International credit ratings agency Fitch Ratings has stated that the Chinese government’s proposal to cut 100-150 million mt of capacity by 2020 will likely result in significant job losses in the labour-intensive sector and huge financial losses, given the highly leveraged nature of most companies in the industry.
Fitch believes that, unless specific actions are taken to address these challenges, rapid capacity elimination in the Chinese steel sector is unlikely. This would in turn mean prices are likely to remain low, resulting in higher liquidity and default risks for steelmakers, many of which have expanded rapidly since 2012 funded by short-term debt.
According to Fitch, based on industry productivity norms of 300 mt of steel per year per employee in China, elimination of 150 million mt of capacity would mean the loss of around 500,000 jobs in the industry. In addition, layoffs in regions where steelmakers are large employers could result in prolonged dampening of related industries such transportation, power generation, and even retail. Fitch also pointed out that the sector is highly financially leveraged, with the average debt-to-asset ratio at more than 70 percent, and one third of the sector’s debt is in the form of bank loans. Accordingly, even the shutdown of 100 million mt of capacity, a reduction of less than 10 percent of existing capacity, could significantly hurt lenders.