The Chinese government's recent policy to levy a 5% to 10% export tax on 83 types of finished steel products from June 1 is causing concern in the domestic market that steel product prices will fall as the market floods with products that would previously have been exported, industry insiders told Interfax today.

The policy was announced by the Ministry of Finance yesterday, one day before Chinese delegates, led by Vice Premier Wu Yi, began a strategic economic dialogue with U.S. counterparts in Washington, which will be held from May 22 and May 24. The trade balance between the two countries is one of the key issues for discussion.

A senior official, surnamed Wang, from Shanghai Baowang Industry Co. Ltd., a leading domestic steel product exporter, expressed his concerns over the effect the policy would have on future export prices. 

"Despite reaching an agreement with foreign clients to split the increased cost from the new export tax policy for contracts to be implemented in the next few months, there is also the possibility that foreign clients will cancel their contracts or refuse to accept the price increase," he said.

Some Chinese traders even suspended issuing export prices last week, preferring to wait until the policy was released, according to Wang.  

European and U.S. markets are expected to enter their traditional slack consumption period from the end of June to July and foreign clients expect a drop in Chinese export prices during this period, the trader said. 

"Both international demand and China's exports will be negatively affected during this period, but i believe international market demand for the whole year will remain strong," he commented.

"As supply pressure eases in the domestic market, steel product prices will start to fall, with the export tax narrowing the gap between domestic and international steel product prices. This will result in a fall in domestic steel industry profits in the second half of the year," said Wang Jianhua, senior analyst with Shanghai Mysteel.

In fact, the policy is already having an effect on the domestic market. The prices of hot-rolled coil (HRC) between the thicknesses of 2.75 millimetres and 9.75 mm in Shanghai fell between RMB 20 ($2.61) and RMB 60 ($7.84) from yesterday, to between RMB 4,060 ($530.37) and RMB 4,380 ($572.17) per tonne today, which includes a 17% value added tax, according to information provided by Mysteel.

Shanghai Baosteel Co. Ltd., a subsidiary under Baosteel Group, China's largest steel mill, announced today its prices would remain unchanged in the third quarter for most core products, including pickled and un-pickled HRC, cold-rolled sheet and color-coated plate.

Wang commented that Baosteel's third quarter price policy reflects cautious behavior and lack of confidence in the domestic market for the second half of the year.    

Mao Zuhong, analyst with United Securities in Shanghai, forecasts that steel product prices on the international market will increase following the new policy, further extending the price gap between domestic and international markets.

"Despite the export restraining policy, China's steel product exports are actually set to increase in the second half of the year," he said.

China's steel product exports reached a historical high of 7.16 million tonnes in April, up 33.09% from March. The country exported a total of 21.28 million tonnes of steel products in the first four months of the year, up 132% from 2006. Prices on the international market have also increased steadily, indicating high demand, which is heavily influenced by relatively inexpensive exports from China, Mao pointed out.

Mysteel analyst Wang agreed with Mao's viewpoint and further predicted that China's steel product exports would reach 50 million to 53 million tonnes this year, up between 16% and 23% from 43 million tonnes in 2006.

The Ministry of Finance released a supplementary document today regarding the export tax policy, specifying the 83 types of steel products and at what rate they will be levied. According to the document, the export tax on HRC will be 5%, while hot-rolled rod, wire and section exports will be taxed at 10%.

The policy is expected to facilitate an optimized product range and decrease energy-intensive steel products produced by Chinese steel mills, Wang said.

Chinese steelmakers are continuing to increase long-term contracted imports of iron ore from Australia as a result of the recent export tax on Indian iron ore concentrate and increased domestic demand.

Shanxi Haixin Iron and Steel Group and Hebei Jinxi Iron and Steel Group have both entered into separate long-term off-take agreements with OneSteel, an Australia-based steelmaker and steel distributor, OneSteel announced yesterday.

The Haixin Steel and Jinxi Steel agreements represent OneSteel's second and third long-term iron ore off-take agreements for its Project Magnet Mine, following the first 6-million tonne iron ore off-take agreement with Rizhao Iron and Steel Group in April.

OneSteel has agreed to supply Haixin Steel with over 6 million tonnes of iron ore over the next 10 years from July 1, and Jinxi Steel with 5 million tonnes, from Jan. 1 next year.

The new deals increase OneSteel's iron ore supply contracts with Chinese steel mills to a total of 17 million tonnes. As part of the supply agreements, OneSteel has agreed to arrange iron ore shipping.

Iron ore prices are based on the international benchmark price, which has risen 9.5% so far this year, causing many Chinese steelmakers to turn to less expensive long-term contracts.

OneSteel's Project Magnet Mine is situated in South Australia's South Middleback Range and has so far yielded 40 million tonnes of hematite lumps and fine ore to be sold over a 10-year period. OneSteel has invested RMB 2.97 billion ($387.98 million) in the mine to date.

On May 17, Fortescue Metals Group Ltd. inked an off-take agreement with China's third largest steel mill, Tangshan Iron and Steel Group (Tanggang), to supply 20 million tonnes of iron ore per annum in two stages.

The first stage of the off-take agreement requires Tangang to purchase 11% of FMG's annual 45 million tonne output and up to a maximum of 5 million tonnes annually over the next 10 years.

The second stage of the agreement requires Tanggang to purchase a further 15 million tonnes of FMG's expanded production. The second stage schedule is dependent on FMG's proposed 25 million-tonne expansion.

In March this year, Shanghai Baoshan Iron and Steel Group (Baosteel Group), China's largest steel mill, signed a long-term 20 million-tonne off-take agreement and a magnetite development memorandum of understanding with FMG, to explore and develop the Banded Iron Formation in Western Australia's Pilbara region. The BIF contains proven reserves of approximately 1 billion tonnes of magnetite resources.

Pricing under the agreement is based on the annual industry benchmark price for Pilbara premium iron ores.

FMG has been developing the Pilbara Iron Ore Project since mid-2003 and plans to start shipping iron ore in mid-May, 2008.

Both OneSteel and FMG are listed on the Australian Stock Exchange.