With demand for steel on the wane, producers across the world have reported losses or sharp drops in profitability. The slowdown in the steel market has been attributed to the slowdown in the Chinese economy, the ongoing euro zone crisis and a sluggish U.S. economy. Though China, the largest consumer of steel has taken measures to boost its economy, it is not expected to result in an increased demand for steel in the short term.

Raw steel production in China recorded a 2% increase in early August this year taking the country’s steel production to a record 400% increase over a period of 10 years. In 2012 China’s steel production is expected to touch 715 million tons. Despite production cuts, slackening demand and rising stockpiles China’s output for 2012 is expected to be 5.2% up from 2011.

The paradox here is that though the demand for steel is down and reaching lower levels daily, Chinese steel mills are still producing to achieve record steel output figures. According to China Iron and Steel Association (CISA), the country’s steel stockpile is up by 26% from last year. The CISA also reports that the country’s steelmakers saw profits fall by 96% on the back of slowing demand, triggering speculations about a possible revival of tax breaks for Chinese steel producers. However, the country’s steel production shows no signs of letting up barring a few production cuts.

Many analysts believe that perhaps the numbers don’t reveal the full story as China’s steel production figures are largely based on the output of state owned manufacturers whose primary objective is to meet the government’s production targets, irrespective of market conditions. It is perceived that while CISA’s figures for China’s steel output takes into account the actual production of affiliated steel mills it only makes an estimate of the output of the unaffiliated mills. Analysts point out that while CISA’s numbers point to increased production, it is possible that smaller steel mills in China could have already cut back on production and this is not being reflected in CISA’s numbers.

That the country’s steel production is heading for a serious downswing is evident by the fact that for the second time this year, China’s steel mills have defaulted on, or deferred taking shipments of almost four million tons of iron-ore. The Shanghai rebar futures was down at $560 per ton. China’s slowdown has impacted iron ore prices; the price of high grade iron ore is down by 2.7% to $106.40 last week, the lowest since 2009.

Baosteel, China’s largest steel manufacturer expects steel prices to continue to be under pressure as the industry’s output hasn’t slowed even while the economy has slowed down. Analysts expect that steel prices may hit rock bottom by around March 2013. China’s excessive production despite weakening demand could totally wipe out its steel sector’s profitability.

Considering that China has shown remarkable acumen and strategy in becoming a dominant force in the steel market, it’s a bit difficult to think of the current paradox as a lapse of policymaking. Whatever it is, there’s no doubt that the markets are extremely sensitive to every little move that China makes.