A prolonged downturn in China’s property market will have significant flow-on effects for the Australian government’s finances and the local steel industry, economists have warned.
The Asian superpower’s real estate sector was seen as a pillar of economic growth until 2020 when China instituted some of the world’s harshest and longest COVID-19 lockdown measures.
It was around that time its president, Xi Jinping, introduced tough new rules to crack down on the nation’s debt-fulled property bubble, which led to the financial collapse of Evergrande, Country Garden and other major property developers.
Unlike Australia, Chinese property prices have been falling at their fastest pace in nearly a decade.
Construction activity has also slowed considerably, with figures from May showing they were about 80 per cent lower than the same period four years ago.
“The property sector in China accounts for roughly 30 per cent of its steel consumption,” Commonwealth Bank’s commodities analyst Vivek Dhar told the ABC.
“And given that China imports about three-quarters of the world’s iron ore, what happens in the property sector has a massive impact when it comes to iron ore demand and steel consumption.”
Last year, Australia shipped $136 billion worth of iron ore overseas, with most of that going to the Chinese market, data from the Department of Foreign Affairs and Trade (DFAT) revealed.
But the prosperity Australia has enjoyed as a result of China’s insatiable appetite for iron ore may be under threat if its prices drop significantly lower, according to Tim Harcourt, an economics professor at the University of Technology Sydney.
Why China’s property market troubles are having an impact here
The Reserve Bank of Australia is among those closely watching the developments in China’s economy.
RBA governor Michele Bullock told the House Economics Committee in Canberra on Friday that China was “a risk that’s very pertinent for us”.
While she noted its economy was still “performing OK”, meeting their target of about 5 per cent growth, they still had a “very big drag from the problems in their real estate sector there”.
“China is really important for us because of our trade relationship … [it’s our] biggest trading partner and it’s very important in particular for the prices of the commodities that we export, in particular iron ore,” she said.
“So that is something that we’re watching quite closely because developments in China can have quite a big impact on the way our trade develops, and therefore on our growth.”
For many years, the sale of iron ore has provided a major boost to the Australian economy, but that may soon change given China’s steel industry is struggling.
“All the momentum is down. If we look at steel mill margins, we can see right now that steel mills have very little incentive to purchase iron ore given how loss-making they are,” Mr Dhar said.
“When we see steel demand in China very much weakened, like it is now, they look to the export market to fill the gap.
Vivek Dhar is Commonwealth Bank’s commodities analyst. (ABC News: Sean Warren)
“And in that, we start seeing very low-cost steel hit the market, and this naturally increases a lot of trade friction.
“That puts pressure on a lot of domestic steel fabricators, not just in Australia, but globally.”
Steel is ‘flying out’ of China and into South-East Asia
It now appears China is offloading its excess stock of steel to other markets, driving price pressures that are being felt in Australia.
“We are certainly seeing the impact of a large volume of steel flying out of China into the South-East Asian markets,” Mr Vassella told The Business.
“And what that’s done is that’s driven pressure on price, which then comes back to our domestic market here in Australia.”
The price of iron ore — a key component in steel — has dropped by about 35 per cent since the year began. The spot price is now sitting around $US90 per tonne ($133.78 per tonne).
Treasury analysis this week found that plummeting prices could cost the federal government $3 billion in revenue, which could push the budget into deficit this financial year.
“We’ve had very high prices in iron ore for 20 to 30 years,” said Mr Harcourt.
“We’ve really been a lucky country as far as the very high prices go. So it was bound to come down.
“It’s just a question [of] to what extent will it fall further, and will that have a real significant impact on our budgets?”
Australia’s largest steelmaker, BlueScope, said its financial performance would be impacted by low Asian steel spreads.
The company said this would be driven by high regional steel production and exports, which affected both steel prices and raw material costs.
Earlier this week, BlueScope revealed its full-year profit had dropped 20 per cent to $806 million.
However, BlueScope Steel chief executive Mark Vassella described the result as “a solid performance in the context of macroeconomic and industry volatility”.
He also offered a more optimistic assessment on the situation going forward, believing this to be the bottom of the cycle.
“Steel companies, particularly some of the less efficient steel companies, would be losing money [at these prices], and you can’t do that forever,” he told The Business.
“So they’re the sorts of adjustments that need to be made. And does that mean a structural adjustment to production levels and capacity in China to meet their domestic demand? I suspect that’s what we’ll start to see.”
What does this mean for Australians?
In the meantime, if iron ore prices continue to fall, Mr Harcourt has warned the federal government will “have less revenue to spend”.
Treasury analysis found that with iron ore prices falling faster than expected, Labor faces the prospect of having less revenue and a bigger deficit as it heads into an election year in 2025.
“So the government’s either got to reduce its spending or raise taxes domestically,” Mr Harcourt said.
“So it’s not good news for Australian taxpayers.”
Tim Harcourt has reflected on the impact falling iron ore prices will have on Australia. (ABC News: John Gunn)
While it is unclear exactly how this will all play out, especially as Prime Minister Anthony Albanese prepares to head into an election cycle, Mr Harcourt says there are ways the government can cut back if it needs to.
“They’ve got ways of raising other parts of revenue and trimming education and health in a very careful way so it doesn’t hurt people, particularly at the bottom end of the spectrum,” he said.
“But they do have to be very careful. It’s much easier to have a surplus with higher oil prices than it is to have lower iron ore prices and a smaller surplus, or potentially a deficit.”
However, this might not be required if the iron ore price stops falling.
In the last budget, Treasury made its spending decisions on the conservative assumption that iron ore would be much lower at $US65 a tonne.
“Basically, even if spot prices are maintained until the end of this financial year, even on the federal budget estimate, we’re talking roughly 21 per cent higher than what is forecast in the budget,” Mr Dhar said.
“So you still have plenty of upside here from what was budgeted.”
Analysts like Mr Dhar believe the iron ore price will rebound in the months ahead, given the Chinese government is facing intense pressure to revive its economy with further interest rate cuts.
“If we see a property sector and [Chinese] infrastructure turning south, we are going to see the economic growth target of around 5 per cent be at risk,” he said.
“This opens the door to additional stimulus coming into the market by the end of the year.
“And this is something that, in our view, could see iron ore prices rebound back up to $US100 to $US110 a tonne by the end of the year.”