By Andrei Khalip

RIO DE JANEIRO, Oct 26 (Reuters) - Brazil's steel industry is forging ahead on growing demand from an expanding economy, adding to upward pressure on iron ore prices, while foreign steelmakers are moving in to get closer to ore reserves, sector experts said.

Brazilian crude steel output in the first nine months of this year soared about 10 percent on year-ago levels to 25 million tonnes, led by demand for long-rolled steel from the civil construction sector and the car industry as Brazil's interest rates fall and salaries rise.

Globally, steel output rose less, by around 7 percent.

Brazil is expected to produce 331 million tonnes of iron ore this year and around 30 million tonnes of crude steel.

Some analysts project annual output should reach 40 million tonnes in 2010, which would put Brazil's output in line with India's current production. Brazil is the world's No. 2 iron ore producer after China and No. 10 steel maker.

But for now, Brazilian steel companies are reducing exports to feed growing domestic demand, industry figures showed.

The Brazilian Steel Institute industry group expects steel companies to invest $17 billion through 2012, which is more than the $10 billion expected iron ore investment till 2011.

Brazilian Mining Institute (Ibram) expects iron ore production to hit 524 million tonnes in 2010, with mining giant CVRD <VALE5.SA><RIO.N> accounting for 400 million. CVRD is the world's biggest iron ore miner.

Paulo Penna, president of Ibram, said that while Brazil was boosting exports of its iron ore, producers cannot ignore local steelmakers who consume up to 30 percent of the raw material mined in Brazil.

"It's all moved by exports, but strategically, miners have to always supply the local clients to guarantee demand. Brazilian clients are without a doubt contributing to growing demand and price hikes," Penna told Reuters.

ABN Amro analyst Pedro Galdi pointed to a possible growing trend with big foreign steel companies setting up shop in Brazil next to its high-grade iron ore reserves to avoid freight charges that have hit record levels lately.

"It pays off better to build a plant here, to reduce production costs. We already have ThyssenKrupp and Baosteel building plants and it could become a trend," he said.

China's Baosteel <600019.SS> has a 5 million tonnes per year joint-venture steel mill project in works with CVRD and ThyssenKrupp <TKAG.DE> is working on a separate 5 million tonne steel slab project, also with CVRD as a minority partner, to start in 2009.

"If there are more smelters like that, it's CVRD's dreams fulfilled - selling at home, no freight," Galdi said.

CVRD's price does not include freight charges, which are near record highs, making up about two-thirds of ore price.

PRICE TALKS

CVRD is preparing to start annual term price talks with its clients, and analysts expect a hike of 25 percent from April, according to a Reuters poll, after 9.5 percent this year.

Local steel firms are not involved in price talks and have to accept term prices, but they are extremely competitive since they enjoy high-grade ore supplies without freight charges.

Some, like CSN <SID.N>, have their own iron ore mines, and Penna said others were seeking greater vertical integration to guarantee iron ore supplies.

For instance, Arcelor Mittal Brasil <ISPA.AS> already feeds its long products operations from its own Andrade ore mine, currently leased out to CVRD, and buys 13.5 million tonnes a year from CVRD and Samarco for its Tubarao steelworks.

A market researcher at the company said Arcelor Mittal planned to take back Andrade operations once the contract with CVRD expires. In addition, he said Arcelor Mittal Brasil is seeking other iron ore mining opportunities in Brazil.

Sources at CSN and Arcelor agreed a tangible increase in iron ore prices was going to happen this year on red-hot demand from China.

But the Arcelor researcher said "there is no space for an increase of more than 30 percent". He said such a hike would further lift steel prices, which are already high and impact the entire downstream sector.

((Editing by Marguerita Choy; Reuters Messaging: [email protected], +5521 2223 7144)) Keywords: BRAZIL STEEL/ORE