Falling Steel Production Hits China Factory Output

BEIJING -- The contraction in China's steel production, a global bellwether for heavy industry, deepened in November, driving the nation's factory output to its worst performance on record.

China is the world's largest producer and consumer of steel, and the industry's decline is battering companies that have relied on the country's steel boom for growth, from Chinese electricity producers to big iron ore miners such as BHP Billiton Ltd. and Rio Tinto PLC.

Data for November underscore the severity of the downturn. In November, Chinese crude steel output fell 12.4% from a year earlier, to 35.2 million metric tons. That production was 18% below October's level.

Dragged down by this decline as well as drops in other businesses such as chemicals, China's overall industrial production in November rose only 5.4% from a year earlier, compared with an 8.2% gain in October. The latest figure marks the lowest growth rate for a nonholiday month since China started keeping such statistics in 1994.

In recent years, China rapidly bulked up in steel production to feed its booming housing market and supply factories that were pumping out exports. With both of those drivers now having gone sharply into reverse, steel is at the leading edge of China's economic slowdown.

Steel's importance means the sector is also being closely watched for any signs of a turnaround, though even optimists say the bottom is still months away. China's Industry Minister Li Yizhong, speaking Friday, said the worst is still to come.

"Many factors are combining to produce a striking impact on industry. Our forecast is that we have not yet bottomed out, and the impact will continue to widen in December," Mr. Li said.

Many private economists agree with that assessment. The downturn in demand for metals, which need huge amounts of energy to produce, is being felt throughout the Chinese economy. For instance, electricity output dropped 9.6% in November from a year earlier; in October, the decline from the same month of 2007 was just 4.0%.

President Hu Jintao spent the past weekend visiting businesses in the northeastern China's rust belt, including a steel plant. "Because of the effects of the international financial crisis, China's employment situation next year will be very serious," he said, according to the official Xinhua news agency.

That reflects the fact heavy industry plays a much bigger role in China's economy today.

"A large share of investment spending went into heavy industry in the past decade. It is this sector that is now feeling the pinch of excess capacity and stocks," said Ben Simpfendorfer, an economist with Royal Bank of Scotland.

But heavy industry should also be the biggest beneficiary of the government's 4 trillion yuan ($584.4 billion) investment program to revive the economy. Much of that is going to infrastructure projects such as railways and airports that will need lots of steel and cement.

"We have some orders already" from projects in the stimulus plan, said Henry Yu, chairman of General Steel Holdings Inc., a Beijing-based steelmaker. "The implementation of the stimulus package will have a more obvious impact in the first quarter of next year," probably after the Chinese New Year holiday, which falls in late January, he said.

There are a few positive signs. Prices of steel products used in construction were stable or slightly higher in late November compared with previous weeks, according to the China Iron & Steel Association. China's central bank said Monday that growth in local-currency bank loans picked up to 16% in November from 14.6% in October, an indication that financial institutions may be heeding government calls to step up lending to support the economy.

Still, Mr. Li, the industry minister, said it will take steel companies until March to run down the stockpiles of raw materials bought at high prices earlier this year. As selling prices for steel have already fallen about 40% from their peak in July, it's almost impossible for most producers to make money. "It's not just small companies that are losing money, it's also the big ones, so the situation is really rather serious," Mr. Li said.

Distributors of steel who got saddled with inventories of products bought at high prices are now reluctant to risk buying any more, which is aggravating the slowdown in demand. "There is a decline in real demand, but there is also a problem with confidence in the market," said Mr. Yu, the steel executive. In his view, though, "China will be the first economy to turn around, and steel will be the first industry to turn around."

The shape of the industry could change dramatically, as the government is encouraging consolidation among China's more than 1,000 steelmakers to deal with excess capacity.