Rio Tinto's agreement to cut the iron ore prices charged to Japanese and South Korean steelmakers 33 percent for the year starting April 2009 has averted an immediate breakdown in the benchmark pricing system. But it amounts to a stay of execution rather than a reprieve.

With only lukewarm support from the major Australian producers, the future for the benchmark system remains unresolved. Rather than a formal breakdown, it seems much more likely the system will continue its recent evolution towards a mixture of benchmark deals and contracts linked to the emerging OTC swap market.

Traditional pricing was based around long-term framework contracts between steelmakers and the three major mining companies (Rio, BHP Billiton and Vale) for the supply of ore, with annual negotiations to settle prices for twelve-month periods.

Negotiations commence the previous summer with the aim of concluding a deal before new prices are scheduled to take effect on April 1. If there is no agreement, the framework contracts provide for deliveries to continue at prior year prices for a further three months, with changes backdated to April.

While the system has served the industry well, it has come under increasing pressure from both consumers and producers in the last five years.

Swingeing increases between 2004 and 2008 triggered fierce protests from steelmakers, especially in China, about market dominance of the big three.

Meanwhile, Australia's producers have complained benchmark settlements do not reflect the superior value of their product in China (in terms of quality and shorter, cheaper shipping costs).

The result has left all sides unhappy, and producers and consumers are locked in an increasingly acrimonious relationship rather than a constructive one. In recent years, benchmark negotiations have proved increasingly protracted, with settlements repeatedly delayed beyond the April deadline.

Earlier this month, iron ore majors hinted they were prepared to walk away from the benchmark system in an attempt to intensify pressure on Chinese and other customers to settle for smaller reductions than many had wanted. That now looks like a negotiating ploy.

But can a system which no one likes survive? Various replacement options are being explored by the industry and banks . BHP has indicated its backing for a shift towards transparent pricing of bulk commodities via OTC forward delivery and OTC financial swaps. It has lent tacit support to efforts by Deutsche Bank, Credit Suisse and others to launch swap contracts (page 23, http://www.bhpbilliton.com/bbContentRepository/docs/steelmakingMaterialsBriefing.pdf,).

Benchmark prices have brought stability and avoided the wild gyrations seen in prices for crude oil, nickel, copper and a host of other commodities. It is not obvious the industry would benefit from the introduction of another source of uncertainty.

But abandoning the benchmarks would help Australia's miners secure a premium for their ore, and might bring an influx of investment funds into the futures/swaps market providing a one-time lift to prices.

At the same time, it might not cost them much control over prices, since the big three would continue to control more than 80 percent of seaborne production and be able to manage production to avert steep declines.

So unloved producers and consumers alike, the slow drift away from benchmarking to a mixed system seems set to continue. (Edited by David Evans)

John Kemp is a Reuters columnist. The views expressed are his own(c) Copyright Thomson Reuters 2009.