China’s Steel Oversupply Threatens to Destabilize Global Market

Shanghai trader Yu Yongzhang’s annual steel sales have shrunk by more than three quarters in a matter of years, in a market so bad he “can't see light at the end of the tunnel.” More than 1,000 miles away in Chile, Hector Medina is about to lose his job after almost five decades working in the Huachipato steel mills.

The unifying factor is China, the dominant force that’s long held sway over the industry they work in, and so also their careers and livelihoods.

When it comes to steel, China is king, producing more than 1 billion tons a year, well over half the world’s output. But now it’s wobbling. And just as it shook the global industry during its rise to become the metal’s super-producer, a decline from peak steel has the potential to be no less turbulent.

Quite simply, a domestic construction slump means there’s too much steel and too little demand. For the rest of the world, the fear is that it will become more of a dumping ground for excess product, cutting prices, driving plants out of business and putting workers out of jobs.

That would add to the economic challenges facing the world right now, particularly in Europe where Germany is set to barely grow at all this year. The US has ramped up protections for the industry, but any perceived threats could still become political issues in the presidential election given steel’s importance in swing states like Pennsylvania.

President Xi Jinping’s push to end reliance on property-led growth has profound implications for the steel industry. He wants high-tech manufacturing and green technologies to power the world’s No. 2 economy in coming decades, and the country’s real estate crisis has brought to an end a long era of rapidly-expanding demand.

But there are big questions about how a contraction can be managed by the country’s leaders, as they try to support the economy and jobs.

“Margins are shrinking along with plunging prices. I can hardly earn any money this year,” said Yu, whose trading business in Shanghai sells steel piles for building foundations — a classic construction-steel product. “Chinese demand is weak.”

The extent of the challenge was laid out starkly this week by Hu Wangming. As the boss of China Baowu Steel Group Corp., he oversees an empire of blast furnaces — the towering smoke stacks that have underpinned global industrialization for two centuries — churning out 130 million tons of steel every year. That’s more than the US, Germany and France combined.

Even though he’s far from the first to sound a warning, when Hu said China’s steel sector was facing a “harsh winter,’’ his words carried weight, both within China and across the rest of the world.

Read More: China's Steel Titans Finally Bend to Reality

Shanxi Jianbang Group also highlighted the crisis in recent days. The steel industry needs to cut more than 30% of enterprises to get out of the current difficulty, General Manager Zhang Rui said on Aug. 15, according to a statement on its WeChat channel.

“China’s steel demand has already peaked, and next we should see a steady decline,” said Wu Wenzhang, founder of consultancy Shanghai SteelHome E-Commerce Co. who’s spent 40 years in the industry. “It will be very difficult for steel to get out of this cycle over the next two to three years, unless there’s a strong push from the government for mergers and restructuring among steel companies.”

In addition to the property downturn, infrastructure spending has begun to flag and factories are struggling with steadily falling prices. Still, China’s economy is on track to hit a growth target of around 5% even as Xi’s government has shied away from the kind of massive stimulus seen in previous crises.

Lower prices are of course a boon to businesses that use steel, but the impact on producers is proving severe, with profits under pressure and plants closing.

Chile’s government this year rushed in new tariffs on imports from China to stop Cap SA closing its furnaces. The company first reversed its decision, but after another quarter of heavy losses, reinstated the shutdown.

That’s left 72-year-old Medina, a union leader, negotiating severance packages for 2,500 workers. It’s also a blow for the local economy, where more than 20,000 people rely on the operations in some way. Even the local football team and stadium are named after them.

“The closure is disgraceful and the result of absolutely unfair competition from China,” Medina said. “We’re all going to lose our sources of income.”

In Europe, where steel demand was already anemic, Germany’s Salzgitter AG cited excess capacity and Chinese exports when it reported a first-half loss this week. The Economy Ministry told Bloomberg it’s monitoring the situation and noted the “tough international competition.” ArcelorMittal SA, Europe’s top steelmaker, has made similar criticisms.

“The warning from China indicates that our fears are now materializing,” said Martin Theuringer, a managing director of the German Steel Association. “It's about resilience. The overcapacity is jeopardizing the profitability and sustainability of the industry here.”

The last steel crisis in 2015 and 2016 sparked a political firestorm in Europe and the US. Donald Trump centered much of his 2016 election campaign promising to defend the US from cheap Chinese imports, while lawmakers across Europe scrambled to protect their domestic industries.

Much of the current trade tensions between the US, Europe and China are focused on 21st century technologies, but steel retains an ability to inflame emotions, particularly when it comes to historic businesses and the local communities built around them in regions like the American Rust Belt and Northern England. Given the defense sector’s need for steel, it’s also seen as a national security issue.

China’s scale means that even the smallest ripple in domestic demand can cause tremendous damage when it overspills. Its exports were as big as all of North America’s output in the first half, and are on track to reach about 100 million tons this year.

That’s been fueled by a slump in domestic prices that makes it more profitable to ship some steel overseas. Hot rolled coil — a benchmark product — is shipping from China at its cheapest since 2020. Global prices, which typically lag China by 2-3 months, are also at multiyear lows.

Steel, in its more basic form of slabs, sheet or reinforcing bar, is a highly liquid market and it’s usually easy to find a new buyer. And while trade defenses have been stiffened from Europe to the US, the metal is often just rerouted to new markets in what’s akin to a game of whack-a-mole.

Latin America has been grappling with an up-tick of cheap imports due to prohibitive tariffs elsewhere. At the turn of the century, China was sending just 80,500 tons of steel a year to the region. Last year, that figure approached 10 million tons.

“This situation is becoming more and more critical every day,” said Daniel Rey, who heads Colombia’s steel industry group, which wants the government to bring in protections. “We’re left defenseless.”

Earlier this year, addressing the United Steelworkers union, President Joe Biden called for higher tariffs on Chinese steel and aluminum. One of his top economic advisers, Lael Brainard, said at the time that China’s “policy-driven overcapacity poses a serious risk to the future of the American steel and aluminum industry.” The US has also taken steps to curb steel shipped from China through third party countries like Mexico.

The question of how the US and its allies can counter China’s steel clout is rife with tension. Proponents of the proposed acquisition of United States Steel Corp. by Japan’s Nippon Steel Corp., for example, argue it would create a company with the scale to compete. But it’s drawn political opposition, including from both Trump and Biden.

China's steel woes have also spilled over into iron ore, the key ingredient for making the metal. It’s one of this year’s worst performing commodities, and tumbled almost 10% this week alone.

While the biggest miners remain incredibly profitable — it's one of the highest margin businesses in natural resources — executives are concerned at the speed of China’s deterioration.

Now, the government there faces a dilemma. On one hand, authorities may want to restructure the industry, but doing so would strain growth and threaten employment at a time of heightened uncertainty for the economy.

Steel is critical, with millions of jobs reliant on producing the metal and the coal used to fire blast furnaces. Weak demand and overcapacity has led to a rapid rise of loss-making companies, with more than 2,300 firms in the red in June, up by a third from the end of last year.

There are tentative signs of steel producers responding to the current slump, if not resolving the underlying overcapacity challenges. Output in July was down 9% from a year earlier and exports have turned slightly lower in recent months.

There is some precedent for a top-down restructuring. After the 2015-2016 downturn, Beijing ordered sweeping closures of old plants and brought in tougher rules for building new ones.

The latest effort to tackle over-production was launched at the turn of this decade, this time under the auspices of decarbonization. After output ballooned to a record 1.05 billion tons in 2020, Beijing imposed a cap at or below the previous year’s level to rein in emissions from the polluting industry. The effort has been broadly successful on its own gradualist terms, but it’s yet to deliver a significant cut to production, which has stubbornly remained above a billion tons.

It’s kept that level largely thanks to the release valve from exports. Domestic demand has fallen more than 10% since 2020, according to researcher Kallanish Commodities Ltd. The World Steel Association said in April that China may have reached peak steel demand, with further declines likely in the medium term.

“It is normal for one to lose money, but it is abnormal for the entire industry to lose money, so the government policy must be adjusted,’’ Steelhome's Wu said. “The entire industry will be very miserable if it just relies on the market.”