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Coal and renewables gear up for China demand fight

The engine of global gas demand growth may be at risk of a fuel problem

The prominence of gas in changing China’s coal-dominated power mix may face more substantial challenges than forecast from renewables and so-called ‘clean coal’—potentially calling into question the electricity sector’s oft-touted future role as a pillar of Chinese gas demand growth.

Until recently, the consensus view was that the power sector would be a major contributor in bolstering China’s future gas consumption. Growth in gas demand for power generation grew by an estimated 30pc in 2018, with 281TWh of electricity produced from the cleaner-burning fuel, according to the IEA.

The IEA forecast in 2018 that gas demand from China’s power sector would reach 84bn m³ by 2023, up from 50bn m³ in 2017—which would make it the second-largest source of consumption growth in 2018-2023 after the industrial sector.

But a representative from a subsidiary of PetroChina, one of China’s ‘big three’ state-controlled oil and gas firms, outlined in late October a much starker picture of the challenges for gas to grow in China and singled out power generation in particular. Gas-to-power is being squeezed by cleaner coal, along with the rapid development and continued cost reduction of renewables, according to PetroChina Natural Gas Marketing Co.

Gas-fired power units play a critical role in peak-load adjustments due to their high flexibility, helping to safeguard stable power supply. China’s installed gas-fired power capacity stood at 96.37GW at the end of September but still accounted for just 4.6pc of national power capacity, according to industry lobby group the China Electricity Council (CEC). Gas accounted for only c.3.2pc of the total power mix last year.

King Coal cleans up

Ultra-low emission (ULE) coal-fired power units in China are now as clean as their gas counterparts, PetroChina says. ULE coal plants operate well within pollution standards first introduced in 2014 that limit SOx, NOx and soot concentrations in exhaust plumes to 35, 50 and 5mg/m³—in some categories emitting just half of the limit.

Gas-to-power is being squeezed by cleaner coal, along with the rapid development and continued cost reduction of renewables

More than 83pc of the coal fleet operated within the ULE policy at the end of 2019. In addition, the power fleet is likely to continue modernising and improving its environmental credentials during the upcoming 14th five-year plan (FYP) period, which runs from next year to the end of 2025.

Industry analysts expect China to continue phasing out smaller, outdated and inefficient coal-burning power stations during the 14th FYP period, replacing them with larger and more advanced facilities. This substitution means China’s overall coal-fired power capacity will be largely stable over the next five years at a time when electricity consumption is expected to rise more slowly than in the previous five years. This will squeeze the potential room for growth over the same period for gas-fired power generation.

Renewables on the rise

Beyond coal, renewables are shaping up to be a significant rival to gas in the power mix. PetroChina notes that generation costs for wind power in China are predicted to fall from RMB0.30-0.40/kWh (4.5-6ȼ/kWh) this year to RMB0.20/kWh by 2030, while the cost of solar will decline from RMB0.26-0.30/kWh to RMB0.20-0.23/kWh over the same interval. At this point both wind and solar will be cheaper than coal.

Fuel is the biggest expense for China’s gas-fired power generators, so plants will need to lower input costs to remain competitive with renewables. The highest gas price that power generators were able to tolerate last year was RMB1.60/m³ ($6.76/mn Btu), but this will need to decline to RMB1.20-1.60/this year and as low as RMB0.80-0.90/m³ by 2030 to match cost reductions achieved by solar and wind.

Chinese power utilities were able to push down fuel costs in the first eight months of this year as they shipped in bargain-priced spot LNG cargoes in the wake of the Covid-19 pandemic. But Asian prices for spot LNG have recovered quickly since late August—rising from well below $3/mn Btu to $6/mn Btu and hitting a 20-month high in the second half of October.

In the longer term, more abundant gas supply within China, from a combination of higher domestic production and imports, and a more liberalised and competitive internal market could keep prices in check for power plants alongside other customers. But this is far from guaranteed.

Gas cheerleaders may argue that any threat from renewables is nothing new and has yet to slow down breakneck demand growth for the fuel. As far back as 2016, the Energy Supply and Consumption Revolution Strategy (2016-2030) policy document made clear the Chinese government would look to rely mostly on clean energy to meet additional energy demand during the 14th and 15th FYP periods 

But the money may now suggest China is getting more serious about a goal of 50pc of electricity supply by 2030 coming from non-fossil fuel sources—including solar, wind, nuclear and hydro. Looking at China’s investment in generation capacity to date this year, thermal power accounted for only c.11pc of construction investment in the first nine months compared with 53pc for wind and 22pc for hydro, according to monthly data from the CEC.

Tariff cuts

Chinese gas-fired power is also facing a more immediate challenge in the shape of tariff cuts. In the southern province of Guangdong, the biggest gas-to-power market in China, authorities cut the on-grid tariff—the price that gas power plants receive for selling their electricity to the grid operator—for gas-fired power at the start of August.

The move followed other key provincial gas-to-power markets, such as Zhejiang and Jiangsu on China’s eastern seaboard, which cut on-grid tariffs earlier this summer. The reductions were a bid to make electricity produced from gas cheaper and boost economic activity. But the move appears to have backfired, hurting gas-fired power plant margins and restricting their output and, consequently, their gas consumption.

The eastern coastal market had been tipped to be a key growth sector for gas-fired power due to the need to provide peak supply while accommodating renewable development. But the impact of the tariff cuts on the economics of existing gas-fired power plants may discourage investment decisions for new projects.

30pc – Growth in gas-to-power demand in 2018

The lower prices available have been especially damaging for gas-fired power utilities in Guangdong. Thinner margins have forced some power producers to slash utilisation rates and idle some marginal power plants. And this reduction in the number of utilisation hours recorded by plants has depressed the region’s gas demand.

Guangdong is one of the few provinces in China with enough gas-fired generation to create price competition with coal, which dominates the country’s power sector. Similar competition in Europe and the US has seen cheap gas eat away at coal’s market share, helping reduce pollution and carbon emissions along the way.

Guangdong had 22.2GW of gas-fired power capacity installed at the end of 2019, accounting for 17.5pc of the province’s total capacity, according to an annual report from the Guangdong Power Exchange Center.

And, in May 2019, Guangdong’s local government announced 43 new gas-to-power projects with a combined capacity of almost 12GW were to begin development by the end of this year. Their completion would give Guangdong nearly 34GW of installed capacity—a jump of 54pc from last year and more than the entire UK, according to IEA data.

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