The steel sector has been at the receiving end of external events in recent months. Earthquake-hit Japan is yet another addition to the list. The country plays a key role in the sector, being the second largest producer after China.
Rising iron ore and coking coal prices had singed operating margins of steel companies in the December quarter. More recently, floods in the Queensland region had hit coking coal exports, sending spot prices soaring. Also, the Chinese government’s attempts to soft land the economy have affected steel output. In January, China’s crude steel output was up by just 0.5% year-on-year.
Japan produced nearly 110 million tonnes of crude steel in 2010, or 8% of the global output. It consumes nearly 60% of its output and exports the rest. In the near term, production stoppages at user industries and the effect on consumer demand could affect steel demand from end-users.
A research report by Citigroup Global Markets Japan Inc. estimates that Japan’s industrial production will fall by 1-2% in March-April. Power disruption could affect economic activity with a greater impact on production than in 1995, when the Kobe earthquake had hit Japan. Most analysts said that after the initial shock to economic growth, rebuilding activity will see the construction sector benefit, as it did in 1995. Citigroup estimates this to be in full swing by the second half of 2011.
But there are some differences between the present and the Kobe quake. Citigroup expects a reduction in power supply if there is a meltdown at any of the nuclear facilities. A report from Nomura Economic Research also expects the short-term impact of the quake to be higher due to the damage to critical infrastructure over a wider area.
Steel prices rising in the near term due to lower steel output is one outcome. But demand for steel may fall as well, offsetting lower output. Once rebuilding begins, construction-related steel demand will surge. The risk is global steel production rising faster, which may happen as the current global steel capacity utilization is only 76%. That leaves enough headroom to expand, as it had peaked at 82% in 2010.
Steel prices are expected to be higher in 2011 compared with 2010, due to rising input costs. The current crisis adds a bit of volatility to it, but its effect on prices is still uncertain.
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