For Mao Zedong, grain and steel were the key pillars of development. The Chairman believed China could surpass Britain's production simply by means of its small backyard steel furnaces that he ordered to be built in every commune during the Great Leap Forward years. Later, Mao saw the folly of his plan and, since then, China has indeed taken gigantic leaps forward to emerge as the biggest steel producer since the mid-1990s.

The year 2010 was meant to be a good one for China's state-owned steel giants. The industry had left behind the worst part of the financial crisis. China generated enough demand with its mega infrastructure projects and the $586 billion (Dh2.15 billion) stimulus package. The year began on a euphoric note with analysts predicting strong steel growth. But eight months down the line, most of the companies are frowning, despite posting extraordinarily healthy first-half results.

A combination of the rising costs of raw material, flattening demand and virulent protectionist tendencies in the US against Chinese steel imports are pushing companies into a corner.

Shanghai-listed Baoshan Iron and Steel posted a 611 per cent rise in second-quarter net profit, but its estimates for the third quarter are bleak. It has already projected a loss of 2.2 billion to 2.9 billion yuan in the three months ending September 30. The last time Baoshan posted a loss was in 2008.

Angang Steel, the biggest Chinese steelmaker traded in Hong Kong, may also post a loss in the third quarter, according to figures from the company's nine-month profit projection this month. That would be a loss for the first time in five quarters. Wuhan Iron and Steel Company saw its net profit rise 90.43 per cent year on year during the first half of the year, but the company warned that costs had climbed in this period.

The huge fluctuation in performance in the two halves of the year indicates the "double bind" Chinese companies are dealing with — high iron ore, coal and electricity prices at one end and cooling demand from the construction and auto sectors.

Price pressure

Steel prices in China have kept companies on tenterhooks throughout the year. It averaged 4,218 yuan a ton in the first half, up 15 per cent from 3,680 yuan a year earlier. But from April to July, prices fell as much as 17 per cent as the government introduced measures to cool the overheated construction sector.

Battling with falling prices, steel companies and traders got a bigger blow when two of the world's biggest iron ore suppliers, Rio Tinto and BHP Billiton, demanded a 22 per cent gain for the third quarter.

Setbacks

A major weakness of the Chinese steel industry is its lack of control over the sources and pricing of international raw materials. The fragmented nature of the industry contributes to low bargaining power. The domestic metals industry is still characterised by old, inefficient companies run by provincial governments. Beijing has been encouraging consolidation and domestic takeovers to increase efficiency, rationalise the sector and move from strength to strength.

Overseas mergers and acquisitions are an integral part of this restructuring. Wuhan Iron and Steel and Shanghai Baosteel Group have made significant investments in Australian companies which produce iron and coal. Wuhan is also negotiating with ArcelorMittal, the world's top steelmaker, on the joint development of overseas iron ore, according to reports.

Since the days of ‘backyard furnaces', China has seen exponential growth. In 1996, its output exceeded 100 million tons for the first time to become the world's top producer. Even at the height of recession in 2008, its crude steel output crossed 500 million. But now, its strength is proving to be its weakness.

The writer is a freelance journalist based in China.