The past week has seen the release of some figures on China’s economic performance that Macquarie Research describes as “stunning, underscoring the unmitigated success of its fiscal and monetary stimulus package.” Many economic commentators continue to maintain that it is the ‘wrong’ sort of growth (with some worries about asset inflation risks), but for commodities, Macquarie believes it is the “right sort of growth with emphasis on infrastructure spending, which is very steel and metals intensive. Our belief is that real consumption will, if anything, be stronger in the second half as the infrastructure and construction spending continues to grow.”
Data from the steel and metals sector continues to surprise observers with its strength. The biggest surprise came on Friday when the National Bureau of Statistics published a sizable figure for June crude steel production of over 600 Mt annualised, over 30 Mt annualised higher than the previous all-time high of June 2008. “The Chinese government’s own forecast of 2009 steel production of 460 Mt for 2009 (versus 500 Mt in 2008) looks likely to be around 100 mt too low,” Macquarie comments
“Such a strong rise in production was totally unexpected and the steel ‘bears’ will talk of growing over-supply (stock building). However, steel prices are rising and all indications from China are that there is minimal inventory build.”
Macquarie also believes that rising steel prices suggest a good balance between Chinese supply and demand. The surge in steel production has created a major squeeze in raw materials supply demand with China rushing to import more and more steel scrap, coking coal and iron ore in recent months, sending spot prices for these commodities higher. Spot iron ore prices have surged to 10% above the recently-negotiated prices agreed between the suppliers and steelmakers outside China.
“We now understand that despite the lack of a formal agreement to the new prices, most steel mills have agreed to pay the new prices ‘provisionally’. In coking coal, spot sales are now being transacted at $140-50/t fob Australia, up from the contract benchmark range of $120-130/t and Chinese buyers are taking every available spot tonne they can lay their hands on, creating shortage fears among Indian and European coal buyers.
“Soaring steel prices in recent weeks outside China indicate that the destocking process is now over and steelmakers in Europe, Japan, Korea and the USA are now looking to turn back on supply as prudently (and quickly) as they can. A competition between Chinese and non-Chinese steelmakers for available raw materials is starting.
“The logical outcome is that raw material production gets turned back on in China and elsewhere. However, outside China infrastructure is rearing again as port and rail bottlenecks reappear.
“The need for Chinese domestic production of iron ore and coal to rapidly restart is growing. Indeed, the latest reported data for Chinese coal and iron ore production shows that this is now happening. However, since exports to the rest of the world will continue to grow, this will not create over-supply in the raw materials, in our view.”