Ooutlook for the Japanese chemicals industry in 2010 from the automotive, electronics, construction and housing sectors is negative due to weak demand as per Business Moitor Index (BMI). The sharp drop in global demand following the financial crisis in late 2008 has hit Japanese producers, a situation exacerbated by the appreciation of the yen. The Ministry of Economy, Trade, and Industry (METI) estimated domestic ethylene production declined 6.6% to 6.43 mln tons in 2009, following a decline of 11.3% in 2008, although cracker utilization rates had bottomed out in Q1-09 and started recovering from Q2-09. Chemical makers adopted emergency measures in Q4-08 and Q1-09 to cope with the downturn, with major overhauls of business structures, asset swapping, plant closures and consolidation. However, Japan’s petrochemicals sector has long been viewed as in need of consolidation, particularly in ethylene. The competitiveness of naphtha crackers in Japan, which are relatively old and small in scale, need to be addressed. Japan chemical makers rely on imported naphtha as their main feedstock, whereas the global trend led by the Middle East is towards cheaper ethane feedstock. South Korea's petrochemical industry is mature and highly integrated, although the country lacks significant oil and gas reserves according to BMI. In 2009, combined olefins capacities included 7.48 mln tpa ethylene, 5.87 mln tpa propylene and 1.25 mln tpa butadiene. Intermediate and aromatics capacities include 4.06 mln tpa benzene, 330,000 tpa ethylbenzene, 1.3 mln tpa ethylene oxide/ethylene glycol, 6.63 mln tpa terephthalic acid, 3.28 mln tpa styrene monomer, 1.51 mln tpa vinyl chloride monomer and 4.83 mln tpa xylenes capacity. Polymer capacities include 1.92 mln tpa HDPE, 1.03 mln tpa LDPE, 1.22 mln tpa LLDPE, 1.09 mln tpa PET, 3.85 mln tpa PP, 1.38 mln tpa PVC and 975,000 tpa PS. It also possesses capacities of 565,000 tpa styrenebutadiene rubber and 1.48 mln tpa acrylonitrile-butadiene-styrene. The South Korean petrochemicals industry is focused on supplying the Chinese markets. Investment in coming years will be concentrated in paraxylene production to feed China's rapidly growing polyethylene terephthalate (PET) production. While BMI does not anticipate any major increase in Korean olefins and polymer capacities over the next five years, the industry is set to witness a 70% increase in xylenes production capacity to 8.19 mln tpa to supply primarily Chinese polyethylene terephthalate (PET) producers. Improved trade relations between Taiwan and China through the Economic Cooperation Framework Agreement could disadvantage the Korean industry, which will be in competition with Taiwanese rivals. Another factor is the pattern of demand in the Chinese market. With the Chinese petrochemicals industry set to witness major expansion amid slower rates of demand growth, BMI cautions that China will witness surpluses in some segments that could undermine prices and hit margins at Korean facilities. Consolidation of petrochemical industries in Japan and South Korea is essential for their survival against low cost huge capacities in the Middle East. Japanese chemical industry had shown steady growth from 2003 until 2007 but declined in 2008. Global economic slowdown has also caused Japanese industry to decline in 2008, when petrochemical production declined for the first time in 13 years in Japan. Japan's petrochemical industry was faced with a need for serious structural reform even before the onset of the world economic crisis. This was due to the massive investments made by the Middle Eastern region in mega sized low cost ethane crackers. Additionally, large scale petrochemical projects are coming onstream in China, reducing China’s dependence on imports. China was the largest export destination for Japan's petrochemical products. It is expected that Japan's petrochemical ¬products would lose their competitive edge, not only in China, but also in the Southeast Asian countries. Petrochemical producers in Japan and South Korea are heading for restructuring and consolidation, as companies in both countries are under pressure from Middle East producers with access to cost-advantaged feedstocks, as per ICIS. Since the construction of most of these mega sized projects has started years ago, the competitive threat has been looming for almost a decade now. Most producers have had sufficient time to prepare, as few realign their product portfolios and market positions, while others continue in their struggle to carve a niche. The Japanese chemical companies were the first to start the shift from commodity petrochemicals to specialties, electronic materials and other high-value products. South Korean firms are now following them. Though Japanese companies have moved ahead in diversifying their portfolios; restructuring and consolidating operations, especially reducing cracker capacity, has been difficult. Industry analysts estimate that 1-2 mln tpa of uncompetitive ethylene capacity needs to be shut in Japan. The pace of restructuring is slow because of the complicated nature of operations of Japanese petrochem makers - culture, complicated ownership structures and multiple offtake contracts as the key hurdles. Chemicals and polymers accounted for only about 57% of Mitsubishi Chemical's sales in fiscal 2008/09, as the Japanese major has steadily expanded its presence in electronics and health care products. Plans for the future include exiting the polyvinyl chloride (PVC) and styrenics businesses in 2011. The company will instead concentrate on bisphenol A (BPA), polycarbonate (PC), purified terephthalic acid (PTA) and value-added grades of polypropylene (PP). Mitsubishi Chemical's merger with Mitsubishi Rayon also gives the company a position in the methyl methacrylate (MMA), polymethyl methacrylate (PMMA) and carbon fiber markets, which it plans to strengthen. The Japanese are now strong in LED (light-emitting diode) and lithium ion batteries. However, the South Koreans are closing in. South Korea's S K Chemicals, which started producing lithium-ion battery separators a few years back, has successfully expanded its market share, posing a challenge to Japan's Ube Industries. The South Koreans have an advantage, as the local technology companies that constitute their main customer list, are performing better than their Japanese counterparts. South Korea’s LG Chem has a strong presence in rechargeable batteries and electronic materials, while Hanwha Chemical is eyeing the solar cell business. Interestingly, Korean producers continue to expand their petrochemicals business in the past 3-4 years to make them worldscale, despite being located in a feedstock-poor country. Few are also discussing further expansions in the coming years. Restructuring appears to have taken a back seat, and companies are in no rush to merge or sell assets. Honam Petrochemical has earmarked around US$500 mln to raise the capacity of its Yeosu cracker by 250,000 tpa to 1 mln tpa, besides new polyethylene (PE) and polypropylene (PP) plants, scheduled to be completed by 2012. Hyundai Oil is working on an 800,000 tpa paraxylene (PX) project for completion in 2013, while S-Oil is building a second aromatics complex that will produce 900,000 tpa PX and 280,000 tpa benzene. The South Koreans are also focusing on value-added grades of polyolefins like metallocene linear low density polyethylene (mLLDPE), extrusion-coating grades of low-density polyethylene (LDPE), ethylene vinyl acetate and cross-linked PE. These high-value grades of polyolefins target the automobile and electronics industries. If predictions of the industry hitting the trough of the petrochemical cycle in 2010-2011 come true, consolidation will return to the agenda of South Korean majors, as evident from recent news about SK Energy. SK Energy plans to focus on exploration and production of oil, and research and development of energy and spin off its crude oil refining and petrochemical businesses to improve competitiveness by Jan. 1, 2011. SK Energy plans to improve success rate of exploration to 20% from 10% while enhancing its E&P business through various strategies, including mergers and acquisitions. Major capacity expansions in the Japanese petrochemical industry are unlikely over the medium term as it faces the challenges posed by high feedstock costs and low product prices, which have already hit margins and led to significant cuts in output.