China vowed on Wednesday to stop its steel mills from expanding further as industry figures showed the sector carrying massive overcapacity which risks swamping domestic and foreign markets.

The State Council, which also agreed measures to support its carmakers, said it would allow no new steel capacity expansion projects and would adopt a flexible tax policy on steel exports to stabilise China's share of the global steel market.

China has the world's biggest steel sector, with rampant growth fuelled by an economic boom that ran out of steam over the last few months.

Steel capacity reached 660 million tonnes at the end of 2008, a China Iron and Steel Association official said at an internal government meeting on Tuesday, the China Securities Journal reported.

CISA officials later told Reuters the proper figure should be 616 million tonnes.

Industry analysts said both figures are plausible.

Either way, 2008 showed strong growth despite the weakening market. Chinese steel capacity at the end of 2007 is estimated at about 550 million tonnes.

Everyone keeps saying the steel price has recovered, but this overcapacity is still there. As soon as the price improves a bit, they'll start up again, said analyst Henry Liu, of Macquarie Research. It's not good for the industry.

Nor is it good for relations with trading partners, whose own steel mills have cut output aggressively as the global financial crisis decimated demand.

Chinese output rose only 2 percent in 2008 to 500 million tonnes, according to CISA estimates.

For several years Chinese mills relied on export markets to take about 10 percent of their output. China sold a net 52 million tonnes of steel into world markets in 2007, feeding a building boom in Dubai but enflaming trade sensitivities.

Although China's domestic steel market was showing signs of weakness in May, it was masked by export demand until after the August Olympic Games. When export markets crashed, China's steel industry reeled.

Net exports shrank to 45 million tonnes in 2008.


Record raw materials costs combined with plummeting prices have hurt returns, even at model national mills like Baosteel Group, which includes Baoshan Iron & Steel Co (600019.SS) where profits dropped by 32 percent in 2008.

China's policies to rein in capacity have been mostly ineffectual over the last few years.

Some in the steel industry expect the government to add financial incentives to encourage medium and large size mills to merge, while forcing smaller mills with outdated, polluting furnaces to shut.

The state council's measures, which were not released in detail, could compound the challenges for 2009.

All in all, things aren't looking too good for the steel industry this year, said Yuan Hui, steel channel director at industry website Umetal. (Additional reporting by Niu Shuping, Editing by Peter Blackburn)

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