February 23, 2009 / 8:12 AM / 11 years ago

UPDATE 1-China's severe steel over-capacity to persist

By Lucy Hornby

BEIJING, Feb 23 (Reuters) - China’s crude steel capacity reached 660 million tonnes at the end of 2008, vastly exceeding this year’s expected output of 490 million to 500 million tonnes, senior officials from the China Iron and Steel Association said.

The scale of production this year, which will likely fall just below 500.5 million tonnes in 2008, depends on whether China’s economy can stage a recovery in the second half, since export markets are likely to continue to be weak, Luo Bingsheng, secretary-general of the association, told reporters.

The Chinese steel industry’s direct or indirect reliance on exports is about 23 percent, underscoring the sector’s vulnerability to a global economic downturn, Luo said.

“A lot of people don’t realize this, but our steel industry is deeply dependent on outside markets,” Luo told reporters.

“Some people may view demand as reviving (because prices recovered in January), but I don’t. The imbalance in supply and demand will continue to create an unstable situation.”

Only additional government measures to stimulate demand will allow the Chinese steel market to regain its feet, he said.

Over-capacity is expected to be a particular problem for mills making hot-rolled and cold-rolled steel, Luo said.

Chinese mills expanded into those products in response to high prices in previous years, and were encouraged to do so by government policies that supported investment in higher-value steel making capacity. Only about 30 percent of Chinese mills managed to avoid losing money as steel prices crashed in October and November, Luo said. Most of those were smaller, private mills, which tend to react faster to market conditions and generally make cheaper long-steel products.

In 2008, Chinese construction steel production fell by 0.48 percent, to 262.5 million tonnes, while steel sheet output rose 13 percent to 207 million tonnes.

KEEPING IRON ORE UNDER WRAPS

Chinese prices for construction steel have held up reasonably well, and many mills have restarted operations to benefit from government efforts to stimulate the economy.

That could complicate Chinese efforts to keep iron ore prices as low as possible, in ongoing term negotiations with the world’s three largest miners, Vale VALE5.SA(RIO.N), BHP Billiton (BHP.AX)BLT.L and Rio Tinto (RIO.AX)RIO.L>. The new prices will take effect on April 1.

The huge capacity overhang won’t help either, since Chinese mills could race to secure supply as soon as the market improves enough to make a profit.

The association is trying to rein in speculative buying by organizing contracts between small mills that lack the right to import directly, and trading companies, who would be limited to a 3 percent surcharge.

“Europe, which is a big market for Vale, has cut steel production, and Japan and South Korea have also cut. So its imperative for us to keep Chinese demand under wraps and maintain a regulated market,” Luo said.

(Editing by Ken Wills)

((lucy.hornby@thomsonreuters.com; +86 10 6627-1269; Reuters Messaging: lucy.hornby.reuters.com@reuters.net)) Keywords: CHINA STEEL/CAPACITY

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