Leibowitz on Trade: The Price Bubble

First, as everyone knows, prices are a function of supply and demand. There are short- and long-term factors that caused supply of steel in the U.S. market to drop and demand to increase.

Supply has diminished in the United States for several reasons. Some steel mills are down for maintenance or closed during the pandemic because of anemic demand. Supply is constricted, but only for a little while. Because demand for steel is on the rise now, the plants that closed because of the pandemic should reopen in the next few months. We also know new construction (primarily electric arc furnace production) will go online in the next couple of years, further increasing supply. In anticipation of new supply of steel, buyers will tend to reduce inventories, thereby decreasing demand. The supply of steel did drop, but not extraordinarily, and supply constraints do not explain $1,200 per ton hot rolled steel.

One major cause of reduced supply is U.S. restrictions on imported steel. These stem from three primary sources: Section 232 tariffs and quotas on steel imports from most countries; antidumping and countervailing duty orders on numerous products from many countries; and the China Section 301 tariffs, affecting imports from the country that produces half the world’s steel. Imports in 2020 were down 20 percent of those in 2017, leading to shortages of many products, including semifinished steel.

On the demand side, there are also short- and long-term causes as well. Steel-using manufacturers were knocked flat by the pandemic from early last year until last fall, causing a fall in prices and quantities purchased. Then demand picked up as businesses reopened. It seemed that buyers large and small needed to beef up their purchases to prepare for increased production.

That is short-term. A longer-term consequence is that downstream demand for the products made from steel (automotive, construction, machinery) is increasing as the economy in general emerges from the pandemic-induced slowdown.

Why prices spiked so badly in the last few months is more mysterious. The trends I’ve just noted are not a surprise and one would have expected a short-term increase followed by more normal price trends. But, since September 2020 prices in the U.S. have continued to skyrocket: MetalMiner scores the increase (for cold rolled coil) from $660 per ton to $1,300, nearly doubling in five months. Other price indices show similar results for cold rolled and similar products. When is the last time that happened?

As prices explode in the United States, they have not kept pace elsewhere in the world. While cold rolled coil prices (again according to MetalMiner) in China and the United States were about the same in September 2020, they flattened out in China from September-December and declined since then, currently coming in at about $800 per ton for cold rolled coil in February 2021.

The spread between Chinese cold rolled prices is significant (remember that China produces half the world’s steel, even though Chinese steel per se is basically locked out of the U.S. market). The difference between global prices and those in the U.S. poses a major competitive threat for U.S. manufacturers that use steel. We heard this month from steel-using manufacturers (those who attended the virtual Tampa Steel Conference heard it too) that their market share has been hit hard, with steel prices in the U.S. exceeding finished product prices from foreign sources in many cases.

If this trend keeps up, the demand for steel from U.S. manufacturers will inevitably decline, and decline substantially. The decline will start with loss of U.S. market share to imports of downstream products. Over time, exports by U.S. steel-using manufacturers will dry up too. Manufacturers will explore alternative materials, like substituting aluminum for steel in car and truck manufacturing, or composite materials for other applications. Even military requirements are retooling toward high technology materials, such as composites for body armor and helmets for the military and police.

The worst situation for both U.S. steel producers and users is for the U.S. to be an island of high steel prices. That is where we are now. Both sellers and buyers will be harmed seriously if this keeps up because manufacturing will increase the speed of its flight from our shores.

Steel producers and their customers need to fight less and work together more. Downstream manufacturers need more reliable pricing for their products, where steel prices often are the majority of their material costs. If steel producers are stockpiling profits through the good times, as many are, they will inevitably face bad times when the situation is reversed, as it surely will be. Government policy must be responsive to both steel producers and steel users.

The current price spike may help steel companies in the short run but it hurts everyone else. If steel companies cannot keep up with demand, import restrictions must be relaxed for the duration of the market disruption. Otherwise, there could be permanent damage to steel-consuming industries, the backbone of steel’s customer base, and the producers themselves, who will find their companies with fewer domestic customers and shrinking markets overseas.

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