The affected cities will reduce pig iron output by 50pc, cutting the amount of hot metal available to be processed into steel products. The cities are also halting production at rolling mills that run on coal, which is likely to squeeze supplies further.

The production cuts, which last until 15 March, are likely to support steel margins at a time when demand typically falls as cold weather slows construction activity in north China. Construction in the warmer south of the country is usually unaffected. Some Chinese mills are making profits of 500-1,000 yuan/t ($75-150/t), which is a historically high level.

Steel prices have started rising in the past few days after mills increased offer prices and traders held back stocks until the restrictions kicked in. The price of Tangshan billet, a key semi-finished long product, has risen by 5.4pc this month toYn3,870/t ($584) yesterday.

Doubts remain over how strictly provincial authorities will enforce the production cuts. Some market participants predict the total reduction in crude steel output over the four-month period will be less than 30mn t, below earlier expectations of 30mn-50mn t. But others expect local authorities to fully enact the measures, driven by Beijing's resolve to avoid heavy smog this winter.

The restrictions have been implemented strictly so far, which should provide room for steel price gains to continue, said a Hebei-based steel mill trader. 

The cuts will not be enforced uniformly. Larger, more environmentally-compliant mills will have to curb output by less than smaller, less efficient mills. 

A large Hebei-based steel mill has been instructed to reduce pig iron output by 29pc. Its plant includes heating operations for homes and factories, reducing the size of the production cut. A Hebei-based billet manufacturer has been told to cut output by 15pc. 

Iron ore prices are likely to be pressured for the four-month period, but may occasionally rally on the back of higher steel prices, as the two commodities have moved in tandem since last year. The likelihood of a collapse in iron ore prices seems quite small, as higher profit margins will encourage mills to produce as much steel as they can. And the absence of restrictions in south China means mills in that region could lift output, although there may be little room to do so as production is already at near-peak levels.

Prices of iron ore fines and lump are likely to come under downward pressure, but pellet feed concentrate prices could rise further. Higher coking coal prices and sintering restrictions in cities such as Tangshan favour pellet over fines and lump. Offers for 64pc Indian pellet with near-month delivery are at $127/t in China, around the highest level this year.

The implementation of the production cuts has dampened bullish sentiment in the coking coal market today. Coking coal prices have found support in recent weeks from congestion at Australia's Dalrymple Bay port and anticipation of an active cyclone season starting in December. But cfr China prices may fall in the near future, as Chinese buyers have largely stopped booking cargoes while they wait to assess the impact of production cuts on demand, in contrast to active buying until last week.