The price of iron ore, a key ingredient in steelmaking, has risen to its highest level in more than a month, lifted by a flurry of restocking activity in China.

Iron ore dropped to within a whisker of a two-year low last month as the market struggled to digest a wave of new low cost supply. But after reaching $89 a tonne in mid-June, the price has slowly recovered.

On Friday, benchmark ore, with 62 per cent iron content, for immediately delivery into China was trading at $96.5 a tonne, up 1.7 per cent on the week.

However, the commodity, which generates large profits for miners such as BHP Billiton, Rio Tinto and Vale, is still down 28 per cent in the year to date.

This week’s gains followed signs of strength in the Chinese economy – the country’s factory sector grew at its fastest pace in six months – and purchasing by its steel mills.

The last time iron ore traded at or around current levels was in October 2012 and prices rallied to $160 a tonne within in six months driven by a sharp restocking cycle in China.

However, few analysts see history repeating itself. Unlike 2012, the seaborne iron ore market is in surplus and inventories in many parts of the steel supply chain are high or in line with historic norms.

“Over the last week or so, the iron ore price has shown signs of hitting a temporary buffer as an improvement in demand and some moderate restocking triggered a flurry of short covering in the swaps market,” Credit Suisse report in a report.

“This could continue for a week or two yet but the trend remains firmly on the downside and begs the question of when excess supply will be rationalised,” it said.

The seaborne iron ore market has finally tipped into surplus this year as BHP, Fortescue Metals Group, Rio and Vale have brought significant new supply on to the market and steel production growth in China has slowed.

The big four alone are expected to add more than 100 tonnes to seaborne supply in 2014.

For the market to balance and prices to find a floor traders says high cost domestic production in China will have to be reduced and mines closed.

China produced around 1.5bn tonnes of iron ore in 2013 or 340m tonnes on an import equivalent basis.

Some small domestic mines have already closed or cut output in response to declining prices. Credit Suisse estimates current domestic iron ore output is currently running 28 per cent below 2011’s peak rate.

However, the bank says most of this production was cut at the start of the year when mines did not reopen after winter and Chinese new year. More recently, output has stabilised with production in May up 1.4 per cent.

One reason is that a lot of Chinese supply is either state controlled by the state or vertically integrated with steel mills.

JPMorgan recently estimated that 150m-200mm tonnes of Chinese iron ore capacity could be plausibly considered “sticky”.

As such, Credit Suisse and other analysts think iron ore prices will have to trade well below current levels over the next 18 months to return the market to balance.

However, the producers take a different view. Mike Henry, BHP’s president of marketing, said this week that high-cost Chinese producers were exiting the market.

“Over the past few weeks, you’re starting to see some of that high cost supply shut in,” he told media in Australia. “That’s one of things that has helped buoy iron ore prices over the past week or so.”