Soft underbelly in China's steel sector boom points to bumpier economic recovery

By Enrico Dela Cruz and Min Zhang
MANILA / PEKING (Reuters) - Behind the boom in Chinese steel production since March - and the hope of a rapid economic recovery - there are two different sectors: The demand for infrastructure projects in the construction sector was strong, while the manufacturing sector recovered more slowly.
This underscores the challenge that policymakers face as Beijing and local governments can control the pace of spending on projects such as roads, railways, and reservoirs, but have very limited options to export or domestic demand for machinery and equipment support.
According to analysts, the soft lower abdomen in China's steel revival after the outbreak of the corona virus is significantly relieved by a seasonal downturn on construction sites and points to a longer-lasting recovery of the world's second largest economy after a one-time plunge of a century of pandemic.
"There is only so much that China's steel industry can do while the rest of the world is struggling," said Daniel Hynes, senior commodity strategist at ANZ.
CRITICAL COG
China's mammoth steel sector has long been a central pillar of its industrial power plant. It employs hundreds of thousands of workers who produce important raw materials for industry and support numerous logistics and processing companies.
The economy contracted 6.8% in the first quarter, the first decline in decades affected by the new corona virus that occurred in China at the end of last year.
The rise in steel production to an all-time high in May raised hope that the heart of the economic engine is recovering well and could help revive growth at home and abroad.
In the midst of the latest industry-wide hustle and bustle, however, there was a one-sided dependence on metal demand from construction sites, which partially masked the weakness of manufacturers and questions the robustness of the steel boom and the speed with which China can restore growth.
"The market appears to rely too heavily on expected infrastructure incentives in China to drive demand," said ANZ's Hynes.
REBAR RELIANCE
According to calculations by data tracking company Mysteel, demand for the most important steel products used in construction - rebar and wire - has averaged over 53% of total steel requirements since the end of March.
This corresponds to an average of 47.5% for the whole of 2019 and 51% for the same period in 2019.
At the same time, demand for the manufacturer's key steel products - hot rolled coils (HRC) and cold rolled coils (CRC) - was well below normal, averaging 35% of total demand since late March, against an average of 40.4% in 2019.
The stocks of reinforcing bars also fell faster than for other steel products and decreased by 51% since their peak in mid-March.
Given the scale of the closures in many of China's trading partners, the weak demand for factories is not too surprising and could continue for many months.
However, the increase in total steel production - driven by a 59% increase in reinforcing bars and a 40% increase in wire production since mid-March - suggests that the sector is at risk of over-supplying the market as demand is likely to plunge is from rainy jobs, especially in the south.
The monsoon season, which lasts until August, arrived in southern China 10 days earlier than normal this year and caused widespread flooding that has already stopped at some locations.
"We are now facing the beginning of the traditional doldrums for steel consumption," said Richard Lu, senior analyst at the CRU consulting firm in Beijing. "It will largely depend on the weather, and we should see some decline at least from July, if not late June."
The most active reinforcement contract has risen by 14% since April 1.
DEMAND DEPRESSION
While construction materials are losing momentum, flat steel consumption has been plagued by the global economic crisis, which kept Chinese factories energized.
Sales of steel-heavy items such as cars and machines have declined this year. China's auto exports fell 16.9% in the first five months, and home appliance exports - worth $ 77.8 billion in 2019 - fell 9.1%.
Direct metal exports have also fallen.
STIMULUS TEST
To offset lower global demand, China's policymakers have launched stimulus measures aimed at reviving consumption and supporting major infrastructure projects, including key industries.
However, the uneven steel demand shows the limits of Beijing's stimulus, which involves its own risks, and points to a bumpy economic recovery.
"The Chinese government doesn't want to spend much on reviving the economy because it also means having to go into debt," said Iris Pang, ING chief economist for Greater China.
(Reporting by Min Zhang, Sophie Yu and Tom Daly in Beijing, Enrico Dela Cruz in Manila and Mai Nguyen in Singapore; editing by Gavin Maguire & Shri Navaratnam)

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