(Repeats column from Tuesday, with no changes)
By Andy Home
LONDON, Feb 28 Chinese steel production rose by
7.4 percent in January compared with a year earlier, according
to the World Steel Association (WSA).
A few years ago such a growth rate would have been viewed as
normal, even perhaps as a bit on the weak side.
But after three years of flat or falling output, it's
something of a stand-out.
True, this is still an estimate by the WSA. The official
figures from China are still pending as the local steel
association CISA aggregates two months data over the start of
any calendar year due to the disruptive effect of the Chinese
New Year holidays.
But the direction of travel has been clear for some time
now. Chinese steel output returned to growth around the second
quarter of last year and has been accelerating ever since.
This, it is worth emphasising, is not how things were
supposed to be. It's only a year ago that the world's big iron
ore miners were lamenting the passing of the Chinese-fuelled
"super-cycle" and girding themselves for a period of low
The subsequent surge in iron ore price, currently trading
above $90 per tonne on a spot basis, has been as
unexpected as was the original collapse.
Is it all a bubble? Or is it for real?
On that question hangs not just the outlook for the iron ore
price but that of just about every industrial commodity.
Graphic on China's steel production:
Graphic on China's steel exports:
PRODUCTION UP, DEMAND UP
There's another unexpected development when it comes to
China's huge steel sector.
As production has risen, exports have fallen.
This time last year China's soaring steel exports were
generating such a collective reaction from the rest of the world
that the issue moved onto the G20 agenda.
Exports of steel products averaged 9.5 million tonnes per
month in the first half of 2016. The rate dropped to 8.6 million
over the second half of the year. January's export rate was 7.4
million tonnes, the lowest monthly reading since June 2014.
Trade sanctions have proliferated in the interim but there
are plenty of gaps between the multiple trade barriers if
Chinese exporters were minded to exploit them.
Rather, the simplest explanation is that less steel is
seeping out of China because domestic demand is so robust.
Chinese exports of steel, similar to those of aluminium
products, have historically acted as a safety valve for
over-production relative to local demand. That safety valve, it
seems, is less needed right now.
STIMULUS AND SUPPLY-SIDE REFORM
The single most important driver of increased domestic steel
demand has been the stimulus package launched by Chinese
policy-makers at the beginning of 2016.
Having told everyone that China would transition away from
its old fixed-asset-investment model, Beijing flip-flopped in
the face of slowing growth and did exactly what it had done in
the past, namely pump money into infrastructure and
Steel, and its key metallic input iron ore, is always the
first-stage beneficiary of such activity. No surprise then that
Chinese steel producers responded to this renewed demand spurt.
But China has learnt the lessons of past stimulus, which has
generated unintended consequences in terms of excess industrial
capacity and ghost cities.
All other things being equal, Beijing would be expected to
rein in spending just as soon as it can, which is why most
metals analysts have been extremely cautious about the demand
outlook beyond the next quarter or so.
But, something else is happening now, according to analysts
at Goldman Sachs.
Credit to what the bank terms China's metals-intensive "old
economy" has not only not slowed but has actually accelerated.
"Over the two months to January 2016, China's 'old economy'
received 2.2 trillion renminbi of medium and long term loans,
which was in turn used to fund metals intensive property
developments, manufacturing capacity additions, infrastructure
projects and property purchases, driving a nine-percent
acceleration in Chinese FAI growth over the following two
months, and more broadly, underpinning the 2016 commodity price
boom". ("Metal Detector", Feb. 16, 2017).
Credit to the "old economy" in the two months to January
2017 totalled 3.3 trillion renminbi, a 50-percent increase on
the year-earlier level.
And, critically, this is not the government pushing credit
into the economy, but rather the economy, particularly the
private sector, demanding and receiving more credit, according
to Goldman Sachs.
Which is where Beijing's supply-side reform comes into play.
It should be clear by now that China's ongoing campaign to
eliminate steel capacity hasn't affected the country's ability
to make more of the stuff.
That's because much of what has been closed was either
already-idled capacity or "zombie" plants, still operating but
only to generate sufficient cash flow to service debt.
The ongoing removal of such dead weight has caused
profitability to surge across the rest of the steel sector.
Profitable companies look to invest and profitable companies
are more likely to qualify for bank loans.
Such "organic" credit growth, as Goldman calls it, is going
to be more sustainable than that dependent on Beijing's stimulus
IN THE PRICE?
Goldman contends that the flow-through effects of this
renewed "old economy" credit surge haven't even really begun
That's not to say that they are not in the iron ore price.
There is certainly a degree of exuberance in China's
exchange-traded iron ore price, although it's rational rather
than irrational exuberance.
The more intriguing question is whether this new credit
growth is in the price of other metallic commodities such as
copper or zinc.
The base metals have also rallied over the past few months
but not nearly as dramatically as iron ore. Moreover, they have
done so in large part on a narrative of supply constraint,
witness copper's current fixation with the twin disruptions
caused by the strike at the Escondida mine in Chile and the
suspension of operations at the Grasberg mine in Indonesia.
A stronger-than-expected performance by China's "old
economy" has arguably yet to be factored in.
Steel is ahead of the curve simply because it's what tends
to get used first in new construction.
That's why Chinese production is accelerating so sharply and
exports are falling. As long as they continue doing so, they
will be serving as a pointer as to where the rest of the
metallic complex may be heading.
(Editing by Jane Merriman)