Five themes dominating China’s energy scene in 2022

Economic growth, stability in energy prices, energy transition, dual-control targets and relations with the US, are the top five themes to watch out for in China’s energy outlook this year, says Wood Mackenzie, a Verisk business (Nasdaq:VRSK).

Economic slowdown to pressure overall energy demand growth

Wood Mackenzie forecasts China’s GDP growth to slow from 8.1% in 2021 to 5.4% in 2022, adding pressure to the growth of overall energy demand in the country.

Principal economist Yanting Zhou said: “China’s Covid policy is one of the biggest uncertainties impacting its economy and energy demand. Our base case assumes Covid restrictions remain tight until the 20th National Congress of the Communist Party in November. Travel restrictions will increase before and during the Winter Olympics and the Party Congress which will impact gasoline and jet fuel demand. Service sectors will be depressed if and when regional outbreaks happen. Meanwhile, export demand is set to decelerate as pent-up demand from developed economies soften this year, which will in turn impact industrial productions.

“On a positive note, the government is set to support infrastructure investments, with the implementation of major projects included in the 14th Five-Year Plan.”

China’s property policies will ease marginally in 2022 towards primary housing demand. To mitigate default risks of property developers, financing towards the property market started to ease by the end of last year. Wood Mackenzie expects this trend to continue in 2022.

Zhou added: “As a result, we do not expect a collapse of the property market this year. However, China’s policy remains staunchly committed to curbing speculation demand.”

Fuel prices are heading in different directions, yet overall inflation pressure remains

China imported US$366 billion worth of energy commodities in 2021, a 50% increase year-on-year largely due to higher global oil and gas prices. Domestically, curtailed coal mining capacity in recent years and sharp demand increase in 2021 led to a coal price rally which peaked in October last year.

Research director Miaoru Huang said: “These price shocks of 2021 have reinforced energy security in near-term policymaking. China needs to redefine coal as an important energy supply in the short term. This implies the government will ensure stability in the coal industry, to guarantee sufficient domestic supply to meet demand.”

The acceleration in coal production growth in Q4 2021 has led to a decline in coal prices domestically. Wood Mackenzie expects average benchmark spot coal price to decrease to RMB730 per tonne (t) in 2022 from around RMB1,000/t in 2021. 

While upstream capex is to increase year-on-year in 2022, China is unlikely to significantly reduce its import dependency on oil and gas. Elevated and volatile global prices will further pressure domestic gas pricing.

Energy users will feel the heat of fuel cost inflation in 2022. Overall power prices for industrial sectors will increase despite lowered spot coal prices, as peak-hour power prices rise by more than 50% compared to base power prices. Non-residential gas prices at retail levels have also been raised in the current winter season as supply chain costs rose.

Zhou said: “China is trying to use market forces to achieve its ‘dual-control’ targets to limit energy intensity and energy consumption. However, this also means that raw material prices will continue to increase in 2022 as energy-intensive sectors are mostly upstream of the supply chain. In addition, power price liberalisation now allows inflation pressure of the industrial sector to be passed on to consumers. In fact, the consumer price index has started to increase year-on-year since last October, and we expect it to remain high in 2022.”

The increase in raw material prices in 2021 has also impacted renewable investment, especially solar. However, China’s renewables power generation costs remain competitive globally due to large domestic production capacity from the supply chain and high demand for renewables. Although price pressure from raw materials will persist, China’s wind turbine pricing is expected to further decrease by 20% this year and solar module prices have been on a slide since the beginning of 2022, which will help reduce renewable costs by 8-10% this year.

Specific energy plans yet to be disclosed, but energy transition set to gain momentum

Following the conclusion of COP26, market participants are expecting quantified guidance from the five-year plans, such as to what level of incremental coal demand and coal-fired power capacity are allowed, potential acceleration of renewables targets and the desired share of gas in the energy mix.  It also remains to be seen how new areas such as hydrogen and carbon capture and storage will be featured in the plans.

Huang said: “China may have resorted to stabilise coal supply in the short term and balancing competing energy goals is still challenging, but it does not mean it is diverting away from its long-term climate change goals. China is set to accelerate the pace of matured technology adoption in 2022.”

Renewable energy will show strong growth during the 14th five-year plan period (2021-25) and account for more than 50% of new power capacity additions. Wood Mackenzie believes China can add close to 120 gigawatts of new solar and wind capacity in 2022, up 20% compared to last year.

China’s electric vehicles (EV) sales is expected to reach 4.8 million units in 2022, representing over 20% of total new car sales, and a 45% increase compared to EV sales last year. As such, the country has achieved its 2025 target of having EVs account for 20% of total vehicle sales. Despite subsidy phase-out, China has successfully achieved a market based EV growth through a variety of EV models with different price points yet achieving functionality.

Last year, China launched its national Emissions Trading Scheme (ETS) which covers the thermal power sector. Coverage may expand to manufacturers of building materials and non-ferrous metals in 2022. Meanwhile, the market also expects a moderate tightening of allowances allocation to thermal-generation sector, as the government seeks to raise the cost of pollution. With the expected expansion of the national ETS, approval of Chinese certified emission reduction projects may be resumed, but no official timeline has been announced yet.

Repeat of supply chain disruption due to ‘dual-control’ targets unlikely

In September 2021, high coal prices combined with the ‘dual-control’ targets led to widescale power cuts, disrupted industrial activity and affected global supply chains. Since then, the government has improved measures to bring down coal prices and adjust the ‘dual-control’ scheme. 

The ‘dual-control’ scheme will remain a key policy tool to promote energy efficiency and guide economic restructuring. While the targets will continue in 2022, with regular monitoring and review of progress, the government has announced changes to the scheme to introduce greater flexibility in assessing annual energy consumption. Policies have yet to clarify what exact targets will be set for each province. Nevertheless, as economic stability has become the priority in 2022, it is highly unlikely that a repeat of 2021 will occur.

Much uncertainty on China-US relations, but there are hints of positive beginnings

With the expiration of phase one of the US-China trade deal, all eyes are on the negotiation for a new deal. The phase one trade deal did not serve the purpose of the US reducing China’s trade surplus.

Zhou said: “The pandemic and related supply chain shocks have limited China’s purchasing plan, but the commitment, especially on energy products, was challenging from the beginning.

“Tariffs between US and China are still significantly higher than pre-2018 level, and higher tariffs drove up costs for companies and consumers as they have to increase imports from China, with supply chain in the rest of world heavily disrupted by the pandemic.”

During last November’s COP26, China and US made a joint declaration on climate action. Driven by China’s need to secure LNG supply and US having new liquefaction capacity to offer, Chinese companies  inked seven LNG deals with US suppliers in 2021, with a peak annual contracted volume of 10.5 million tonnes per annum, or total volumes of some 170 million tonnes over the delivery periods, worthy of over US$50 billion.

LNG trade and addressing climate change are likely to be some of the few positive areas in the US-China relationship and a sweetener to wider trade negotiation. The possibility of lower tariffs between US and China is increasing from an economic perspective. However, the US domestic market could push back if Biden's administration steps back on the trade terms. Expect a bumpy journey in the agreement and implementation a new US-China deal.