Market structure in the Chinese steel industry

Abstract

Trade in intermediate goods has become a significant feature of the international economy. Nevertheless, questions regarding price negotiation and the determinants of importing firms’ profitability remain unanswered. Using firm-level data, we attempt to address these issues in the context of the Chinese steel industry. Despite being the largest producer of steel in the world, the Chinese steel industry has maintained a very low level of profitability. This paper suggests that the low profitability of Chinese steel producers results from the abnormally high degree of market segmentation in China. Using a recently developed econometric method in panel data spatial analysis, we explain the level of geographic fragmentation in the Chinese steel industry. Our results reveal that local steel production depends only on local demand rather than on cross-regional demand. Production is responsive, as a 10% increase in local GDP induces more than 8% increase in local steel production, while the cross-province spill-over demand is insignificant under several reasonable model specifications. Less efficient firms survive because of the segmented market. As a result, Chinese steel producers realize lower profit in the face of high input prices.

Keywords:

• Chinese steel industry
• market structure
• spatial analysis

JEL Codes:

• L6
• C5
• R1

Acknowledgements

The authors appreciate helpful comments from Dr. Daniel Hicks, Dr. Carlos Lamarche, Dr. Qihong Liu, and Dr. Firat Demir as well as the participants at the APJAE Symposium on Advances in the Studies of the Chinese Economy in Hong Kong, China.

Notes

1. The revenue and the cost are deflated by the production price index; the fixed asset is deflated by the industry fixed asset price index. The workers’ wage is deflated by the consumption price index (CPI). The input price, which is nominated by US dollars, is converted by the nominal exchange rate and deflated by the Chinese CPI (a proxy for the GDP deflator).

2. Such classification is based on the principle business so that there is no overlapping that one firm is coded with two different SICs.

3. Observations with negative revenue, negative long-run investment, negative total fixed asset, or negative number of workers are dropped. Further, we drop firms that only appear one year in the database. There are only 428 firms that show up in one year over the 10-year period.

4. It is necessary to clarify the definition of some variables. Here, we use total output value as a proxy for revenue. The total revenue is the main variable to examine the market structure and market shares are based on total revenue. The profit is measured as the total pretax profit (i.e. net profit) plus value-added tax (VAT). We use the annual average total fixed net asset (TFA) as a proxy for capital, which comes from averaging the monthly values of the fixed asset. The number of workers is also from the monthly average numbers.

5. CSB year book, 2008.

6. The calculated Herfindahl Hirschman Index of the entire market drops from 25.3% in 1998 to 5.0% in 2007; and, that is from 5.6 to 5.7% for state-owned firms and from 5.2 to 3.1% for nonstate-owned firms.