What China Needs to Do to Restore Sanity to the Steel Markets
Chinese steel consumption has plateaued, as is evident from the country’s recent economic indicators. As China (EWH) (EWT) takes strides toward becoming a more consumption-driven economy, the heydays of double-digit steel demand growth seem to be history.
Does this mean that steel investors would continue to be negatively impacted by China’s slowdown in the coming quarters as well? The slowdown in China’s steel markets would continue to put pressure on global markets, but China could still do something to restore sanity to the steel markets.
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Can China cut its excess capacity?
For investors in steel plays like AK Steel (AKS), US Steel (X), and Ternium (TX), it’s more than the slowdown in China’s steel demand—it’s the massive steel overcapacity that is hurting their business prospects. Global steel production capacity has increased massively over the last decade, led largely by China.
Capacity utilization ratio in the steel industry was 72% in May, as shown in the previous chart. Generally, a ratio of 80% is regarded as a healthy sign for the steel sector. This massive overcapacity in the steel industry puts pressure on steel prices as well.
Would the Chinese economy recover?
Although China has resorted to aggressive monetary easing, the country’s economic activity is still languishing. There is always a lag time before central bank actions begin to take effect in the real economy. We’ll have to wait to see if China’s economic activity picks up.
While Chinese steel demand is not expected to spurt anytime soon, it needs to cut its production. But, could China do that? We’ll explore this in the next part of the series.