China's government is pushing local authorities to move faster on closing surplus steel mills and coal mines under international pressure as a struggle takes shape over who will pay for the costs.
The government's top planning agency has issued warnings since July that many provinces are far behind schedule for cutting production capacity in the steel and coal industries this year.
China is the world's biggest producer of both coal and steel, accounting for about half of global output in both industries.
But its huge excess of production capacity has dragged prices and profits down, triggering international trade penalties, high tariffs and pressure for cuts.
China has responded with pledges to reduce its capacity by up to 500 million tons of coal and 150 million metric tons of steel in "the next few years."
The planned reductions for this year have been off to a slow start as mines and mills take advantage of short-term price hikes that have been spurred by economic stimulus projects.
The slow pace of cuts was previewed as a major issue for the Group of 20 economic summit in China's eastern city of Hangzhou over the weekend after U.S. Treasury Secretary Jacob Lew said that President Barack Obama would "press for action on excess capacity, most notably in the steel industry."
"Excess capacity distorts markets and the environment, harms our workers and runs counter to our efforts to achieve strong, sustainable and balanced growth," Lew said at the Brookings Institution in Washington last week, according to MarketWatch news.
In the run-up to the summit, China fought to keep overcapacity off the G20 agenda.
"The G20 should focus on core issues in order to restore its leadership and power of execution, instead of discussing unnecessary issues," said a pre-summit commentary in the official English-language China Daily.
But President Xi Jinping was unable to silence calls for deeper capacity cutting by China despite warning G20 leaders in his opening speech to "avoid empty talk" and "protectionism."
Critics of China's overcapacity succeeded in including the issue in the draft of the G20 communique, but the wording reflected China's insistence that other nations share responsibility for the problem.
"We recognize that excess capacity in steel and other industries is a global issue which requires collective responses," the draft said, as cited by Bloomberg News.
The wording was echoed in China's official summary of the bilateral meeting between Presidents Obama and Xi.
The White House summary said the presidents "discussed China's role in addressing industrial excess capacity ... as part of a global effort."
The compromise language did little to ease the conflict over the capacity issue, particularly with regard to steel.
"Overcapacity is a global problem but there is a particular Chinese element," European Commission President Jean-Claude Juncker told a press conference in Hangzhou, Reuters reported.
In the G20 final communique, China's critics won a partial victory with language that cited steel subsidies as a cause of "market distortions" and "global excess capacity."
The communique also called for formation of a "global forum" to monitor steel excess capacity, a move that China had opposed.
"In terms of excess capacity, this is an issue that we wanted to get on the agenda. We got it on the agenda,"
President Obama said at a post-summit press conference Monday.
"So, we've made some progress, not as much as we'd like to see," he said.
Walking the walk
On Saturday, Xi assured business leaders at the companion B20 summit that China would honor its previous pledges.
"China will use the utmost effort and most concrete measures regarding production overcapacity; it walks the walk," Xi said, according to the official website china.org.cn.
In an effort to ease international pressure, China's central government has been trying to speed up its capacity cuts.
The National Development and Reform Commission (NDRC) initially complained on July 26 that local governments and state-owned enterprises (SOEs) had achieved only 29 percent of the targeted closures in coal production capacity for 2016 by midyear.
Five provinces had made substantial progress toward the national goal of reducing the surplus by 250 million metric tons, but nine others had made none at all, the official Xinhua news agency said.
The warning to the coal industry came one day after a senior official disclosed that steel makers had also met only 29 percent of their annual target of 45 million tons in the first six months.
Feng Fei, vice minister for industry and information technology, took a milder view of the foot-dragging, saying the midyear pace of cuts was "in line with our expectations."
The cabinet-level State Council apparently disagreed.
On July 27, it issued a statement after a meeting chaired by Premier Li Keqiang, urging "all-out efforts" to meet the targets and threatening the industries with penalties if they did not.
On Aug. 5, the NDRC reported partial but still insufficient progress. Coal companies had made 38 percent of the cuts after seven months while the steel sector had reached 47 percent of its 2016 goal, the agency said.
"Currently, progress clearly lags behind our official schedule," said NDRC deputy director Lian Weiliang.
Uncooperative coal producers faced "punitive measures including forced shutdowns," Xinhua reported on Aug. 11.
Lian cited little or no compliance by provincial-level governments in Inner Mongolia, Fujian, Guangxi, Ningxi, Xinjiang, Jiangxi, Sichuan and Yunnan, according to Xinhua.
Stiff resistance to downsizing in the steel industry has been bolstered by first-half financial results, thanks to the government's own economic stimulus policies.
The combined profits of 19 reporting steelmakers climbed to 2.3 billion yuan (U.S. $344 million) at midyear, compared with losses of 1.57 billion yuan (U.S. $235 million) in the year-earlier period, Xinhua said.
Other reports suggest that the costs of laying off an estimated 1.8 million workers in the two industries is at least as big a reason for stalling as short-term profits, despite the central government's promise of a 100-billion- yuan (U.S. $15-billion) fund for resettlement and other support.
State media reports since February may have left the impression that the funds from the central government would be spent directly on resettling and compensating idled workers.
"Local governments have also been providing support, such as unemployment insurance and payments to the unemployed," Xinhua said on Aug. 11.
But a report by the London-based Financial Times said the funds are being used "to reward local governments and companies for making good progress on cuts," citing Lian's statement on Aug. 19 that 30.7 billion yuan (U.S. $4.6 billion) had already been spent.
The account suggests that the central government is continuing to hold the companies and local authorities responsible for the costs of supporting jobless workers and complying with Beijing's targets.
Lian also seemed to suggest that the companies could find it cheaper to keep operations open rather than paying the partially-compensated costs of shutting them down.
"During the process of reducing capacity, companies face problems with resettling workers and managing debt. If we are solely relying on the market, then companies might not want to cut back," he said.
Some provinces have promised "awards" to steel and coal companies that agree to make cuts and compensate workers.
Six state-owned coal producers in Shanxi provinces have already received 1 billion yuan (U.S. $150 million), while steel and coal companies in Henan province have been promised nearly 2.2 billion yuan (U.S. $326 million), Xinhua reported Monday.
Complex forces at work
The situation is a sign of the complex forces at work as the central government tries to persuade the European Union and other trading partners to grant China "market economy status" by December, as provided in World Trade Organization agreements.
The designation would make it harder for the EU to slap anti-dumping duties on Chinese exports like steel, a benefit that may be passed on indirectly to struggling producers.
But even if the government's targets are met, they may represent only a fraction of China's overcapacity problem.
The country's steelmaking capacity may exceed annual production by as much as 400 million tons, while its coal mines could produce up to 2 billion tons more than China consumed last year.
Philip Andrews-Speed, a China energy expert at National University of Singapore, said overcapacity has been a source of conflict between Beijing and local authorities for years.
"Local governments have long resisted central government programs to close capacity, and this applies to coal mines as much as to factories," Andrews-Speed said.
In the late 1990s, township and village authorities resisted attempts to shut down their mines following the Asian financial crisis as the central government tried to protect larger state-owned producers, he said.
"In all cases, local governments try to keep local businesses and mines going in order to support employment ... economic growth and tax revenue," Andrews-Speed said by email.
But in the case of coal, he also cited differences between closing a mine and a factory, which can be demolished to eliminate production capacity while mining resources remain in the ground.
"It is more difficult to make a coal resource completely inaccessible. As a result, a mine can be closed and then reopened very easily unless the local government actively supports the closure policy," Andrews-Speed said.
The problem raises the question of how meaningful China's capacity cuts will be, even if the government's goals are achieved.
A recent Xinhua report from Inner Mongolia may raise suspicions that some provincial-level governments have been counting declines in production as their contributions to permanent capacity cuts.
Wang Bingjun, head of the regional commission on the economy and information technology, said that 23 illegal mines had been ordered to close and 65 more would be shut by 2020.
"Other mines have been ordered to run at 84 percent of their production capacity, resulting in (a) 10.4-percent reduction in output," Xinhua said.