G20 kicks steel overcapacity can down the road again

LONDON (Reuters) - When G20 leaders met in the Chinese city of Hangzhou this week, they did so under, if not quite blue skies, at least smog-free skies.

Chinese President Xi Jinping, front right, speaks during the opening ceremony of the G20 Summit in Hangzhou in eastern China's Zhejiang province, Sunday, Sept. 4, 2016. REUTERS/Mark Schiefelbein/Pool

That’s because the Chinese authorities had ordered hundreds of industrial plants in and around the city to close.

A survey of 32 construction-steel mills in the region by industry consultancy Mysteel found almost half had either halted or curbed output since July.

Such is the nature of a command economy.

What the rest of the G20 would really like to see is that same draconian action extended permanently to more Chinese steel capacity. Ideally around 300 million tonnes of it.

Because while everyone is agreed that overcapacity in the steel sector is “a global issue” requiring “a global solution”, to quote the U.S. government Fact Sheet on the G20 meet, the fact of the matter is that a large part of that steel overcapacity is in one country.

And although Beijing has committed to eliminating a very large amount of steel capacity, 150 million tonnes over a five-year period, it is highly unlikely to stem the flow of steel products into the rest of the world.

Everyone knows this but the best the G20 could come up with is a global forum to “address steel excess capacity and encourage adjustments, and to report back to the G20 in 2017”.


Beijing’s determination to address its own steel problems shouldn’t be dismissed lightly.

It has set a target of 45 million tonnes so far this year and although it is running a little behind schedule, the Chinese government does targets well.

And hitting that target will come at a massive social and financial cost.

Britain is currently in hand-wringing mode about the fate of the Port Talbot steel plant in Wales, which employs around 4,000 workers.

If China makes good on its pledges of cutting both steel and coal capacity, job losses will be in the hundreds of thousands while closures risk opening a Pandora’s box of toxic debt.

Would the European Union, for example, be prepared to enforce similar action on its own steel sector, which has also suffered from chronic overcapacity for years?

Answers on a postcard to Brussels.


The problem is not Beijing’s willingness to try and do something about its leviathan steel sector but the effectiveness of its capacity closure program.

China’s own steel association, CISA, has previously estimated there may be around 300 million tonnes of excess capacity in the country.

Quite evidently, that’s a lot more than the government’s official closure target.

More importantly, what exactly is being closed? Are they active steel production lines? Or are they dead mothballed mills? Or is it “zombie” capacity that flits in and out of productive life as prices and margins allow?

Because if it’s the latter two, there will be little or no impact on actual production, or, if there is, it will be a counter-intuitive one of higher run-rates as other mills benefit from improved margins.

Analysts at Macquarie Bank argue that “while rhetoric and news flow remains highly visible, our industry contacts continually tell us that they do not believe that capacity closures (...) will have any impact on output or prices”.

“There is a clear belief that there remains enough latent capacity in the system that no ‘effective operating capacity’ will need to be closed to reach the targets outlined by the government.” (“Supply side reforms report”, Aug. 31, 2016)

The bank’s comments pertain not just to steel but also to other Chinese industrial sectors weighed down by excess capacity such as coal and aluminum.

The closure of plants in and around Hangzhou in recent weeks offers an interesting lesson in how capacity closures can generate unexpected side-effects.

Chinese steel prices have risen since late May, with mills reporting some of the best profits, or in some cases just profits, for years.

Demand has played its part in that but the removal, albeit temporary, of significant production capacity for the G20 meet has acted as a price accelerator.

And faced with higher prices and improved margins, China’s mills have done what any other industrial plant would do: Lift production.

After falling sharply over the first two months of 2016, national steel production has been running at higher year-on-year levels since March.

So too have exports.


The growth in exports has, however, slowed significantly to “just” 8.5 percent over the January-July period from close to 20 percent last year.

That’s down to improved demand, a result of China’s mini stimulus earlier this year, which like previous stimulus packages has been directed down the tried-and-trusted channels of infrastructure build and housing construction.

The irony is that such command-economy stimulus might prove as effective an antidote to the global steel sector’s woes as capacity closures.

Yet there is no sense that the G20 is seriously thinking about the demand side of the equation. Economic stimulus in the form of infrastructure build is so, well, Chinese isn’t it?

And given no-one else seems ready to address their own regional excess capacity, the immediate outlook seems to be for more of the same.

Which, as the U.S. pointedly noted in its official statement, means addressing “many of the trade-related challenges in the global steel industry”.

“This includes enforcing 160 anti-dumping and countervailing duty orders on steel and steel-related products, tracking U.S. and global steel trade flows, working to address evasion of anti-dumping and countervailing duties and upholding U.S. rights under trade agreements.”

For which read a continuation and possible escalation of the already simmering global steel trade wars.

The next G20 meeting is scheduled for early July in Germany. That’s when the global forum on steel will report back.

On current trends China will have exported another 100 million tonnes of steel products by then.

That sound you can hear echoing all the way from Hangzhou is of a steel can being kicked further down the road.

Editing by Susan Thomas