Iron ore is sliding big time yet again -- here's a possible explanation why

Photo: John Moore/Getty Images

Iron ore opened lower in early trade today on the Dalian, China’s commodity futures exchange. At 414, it’s down 7 from Friday’s close, on pretty solid volumes for this time of day, with 790,000 contracts changing hands.

That’s knocked the Aussie dollar down to 0.7726, while the ASX 200 1.13% lower in trade today.

The sell off in iron ore really took hold in the last couple of days of last week. No doubt some of it is speculative after Andrew Forrest’s idea to limit production was rebuffed so aggressively by regulators and competitors alike.

But iron ore has been in a downtrend for a year or more and it seems that the real world genesis of the renewed selling could be coming from the apparent decision of the Chinese leadership to redouble their efforts to deal with a chronic oversupply in the steel market.

The South China Morning Post reported over the weekend that China “plans to slash steel-making capacity by 80 million tonnes.

“The mainland will aim to cut as much as 80 million tonnes of excess steel production capacity in the next three years to reverse a massive supply glut that has plunged much of the sector into crisis, a government official says,” the SCMP reported.

“The main task is still to strengthen the market position of enterprises and improve the overall competitiveness of the sector,” said Luo Tiejun, spokesman from the the raw materials department at the Ministry of Industry and Information Technology.

No doubt the irony of a move to reduce productive capacity in this manner won’t be lost on Andrew Forrest.

The reality is that China is approaching “peak steel” as the country shifts GDP away from building and investment as engines of growth and toward what most western economies would see as the primary driver of growth – consumption.

This was acknowledged in the recent Australian government’s Department of Industry and Science Resources and Energy Quarterly:

After a decade of growth driven primarily by fixed asset investment the Chinese Government is planning to rebalance the economy, through market reforms, to increase domestic consumption. The government initiated reforms include freeing credit markets, increasing competition and allowing market forces to have a greater role in allocating resources. Over the medium term, it is expected that final consumption expenditure will account for an increasing share of GDP.

That means “China‚Äôs annual steel consumption growth rate is projected to fall from the 13 per cent average recorded over the past decade to around 2 per cent for the next five years with steel consumption projected to total 865 million tonnes in 2020,” the report said.

As the globe’s biggest user of iron ore, that means downward pressure on the ore price will continue while new production continues to hit the market.

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