China's steel and coal sectors provide contrasting stories so far this year, with one failing miserably to curb output and the other cutting so successfully it's led to the unintended consequence of higher prices and imports.
China's steel sector, which accounts for about half of global production, continued its recent strength in August, with output rising for a sixth month to 68.57 million tonnes, the National Bureau of Statistics said on Tuesday.
This brought the year-to-date total to 536.3 million tonnes, a mere 0.1 percent lower than for the first eight months of 2015, and putting the country on track to produce more than 800 million tonnes of steel for a third year running.
The resilience of steel output also makes a mockery of official attempts to reduce capacity in the massively oversupplied sector, and questions whether Beijing has the political muscle and determination to actually restructure the sector.
In contrast, China's coal output dropped 11 percent in August to 278 million tonnes, with production in the first eight months slumping 10.2 percent to 2.17 billion tonnes, according to official data.
China has met about 60 percent of its target for 2016 of cutting 150 million tonnes of coal capacity, according to state media, as measures to restrict the number of days mines can operate take effect.
There is little doubt that China's coal sector has met the challenge of removing excess capacity, and the steel sector hasn't.
This begs the question as to what is different between the two, as they should both be subject to meeting the requirements laid down by the authorities in Beijing.
The main difference appears to be the dynamics of price and profitability.
Coal prices started the year at multi-year lows, with the Chinese thermal coal benchmark SH-QHA-TRMCOAL at 370 yuan ($55.39) a tonne.
It has subsequently rallied almost 540 percent to 515 yuan a tonne on Tuesday, reflecting the tightening domestic market.
But it's worth noting that most of the gains have come in the past two months, meaning that for the first half of the year, China's domestic coal miners were still labouring under low prices and many were unprofitable.
The production cutbacks also stoked demand for imported coal, with inbound shipments up 12.4 percent to 155.74 million tonnes in the first eight months of the year compared to the same period in 2015.
This additional Chinese demand has also fuelled seaborne coal prices, with the Australian thermal benchmark Newcastle weekly index surging 39.5 percent so far this year to $70.61 a tonne for the week ended Sept. 9.
STEEL GAINS CAME EARLIER
Unlike coal, steel's gains were made in the first quarter, with benchmark Shanghai rebar jumping 58 percent from the end of last year to its peak so far in 2016 of 2,670 yuan a tonne on April 21.
Since then steel prices have trended lower, with the contract ending at 2,260 yuan a tonne on Tuesday. However, this is still 33.8 percent above what it was at the end of 2015.
The rising steel price led Chinese mills to ramp up output, especially from March onwards, culminating in record daily production in June.
As can be seen from August's robust output, mills have yet to dial back production even as prices start to moderate, and the likely reason is that they are still profitable.
Steel mills are making profits of about 300 yuan to 400 yuan a tonne at current prices, the highest since November 2014, according to Li Wenjing, an analyst at Industrial Futures in Shanghai.
The improved profitability for steelmakers illustrates just how challenging it is for the authorities to cut capacity if money is being made.
China aims to eliminate 100-150 million tonnes of capacity in coming years, with 45 million tonnes planned for this year.
Even if its does cut this amount, it would still leave about 200 million tonnes of excess capacity in the system, assuming mills operated at 100 percent.
If mills operated at a more realistic 80-85 percent of capacity, then China's planned cuts would tighten the steel market, assuming domestic demand and exports remain around current levels.
The market expectation is that Beijing will cajole capacity cuts in the steel sector over the remainder of 2016, but as events so far this year show, this is far from a given.
If steel prices remain at levels consistent with solid profits, it's likely that the mills will resist attempts to curb their output, and history suggests they are quite good at this.
If prices do retreat further, then it will be easier to cut steel capacity, but any sustained success is likely to make it harder to cut more capacity, and may in fact encourage mills to ramp up utilisation rates and output.
So far this year, the Chinese authorities have accomplished what they wanted in coal, but at the cost of higher prices, and failed in steel, because of higher prices.
This shows that interference in markets seldom comes without side effects, and it will be interesting to see if Beijing allows higher coal output to soften prices and continues to tolerate strong steel production in coming months.http://www.reuters.com/article/column-russell-steel-china-idUSL3N1BQ1O2