Limited Support for Steel Industry despite Interest Rate Cuts

SHANGHAI, Jul. 10 (SMM) -- The people's Bank of China cut interest rates two times, on June 8 and July 6, in a row within a month, suggesting the decline in second-quarter economic growth may have exceeded expectations. According to data from the National Bureau of Statistics, during the recent two months, a number of macroeconomic indicators dropped to levels lower-than-expected. For instance, fixed-asset investment growth reached a 10-year low, social electricity consumption growth slowed significantly and the CPI hit a new low after the financial crisis. In addition, Steelease’s Steel-PMI index also hit a record low of 40.32% in June, which confirms the current serious economic situation.

The central bank’s preference for cuts in interest rates rather than reserve requirements is due to the fact that there is no overall shortage of funds within the banking system, which can be seen from the interbank interest rates. Since the beginning of 2012 until the end of May, overnight interbank borrowing interest rates slipped from around 8% to around 2%, which shows capital reserve of the banking system has gradually become sufficient in the first half. At the same time, other industries, such as the iron and steel industry, became cash-strapped again, indicating that as banks worried about bad debt, funds were unable to flow into the real economy from banking businesses. At this point, the central bank’s reserve requirement cut will do little to mitigate capital shortage, while lowering interest rates can reduce financial costs and encourage borrowing, raising to some extent corporate profits.

Steelease believes that after the lowering of interest rates, the construction and transportation infrastructure industries will see more obvious benefits. This is due mainly to the fact that rail, infrastructure, hydro and affordable housing projects need cheaper financing which can be obtained through interest rate cuts. In addition, the interest rate cuts will also help warm the property market. However, for downstream manufacturing, support from the recent two successive interest rate cuts stays only at the psychological level.

Steel traders still face tight supervision and audit of bank financing and a reduction in interest rates can do very little to ease their funding shortfall. Therefore, Steelease believes that the recent two interest rates cuts will bring extremely limited impact on steel prices, as the major cause of soft steel prices remains on the supply and demand side. Current crude steel production remains high while downstream demand is relatively sluggish. Steel prices are still unlikely to climb if the present pattern does not improve. In the medium and long term, the central bank's monetary adjustment may strengthen. Therefore, further interest rate or reserve requirement cuts may to some extent boost the steel market.