UPDATE 2-Small China mills agree 95 pct Rio price hike-trade

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By Nick Trevethan

SINGAPORE, June 10 (Reuters) - China's small steelmakers will accept a 95 percent increase in annual iron ore prices by Rio Tinto (RIO.AX)(RIO.L), but bigger steel firms such as Baosteel (600019.SS) are seen holding out for a better deal, industry sources said on Tuesday.

Market expectations had been for increases of around 85 percent, following rises of 19 percent in 2006 and 9.5 percent last year, but the sharp rise will likely result in further steel price rises.

"Smaller Chinese steelmills will accept Rio's 95 percent price rise. They don't really have any choice," a Chinese steel industry source told Reuters at a conference in Singapore. "But Baosteel won't. They are under too much pressure from the government, and will hold out."

A senior iron ore trader for a Chinese state-owned house said: "It's very likely some small mills have accepted a 95 percent price hike ... but I don't think big mills will accept an increase above 85 percent."

For a chart showing iron ore price changes please click: here

High global freight rates make Australian iron ore comparatively cheaper for Asian buyers than material shipped from Brazil, and Australian miners have been seeking higher prices.

"This rise not only reflects the freight premium, it may also reflect a little panic after the gas explosion in Australia that is causing concern about mine production in Western Australia," John Meyer, head of resources at UK-based Fairfax, said.

Last week, Apache Energy (APA.N) cut gas supplies to Western Australia after an explosion and fire at its Varanus Island facility.

That cut gas supplies to the state by 30 percent, and has forced miners and metal producers to scramble to secure alternative energy sources.

Meyer said the Chinese government would try to hold steel prices back but steel price inflation in China was inevitable.

"There is talk of a major international producer introducing a $250-a-tonne surcharge relating to energy and iron prices. If that goes through, others will follow."

Mark Pervan, senior commodity analyst at ANZ, said this sounded like a good outcome for Rio.

"The market was looking for 85 percent with plenty of upside risk. The Chinese left the door open for this when they settled two different prices for Brazilian ore.

"This highlights how tight the market is and that freight is such a big issue. Historically, freight differentials were never much of a problem, but that's not the case today."

The Baltic Exchange's capesize freight index .BACI, which monitors costs for classes of merchant ships typically hauling 150,000-tonne cargoes, is at 19,253 points, just off a record 19,687 hit on June 5.

Brazil's Vale (VALE5.SA)(RIO.N) has already settled annual contracts with Asian buyers at levels around 70 percent above last year's, but Rio Tinto and BHP Billiton (BLT.L)(BHP.AX), which with Vale dominate the global seaborne iron ore trade, were holding out for more.

A Rio spokesman said: "It's not our policy to comment on price negotiations." (Additional reporting by Alfred Cang, Editing by Ben Tan)