Japan mulls mandatory carbon trading; Asian steelmakers on alert

Some fear that the policy may lead to higher scrap export prices from Japan, while also making Japanese steel producers less competitive against lower-cost Chinese mills, sources said.

Others were more optimistic, expecting that impact on steelmaking raw materials will be limited in the near-term given the slowdown in Japan’s crude steel output in recent years, adding that it may also speed up Japan’s decarbonization efforts, sources told Fastmarkets.

Overview of Japan’s new plans

Japan’s carbon trading market has been in its pilot phase since April 2023, with participation being voluntary until now.

The new mandatory trading system is set to initially cover 300 to 400 large-scale carbon dioxide (CO2) emitters, including steel, power, chemical and automotive producers that release more than 100,000 tonnes of CO2 annually, local media reported on November 22.

Under the scheme, the government will allocate emission quotas individually. Firms that emit less than their quota can sell their surplus carbon credits to others, while those emitting in excess must purchase additional credits or face penalties.

The government is expected to finalise the specific details of the trading system, including individual company quotas by 2026. A legislative proposal to amend relevant laws is expected to be introduced during the parliamentary session in 2025.

Japanese government officials are also considering setting a new target of 60% emissions reductions by 2035 and 73% by 2040, compared with current goal of 46% emissions reductions by 2030. These are both reductions in relation to 2013 levels.

Countries worldwide have been adopting emissions trading, a type of carbon pricing which charges companies based on their CO2 emissions, in a global shift toward a low-carbon future.

The European Union launched the world’s first Emissions Trading System (ETS) back in 2005, with its scope expanding to maritime transport emissions as well this year.

In Asia, South Korea launched its ETS in 2015, while China launched its ETS in 2021.

In September, China – the world’s largest steelmaker – also announced plans to onboard 1,500 firms in the steel, cement and electrolytic aluminium sectors to its ETS.

What does this mean for Japanese steelmakers?

Japanese market participants generally expect the new carbon tax to push up steelmaking costs in the long run, although the impact of this could be limited in the short-term due to low production rates in recent years and sparse details on the carbon quotas.

Major steel mills have been voluntarily reducing their crude steel production in recent years due to weak downstream demand, indirectly reducing their carbon output, a Japan-based source told Fastmarkets.

“If Japanese steel mills continue to cut crude steel production, they may automatically meet their target of CO2 emissions reduction in 2030,” the Japan-based source said. “In addition, emissions quotas have also yet to be allocated, so in the short-term, it may not have a significant impact on mills’ demand for different raw materials.”

The impact on iron ore demand is expected to be especially limited because most blast furnaces rely on long-term contracts and rarely procure material from the spot market.

Earlier in 2024, Japanese iron ore inventories were so high, they were occasionally being resold to the Mainland Chinese market.

A second Japan-based trader said there is “less flexibility to adjust long-term contract iron ore volume quarterly” unless they negotiate the volume at the start of the fiscal year. In 2024, most steel mills in Japan have reduced usage of high-grade pellets in blast furnace to about 5% due to the high cost and weaker downstream steel demand.

“There has been no similar plan like that seen in Mainland China to raise the pellet ratio in blast furnaces to reduce overall carbon emissions. Mills have been focusing more on transforming to hydrogen fueled electric arc furnace (EAF)-based steelmaking,” the second trader said.

Japanese market participants generally expect the new scheme to nudge steelmakers into investing in more, or speeding up investments, in decarbonization technologies, sources told Fastmarkets.

“If the carbon emission trading price is higher in the future, it could speed up mills’ steelmaking technology upgrades,” the second trader said.

Nippon Steel is planning to replace a basic oxygen furnace (BOF) with a new EAF at its Yahata plant and plans to build another EAF at its Hirohata facility. The steelmaker is also looking into using hydrogen to produce low-carbon steelmaking raw materials, included direct-reduced iron (DRI).

Other steelmaking giants, JFE Steel and Kobelco, are set to convert BOFs into EAFs in the latter half of the decade. The former saw its first green steel sales outside of Japan earlier this month.

In the long run, some Japanese market participants fear that the added costs could make it more difficult for firms to compete with cheap imports, particularly from China.

The gap between global steelmaking demand and capacity was approximately 551 million tonnes in 2023, according to OECD data.

“With the added carbon costs, this would only hurt Japanese steel prices in the short run, making them less price competitive than their cheaper Chinese counterparts. To counter this, we might see the Japanese-equivalent of the EU’s Carbon Border Adjustment Mechanism (CBAM),” a Singapore-based trader said.

Tighter scrap supply for the rest of Asia?

Japan’s shift toward domestic EAF steelmaking, supported by the new ETS scheme, could disrupt Asian scrap markets and send scrap prices higher, sources said.

Limited scrap availability has been an ongoing concern for steelmakers, with a shortage of high-quality scrap being of particular concern.

In October, major local scrap buyer Tokyo Steel announced plans to grow its scrap collection capacity with a new yard in Chiba prefecture.

In June, major trading firm Mitsui also announced plans to invest in Indian recycling major MTC Group to secure more scrap.

A potential tightening of Japanese scrap supply could be especially troublesome for Vietnam, which has grown increasingly dependent on Japanese scrap imports in the recent year compared with costlier deep-sea scrap, sources said.

Vietnam overtook South Korea to become Japan’s largest export destination by volume, with the Southeast Asian nation importing 1.99 million tonnes of ferrous scrap from Japan in the first 10 months of 2024, making up over 51.2% of Vietnam’s total steel scrap import volumes, according to the latest Vietnam customs statistics.

The country’s cumulative import volumes from Japan for January to October jumped by 763,108 tonnes, or about 62.4%, from 1.22 million tonnes the year prior.

In contrast, Vietnam imported only 416,286 tonnes of steel scrap from the United States in the same period of 2024 , a decline of 409,892 tonnes, or 49.6%, year on year, customs data also showed.

Japanese scrap prices into Vietnam have maintained a discount of roughly $20 per tonne in relation to scrap from deep-sea sources like the US and Australia.

Fastmarkets’ weekly price assessment for deep-sea bulk cargoes of steel scrap, HMS 1&2 (80:20), cfr Vietnam, has averaged $382.31 per tonne for the first 11 months of the year thus far, down more than $20 per tonne from an average of $406.56 per tonne the same period in 2023.

Fastmarkets’ corresponding weekly price assessment for steel scrap, H2, Japan-origin import, cfr Vietnam, has averaged $363.51 per tonne for January to November 2024, falling about $30 per tonne from $392.94 per tonne a year earlier.

South Korea and Taiwan, Japan’s second and third-largest export destinations for 2024 will likely also be affected, albeit by a smaller extent, sources told Fastmarkets.

Korea has been primarily sourcing from its domestic scrap supply amid sluggish construction demand and pressure from cheap billet from Mainland China.

Taiwan’s scrap demand has also been adversely affected by multiple typhoons in 2024 this year, leading to a slowdown in scrap buying appetite. Wide availability of cheap billet further eroded scrap demand.

Fastmarkets’ price assessment for steel scrap H2 export, fob main port Japan was last at ¥44,500-46,100 ($293-304) per tonne on November 29, up by ¥1,600-2,000 per tonne from ¥42,500-44,500 per tonne a week earlier.