IN pockets of China’s industrial heartland, a government push to clean up the environment and cut excess output is starting to bite: furnaces have gone cold, the lights have been switched off, migrant workers are drifting back home.

Liu Xiaoping, a resident of the sprawling, smoggy, steel-making hub of Jinan in the northeast is among the campaign’s collateral damage. Standing in a cul-de-sac where most factories were closed on a recent weekday visit, he says officials ignored his pleas for more time to comply with regulations at his 20-year-old plastic mould business. As officials threatened to cut off electricity, Liu shut down his factory before they could do so.

“It was like a knife falling,” Liu said, claiming that the chop in mid-September left him with 1 million yuan ($152,000) of idle equipment and 10 unemployed staff in a city where more than 7,000 businesses labelled “messy and polluting” have been targeted for clean-up or closure. “None of us know what to do.”

While it may be little consolation to Liu, the impact from efforts to cut capacity is proving double edged — factory profits have surged and reflation has taken root across industry, giving a much needed boost to indebted companies.

China’s reflation also continues, with producer prices rising 6.9pc in September from a year earlier, data released Monday showed.

Still, the drag from industrial restructuring may intensify. Economists estimate the expansion will slow to 6.4pc next year and 6.1pc in 2019.

For China’s leadership — gathering this week at the 19th Communist Party Congress — cleaning the noxious skies and filthy rivers has become a priority. In contrast to previous leaders’ growth-at-all-costs approach, President Xi Jinping and his premier have declared war on pollution.

That political will overlaps with an economic need to rein in surplus production of steel, aluminium and other basic materials after years of over-investment. How and when that capacity gets replaced will be a key factor in the economy’s performance beyond 2017.

“The last time we saw this kind of effort to cut capacity was at the end of the last century, when Premier Zhu Rongji was determined to shut down money-losing state enterprises,” said Tao Dong, vice chairman for Greater China at Credit Suisse Private Banking in Hong Kong. “There’ll be short-term consequences for growth and jobs but it’s hard to quantify at this moment, all depending on whether the capacity will remain shut after the Party Congress.”

Capacity shutdowns are rippling across the nation with officials estimating hundreds of thousands of small enterprises may be closed. State enterprises aren’t being spared the knife either, though policy makers are cushioning the impact of those cuts.

Jinan Steel, a unit of Shandong Iron and Steel Co. with about 20,000 employees, was among those shuttered in July, the furnaces

falling cold. Many workers though were relocated to a group plant at the coastal town of Rizhao, about four hours’ drive away.

Premier Li Keqiang visited the company in April and told workers that while the closure would take a toll, the nation would work to ensure employees are shifted to new positions rather than laid off.

More interruptions loom. Jinan’s government will close most construction sites until further notice to cut pollution in coming months, the official Xinhua News Agency reported Monday.

The country’s last wave of mergers and closures of moribund state enterprises, in the late 1990s under then-Premier Zhu, cleaned up corporate balance sheets, improved efficiency, and paved the way for the following decade’s economic boom, says Cui Li, head of macro research at CCB International Holdings Ltd. in Hong Kong.

The seasonal campaign may shave up to 0.25 percentage point off growth during the next six months, estimates Societe Generale. In July the Ministry of Environmental Protection said up to 176,000 businesses would be forced to shut down in Beijing, Tianjin and Hebei by the end of September. As the Party Congress approaches, there’s still a question mark hanging about the country’s longer-term industrial and environmental policies.

Even before the crackdown on polluting companies gained momentum in recent months, efforts to reduce industrial capacity had exceeded many analysts’ expectations.

It fuelled a rally in global metal prices, a surge in China’s factory profits, and a frenzy over commodity stocks.

Shandong is among places feeling the most collateral damage, with locals affected by job losses or reduced wages, and left with uncertainty over their futures.

Zouping’s Hushan village is a rubber recycling hub that officials shuttered in one sweep last month. Piles of used tires were stacked as high as two stories in many idled workshops, and some factories were locked up, on a Thursday afternoon last month.

At Liu Shuhua’s convenience store, located on a quiet road just outside the village, stocks of cigarettes, liquor and snacks are piled high, where once migrant workers snapped them up. Liu says sales have slumped 50pc, and she fears that’s permanent.

“It’s impossible to say I’m not worried,” says Liu. “At least half the township population is affected by these closures.”

Some hope workshops will reopen after passing environmental reviews. Liu Qingyong’s family of six made 6,000 yuan a month recycling old tires but now has no income, he says.

“The closures are all temporary,” he says. “Sooner or later it will all start again.”

Bloomberg/The Washington Post Service

Published in Dawn, The Business and Finance Weekly, October 23rd, 2017