OREANDA-NEWS. Overcapacity in the global steel industry has become increasingly topical in recent years. The OECD estimated global steelmaking capacity at 2.37 billion tonnes in 2015, versus production of 1.62 billion tonnes, implying capacity utilisation of less than 70%. In the past decade, global steelmaking capacity grew 75% as demand growth surged, while steel output grew just 41%. Weakening demand growth in recent years has accentuated industry overcapacity. Our analysis indicates it may take years for the market to rebalance and for capacity utilisation to materially improve. 

Seaborne steel trade flows have grown in recent years in absolute terms. However, in past years they accounted for a higher proportion of the global market. From 1995 to 2005, over 37% of world production hit the export market. This reduced to an average of less than 31% during the 2005 to 2015 period, well below a 20-year average of 34%, following strong demand growth last decade (primarily in Asia). Amidst a more recent backdrop of weaker global demand growth, the relative proportion of steel channelled towards the export market is rising once more; a trend which we expect to continue in the years ahead.  

Protectionist measures may delay market rebalancing

Rising exports in recent years have spurred a sharp rise in protectionist measures aimed at shielding domestic steel industries from the threat of higher imports. Over the longer-term, the benefits of such trade barriers have been highly questionable at best. As an example, in past years Indian steelmakers lobbied for a ban on iron ore exports to preserve the raw material for domestic mills. In early 2011, the government raised its export duty on iron ore from 5% to 20%, before raising it again to 30% at the end of 2011. As international iron ore and steel market prices dropped in subsequent years, India’s iron and steel industry was left struggling to compete with the international market. In 2015 (calendar year), India became a net importer of iron ore, while steel imports have also increased sharply in recent years.

Precedent has generally shown that protectionist measures in the steel industry have proven politically attractive in the short-term though economically damaging in the long-term. According to a study of past safeguard measures in the U.S. steel industry by the Institute of International Economics, they concluded that the costs of protection far outweighed the benefits, merely ‘slowing down’ the demise of uncompetitive firms. In this short, rising protectionist measures may be delaying the restructuring and reforms necessary to address overcapacity in the global steel industry.


Asian steel trade is internationalising

Steel has historically been a highly regional and fragmented industry, though this is gradually changing. Upstream, the past decade has seen rapid development of more globalised market structures for major steelmaking raw materials pricing: iron ore and scrap are spot or spot-referencing and coking coal has one foot in spot, one still in the quarterly benchmark. Downstream, major steel-consuming industries have also generally become more internationally-focused. While the steel industry has arguably lagged in this regard, regional steel prices have notably become more closely interlinked. For example, correlations between ASEAN and U.S. HRC prices had been around 71% since 2011. During 2014-15, this correlation increased to approximately 95%, with similarly high correlations between ASEAN and European HRC prices.     

Over the past two decades, there has been a clear and structural shift in both steel production and consumption to Asia. Last year, Asia accounted for more than two-thirds of global steel output, up from around 37% twenty years ago. Regional steel trade has also risen, with Asia now accounting for almost half of global steel exports, and accounting for a substantial share of global steel imports. It is notable that the four main north Asian steel-producing nations (China, Japan, South Korea and Taiwan) collectively account for approximately 90% of Asian steel production. Meanwhile, India and ASEAN exhibit relatively low steel consumption per capita compared to the global average, and offer strong medium-term demand growth potential as the countries continue to urbanise and industrialise. All things considered, continued structural growth in pan-Asian steel trade flows appears likely as the established scale, quality and competitiveness of north Asian steelmakers will mean they are well-placed to supporting steel demand growth across emerging Asian regions.

Rising need for an Asian benchmark steel price

As steel trade flows grow, a rising and pressing need is materialising for a neutral, market-based pricing benchmark and corresponding price risk management tools, which may in turn further facilitate trade development and reduce regional trade frictions. Indexation has already become the dominant pricing model in the physical seaborne iron ore market. Greater indexation in steel would allow market participants to focus more time and attention on key value-add aspects of their business and worry less about price alone, while a more standardised and market-based price formation structure can reduce counterparty risk. The emergence of a credible Asian steel benchmark – trusted and accepted by producers, consumers and traders globally/regionally – is a natural next step for the industry.