China’s pledge to reduce carbon emissions by the middle of the century will require large cuts in the production of metals, potentially adding further fuel to an already rapid rise in commodity prices as the world emerges from the coronavirus pandemic.

For a decade, China’s plentiful cheap, coal-fired power has enabled it to dominate the production and export of metals from copper to steel, helping to keep global prices low.

But tighter environmental rules on smelters, steel plants and mines are set to curb supply for a range of metals, adding to global inflationary pressures.

“You will definitely see much slower exports coming through,” Colin Hamilton, an analyst at BMO said. “The world has got very used to China’s deflationary exports in the form of steel.”

President Xi Jinping has pledged that China will be carbon neutral by 2060, an effort that demands tighter rules on the metals industry. Last month, China’s ministry of ecology and environment issued a draft regulation that will require new energy-intensive projects to include an assessment of their carbon emissions for the first time. The regulation would cover six industries including thermal power, petrochemicals, coal-to-chemicals, steel, non-ferrous metals smelting and cement.

China is the world’s largest user of commodities, from oil to metals, so any price rises from a reduction in supply will have a large impact on domestic inflation. It is also a big exporter of processed metals, and refined oil products, which could also increase prices globally.

Prices for steel in the US rallied to an all-time high this month because of rising demand for housing in an economic recovery. Normally, such a price increase would be damped by exports, Hamilton said.

Prices for US hot-rolled coil have increased by more than 200 per cent since August 2020, to $1,644 a short ton, according to S&P Platts.

China produces 56 per cent of the world’s steel and 57 per cent of aluminium, two metals that are energy intensive to produce. Steel production outside of China has been lacklustre, growing by just over 1 per cent during the past decade, according to analysts at Macquarie, and peaked in 2018.

China churned out a record 1.1bn tonnes of steel in 2020 as part of an industrial boom to counter the economic hit from the pandemic. In April this year, production hit a record high despite efforts to curtail activity at mills.

Yet because steel accounts for 18 per cent of China’s emissions, Beijing will have to curb growth in the industry.

China has pledged to phase out 236m tonnes of steel capacity in its 14th five-year plan, which runs from 2021 to 2025, according to the China Iron and Steel Association. A further 221m tonnes would be upgraded to more environmentally-friendly processes.

If those cuts are made there is little spare steel capacity outside of China that can help to meet demand, according to Serafino Capoferri, an analyst at Macquarie.

“In developed economies, the focus is on decarbonising steel production, and many companies are reluctant to spend capital on expansions given the looming outlays required to transition steel production to more sustainable technologies,” he said.

Chinese steel companies will probably offshore some of the carbon emissions by building plants in other countries, as has happened already in Indonesia with stainless steel, Hamilton said. Tsingshan, a private Chinese company, has become the world’s largest stainless steel producer by investing in plants in Indonesia, which rely on coal-fired power.

But if Beijing cuts domestic capacity too quickly before supply can be built outside the country, it risks stoking inflation through higher commodity prices.

Price pressures are already building. The cost of goods leaving China’s factories rose at the fastest pace since the financial crisis last month, data from the National Bureau of Statistics showed on Wednesday. China’s producer price index added 9 per cent in May, its biggest year-on-year increase since September 2008.

China needs to achieve three things at the same time: stable economic growth, carbon neutrality and to keep inflation under control, according to analysts at Morgan Stanley.

“Meeting these three goals at the same time is very difficult as the first two will lead to high raw material costs and higher inflation,” analyst Rachel Zhang said in a recent report.

Those difficulties have already become apparent. In March, China’s environment minister visited Tangshan, the country’s main steel producing city, with a simple demand: less production.

But earlier last week in Tangshan, local officials had a very different message. According to reports by Chinese media Caixin, they met with steel producers to discuss a possible relaxation of those limits, as the result of a recent surge in the steel price.

“Inevitably when you focus on environmental control and you want to cut some steel production emissions, there will be supply-side shocks,” said Michelle Lam, greater China economist at Société Générale. “The government needs to manage this transition very carefully, to prevent it from creating inflationary pressures to the upstream sector.”