China has been the world's single largest energy consumer since 2011. Their energy
use demand has grown at an average of 4% a year since 1980 and that is not expected to change.
Every country wants to have a lot of stable, reliable electricity.
But China in particular needs a lot of it. And most of that electricity comes from coal.
It has been coal for a while now, and it is going to still be coal for a long time thereafter.
In this video, I want to look at the role of coal in China's energy ecosystem.
Why the country remains so reliant on non-renewable energy sources,
and what might be done about it in the future.
China has had to deal with power shortages throughout its modern existence.
Despite the frenzied headlines, what is happening right now has happened before.
During the socialist development era, the country saw electricity as an entitlement - a
simple means towards an end. One single utility/department handled everything
related to power. And prices at this time were simply an accounting metric - held at below cost.
It was at this time that coal - euphemistically
called "thermal power" - began dominating China's power mix.
Since prices were so low, electricity was often wasted. But at the same time,
demand was quite low. The nation's economy had ground to a halt with
political movements like the Great Leap Forward and the Cultural Revolution.
The economic reform era would spark a rise in demand. And with that, a bunch of power shortages.
Prioritizing industrial demand, the government limited residential usage of electricity.
But everyone knew such a solution cannot be permanent.
Starting in the mid-1980s, the country resolved to
scale up its power supply capacity to deal with the chronic blackouts.
In 1985, the government broke the state utility's absolute monopoly, decentralizing
authority to localities. They allowed foreign investors and domestic companies to invest in
building power generation units, and provided a guaranteed-return subsidy as encouragement.
This effort by and large worked, but with unintended consequences. The country's power
capacity went from 166.5 gigawatts in 1992 to 351.6 gigawatts in 2002.
However, the subsidies did not give thought to the power mix, and over 70%
of these newly built units relied on coal. It sort of put the country onto a coal-laden path.
Then China's entry into the WTO turned the country into an export powerhouse.
That export machine needs energy.
But it was about this time that the consequences of such extensive coal usage became apparent.
I don't need to belabor the point that climate change and air pollution is a real thing.
The government has since been trying to mix in more renewable energy like wind
and solar. For instance, newly installed power capacity in recent years is now 70%
new energy rather than the other way around. That is great, but there is still a problem.
Coal's share in the Chinese power mix declined from 76% in 2010 to 62% in 2019. This is good,
of course. But the overall industry has grown so fast that the absolute amount
of total generation capacity from coal has actually gone up over that same time period.
Up by 41% or 1,239 terawatts from 2010 to 2019.
China has the largest installation of renewable energy in the world.
If China "won" solar, has the most hydropower dams in the world,
and is building offshore wind like no tomorrow, then why is it still so reliant on coal?
The answer is not all that surprising. First, there is a matter of technical competency.
China's renewable energy technology lags that of developed countries.
Their energy efficiency is about 31%, 10% lower than elsewhere.
Second, renewable energy is not as reliable as coal. You will get days when the rivers run low,
the wind dies down a while, and the sun always sets at the end of the
day. These require installing energy storage solutions - like batteries. Those cost extra.
Third, renewable energy sources are rarely close to where they are used. New transmission systems
are needed to get that electricity to their final destination. China is building a billion dollar
supergrid of high voltage, direct current or HVDC cables to handle that. But that costs extra too.
These extra costs add to the marginal breakeven cost of renewable energy,
placing it at a disadvantage to coal. And the economics of coal power are quite good.
Estimates from 2015 find that internal rates of return or IRRs for building another 600
megawatt coal-fired power plant are far above financial benchmarks - reaching nearly 18%
in Guangdong. 18% is really good. I’d want that for my portfolio.
This now leads to the fourth and probably most significant reason:
Government and economic inertia. Energy providers in China are very local.
They have decades of experience in building coal power plants. And right now the incentives
are still not compelling enough to change how they’ve been doing things for 30+ years now.
Furthermore, central government agencies are still trying to deal with a lack of
transparency around generation costs. The coal mining industry has swung from periods of over
and under capacity for this reason. The actual costs are obscured by subsidies and bad data.
Overcoming all of these will be necessary to move away from coal.
They are making progress, but it is going to take a while.
So now that we know why that coal is so hard to dislodge from China's power grid,
it is time to look at where that coal comes from and why it matters.
Almost all of China's coal reserves - and the country has almost nothing else in terms of
fossil fuels - are concentrated in the country's relatively unpopulated North and West regions.
Nearly 70% of production hails from three provinces. The two biggest,
Inner Mongolia and Shanxi 山西, regularly trade off as the coal production leader.
These areas are far from China's industrial and economic heartlands - regions in the Pearl River
Delta, the Yangtze River regions, and Shanghai. So all that coal has to be shipped over there.
They ship it on a train to a port - usually Qinhuangdao.
Then it gets put onto a boat for its final destination.
This is pretty expensive. It makes up 50-60% of the price of coal delivered to Guangzhou.
Since some 70% of a coal plant’s costs are tied to the price of coal itself,
coal prices matter. As a result, this opened up the window for competition from imported coal.
Prior to 2009, the price differences between domestic and imported coal
were not significant enough to influence behavior.
But starting around then, the cost of Qinhuangdao coal - domestic coal - began
to lag that of coal from Australia (usually Newcastle) and Indonesia.
This is partly due to the Global Financial Crisis and the plunging costs of international freight.
But in the case of Australian coal, the stuff also burns a whole lot
better - 6,700 kilocalories per kilogram to the 5,800 kilocalories of domestic coal.
Shortly thereafter, the Chinese government embarked on a number of mine consolidation
and reform policies. Smaller mines were closed
and larger mines started to see stricter safety and environmental regulations.
This was pretty necessary. Safety remains an issue for China's coal miners - especially
the smaller ones. The government has resolved to get the death rate per million tonnes mined
to be around 0.1 or so. Still higher than the 0.02 in other developed countries,
but back in 2008 the rate was as high as 1.1.
These measures include more safety devices, advanced mining technologies, and better educating
workers. For instance, before 2006, most Chinese coal miners had just a middle school education.
There’s no question that domestic coal should be bloodless. But the undeniable impact from this
as well as other emissions policies is that domestic coal now costs more.
Domestic suppliers are getting squeezed between higher operating costs at home as well as
competitive pressures from abroad - the low costs of imported coal from places like Indonesia.
So now we have a situation where the Chinese nation is heavily reliant on
burning coal to provide power for its people and industry.
Most of that coal comes from domestic sources, but a significant amount of it from abroad too.
An unusual situation for a country very concerned about guaranteeing its own supplies of things.
In the autumn of 2021, the country found itself running short of coal inventories.
The economic rebound and a global need for more manufactured goods abroad
caused electricity demand to grow very quickly.
On the supply side, a running trade dispute with Australia,
a need for domestic miners up north to reserve supplies for the coming winter,
and higher demand in Indonesia have all contributed to higher coal prices.
As coal prices rose, utilities - their costs dependent on the cost of their major input - fell
into the red. Thus, they found themselves less willing to scale up their utilization hours,
reducing the overall energy supply.
As Bloomberg points out, the country's power markets do not give a lot of
flexibility for these companies to raise their prices. This is changing,
but the vast bureaucracy and complex fiefdoms make it hard to implement such reforms quickly.
As you might expect, power shortages hamper the economy. China's powerful manufacturing
sector is a dominant electricity consumer and is extremely sensitive to outages.
When faced with electrical shortages, these companies have a number of options.
They might invest in efficiency improvements, self-sufficiency options like generators,
outsource their manufacturing somewhere else, or simply ration their output.
How much do outages or rationing cost the companies?
These are some older data points but it correlates to later findings.
In 2004, blackouts in the Zhejiang province were estimated by provincial officials
to cost about a billion RMB or 9% of total gross product.
In 2005, industrial firms in a survey estimated the marginal
cost of an hour of power outage - based on their willingness to pay
and the cost of running generators - to be about $10,000 USD (78,800 RMB).
These numbers will have undoubtedly gotten higher since. But the key point is that having reliable
sources of power is critical to making sure the export machine continues to churn out goods
to send abroad and that the people in those industries can continue to stay employed.
With all that being said, talk of economic collapse aren’t really warranted.
Economies are more resilient than that.
Meanwhile at home, reliable electricity has started to become a critical matter.
This is due to the effects of global climate change.
Some 60% of the country's population live in an urban area. Hundreds of millions live in urban
areas where it gets really hot in the summer - like in China’s powerhouse province Guangdong.
In the past decade, China's consumption of energy for cooling - in other words, air conditioning -
has risen exponentially. In 1990, the country used 7 terawatt hours for cooling. By 2016, that is now
450 terawatt hours. Most notably, that number has increased 10x since 2000 from 45 to 450.
Increasing urbanization, concrete jungles, and wealthier households mean more people
need and can get air conditioners. Over half of households in Guangdong own more than 2 AC
units. And they all tend to turn those machines on at the same time.
As the temperature rises past 25 degrees Celsius (77 degrees Fahrenheit), the percentage of people
using air conditioners starts to drastically rise. Studies of utility data in Shanghai
find that for every 1 degree Celsius (1.8 degrees Fahrenheit) increase in the temperature,
the annual electricity usage rises by nearly 10%.
That is just the annual overall number. Peak consumption rises by far more. By some 57%,
which requires utilities to invest in building capacity that only gets used
during those peak consumption periods.
And in case you are thinking it. It's no longer the case that people can just gut out the heat.
Air conditioning is a critical measure in keeping the vulnerable protected - mostly
seniors but others too. Heat waves around the world have killed thousands of people.
For instance, Europe in 2019, India in 2019, and the United States in 2021.
The entire world relies on a single country to produce pretty much everything for them:
China. And China in turn relies on million-years-old
dead-plant-rocks to power this magnificent industrial machine.
Moving to a renewable-dominant energy grid will require further central government involvement.
For instance, increased communication between many local fiefdoms
who aren’t really used to it. Like coordination between provinces to
create nationwide wholesale markets or building up energy imports.
In addition, a push to leave behind coal risks stranding valuable coal generation assets
that are still relatively young. The average Chinese coal-fired plant is just 12 years old.
By 2040 many of them will still not have fully depreciated.
The government has to implement policy to ameliorate losses.
China’s energy industry is pretty traditional. One might argue “sunk cost” until the cows come home,
but the reality is that there’s a lot of benefit,
money and jobs still tied to coal. And getting the country’s energy industry to change that
is going to be as hard as getting the United States to wean off oil.
Alright that's it for tonight. Thanks for
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