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BERLIN SCHOOL OF ECONOMICS AND LAW
Institute of Management Berlin (IMB)
Analysis of the Chinese steel industry
under the perspective of government intervention
Name of Student:
Wang Shuo
Matr. No.: 385301
Masters Thesis
Submitted in partial fulfilment for the degree of
"Master of Arts"
Supervisor: Associate Prof. Dr. Jiannan Guo
Prof. Dr. Hansjrg Herr
Date: June 28, 2014
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Statutory Declaration
I herewith formally declare that I myself have written the
submitted Master Thesis
independently. I did not use any outside support except for the
quoted literature and other
sources mentioned at the end of this paper.
I clearly marked and separately listed all the literature and
all other sources which I employed
producing this academic work, either literally or in
content.
I am aware that the violation of this regulation will be
penalized.
Student Name Students Signature
Student Number Date
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Abstract
Since the reform and opening up China's economy development
rapidly, the industries
such as infrastructure, real estate, construction and decoration
industries grow up quickly, so
as China's steel industry. According to 2013 annual report of
the World Steel Association, it
shows that Chinas steel output 717 (million) tons in 2012,
accounting for 46% of the global
total output, ranking first in the world. What is more, chinas
steel output is much large than the
second one Japan which is 107 (million) tons.
But the problem China's steel enterprises faced is that very low
profits or even losses.
The reason lies in the price of raw materials of smelting of
iron and steel - iron ore. The iron ore
market which Chinese steel companies faced is an oligopoly
seller's market, and look at the
domestic iron ore buyers that steel companies are divided into
two categories: large
state-owned enterprises, small and medium private enterprises or
joint ventures. The rights and
interests of large state-owned steel enterprises are represented
by China Steel Association and
they will negotiation with four iron ore companies. But for the
small and medium private
enterprises or joint ventures, in order to survive, they have
had to buy the spot iron ore from
large state-owned steel companies or trading companies in
high-price before the unified
long-term agreement price.
Meanwhile indirectly undermine the price bargaining power
between the CISA and four
iron ore. It makes the Chinese steel companies (buyer) of iron
ore become a free market
competitor against the oligopoly competitor when faced four big
iron ore (seller). At last, they
loss the initiative and bargaining power to negotiate trade in
the world iron ore market and
trampled passive state.
Due to the soaring prices of iron ore, resulting in profits of
domestic steel companies is
minimal, or even zero profit or loss. Steel companies have to
raise the steel raw materials
prices in order to survive, but this affect the country's 13
major downstream steel companies
such as real estate, infrastructure, transportation, energy,
machinery manufacturing,
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automotive, shipbuilding, etc. this raise prices to pass on the
entire national economic system,
and eventually passed on to consumers.
Under this situation, this article studies on these problems,
propose effective solutions
which are unite all domestic steel companies and set about
establishing a new procurement
system for iron ore, form iron ore purchasing alliance. In this
way, it can improve the overall
bargaining power of chinas steel industries in the international
iron ore procurement
competition. To solve the problems facing by the steel industry
in China which are the process
of globalization of the market and the transformation process
itself. So that China's iron and
steel enterprises could enhance their competitiveness, respond
to international competition
actively, maintain a healthy and stable operation and experience
the transition of the industry
market smoothly.
Key Words: iron ore; steel industry; bargaining power;
integration; government
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Table of Contents
Abstract
...........................................................................................................................................................
3
1. Introduction
.................................................................................................................................................
6
1.1 What is steel?
.........................................................................................................................
6
1.2 Steel production
.....................................................................................................................
7
1.3 Global steel market
.................................................................................................................
9
1.3.1 Current market structure
.............................................................................................
10
1.3.2 A dragon emerges
......................................................................................................
11
1.4 Chinese steel market
............................................................................................................
12
1.4.1 Iron ore produce
........................................................................................................
12
1.4.2 The huge demand of iron ore
......................................................................................
12
2. Evolution of government policy on the iron ore procurement
after the reform and opening up ...... 14
2.1 Stage of no interventions from government
.............................................................................
17
2.2 Stage of delegation by BaoSteel
............................................................................................
18
2.3 stage of intervening by CISA
..................................................................................................
19
3. Main problems in international purchases of iron ore for
Chinese steel industry ............................. 22
3.1 Chinese steel industry
...........................................................................................................
22
3.1.1 The emotional steel Industry
.......................................................................................
22
3.1.2 The steel industry today
..............................................................................................
24
3.1.3 The internal conflict during the purchase of iron ore
....................................................... 27
3.2 What is the problem with the Chinese steel industry?
...............................................................
28
3.3 Chinese iron ore market
........................................................................................................
30
3.4 Government interventions
......................................................................................................
31
3.4.1 Government structure
.................................................................................................
31
................................................................................................................................................
34
3.4.2 Government influence on iron ore prices
......................................................................
34
4. The future
..................................................................................................................................................
36
4.1 CISA and MIIT: current activities
.............................................................................................
36
4.1.1 MIIT
..........................................................................................................................
36
4.1.2 CISA
.........................................................................................................................
37
4.2 Changes in import regulations
................................................................................................
37
4.3 The future about Chinese iron ore
..........................................................................................
38
4.4 New iron ore trading platforms
...............................................................................................
40
4.5 A critical view
........................................................................................................................
41
5. Suggestions and advice
...........................................................................................................................
43
5.1 Integrate the government interventions
...................................................................................
43
5.2 Government should encourage the merging in steel industry
..................................................... 44
5.3 Broaden the import channels of iron ore by government
........................................................... 46
5.4 Establish the national strategic reserves system of iron ore
....................................................... 49
5.5 In my opinion
........................................................................................................................
50
Bibliography
..................................................................................................................................................
52
Acknowledgements
......................................................................................................................................
55
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1. Introduction
Steel is a product that is essential for any modern society to
function. The material has always
been important for investments in construction and
infrastructure, but lately also for
consumption products such as cars and white goods. The world's
steel production is
completely dominated by China that manufactures almost half of
all the steel in the world today.
The Chinese steel industry is almost entirely controlled by the
state, which in other words
means that the Chinese Communist Party has a great deal of
influence on the world's steel
market.
As world production of steel has doubled in less than 20 years,
the world's steel producers
have become more and more dependent on the iron ore suppliers.
These companies now
enjoy a very strong bargaining position that leads to higher
profits while the steel producers are
suffering.
If someone were to change this power balance, it would be the
Chinese government. I will in
this paper analyse how government interventions may be carried
out to reform the Chinese
steel industry. A transformation of the industry in China may
also have implications for the
entire world market and especially for iron ore producers.
1.1 What is steel?
To understand the world's steel market it certainly helps to
know what steel actually is. Steel is
an alloy that mainly consists of two materials, iron and carbon.
Other trace elements such as
manganese, nickel, chromium, molybdenum, and niobium may be
added in smaller quantities
to give the steel the desired quality. Iron, which is a rather
soft material, is the main element of
steel. Carbon may be added up to two percent to make the
material harder and stronger. When
too much carbon is added the material turns into cast iron, a
material that must be melted to
change its shape.
The industrialization of steel production started
in the United Kingdom, but at the turn of the
20th century it was the United States that
Early steel production in the UK
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became world leading in steel production. The first half of the
20th century also saw two world
wars. During this time many countries nationalized their steel
production since most of its
output was aimed at the military. After World War 2 the world
finally began commercializing and
trading in steel again. Private consumers now started purchasing
steel products such as white
goods and automobiles. However, infrastructure and construction,
two sectors essential for
economic growth, still remain the most important segments for
the steel industry. Developing
countries such as China are currently fueling the world demand
for steel. As many countries
are continuing their industrialization process and consumers
increase their purchasing power,
the demand for steel will continue to increase in the
future.1
1.2 Steel production
Combining the two elements iron and carbon to the right
proportions produces steel. The
accessibility to these two raw materials is however very
different. In steel mills, carbon is
usually added through coal, natural gas, or oil. The choice of
resource used as carbon source
depends on the availability of the resource where the steel is
produced. Access to oil and
natural gas usually go hand-in-hand,
while coal is abundant in most parts of
the world.
Iron, on the other hand, can only be
found in a material called iron ore. Iron
ore is a commercial concept that
principally means rock that contains
iron to such a degree that it is profitable
to extract and sell the resource. With
today's technology, rock that contains
around 20-30% iron is considered
economical to extract. One problem
with iron ore is that it can only be found
1 World Steel Association, 2012, pp. 21-31
Country Iron ore
reserves (Mt)
Average iron
content (%)
Ukraine 30,000 30
Brazil 29,000 55
Russia 25,000 56
Australia 24,000 63
China 23,000 28
Kazakhstan 8,300 40
India 7,000 64
Canada 6,300 37
Venezuela 4,000 60
Sweden 3,500 63
World's 10 largest iron ore reserves and their average iron
content (Bielitza, 2012)
(World Steel Association, 2013)
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of high quality in very few places in the world. Many of the
iron ore deposits also have low iron
ore content, thus making it more costly to commercialize. Today
there are four companies,
mainly operating in two countries, which completely dominate the
world's iron ore production.
These four companies are commonly referred to as the Big 4.
In the value chain of steel production we have two key players:
raw material producers and the
steel manufacturers. The steel is sold to the end users, which
are firms manufacturing goods
sold to either the investment or consumption sector. In the
coming chapters of this paper we
Company
name
Base Largest owners Iron ore exports
2012 (Mt)
Share of world
export (%)
Vale Brazil Brazilian investment
funds
Brazilian government
263 22
Rio Tinto UK,
Australia
HSBC
JP Morgan
National Australia Bank
239 20
BHP
Billiton
UK,
Australia
HSBC
JP Morgan
National Australia Bank
171 14
Fortescue
Materials
Group
Australia The Metal Group
HSBC
Valin
64 5
The Big 4: The four largest iron ore producers in the world
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will focus on the activities and the relationship between the
world's iron ore and steel
producers.
1.3 Global steel market
The world's steel production has doubled since the beginning of
the 1990s. Urbanization and
industrialization of developing countries have contributed to
the increase in demand for steel.
Unlike the iron ore industry, steel
production is carried out locally by
steel plants all over the world to
supply their domestic or regional
markets with steel. However, due to
the scarcity of iron ore, all steel
companies in the world are more or
less dependent on very few iron ore
producers. While the global demand
for steel has increased rapidly, the supply of iron ore has not
been able to keep up with this
increase, thus causing a surge in iron ore prices. 2
2 Wood Mackenzie, 2013, pp. 2-7
Coal
Natural gas
Oil
Iron ore
Steel
production
Consumption
Investment
Iron ore price (USD/ton) FOB Australia (Wood Mackenzie,
2013)
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1.3.1 Current market structure
The world's steel industry has gone
through a number of changes since the
end of World War 2. Steel companies had
traditionally been producing steel used for
military equipment and warfare, but in the
middle of the 20th century the production
shifted mainly to infrastructure and
construction. With improved economic
conditions in the world, steel producers
also started shifting more towards the consumption sector. Along
with this change in steel
demand, a privatization trend also swept across the world. This
move gave steelmakers
incentives to develop process innovation and increase
cooperation among firms. South Korea
and Japan are today seen as the markets with the most innovative
steel industries.3
In recent years there has been a number of large mergers in
the global steel industry. Consolidation has allowed steel
producers to utilize economies of scale to reduce the cost
of
steel production. In Europe, Acelaria (Spain), Usinor
(France), Arbed (Luxembourg) merged to form steel giant
Arcelor in 2001. This conglomerate merged with Indian steel
giant Mittal Steel (with HQ in the Neatherlands) five years
later to form the largest steel
company in the world, ArcelorMittal. Today consolidation is
taken place both at national levels
(for example in Japan) and at regional level, as evidenced by
European mergers.4
3 World Steel Association, 2012, pp. 33-43 4 World Steel
Association, 2012, pp. 34-36
0
200
400
600
800
1000
1200
1400
1600
1800
19
95
19
96
19
97
19
98
19
99
20
00
20
01
20
02
20
03
20
04
20
05
20
06
20
07
20
08
20
09
20
10
20
11
20
12
World steel production (Mt)
World steel production per year, Mt (World Steel
Association,
2013)
Lakshimi Mittal, CEO of the world's
largest steel company ArcelorMittal
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The five largest steel producers in the world. (World Steel
Association, 2013)
1.3.2 A dragon emerges
The world's steel industry has in the past decades seen a new
force emerge. China has gone
from a poor and underdeveloped country to the world's leading
steel producer. Economic
reforms in the 1980s fueled both demand and supply of steel in
the Chinese society. The
development has continued into the 21st century, and today
almost half of the steel in the world
is being produced in China. As most of the steel industries in
China are state-owned, it gives
the Chinese government an enormous influence of its domestic
market. In other words, one
could say that the Chinese Communist Party is in charge of
almost half of the world's steel
production.
Company name Home country Productio
n (Mt)
Share of world
production (%)
ArcelorMittal Luxembourg 94 6.1
Nippon Steel &
Sumitomo Metal
Japan 48 3.1
Hebei Group China 43 2.8
Baosteel China 43 2.8
POSCO South Korea 40 2.6
Country Production
(Mt)
Share of world
production (%)
China 717 46
Japan 107 7
US 89 6
India 78 5
Russia 70 5
World total 1547
The five largest steel producing countries 2012. (World
Steel Association, 2013)
China's Olympic stadium, The Bird's Nest. It is
constructed by 42,000 tons of steel, which makes
it the largest steel structure in the world.
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It is obvious that China is the most important player in the
world of steel. To understand how
the Chinese steel market functions, it is of course very
important to understand the
characteristics of the industry, as well as the importance of
steel production in the Chinese
society.
1.4 Chinese steel market
1.4.1 Iron ore produce
First of all, the iron ore production increased year by year. In
recent years, with the booming of
steel industry the iron ore production is also increased year by
year. In 2005, the iron ore
production reached 420 million tons, compared to last year 35.6
% was increased. In 2012, the
production of iron ore was 1.31 billion tons, during the entire
eleventh five-year plan period, iron
ore per capita growth rate has reached 20%.
Secondly, the iron ore production is concentrated on Bohai area.
From the region to see, the
iron ore output in Bohai is the largest in China, according to
the figures of 2002, Bohais iron
ore production was 720 million tons, almost accounting for about
55% of the total national
production.
Thirdly, low concentration of the iron ore producing area. From
a distribution point of view,
except for a few provinces have no iron ore resources
distribution, other parts of the country all
produced. Hebei province is the largest producer in China.
Subject to geographical distribution,
most of the Chinese iron ore mine is small-scale and low
concentration. According to CISAs
figures, by the end of 2011, China's registered iron ore
companies in a total is 1596, and the
top 10 manufacturers are all state-owned enterprises, and the
total output from the Big 10 is
only 18% of the national production.
1.4.2 The huge demand of iron ore
Since the reform and opening up in 1978, China's economy has
begun to explosive
development. The development of infrastructure construction, a
large number of housing
construction, urban and rural construction, and the automobile
industry led to the great
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development of China's steel industry. In 2000 China's steel
enterprises total produce crude
steel production 6 tons. In 2011 the total crude steel
production was 11.48 tons. At the same
time, in 2011 the worlds crude steel production in total was
15.257 tons, 42.47% of global
output came from China.
Large domestic steel demand directly stimulating the huge
purchasing demand for iron ore,
China's iron ore imports in 2011 was 6.86 tons, 55% of the
global iron ore total transaction.
Since surpassed Japan to become the world's largest steel
producing country, China has
keeping iron ore's largest import country and largest steel
consumer title till now, plays a
significant and irreplaceable role in worlds steel industry.
From Europe and the United States, Japan and other developed
countries through the
development path of industrialization, the steel industry as a
pillar industry of the country's
economy is a symbol of large-scale industrialization process.
According to that, the potential
demand of Chinese steel industry is still very huge, and the
demand of iron ore import will also
grow steadily.
From the beginning of 2000, with the vigorous development of
China's economy, the steel
industry is also booming, demand of iron ore in China has
greatly increased, with only the
domestic iron ore production has been far from satisfying the
needs of the domestic steel
enterprises. Therefore, China's import from the international
iron ore trading platform is
increased year by year, the proportion of the total demand has
increased year after year. In
1999 the import iron ore was 28% of total demand, while by 2008,
China's imports of iron ore
reached 4.44 tons, an increase of 15.5%, and imports accounted
for the total demand reached
58.9%. There is no doubt Chinese has become the world's largest
iron ore importer. China's
iron ore imports from 18 countries and regions, of which more
than 80% imported from Brazil
and Australia, so China's iron ore resources external dependence
is very high. This leads to
monopoly resources elevation pricing joint with Brazil and
Australia's Big4 iron ore giants, and
the influence of small iron ore export prices, the international
iron ore prices soared.
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2. Evolution of government policy on the iron
ore procurement after the reform and opening
up
Since steel products were first time introduced in China, they
have played a very important role
in the development of the Chinese economy history. This chapter
will analysis the evolution of
government policy on the iron ore procurement after the reform
and opening up from a
historical perspective, the author will use some of the
historical events as key points to study
into the governments intervention and impact on the steel
industry, as well as for the policies of
iron ore procurement development.
The writer used timeline to divide the three stages of the
Chinese steel industry development,
and the beginning of the first stage is the first time steel was
introduced into China. The first
stage is from 1840 to 1949, called the modern steel age. The
second epoch we describe
covers the time from 1949 until 1978, we name it China's new
steel age. The third and last part
begins in 1978, and represents the time of reform and opening up
of the Chinese economy,
hence the name reform and opening up.
In the first part of the paper we mentioned that the modern
steel industry began with the
industrial revolution in the UK. So let us now start by
analyzing the effect the development in
the UK had on the Chinese steel industry. The first opium war
broke out in 1840 when the
British navy attacked Chinese ports. This was the first time
China was exposed to modern
warfare with equipment mass-produced in large factories. The
Chinese suffered defeat, but the
Qing dynasty that ruled China during this time recognized the
importance of this new material
called steel. The country's leaders decided that China had to
develop their own steel industry in
order to build a strong and modern army. The first steel plant
in China was built in Fuzhou
province in 1871, 30 years after the first British invasion.
This establishment marks the birth of
The modern
steel age
The new
steel age
Reform and
opening up
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the steel industry on the Chinese mainland. In 1893 China's
first iron and steel complex was
completed in Wuhan. Development of the steel industry
sequentially continued to carry on into
the 20th century. However, World War 1 and 2, along with the
Chinese civil war blocked further
development of Chinese steel production.
In 1949 the Chinese Communist Party took power of the country
and the People's Republic of
China was established. After the many chaotic years involving
both World War 2 and a civil war,
China's economy was turbulent and unbalanced. New economic
reforms were thus needed. A
new economic system implemented by Mao Zedong and the Communist
Party heavily
emphasized the development of the second sector, industry and
construction. Mao Zedong
stated the following in 1954:
"Today we are able to produce tables and chairs, tea cups and
pots, we can grow food, and
even grind flour and manufacture paper, but we cannot make one
car, one airplane, one tank,
or one tractor." - Mao Zedong
China's new economy would make the development of the country's
steel industry its number
one priority. Another reason for this shift to heavy industry
and steel is the country's ambition to
follow Soviet Union in its industrialization path. This economic
plan was also necessary for the
country to strengthen its military power and economic
progress.
In 1978 China once again reformed its economic system under the
"Reform and opening-up
policy". This implementation led to rapid economic development
for the country and its citizens.
With a booming urbanization, the country was now more than ever
dependent on steel. From
1978 until 1985 the Chinese steel industry grew slowly. New
economic reforms had just been
initiated, but in the first few years they only had a marginal
effect on the steel industry. In the
Painting of a scene from the first opium
war.
Propaganda poster from The Great
Leap Forwards, the text reads
"Produce more steel, help us build our
socialist society"
-
mid-80s the economic development in China truly took off and
created a wave of urbanization
and migration to the large cities. In the last ten years,
China's rapid economic development has
continued. In 2008 a stimulus package of four trillion CNY was
launched to tackle the financial
crisis. The package included massive investments in construction
of railroads, airports, and
highways to fuel the economy. The steel consumption has more
than tripled in the last ten
years, but the steel companies' profits have now started to
decline. A consolidation wave also
started, and many steel companies were turned into steel groups.
At this time China took on a
leading position as the world's largest steel producer.
The end usage of steel in China 2010 (BOC International,
2012)
Property 26%
Infrastructure 20%
Transportation facilities
6%
Energy 8%
Machinery 17%
Automotive 7%
Shipbuilding 3%
Household durables
4%
Other 9%
Steel consumption in China by sector
Steel demand in China, from the Great Leap Forward to 2010
(BOC International, 2012)
Urbanization led to development of
many Chinese cities
-
The last age of Chinese steels timeline is the most important
age for Chinese steel industry. To
analysis the Chinese steel industry and the purchase of iron ore
we use three stages to
describe how Chinese government developed their policy and has
progressed over three
periods of time.
2.1 Stage of no interventions from government
As a result of China's rapid economic development in the 21st
century, the iron ore demand
has been increasing. According to statistics, in 2000 China's
Iron Ore Imports amount is 2
billion US dollars, in 2004 the amount was increasing to 13
billion US dollars. In 2004, the
National Iron Ore demand was 520 million tons, 60% of the demand
could be offered by
domestic producers, and about 40% of the demand needs to rely on
imports. Because of the
recovery of the global economy and the huge increasing demand of
Chinese steel industry, the
global iron ore prices was pushing up since 2005.
From 1978 to 2003 is the stage of no interventions from
government. The large steel
enterprises mainly signed a long-term contract with Brazil and
Australia iron ore companies to
import iron ore. However the small and medium steel companies
only can get iron ore through
agencies, brokers, or trading companies, and they also import
the spot iron ore from South
Africa or India. Add up all the demand of the Chinese small and
medium steel companies is
also a huge demand, that pushing up the international spot
prices for iron ore directly. And
some brokers even keep large amount spot iron ore to arbitrage,
they bid up the price, which
disrupted the international iron ore price system. At the same
time, the iron ore Big 4 have
abandoned long-term agreement price and moved the price closer
to the spot iron ore price. In
this stage, the purchase of iron ore is a kind of free
competition basically. The government has
not made excessively interventions in steel industry.
Because of the steel industry is not that important than before,
and also the profits is lower, that
makes the steel industry more competitive. Steel enterprises new
strategy is that improve
technology to reduce costs.
-
2.2 Stage of delegation by BaoSteel
In November 2003, the Chinese Ministry of Commerce entrusted
Shanghai BaoSteel to
represent Chinese steel enterprises to carry on the negotiations
with the iron ore Big 4, it is a
new pattern that government delegate one company to present all
the steel companies in
China. But the BaoSteel seems had no experience and persuasive
power to negotiate with Big
4, it only followed the Japanese and Germany's contract price as
our price. BaoSteel has not
expressed Chinese steel enterprises interest and the negotiation
cannot satisfy with everyone.
This let other large-scale steel enterprises criticize a
lot.
But the rising price of iron ore caused the steel products price
rising and also have a huge
influence on our economy:
First, increasing the cost of steel products. According to the
statistics from the Ministry of
Commerce shows that from April 2005, the global iron ore prices
was start to increase. For
large steel enterprises such as BaoSteel, Hebei Group, their
added value of steel products is
higher, so they could offset the loss easier. For the small and
medium-sized steel enterprises,
they do not have the domestic iron ore supply and need to take
spot iron ore in a higher price,
so they are affected by the increasing iron ore price a lot.
Second, the impact on the industry which relies on steel
products. The rising of iron ore price
caused the rising of steel products price, however, the steel
enterprises transferred the cost to
other industry which rely on steel products, such as the
automobile manufacturing industry,
shipbuilding industry, household appliance industry. To use the
household appliances industry
as an example, this industry has entered the time of intense
competition in the market, there is
very little profit exists and it's hard to pass on the increased
costs of production to consumers.
Therefore, the rising prices for iron ore and steel weakened the
downstream steel businesses
profit margins and pass on a portion of the costs to
consumers.
Third, the influence on native price index. The iron ore and the
steel products rising price
seems not have huge influence to our CPI at present, but from
the long-term perspective, there
is still a possibility to create inflation. And we need to note
that the iron ore and steel products
are the basic element of the entire national economy, sooner or
later the rising price will affect
the whole economy system.
-
Although the government took a series of measures to slow down
the domestic steel industry
high speed development and on the same time try to reduce the
iron ore demand. But the
property development, the ship-building industry and the
automobile industry, the steel demand
just increased year by year, so the iron ore demand inflated
suddenly, and the global iron ore
supplier was expected to raise price and profit from it.
The structure of China's steel industry is decentralized, and
the concentration is low, so they
had lost the bargaining power during the negotiation with
foreign suppliers. With the developing
of industrialization and the urbanization, the demand of steel
is increased and many new
companies entered this industry, they expected excess profit
from the steel industry. On one
hand, it caused over investment, overcapacity and the greatly
boosting of the international iron
ore demand. According to statistics, in the "fifteenth" period,
China's steel industry investment
was 680 billion RMB in the fixed assets. In 2005, China's crude
steel production was reaching
3.4 million tons, the first time becoming No.1 of the worlds
steel output. It was almost about
30% of the entire worlds output, and also 1 million tons was
over capacity for us. On the other
hand, the emergence of small and medium-sized steel companies
carved up the market share.
In 1992, Chinese largest steel enterprises market share was
about 48%, this proportion last for
ten years, from the beginning of 2002 the market share of large
steel enterprises began to
decline significantly, this number has been changed to 32% in
2005. While the Japanese
largest 5 steel companies take 75% of the market share, and the
largest 6 steel group in
Europe produce 74% of the EU steel production. It is precisely
because of these countries
leading enterprises have high market share, and the market
concentration is high, that makes
them have bargaining power in the negotiation. On the contrary,
China's leading enterprises
market share was gradually declining, and the concentration was
lower than before, that makes
us lost discourse right in the international iron ore price
negotiations.
2.3 stage of intervening by CISA
Because of BaoSteels failure on the iron ore purchase
negotiations, in 2009 CISA (China Iron
and Steel Association) represented Chinese steel enterprises to
negotiate with the iron ore
suppliers. From this opened the government to intervene the iron
ore purchase new stage ---
-
collective intervention stage. The negotiations goal of CISA is
to drop the iron ore price level
down about 40%, reduce it back to the level in 2007. However the
result in 2009 was
disappointed, the iron ore price had not fallen down but instead
of increasing a little bit, the
negotiations fallen into the deadlock.
At the same time, there was some questioning about CISA. For
example, CISA only
represented the large-scale steel enterprises and ignored the
benefit of small steel enterprises.
Only the large-scale steel enterprises can benefit from the
long-term contract price policy, but
the middle and small scale steel enterprises only could import
iron ore from brokers, trade
companies or large steel enterprises.
Because of the small scale steel companies exist, the
concentration is lower than other country,
and it is difficult to integrate all the steel enterprises into
a negotiate union. Therefore, the
government want to make all the steel enterprises into a union
and start to the collective
bargaining process.
First, the Chinese State-owned Enterprise system weakened the
collective bargaining
procedure. By doing the integrate program that means a lot local
small steel plant would be
shut down or be a small part of a big steel group, and the local
government would not agree
with that, cause usually the local steel plant is always the
symbol of the industry and also they
do not want to lose the tax paid by the steel plant. Each local
authority wants the local
enterprise can become the leading strength, but central
government wants all the steel
enterprises become to a union.
Secondly, the bargaining procedure has its drawbacks in the
specific negotiation process.
China is the largest buyer on the global iron ore market, and
CISA expects that Chinese
enterprises and other countries enterprises could establish
close relations to against the
international iron ore price. However, the others big steel
enterprises, such as Nippon Steel of
Japan, South Korea's Pohang Steel, they all prefer long-term
supply agreement, and buy the
raw materials from the futures market. In China, the steel
enterprises are lack of commodity
trading experience, and also failed on planning ahead, so many
of them are buying iron ore
from the spot market. Moreover, multinational companies have
strong time cost oriented values,
and our Chinese companies try to delay the time to achieve our
goal. This makes all the
multinational companies do not want to establish a strategic
partnership with Chinese
-
companies, also caused the foreign enterprises settle down the
iron ore price with suppliers
first, and we can only passively accept the situation.
Through the above analysis about the rising price of iron ore,
if we do not want to lose in the
negotiation again we need to enhance our comprehensive strength
of buyers. From the
macroscopically perspective, first of all, government should
create a supportive environment for
the steel industry productivity, in some aspects (such as trade
barriers, pricing) reducing
government intervention, in some ways (such as to ensure market
competitive environment)
can play a positive role. Second, invest more on the domestic
iron ore prospecting and
development. The reason why our steel enterprises in the
international iron ore price
negotiations are constrained is that the dependence of China's
imports of iron ore is too high.
At present more than 600 mines have been found in China, there
are more than 200 mines has
the potential to be tapped. Improve the supply of domestic iron
ore production could reduce
China's dependence on imports and also increase the
international bargaining power.
From the microcosmic perspective, first of all, Chinese steel
industry should formulate a correct
development strategy, including not only for the pricing power
but also the correct positioning of
the future long-term development. The limitation of iron ore
resources in China determines that
we need to seek and explore the iron ore resources of overseas
market. Therefore, China
should foster the development of multi-national corporation, and
encourage domestic
companies to expand overseas market. Secondly, Chinese steel
industry should strengthen the
integration of industry, accelerate the elimination of backward
production capacity, and improve
the utilization of iron ore. From the global view, acquisition
and reorganization is the trend of
steel industry, the steel enterprises were expanded in the short
term, and to achieve greater
scale, and also to expand the enterprises in the market
share.
In conclusion, at present, the government intervention to Steel
Industry about iron ore purchase
is still not mature and the mode is still seeking out. It is
necessary to develop the industry
intervention pattern to represent all interests of the steel
enterprises. Only in that way, the
biggest importer of iron ore could get more bargaining
power.
-
3. Main problems in international purchases of
iron ore for Chinese steel industry
3.1 Chinese steel industry
3.1.1 The emotional steel Industry
Talks about why Chinese steel industry is spread out we should
talks about the history of
Chinese steel industry first. Ever since steel production was
first brought to China it has always
played an important role for the country's economic development.
The steel industry in China
has historically had a very particular relationship with its
people. The mutual dependency
between the industry and the Chinese citizens started in the new
steel age and this relationship
to a certain extent remains today. People's emotional ties to
steel are a phenomenon that dates
back several decades and still makes industry interference a
sensitive issue.
In the beginning of the new steel age the most important
economic task for the Chinese
government was to develop the country's heavy industry. Steel
production was of course
particularly important. The country had just adopted a new
economic system based on socialist
principles. People admired their new revolutionary leader and
were eager to help the country
move forward. People passionately obeyed and supported the
country's intention to develop
the heavy industries, especially steel. This enthusiastic
attempt to advance the entire industry
led to a devastating experiment called the Great Leap Forward
(1958-1960). The plan was to
within five years surpass the industrialization level of the
United Kingdom and to truly challenge
the United States. To support this development policy, a slogan
that praised the country's
industrial movement was commonly used.
"Taking steel as the key link
""
The meaning of the slogan is that steel is the key product and
the most important industry
needed to make the country move forward. During the Great Leap
Forward, steel
manufacturing was encouraged in all parts of society.
Construction of furnaces took place all
-
throughout China, both in cities and in the countryside. Some
people even donated everything
they owned that contained iron. The important thing was to
create large quantities of steel, but
very little attention was paid to the quality and for what
purpose it would be used. The waste
was enormous and devastating both for the country and its
citizens. The agricultural sector was
largely ignored, which caused severe famine all throughout
China.
The troublesome development of China's steel industry led to the
existence of a steel plant in
almost every Chinese city after the Great Leap Forward. The name
of each plant was usually
the city followed by the words "steel plant". Workers who were
employed at these steel plants
were usually respected, admired, and looked up to in society.
These people represented the
new working class in China, and were considered the most
honoured contributors to the
country's economic progress. A stable and prosperous job such as
working for a steel plant
was well perceived by the Chinese society. In other words, the
employees at the steel plants
were simply the elite of society. It was possible for two to
three generations of one family to all
work for one single steel plant. In other words, their
employment was basically their entire life
and fate. This kind of life might be difficult to understand for
anyone who has not experienced it.
In many Chinese cities you will still today find families and
citizens who care passionately about
its local steel plants.
Because of the rapid expansion of the Chinese steel industry
during the new steel age, steel
plants were being established all over the country. Especially
North China had a very high
concentration of steel manufacturers. Many of these steel
plants, although old an inefficient,
are still in operation today. The most likely reason for this is
the attachment people and
politicians have to "their local steel plants". Keeping local
steel plants alive has become a way
for politicians to maintain popularity among its people. Of
course one problematic implication of
this policy is that China's steel industry today is fragmented
and inefficient. Unproductive and
loss-making steel plants are kept alive often to maintain
harmony in society.
Today there are believed to be as many as 1000 steel
manufacturers in China. The 20 largest
steel companies make up slightly more than half of the country's
total steel output. These
figures indicate that a large number of these steel plants that
have survived into the reform and
opening up period only contribute marginally to China's overall
steel production.
-
3.1.2 The steel industry today
Today the Chinese steel industry is responsible for about 3% of
the country's GDP and it
currently employs over three million people. There is a
significant number of smaller and
medium-sized steel companies located all over the country. The
smallest producers in China
are considered to be the most unprofitable steel producers in
the world. The market is also
dominated by inefficient state-owned enterprises. Profits among
private steel companies in
China today are about 70 CNY per ton steel produced, while the
same figure for state-owned
enterprises is 2.6 CNY. Blast furnaces from the Great Leap
Forward as small as 1m3 are in
some parts of the country still in use today.5
The Chinese steel industry is today extremely fragmented. As
most other steel producing
5 Bielitza, 2012, pp. 35-37
China's largest
steel companies 2012
1 Hebei Group
2 BaoSteel
3 Wuhan Group
4 Shagang
5 Shougang
6 AnSteel
7 Shandong
8 Maanshan
9 Benxi
10 Valin
11 Jianlong
12 Rizhao
13 Baotou
14 Taiyuan
15 Jiuquan
16 Pingxiang
17 Zongheng
18 Jinxi
19 Xinyu
20 Guofeng
1
2 3
4
6
7
8
9
10
11
12
13
14 15
16
17
18
19
20 5
-
countries have managed to concentrate their steel production,
China still has a long way to go.
The dispersion of steel producers initiated in the new steel age
and the close ties to local and
List of China's 20 largest steel manufacturers. Companies marked
grey are private owned. (World Steel
Association, 2013)
Company
Province
Production
(Mt)
Comments
Hebei Group Hebei 42.8 Conglomerate consisting of multiple steel
producers
BaoSteel Shanghai 42.7
Wuhan
Group
Hubei 36.4
Shagang Jiangsu 32.3 Largest privately owned steel company
Shougang Beijing 31.4 Forced out of Beijing to Hebei due to 2008
Olympics
AnSteel Liaoning 30.2 Merged with Benxi in 2005
Shandong Shandong 23.0
Maanshan Anhui 17.3
Benxi Liaoning 15.1 Merged with AnSteel in 2005
Valin Hunan 14.1 Cooperation with ArcelorMittal
Jianlong Hebei 13.8 Located in Tangshan
Rizhao Shandong 13.2 Belongs to Shandong
Baotou Inner
Mongolia
10.2
Taiyuan Shanxi 10.1
Jiuquan Gansu 10.1
Pingxiang Jiangxi 9.1
Zongheng Hebei 9.1 Handan, co-owned by local gvt. and HK
investors
Jinxi Hebei 9.1 Tangshan, private company becoming state-owned
in 1997
Xinyu Jiangxi 8.7
Guofeng Hebei 8.0 Tangshan, co-owned by local gvt. and HK
investors
China total 716.5
-
central government still remain. 17 of the country's top 20
producers are today state-owned
and together all these companies just make up slightly more than
half of the country's steel
production. In OECD markets, the top three steel producers on
average make up 60-85% of
the country's steel output.6
The large steel industries in China today can be found in the
coastal regions and in northern
China. Hebei province, surrounding both Beijing and Tianjin, is
home to many large steel
enterprises. The location is of strategic importance due to its
proximity to both Beijing and the
port in Tianjin. Other major steel plants can be found in the
Yangzi Delta around Shanghai. The
province of Liaoning, squeezed in between Hebei and North Korea,
is home to two large-scale
steel industries that merged in in 2005, AnSteel and Benxi. This
was the first merger of two
major steel companies in China. However, the merger is regarded
as unsuccessful as both
companies still operate relatively independently. Analysts
believe that the merger was forced
upon by the central government, despite management opposition
from both sides. Even today
the companies operate as two different entities with very little
cooperation.
Steel production continues to be a vital part in the Chinese
society. Despite recent slowdowns,
the country's economy is still growing and urbanization forces
continue investment in both
infrastructure and construction. Steel intensity is a
measurement that shows how important
steel consumption is to a country's economy, and it is measured
in kg of steel consumption per
1000USD GDP. Statistics show that steel production today is more
important than ever.
6 List of China's 20 largest steel manufacturers. Companies
marked grey are private owned. (World Steel Association, 2013)
Steel intensity measured in kg of steel consumed per 1000 USD of
GDP.
-
3.1.3 The internal conflict during the purchase of iron ore
At the beginning of 2005, China's Iron and Steel Industry
Association passed a standardiron
ore import enterprise qualified standards and reporting
procedures, with the new standard that
iron ore imported quality enterprises reduced to 110. It is said
that most domestic small and
medium-size steel enterprises do not have the quality to import
iron ore from foreign suppliers
directly, and only could buy the second-hand iron ore from
traders, brokers, or large domestic
steel enterprises. 30%-50% of the iron ore price will be charged
as auxiliary expenses, in 2008
the second-hand trade was 20 billion. This kind of resale was
criticized by the entire steel
industry, so CISA has to forbidden the high auxiliary expense
trade, the rate could only below 5%
of the iron ore price.
Because of the large steel enterprises could pass the increasing
iron ore price to the small
steel enterprises, therefore they do not have much motivation to
negotiate with the large iron
ore suppliers. And for the small steel enterprises, they cannot
benefit from the long-term
contract so they have to contact with the iron ore suppliers
privately. In 2009, when CISA
negotiate with the iron ore Big 4 and make no progress, suddenly
there came the news that
more than 30 small domestic steel enterprises were signing
contract with one of the Big 4 Vale.
Of course, they set CISA in a very passive situation and finally
CISA failed about reducing 40%
of the price.
It is not the time to blame the small and medium-sized steel
enterprises betray CISA or have no
honor of native blindly. The real reason is the low
concentration of steel industry. There are
more than 1000 steel enterprises in China now, only 45 of them
are large steel enterprises. The
state council has proposed "the steel industry adjust and
revitalization plan", hope to reach 45%
concentration of the steel industry by 2011, but now it is far
from reaching this goal. And the
component of the 1000 steel companies are very complex, a plenty
of them are state-owned
enterprises, affiliated to the state-owned assets supervision
and administration, some of them
are enterprises under collective ownership, belonging to local
government, also the others are
private enterprises or joint ventures. They all have their own
interests, and there are some
internal competitions between them. So it is difficult to form a
unified and powerful strength to
represent all the Chinese steel enterprises to negotiate with
all the iron ore suppliers.
-
In addition, an artificial reason for raising the iron ore
prices should not be ignored, that is the
brokers and traders took the opportunity to storage spot iron
ore and drive up prices. Need to
be fair and equal competition in market economy environment, and
such kind of speculation
should be punished strictly.
3.2 What is the problem with the Chinese steel industry?
As the Chinese economy has continued to develop, it is clear
that the evolution of China's steel
industry has not been able to keep up with the progress of the
country's economy. The market
structure and characteristics are believed to cause a number of
problems that will prevent or
interrupt further economic development for the country.
The governance model of the industry is relatively vague. On one
hand, the central
government is not directly imposing absolute power of the
industry. On the other hand,
the firms are also not operating in a market ruled by free
competition. Today steel
enterprises in China are embedded in a network of various
government agencies and
institutions that influence their business on both operational
and strategic levels.
The fragmented Chinese steel industry is currently suffering
from overcapacity. The
figure is as high as 100-150 million tons, almost 10% of the
annual world production.
One reason for this is that 70% of the steel in China reaches
its end users through
traders. The steel mills alter their production according to
orders from the traders and
not the actual demand of the end customers. The overcapacity is
particularly harmful
for smaller steel companies.
The Chinese iron and steel industry is
one of the country's main sources of
pollution. This problem has become
severe in the last decades, and is now
a major concern for the government
and the Chinese people. The country's
Steel mills Traders Steel users
Smog in China's capital Beijing
-
steel producers are relying on old technologies, small-scale
production, and labor
intensive operations. A more efficient steel industry is
essential for China to continue
its economic development and to improve the living standards for
the people.7
The steel industry will continue to be dependent on foreign
supply of iron ore. However,
a poorly organized domestic steel industry has allowed iron ore
producers to fully
utilize their oligopolistic market position. Despite the fact
that the Chinese government
is the world's largest owner of steel companies, they have very
little bargaining power
in the global supply chain. The fragmentation together with poor
coordination and
organization among the firms is one of the most problematic
aspects of the Chinese
steel industry today.8
In a country governed by market principles, there are
essentially two ways to solve economic
problems. You can either rely on the principles of the
neoclassical approach and let the market
fix itself by eventually reaching market equilibrium. The other
way is for governments to
intervene and adjust important parameters to achieve desired
market structure. Let us have a
look at how these two methods are being used to influence the
Chinese steel industry.
We believe market-based methods are not sufficient to solve the
structural problems currently
observed in the Chinese steel industry.
Small and middle scale steel producers can be found everywhere
in China today. The entire
industry must be ruled by industry evolution and market
competition. This means consolidation,
mergers, and acquisition are all needed to restructure the
industry. Large-scale steel
corporations instead of smaller plants are crucial to transform
the market. During the Great
Leap Forward small steel plants were built everywhere in China.
This creates a very difficult
market situation where mergers and consolidation become
difficult from a political point of view.
Closing down a local steel plant means making the city's symbol
of industrialization disappear.
The memories of peoples contribution and the hard work by
several generations would thus be
erased. During the period of reform and opening up, a wave of
consolidation spread across
many industries, especially light industries. Steel was however
one of the industries that was
not caught by this consolidation wave.
7 Ernst & Young, 2013, pp. 22-24 8 Bielitza, 2012, pp.
34-39
-
3.3 Chinese iron ore market
One major problem for China and its steel industry is the
scarcity of high quality iron ore. The
country has rapidly ramped up its steel production, but its
supply of iron ore has not been able
to follow the increase in demand. As we saw earlier, the iron
ore reserves have an average iron
ore content of only 28 percent. The deposits are also spread out
across the entire country and
the ore usually contains significant amounts of impurities.
However, the problem with Chinese
iron ore is not only the low content of
iron. The structure and the
organization of the mining companies
are also problematic. There are
believed to be as many as 3000
companies currently engaging in iron
ore mining.9 The rest of the world's
mining industry is deploying automation and machinery to extract
the ore, but Chinese firms still
rely on manual labor to carry out the operational activities
inside the mines. This industry will
thus suffer as Chinese wages continue to increase. Today China
has 630,000 people working
in the iron ore industry, and they produce less iron ore than
Australia does with 30,000 people.
Because of the underdeveloped iron ore industry
in China, the country is still greatly dependent on
imports to supply its domestic steel industry. 68%
of all iron ore consumption in China today comes
from imports, and this figure is expected to
increase to close to 90% by 2030.10 In order to
promote procurement of iron ore from the
domestic market, the Chinese government
created import barriers by setting up an iron ore
9 Wood Mackenzie, 2013, pp. 19-20 10 Wood Mackenzie, 2013, p.
8
According to Bernstein Research, Chinese iron ore mines
operate in a way similar to what could have been observed
in Europe and the US around 1850.
Iron ore in China
Most iron ore in China today is mined
in Hebei province (40%), followed by
Liaoning and Sichuan (12% each). With
its current mining rate, Hebei province
is expected to run out of iron ore
before 2020. Liaoning province has the
largest iron ore reserves and also the
most consolidated mines. Most of
them are owned by the steel producers
AnSteel and Benxi.
-
import license program in 2005. The number of companies that
qualified as iron ore importers
was reduced from 523 in 2005 to 112 in early 2013.11 Overall,
the Chinese steel industry is in
the near future going to rely on iron ore imports, especially
from the Big 4. Meanwhile, China
will also still remain the most important export market for iron
ore producers.
The Chinese steel industry today is in many ways a result of its
industrial past. The government
ties and the fragmentation of the market established in the new
steel age are still present today.
However, due to the domestic supply and demand gap caused by
rapid increase in production,
a new characteristic of the Chinese steel market has emerged.
The country is no longer able to
carry out all activities in the value chain by themselves. They
are now more and more
dependent foreign suppliers of raw material to be able to
produce their steel.
3.4 Government interventions
3.4.1 Government structure
The other way to solve these problems would be through
government interventions. Let us take
a closer look at how the government's influence of the steel
industry is organized.
China is first of all a country that is unanimously ruled by the
Chinese Communist Party (CCP).
The state president is the country's highest ranked official and
also the head of the CCP. The
title "State President" involves few actual duties and the tasks
are typically to act as a symbol
and an official representative of the country.
The National People's Congress (NPC) is China's parliament that
serves to represent the
people. The NPC, of which about 70% are members of the CCP,
appoints its executive body
called the State Council. This is China's official government,
and it is headed by the country's
Premier (or Prime Minister, depending on how you translate it).
Under the State Council you
will find China's ministries and commissions, which are all in
charge of governing various
aspects of the country.
Besides the ministries and commissions, the State Council also
directly controls some
organizations and institutions such as the China Customs,
National Bureau of Statistics, Xinhua
11 China Daily, 2013
-
News Agency, National Tourism Administration, etc. There is also
a special organization
directly under the State Council called "State-owned Assets
Supervision and Administration
Commission of the State Council" (SASAC). This is a powerful
commission that is in charge of
managing all the state-owned enterprises in China.
To find the responsibility of China's steel industry, one first
has to look at the Ministry of
Industry and Information Technology (MIIT), which is organized
into 28 departments. The
department in charge of the steel industry is called "Raw and
Semi-Finished Materials
Industries" or sometimes just the "Raw Materials
Department".
One of the main tasks of the State Council is to presents a
five-year plan that serves as
strategic guidelines for how the country shall progress in the
coming years. According to the
State Council's official website (2013), there are three main
assignments delegated to each
ministry:
Create a detailed five-year plan for each ministry
Provide specific details and explanations for each five-year
plan
Implement orders given directly by the State Council
The MIIT also has specific duties assigned to its Raw Material
Department. According to the
State Council (2013), the department currently has the following
obligations for the steel
industry:
Hold regular meetings with CISA (see below).
Inform key stakeholders of the status of domestic iron ore
supply.
Monitor and inform industry participants of current market
development.
Discuss and study current production technologies.
Create an annual market report.
Create an annual market plan.
Regulation and supervision of the market.
It is also important to keep in mind that the steel industry in
China is not only managed by the
MIIT. There is a complex network of stakeholders in the Chinese
government who in one way
or another possesses the power to influence the steel industry.
Taube and in der Heiden also
list four other actors besides the MIIT who directly influence
the events of one of the nation's
most important industries.
-
National development and reform commission (NDRC). This
commission is one of
the most powerful economic policy organizations in China. It is
involved in decisions
that relate to China's macroeconomic development and market
reforms.
China Iron and Steel Association (CISA) - The Ministry of
Metallurgical Industry was
a government institution that managed the countrys steel and
metal industries. This
ministry was shut down in 1998 and replaced by CISA, which is
now considered the
steel industry's interest and lobbying group. At present the
organization is regarded as
"stuck in the middle", neither enjoying full government
authority nor acting as an
independent interest group. CISA is supported by the large steel
enterprises, and its
tasks mainly involve data collection, coordination of industry
development, and carrying
out research and market regulation. Until this year CISA has had
two very important
assignments. The first one is to qualify Chinese steel companies
as iron ore importers.
These companies have to live up to the regulation and
consistently report their
activities to CISA to maintain their license. The second
assignment is to represent
large Chinese steel companies in negotiations with the Big
4.
State-owned Asset Supervision and Administration Commission of
the State
Council (SASAC) - This "special" commission is responsible for
the microeconomic
coordination and regulation of all the country's state-owned
assets and enterprises.
This organization also has the right to grant SOEs with
preferential policies to make
them more competitive on the international stage.
Top managers of large steel enterprises. The top managers of the
largest steel
corporations all belong both to China's business and party elite
(both at state and
provincial levels). For example, BaoSteel's former CEO was at
one point the
vice-premier of China (2nd rank in the State Council). These
managers simultaneously
have a profit-maximizing responsibility for the company, but
must also respond to the
interest of the CCP. SASAC is the institution that appoints and
monitors the top
managers of all the state-owned steel conglomerates.
-
3.4.2 Government influence on iron ore prices
The Chinese government and all its institutions have plenty of
influence on the steel industry. In
recent years this influence has had a major impact on the
world's iron ore pricing system. Let
us take a look at how the iron ore pricing model has evolved
over the last few years.
Since the early 1970s iron ore prices have been determined by a
model called benchmark
pricing. This means that FOB (Free on board) prices were
negotiated and agreed upon
between major steelmakers and iron or suppliers in Europe and
Asia separately. The European
price was negotiated with Brazilian iron ore producers, while
the Asian price was determined
mutually between Japanese steelmakers and Australian iron ore
suppliers. However, with the
emergence of the Chinese steel industry, CISA became one of the
major negotiators of the
Asian benchmark price. Negotiations on both parts in the world
took place once a year and the
price also acted as an indicator for other iron ore producers in
the world.
Although contract prices have traditionally dominated the iron
ore trade, there has always been
some trade carried out in the spot market. For iron ore, that
means the price is determined at
physical delivery to port. These spot prices changed the entire
pricing mechanism of iron ore in
2009. With the financial crisis sweeping across the world in
2009, the spot prices suddenly fell
way below the benchmark price. This caused many steel producers
in Asia to abandon
contracts and instead they started buying iron ore on the spot
market. At this time, the spot
market was very lucrative for the Chinese steelmakers. To
support its steel industry after the
NDRC CISA
SASAC Top managers of large
steel enterprises
Chinese steel industry
Institution and interest groups influencing the Chinese steel
industry (Taube & in der Heiden, 2010)
-
crisis, the CCP issued a large stimulus package to increase
demand.12 This lead to a quick
recovery of the country's steel industry that immediately caused
a surge in the iron ore spot
price. When the next benchmark price was to be negotiated
between CISA and the iron ore
producers, negotiations fell through and the benchmark price was
completely abandoned.13
Since 2009, iron ore contract prices are based on the spot price
instead of the benchmark price.
Because of this change, there is an increased need for iron ore
price indices in the world. The
prices are however not as transparent as for other minerals such
as copper or nickel. Today
there are three recognized price indices that being used to
measure iron ore spot prices. All
three indices base their price on iron ore fines with 62% iron
delivered CFR (Cost and freight)
to various Chinese ports.
China is in the process of transforming into a market economy,
but right now is considered a
market economy ruled by socialist principles. The country is
stuck in a situation where it is
experiencing both advantages and disadvantages of a planned
economy and a market
economy. The steel industry is still largely state-owned, a
common characteristic of a centrally
planned industry. However, the supervision and the support from
government are weaker than
before, a significant step towards market based economy.
12 The Economist, 2009 13 Ericsson, Lf, & stensson, 2010
Iron ore spot pricing indicies currently used by iron ore
traders.
Index Port of measure Owner
Metal Bulletin Iron Ore Index Qingdao Euromoney Institutional
Investor, a business
publisher based in London
Platts IODEX Iron Ore Index Qingdao McGraw Hill, also owns
credit rating agency
Standard & Poor
The Steel Index Iron Ore Series Tianjin Purchased by Platts in
2011
-
4. The future
4.1 CISA and MIIT: current activities
CISA and MIIT are two of the institutions with the great
influence of the country's steel industry.
These organizations regularly publish lists of their activities
and actions aimed at the country's
steel industry. Let us have a look how MIIT and CISA today are
operating to influence the steel
industry tomorrow.
4.1.1 MIIT
By looking at their official website, we found a long list of
current assignments and tasks
pertaining to the steel industry. The list mentioned in chapter
3.4.1 mention the overall
responsibilities, while the following list describes assignments
related to the current state of the
steel industry. We found seven of these particularly
interesting:
Coordination of iron ore prices - in cooperation with CISA, MIIT
shall monitor and
supervise the price development of iron ore. This includes
ensuring the reliability of
CBMX index and observing price negotiations.
Confirm reorganizations of mergers - when steel companies merge,
MIIT is in charge
of coordinating the and restructuring the mergers.
Establishing environmental regulations
Approve steel companies' compliance with new regulation - in
September 2012 MIIT
established new regulations that steel companies would have to
live up to. 45 steel
enterprises have since then been qualified.
Monthly meeting with CISA to strengthen their cooperation.
Promote technological development of the steel industry
Encourage exchange and collaboration between Chinese and foreign
steel enterprises
-
4.1.2 CISA
CISA themselves describe five key strategic areas where the
organization has important
responsibilities for the development of the steel industry. As
an official interest group of China's
steel companies, their tasks according to themselves mostly
involve communication and
representation. (CISA, 2013)
Overall responsibility of the accuracy of the CBMX iron ore
price index.
Representing its members in negotiations with the Big 4.
Information exchange - provide market data and statistics to
create more
transparency and openness in the industry
Conducting research on technology and process development
Setting industry standards
4.2 Changes in import regulations
To cope with increasing iron ore prices, the Chinese government
has launched a number of
initiatives to consolidate iron or purchases and to gain a
better bargaining position in the
market.
One of the measures is the import licensing mentioned in chapter
3.2. The number of qualified
importers has been reduced from 523 in 2005 down to 112 today.
However, in the summer of
2013 China decided to scrap its licensing system completely,
allowing many smaller and
medium-sized companies to import directly from the Big 4. While
large steel enterprises will not
be affected, this will benefit the producers that previously
failed to acquire an import license
from CISA. Another affected party will be Chinese iron ore
traders. Their entire business was
based on circumventing the regulations by selling imported iron
ore from the Big 4 to the
unlicensed steel producers. The commission they charged was
usually 0.5 CNY per ton
imported iron ore.
-
Although the license program was initiated by the Chinese
government as a way of
encouraging domestic iron ore production, the scheme was managed
by CISA who is after all
representing the steel companies.
Besides the scrapping of the import license system, the Chinese
government has through MIIT
taken another measure to increase competition in the Chinese
steel industry. In early 2013 the
ministry published a list of 45 steel companies that met the new
regulations we mentioned in
chapter 4.1.1. The noteworthy part of this news is that 15 of
the 45 qualified steel producers are
private companies. This is a long-awaited recognition for many
of these private companies that
have for many years operated in uncertainty.
The 45 qualified steel producers together make up 41% of the
country's steel output. The
implications of this consolidation effort are that companies
that fail to qualify will have to pay
higher electricity costs and also face more administrative
measures. The list of qualified steel
producers will continue to grow as more companies are currently
in the qualification process.
The goal is to have 80% of China's steel output qualified by the
end of 2015.
The qualified companies will also enjoy government support in
terms of technology
improvements and also beneficial policies to reduce energy
consumption and pollution.
4.3 The future about Chinese iron ore
Better access to high quality iron ore would certainly help the
Chinese steel industry. However,
the domestic iron ore market provides very little hope for the
Chinese steel makers. The iron
ore still has a very low iron ore content and plenty of
impurities. The ore available in China is
also a type called magnetite, which is expensive to process when
the iron content is low.
The iron ore trading system currently being abolished in
China.
Big 4
Iron ore
traders
Qualified
importers
Smaller steel
enterprises
-
There was an increase in demand during the period of reform and
opening up, but the domestic
industry could not keep up with the increased steel
production.14 Despite encouragement by
the Chinese government to increase iron ore output, the gap
between domestic supply and
demand continues to increase. As the graph below illustrates,
iron ore mined in China in 2011
had an average content of 14%. During the New Steel Age, China
was completely
self-sufficient on iron ore. Today only 30% of the country's
total demand comes from the
domestic market.15
In other words, there is little hope of any significant changes
in the domestic iron ore industry.
China will remain highly dependent on foreign iron ore. The
share of iron ore imported will
simply continue to increase in the foreseeable future.
14 Bielitza, 2012, ss. 39-41 15 Bernstein Research, 2012, ss.
64-65
The blue line shows the average iron content in Chinese iron ore
mines. The green line ilustrates the percentage
of iron ore that is supplied in the domestic market.
0
10
20
30
40
50
60
70
80
90
100
China's domestic iron ore inustry
Average iron content ofdomestically mined ironore (%)
China's self sufficiency ofiron ore (%)
-
4.4 New iron ore trading platforms
It is obvious that China will continue to be dependent on
foreign iron ore to supply its domestic
steel industry. To increase its bargaining power relative to the
Big 4, the Chinese government
in 2012 launched an iron ore trading platform to create more
control and increase the
transparency of iron ore spot prices. The name of the platform
is China Iron Ore Spot Trading
Platform (also referred to as the China Beijing Mining Exchange
- CBMX) and its main task is to
facilitate iron ore trading through derivatives, futures, and
swaps. The following three
institutions sponsor CBMX:
CISA
China Chamber of Commerce of Metals Minerals and Chemicals
Importers and
Exporters
China Beijing International Mining Exchange.
In addition, there is another iron ore trading platform
currently used by Chinese steel
companies. GlobalORE is an exchange based in Singapore that has
recently entered into the
Chinese market. Access to this platform is however restricted by
government regulations since
it is not based in China. GlobalORE is operating with less
transparency and restrictions in
comparison with the CBMX which set requirements on the origin of
the imported ore. Another
interesting aspect is that Global Ores largest shareholder is
BHP Billiton. Chinese authorities
have long opposed the idea of its domestic steel producers to
purchase iron ore from the
platform due to the fact that it is a foreign trader, and that
it is owned by a member of the Big 4.
As if the sudden emergence of two iron ore platforms was not
enough, a third trading platform
was established in the summer of 2013. Rizhao International Iron
Ore Exchange was originally
started up by private iron ore traders in 2009. The platform was
quickly shut down by CISA in
order to prevent speculation. It was not until January of 2013
when a stat-owned trader
invested in the platform that it gained recognition and approval
from the Chinese authorities.
China today has three iron ore trading platforms. One is
controlled by the government, another
is established outside of China, and the third one is largely
private-owned. The Rizhao platform
opened up in July 2013 by trading 240,000 tons of iron ore. The
total turnovers on the other two
platforms are after 12 months of existence:
-
1. CBMX - 15 Mt
2. Global ORE - 14 Mt
Overall the interest in these iron ore trading platforms has
been relatively weak. In 2012 China
imported 700 million tons of iron ore, which means that the
trading platforms represent less
than 4% of the total iron ore imports in China.
4.5 A critical view
One of the most outspoken Chinese newspapers, Southern Weekend
(, Nanfang
Zhoumo) has recently published a series of articles critical
towards the government's efforts of
steel industry interventions. The newspaper is especially
critical towards CISA's role as a
representative of the steel companies.
In an article called "7 years of iron ore negotiations, not even
1 cent of savings" (
), the newspaper heavily criticizes CISA's negotiation
efforts.
Talks began in 2003 between CISA and the Big 4 (at that time
referred to as the Big 3.
Fortescue had yet to gain large market shares). At this time the
benchmark pricing model was
still in use, and now China wanted to be a part of the
negotiations for the Asian price. After
seven years of negotiation, the outcome was clear. Despite
representing the world's largest
steel market, the talks ended with the cancelation of the
benchmarking price and the birth of a
pricing model based on the spot market. The iron ore prices are
today both higher and more
volatile than they ever have been. As a consequence, the Chinese
steel market dominated by
SOEs is now suffering heavy losses.
CISA has since blamed the outcome on the poorly organized demand
structure of the Chinese
steel industry. According to the newspaper this is a weak
attempt to avoid responsibility for
failed outcome. They also see a trend towards a market based
iron ore pricing model, which
they claim is inevitable due to the increased international
trade and opening up of financial
markets. The unsuccessful seven-year talks and a failure to
construct a new iron ore pricing
model beneficial for China are seen as the reasons for China's
weak bargaining position today.
-
Furthermore, the newspaper is also critical towards the
organization of CISA, referring to its
conflicting government ties and its role as an independent
representative of the steel industry.16
As we have seen, China is by far the biggest steel producer in
the world. However, China's
steel industry is fragmented, and many plants are lack
efficiency. Many analysts believe the
Chinese steel industry needs to be concentrated and integrated
to increase its international
competitiveness.
16 Nanfang Zhoumo, 2010
-
5. Suggestions and advice
In this paper we have analyzed the Chinese steel industry and
its characteristics. The Chinese
government has an enormous influence of its development, and
most of the steel companies
are today state-owned enterprises. The reason for this market
structure can be found in the
country's industrial history. However, a number of problems have
in the last few years emerged.
Pollution, rising iron ore prices, unclear government
strategies, and overcapacity are some of
these problems that are now pushing for further market
restructuring.
A new iron ore pricing model has recently raised the need for
further market adjustments. The
Chinese government has responded by dropping iron ore import
barriers, increasing its efforts
to consolidate the market, and establishing iron ore trading
platforms to create more
transparency in the market spot price. Limitations in the
domestic iron ore supply will maintain
China's dependency on foreign iron ore producers.
Faced with the favorable and unfavorable situation of
negotiation requirements of iron ore, it is
important for the government department to think about how to
take effective measures to
acquire better negotiation results under certain conditions, how
to keep a relatively long
dominant advantage in the process of iron ore negotiations.
According to the above analysis,
the author puts forward some strategic suggestions and policy
advices.
5.1 Integrate the government interventions
As to the issue of steel industry managed by several sectors of
gove