Evidence of the problems with China’s economy exist across different industries. This is especially true of the housing, rail, and steel industries. As housing prices decrease, so does demand for construction inputs such as steel, which decreases the price. To keep factories running, producers are turning to foreign markets to sell their steel. As a result, China’s steel exports have reached record highs at 100 million metric tons in the last 12 months. In response industrial production is starting to slow, which puts downward pressure on upstream mines and quarries that produce necessary raw materials.
To counter this, the Chinese government has been investing in infrastructure such as rail lines. Though they spent $130 billion on rail infrastructure last year, the amount of rail freight fell 11% in December and 9% in January relative to the previous year. This is largely due to decreased transportation of coal, a necessary input to steel production. In addition, continuing fiscal reforms are making it more difficult for local governments to fund this activity. Therefore, severe decreases in the price of steel are causing a ripple effect throughout the economy.
There was a very similar Wall Street Journal article today. The article focused on Chinese steel producers “dumping” steel into foreign steel markets at low prices in order to gain market share. While many countries have imposed import steel tariffs and anti-dumping policies, China circumvents anti-dumping efforts by using middlemen such as Korea to develop the steel.
Steel is a fixed-cost industry peculiarly subject to large price swings. As a first approximation, a smelter needs to be operated at a steady rate — if you shut it down you get slag and steel solidifying inside and have to partially rebuild it, plus it takes a long while (= cost for fuel) to bring a furnace up to 1500º or so where it can work. So while marginal costs aren’t nil, shutting down may incur a big loss, selling steel at a steep discount may give a smaller loss….not a nice set of choices.
In addition there’s the political economy side, as many steel mills have investment by local governments. Unless it’s a recently built high-productivity mill, once it closes, it’s gone for good. Local governments thus face a temptation to subsidize their babies, which in turn makes life harder for everyone else as capacity doesn’t adjust.