China has changed tack on its rare earths policy amid fears that its hard line on producers threatens its dominance of the global market for the 17 key substances found in everything from smart phones to guided missiles.

In a move that Beijing describes as "promoting orderly development", it will provide direct subsidies to revive struggling producers - a tacit acknowledgment of the strategic importance of the industry.

The subsidies represent a significant shift in China's policy of the past two years, which focused on restricting production of rare earths, closing down illegal mines, and tightening control of exports. These moves led to fluctuations in prices and caused global demand to slow.

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Chen Zhanheng, deputy secretary-general of the China Rare Earths Industry Association, a government-linked think-tank, said the move would help the large, state-controlled rare earths companies that the government is trying to promote.

"In the long run, the policy can promote resource protection and effective utilization of rare earths," said Mr Chen. "[The subsidy] is aimed at supporting technological upgrades, energy conservation and environmental protection."

Although the subsidies do not represent a huge amount of money - between $35-million and $40-million for the industry annually, according to Financial Times calculations - they underline Beijing's determination to reshape the industry in a way that allows the state to have greater control over prices and supply. Over the past year, regulators have encouraged rare earths stockpiling to help boost prices.

China's dominance of the global market is being eroded by growth in alternative supplies abroad at a time when domestic producers have been shutting down production and reporting losses.

Beijing's near monopoly in the strategic sector has raised concerns in Washington and Tokyo, particularly when China suspended rare earths shipments to Japan during a diplomatic dispute in 2010. That incident, combined with broader concerns about the reliability of Chinese supply, triggered a surge of investment in rare earths mines outside China, several of which are set to start producing early next year.

Lynas Corporation, an Australia-based miner, announced on Thursday that its first shipment of rare earths ore had arrived in Malaysia, where it has a processing facility expected to start producing the substances in the first half of 2013. Meanwhile, companies in Japan have been aggressively investing in rare earths mines and processing around the world, including in Kazakhstan, Vietnam and India.

Dudley Kingsnorth, of rare earths consultancy Imcoa, says production of the elements outside China will grow tenfold over five years, from 6,000 tonnes in 2011 to 60,000 tonnes in 2015.

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Under the new Chinese scheme, licensed rare earths miners and processors will receive subsidies of 1,000 yuan ($160) per tonne of ore mining capacity, and 1,500 yuan per tonne for processing capacity. The subsidies are likely to raise further concerns in the U.S., EU and Japan, who initiated a World Trade Organization inquiry this year over China's export restrictions.

Global demand has been eroded by the high prices and uncertainties that have accompanied Beijing's crackdown on the industry over the past two years. Beijing says it has been trying to increase state control over the sector to prevent environmental degradation and illegal smuggling, and regulators have waged an aggressive campaign against the illegal backyard mines that account for much of China's production.

These policies have resulted in plunging demand and low prices, prompting two of China's largest producers to suspend production this year because of the poor market. China's exports of the substances fell 11 per cent in the first nine months of this year compared with the same period in 2011.

More than half of China's production capacity has shut down because of weak prices and demand, said Chen Jiazuo, an analyst at Antaike, a Beijing-based metals consultancy. Traders expect demand to remain weak at least through next year.

"The market is dead - nothing is moving," said one Beijing-based trader. He expects China's official exports of rare earths to fall by more than 30 per cent, to 11,000 tonnes, this year.