A tight supply market has driven up caustic soda prices significantly over the past six months, while prices of its chlor-alkali co-product, chlorine, have been flat to down in the same period due to the faltering U.S. economy. Unless the economy does a quick and unexpected turnaround, these trends should continue for the rest of the year.

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The chlor-alkali industry has always been driven primarily by the demand for chlorine, notes Joel Lindahl, an analyst with Houston-based Chemical Market Associates Inc. (CMAI). Changes in that demand, he says, are closely linked to changes in the general economy because some 34–35% of chlorine goes into the production of one single product—polyvinyl chloride (PVC), which is used in everything from drainage piping and home siding, to automotive parts and lawn furniture. So the current housing slowdown and the drop in consumer purchasing, has caused sales of PVC to be "well off" from a year ago, decreasing demand for chlorine.

With demand of chlorine-related products beginning to slide, producers have begun to cut back production. According to Roger Shamel, president of Consulting Resources Corp., a Lexington, Mass. market research firm, output of chlorine in the U.S. dropped by 10% between August and December. Despite the downturn in production, chlorine inventories are piling up at producers, says Lindahl, leading to lower prices. With no pickup in demand in sight, prices should slip further in the next three to six months as producers work to get their inventories to move.

The chlorine production cutbacks have resulted in less caustic soda production. But unlike chlorine, the demand for caustic has held up quite well as the economy has cooled because caustic soda is used in a much broader variety of industries than chlorine. So demand for it is more resistant to the ups and downs of the economy.

For a good part of last year, supplies of caustic soda were sufficient to meet demand even as producers throttled back production of the chemical. That was because there were plentiful supplies of caustic in storage. (Caustic is easier and cheaper than chlorine to store for long periods.) But now, with those storage tanks running on empty, and the output of new caustic soda on the wane, scattered shortfalls of caustic soda have begun to emerge, Lindahl reports. The tightness is worst on the West Coast, where some buyers are on allocation due to recent winter storms in China, which have hampered exports of caustic soda out of China.

The tightness in caustic soda, with no let-up in demand, has caused suppliers of the chemical to ratchet up their prices. At the end of 2007, U.S. producers announced price increases of $75/ton for caustic soda. However, by January, the producers were accepting new contracts calling for a $25/ton hike. The remainder of the increases, they said, would be implemented later. According to Shamel, this suggests that supply for caustic soda "may not be quite as tight" as has been reported. Otherwise producers would have pushed for—and gotten—the full magnitude of their increases.

North American supplies of chlorine and caustic soda could be impacted in the short term by a $1 billion Shintech chlor-alkali facility due to start up in the next few months in Plaquemine, La. According to reports, the unit's chlorine output will go into the production of 900,000 tons/year of vinyl chloride monomer, a PVC precursor, and will also yield 600,000 tons/year of caustic soda. However, over the next three years, Dow Chemical plans to make changes at its Freeport, Texas chlor-alkali plant that will result in a net loss of 450,000 tons/year of caustic soda capacity at the site. Also offsetting the Shintech expansion is Occidental Chemical's taking of some 200,000 tons/year of caustic soda capacity offline.

To blunt the impact of costlier caustic soda, Michael Filitti, senior buyer for strategic procurement planning at Alliant Energy in Cedar Rapids, Iowa, has enlisted several strategies. "Where possible, we try to negotiate contracts that lock in pricing." To obtain volume discounts, Filitti tries to consolidate to fewer suppliers, rather than buy on the spot market to avoid sudden price hikes.

"We do advanced buying if we know the price is going to spike," Filitti adds. Another economizing measure, adopted last year, was to switch to a less expensive grade of caustic soda, which saved about $40/ton.

Buyers of chlorine, meanwhile, will not face higher prices anytime soon. Lindahl says PVC demand will be down and projects little change in chlorine demand through 2009.