* Cotton yarn imports seen up as much as a third in 2013
* Imports free of quota limits, cheaper than domestic yarn
* Stockpiling makes domestic cotton about 40 pct more expensive
* Spinning machines sold to firms in Malaysia, Pakistan, Vietnam
By Niu Shuping and David Stanway
BEIJING, Jan 17 (Reuters) - China's aggressive cotton stockpiling policy has pushed up domestic prices, forcing the world's largest textile industry to boost imports of yarn by as much as a third in 2013, while production moves to southeast Asia, drawn by lower costs there.
Beijing's stockpiling moves, launched in 2011 and designed to support farmers, have held domestic cotton prices about 40 percent above world levels as the country has built a reserve that traders estimate to stand at about 10 million tonnes.
But while helping growers, the policy has hurt China's textile mills, sucking supplies out of the domestic market and forcing them to rely on imports.
Chinese textile mills are turning to neighbours such as Indian and Pakistan to buy cotton yarn. Yarn imports, unlike raw cotton, are free of Beijing's tough quota limits and cost about 2,000 yuan ($160) less per tonne than at home, traders said.
"The policy has forced textile mills to import cheap yarn, the prices of which are very competitive, while they are turning down expensive domestic yarn," said Wei Linyan, an analyst with industry website Sinotex.com.
Textile mills use yarn from India and Pakistan for low-grade products such as towels, T-shirts, jeans, stockings and underwear. Many of the mills are small, and compete fiercely to cut raw material costs.
"China is not going to destroy its textile industry. They've built these stocks to maintain full employment and the mills have realised they can't make money and (so they) import yarn," said industry expert O.A. Cleveland, a professor at Mississippi State University in the United States.
"New (cotton) consumption is being routed through India and Asian countries," he said.
China's cotton yarn imports from September to November 2012 rose 56 percent on the year to 409,877 tonnes. December data is not yet available.
Imports over the year to August 2012 were 1.3 million tonnes for an annual increase of 43 percent, according to official customs data published by industry website cncotton.com.
But traders said the actual figure could be more than twice that, if the official data was combined with cargoes imported through border trade with Vietnam.
"China is short of cotton yarn, not cotton," said one senior trader, noting that expensive domestic cotton has forced some Chinese spinning mills to shut down.
Beijing paid 20,400 yuan ($3,300) per tonne of cotton in 2012, or 40 percent above global prices, under its stockpiling policy, accumulating nearly 80 percent of the domestic cotton harvested in October. Together with stocks bought the previous year, it will hold more than 10 million tonnes by the end of March, traders say.
Faced with expensive domestic supplies and limited access to cheap imports, textile mills complain the policy has eaten into profits and could erode China's share of the global market.
China is the world's largest textile exporter, but exports grew just 2.8 percent in 2012, compared to 20 percent in 2011, because of overseas markets weak, according to customs data.
This year, the government, eager to cut massive stockpiles, struck a compromise by rewarding textile mills with a 1-tonne import quota for every 3 tonnes of expensive state cotton reserves bought.
But trading in the past few days has been sluggish and average prices remain higher than imports.
Mills in China also face rising labour costs and manpower shortages, with many having sold their spinning machines to plants in Malaysia, Pakistan and Vietnam, said Philip Wu, China general manager with importer Icotton based in Hong Kong.
"Many of the mills there are owned by Chinese bosses," Wu added. "We are expecting to see the largest ever relocation of textile mills in three to five years, after which China will start to import textile products." ($1=6.2165 yuan) (Additional reporting by Josephine Mason in New York)