrams tank, which has a navigation system that uses samarium cobalt magnets with samarium metal from China; the DDG- 51 Hybrid Electric Drive Ship Program, which contains neodymium magnets from China; and Lockheed Martin’s Aegis SPY-1 radar, which has samarium cobalt magnets that will need to be replaced during its 35-year lifetime.

Coffman, a former U.S. Marine who serves on the House Armed Services Committee, inserted an amendment into the fiscal 2010 defense spending bill requesting the study. The GAO was required to determine which defense systems are dependent on rare earth metals. The report was due by April 1.

Molycorp, based in Coffman’s home state in Greenwood Village, Colorado, and backed by shareholders including Resource Capital Funds, Pegasus Capital Advisors LP and Traxys North America, plans to raise $450 million to $500 million to resume mining by 2012.

Lack Companies

Even if it does, the U.S. would still lack companies to process the metals, the GAO said. It may take two to five years to develop a pilot plant to refine oxides to metal, and foreign companies own patents over neodymium magnets that don’t expire until 2014, the report said.

Rebuilding a U.S. rare earth supply chain may take up to 15 years, the GAO said, citing industry estimates. That is dependent on infrastructure investment, developing new technologies and acquiring patents, it said.

For Metal Bulletin rare earth prices: {MB <GO>} For top commodity news: {CTOP <GO>} For China metals data: {CHME <GO>} For commodity price forecasts: {CPF <GO>}

--With assistance by Marybeth Sandell in Stockholm and Fan Wenxin in Shanghai. Editors: Neil Western, Melissa Pozsgay.

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