Union Budget 2022-23: After a gap of seven years, new investment activity in the steel sector has seen a rebound following the earnings surge of steel companies
Domestic steelmakers have witnessed a dream run since Q2 FY2021 supported by a combination of concerted fiscal and monetary policy actions by the governments and Central banks around the world which injected record liquidity into the global economy to stimulate growth.
Most domestic companies have reported their best-ever profits from the second half of FY2021 which has helped bring down the industry’s debt levels at an accelerated pace. However, while the first leg of the rally was largely led by an uptick in demand from China in CY2020 and the early part of CY2021, going forward, following the distress in China’s property market, the sustenance of the upcycle in FY2023 and beyond would depend on steel demand outlook in other major steel hubs outside China, which includes India, Europe, Japan, USA, and South Korea.
In this context, with India standing out as the second-largest global steel producer and consumer, the government’s infrastructure spending programme, which is a key driver of domestic steel demand, would play an important role in determining the durability of the current upcycle.
Steel prices correct by 12 percent from its peak as demand pick-up in Q3 remained muted
In India, typically steel consumption increases in the second half of the financial year. While the pick-up in domestic steel demand in H2 FY2021 was a healthy 16.8 percent year-on-year (Y-o-Y), in the current fiscal, the demand recovery, post the monsoon, has been slower than expected, contracting by 9 percent Y-o-Y in Q3 FY2022 over the same period of last fiscal. This suggests that demand from the infrastructure and construction sectors, which accounts for around 60 percent of domestic steel demand, has slowed down in recent months.
Exhibit 1: Trend in quarterly domestic finished steel demand
In the 2021 Union Budget, the government targeted a 34.5 percent increase in the annual capex spending in FY2022BE (budget estimate) over the FY2021BE, making a strong push for infrastructure-led growth in the country, especially in steel-intensive sectors like the railways, roadways, urban infrastructure, affordable housing, and energy. However, it is observed that the actual spending on the ground has been much slower than budgeted, with the government’s progress in capital expenditure in April – November of FY2022 being just 49 percent of the full-year target. This has been a key factor behind the lacklustre sequential recovery in domestic steel demand in Q3 FY2022, leading to steel prices correcting by 12 percent from its peak level recorded in October 2021.
Given the Omicron wave in December 2021, the Government’s ability to meet the full-year capex target during the remaining months of the current fiscal remains uncertain. Therefore, in the 2022 Union Budget, a combination of a higher budgetary allocation along with closer monitoring of progress and fund mobilisation for projects in the infrastructure and transportation sectors could provide a fillip to domestic steelmakers in FY2023.
Incentivising transition towards environmentally friendly ways of steelmaking
The global steel industry accounts for around 7-9 percent of the global CO2 emissions. India has announced its carbon-neutrality target by the year 2070, and in that context, carbon-intensive sectors like steel would need to invest in cleaner methods of steelmaking like the electric arc furnace (EAF), hydrogen-based iron-making plants, or carbon capture technologies.
India’s National Steel Policy projects 60-65 percent of the country’s steelmaking capacity in FY2031 from the cost-efficient blast furnace route, which unfortunately has a large carbon footprint. However, given the country’s carbon neutrality targets, fiscal incentives in cleaner steelmaking technologies could help the steel industry reduce its carbon footprint. This is particularly relevant since many large Indian steel producers have announced capacity expansion projects recently.
After a gap of seven years, new investment activity in the steel sector has seen a rebound following the earnings surge of steel companies. What is interesting to note is that apart from brownfield expansions, leading global steelmakers like ArcelorMittal and POSCO have announced plans to set up mega greenfield steel plants in India. However, with private sector capex yet to pick up meaningfully, the government’s infrastructure spending programme would be one of the key pillars that would support growth in domestic steel demand going forward. Therefore, steel companies would be closely watching the government’s infrastructure spending budget before deciding on additional investment plans.
Jayanta Roy is Senior VP and Group Head; Ritabrata Ghosh is Assistant VP, Sector Head, ICRA Limited. Views are personal