Strategizing for Energy Policy: China's Drive to Reduce Dependence

Strategizing for Energy Policy: China's Drive to Reduce Dependence

. 8 min read

Executive Director of the IEA Maria van der Hoeven. Originally published in the HIR Summer 2013 Issue.

In 2011, China emerged as the largest consumer of energy globally, and is projected to be a main driver of global energy demand increases for the foreseeable future. Under the IEA's most recent long-term scenarios, over the next quarter century, China would account for about half of the rise in global demand for oil, coal and nuclear power, more than a quarter of new natural gas use, and a significant share of renewables expansion. This raises the significant question of energy security, not just for China itself, but also for all participants in global energy markets. In seeking to ensure its energy security, China will need to take strong action in a variety of energy sectors—including investment at home and abroad—to expand the energy supplies needed to meet its contribution to global demand growth.

Ensuring that such investments, and other steps China may take, are coordinated with the needs and interests of other nations will require greater participation by China in mechanisms for international energy governance. China is already beginning to play a more active part in existing international institutions for energy governance, and it is crucial that other nations now encourage further constructive contributions by China to the evolution of an international energy governance system that equally serves the needs of all global energy market participants.

Diversifying Energy Sources

Energy security has long been a preoccupation of China, going back to the earliest days of the People's Republic. Expanding supplies of coal for industrial development was a major focus of energy policy in the 1980s, and led to significant liberalization of coal markets. Moderating demand growth through energy efficiency also became a permanent feature of energy policy in the 1980s as well. But until the early 1990s, when China became a net importer of oil, the nation's energy self-sufficiency was considered a given. Now, key to China's energy strategy is a push to boost security by limiting the growth of energy imports, largely by developing the country's considerable domestic resources. Its first comprehensive Five-Year Plan for the energy sector, approved in January 2013, serves this strategy. That drive will contribute to China's ranking among global leaders in deployment of renewable energy and unconventional gas production—and reinforce its position as the world's largest miner of coal.

As a leader in these sectors, China will become more exposed to disagreement over trade and other disputes, as recent spats concerning renewable energy equipment have shown. This is normal for any country that is taking a role as large as China's, and for one that is so integral to the global economy. The country will be challenged to handle a brighter political spotlight than it has previously, and to treat relatively minor quarrels as such.

The sheer magnitude of demand growth, however, means that imports are broadly set to rise, rendering complete energy self-sufficiency an unlikely prospect. China's increasing reliance on international markets means that it is now facing similar challenges as industrialized countries, and pressure is growing for it to take a role in international energy governance commensurate with its market presence. There is, of course, concern in some quarters that certain mechanisms and actions to stabilize global energy markets may be less effective without the participation of large emerging nations. But there is an argument to be made from the point of view of emerging nations as well: as they become more exposed to the vagaries of international markets, it is in their interest to have seats at the table of the major institutions that are engaged in looking after those markets. Moreover, as many of the countries that emerging nations will need to cooperate with already existing institutions, it would seem to be much more feasible to seek evolution of existing frameworks, rather than to ask current participants to abandon existing institutions and to create new ones.

Two thirds of China's primary energy demand is served by coal, nearly all of which is domestically sourced. In terms of raw energy, China's coal mines produce more than all the oil wells in the Middle East. But obtaining, preparing, transporting and using domestic coal is becoming more expensive, making imports more competitive in the coastal areas where demand for electricity is greatest. Analysis of market trends suggests that while China may become the world's largest net importer of coal in the next few years, after 2015, imports may decline thanks to efforts to improve energy efficiency and diversify power generation to natural gas and non-fossil fuels. Paradoxically, then, China is not only one of the largest contributors to growth in fossil fuel demand, it is also far in the lead in development of non-fossil fuels and in energy efficiency. Indeed, China is becoming a global leader in the deployment of renewable energy technologies, particularly wind and solar. That effort is rooted not only in the desire to limit fossil fuel imports, but also to alleviate the serious local and global environmental consequences of their use.

When it comes to gas, China is expected to see the strongest demand growth among emerging economies, from 130 billion cubic meters (bcm) in 2011 to over 300 bcm in 2020 and 545 bcm in 2035, making it one of the largest gas consumers in the world. Gas is rightly seen as a cleaner alternative to coal, particularly when it comes to those local pollution issues that are of particular concern to citizens living along the energy chain. Given the scale of such demand rises, domestic production could not be expected to keep pace, despite serious efforts. For example, to manage gas import dependence, China's efforts to boost domestic production rely on both conventional and unconventional supply increases. Announced in 2011, plans to liberalize wholesale gas pricing aim to encourage upstream investment. Although prospects for Chinese unconventional gas production are clouded due to geological factors and pricing and regulatory issues, the IEA expects it to drive Asian gas production, compensating for declining conventional production after 2020. This will not obviate the need for gas imports, though, and both piped imports and LNG will play an ever-larger role in the Chinese energy economy.

But the Chinese outlook for import dependence is particularly stark when it comes to oil. Until 2035, China's oil demand is expected to increase at an average annual rate of 2 .2 percent, accounting for half of global demand increases—and the country is expected to surpass the United States to become the largest oil consumer in the late 2020s. But when it comes to domestic production, China's oil output is expected to rise marginally from 4. 1 million barrels per day (mb/d) to 4.3 mb/d by 2020, and to decline thereafter. By 2025, it will produce less than it does today. Imports fill the gap, surging from 4.9 mb/d in 2011 to 12.3 mb/d in 2035, leading China to become the world's largest importer by 2015. By reasonable analysis, import dependence will rise from 59 percent of the country's total needs today to 82 percent in 2035—originating mostly in the Middle East. Long-term dependence on oil imports is a reality that China must deal with. It is a challenge, but not an unbeatable one, nor even necessarily a major factor in the country's economic future. Japan was almost entirely dependent on imported oil during its period of great economic expansion, for instance, and the ensuing flattening of its economic trajectory has not been a product of that dependence. Indeed, within the IEA and also the broader energy community, the interests of net oil importers and net exporters are becoming less distinct. With a deep and liquid global oil market, the policy goal of any major oil player is risk management.

Therefore, with few prospects to stem the tide of oil import dependence, China's oil security policy is largely centered around the diversification of import routes and supply sources and the construction of strategic oil stocks. When all three phases are completed, capacity should be raised to a total capacity of 500 mb by 2020.

Reigning in Demand

Across the fuel spectrum, demand management is also an important tool. China has adopted ambitious energy intensity targets in its 11th and 12th Five-Year Plans, underpinned by a broad set of policies, including those that aim to facilitate structural changes in the economy. That includes US$21 billion of tax incentives for industrial energy efficiency investments, efficiency codes for new building stock, fuel economy standards for personal vehicles, and capping the consumption target of provinces and large enterprises.

China's energy policy, as articulated in the 12th Five Year Plan, hits all the right notes. Just as importantly, the country is pursuing implementation by creating detailed plans for different sectors, on both the supply and the demand sides, as well as setting of regional and local targets, creation of implementing mechanisms, and support through tax incentives and other financial measures. Yet even with all these efforts, energy self-sufficiency is still not a realistic prospect for the foreseeable future. But neither is it a panacea for achieving energy security, and it would be naïve to see energy insecurity as a direct function of energy trade dependence. To the contrary, well-functioning international markets tend to improve energy security for all involved. So while it is true that China is pursuing a policy that limits fossil fuel imports, its policy also aims at managing import risks and diversifying supplies. In short, its basic strategy is unsurprising, and one that advanced economies know very well.

That being said, it is the size of Chinese additions that set it apart. Even as imports grow, efforts to stem that tide will drive global progress in certain sectors. Chinese investment in wind power infrastructure to 2035 will be greater than in all of Europe (the current leader), accounting for almost 30 percent of global investment. China will account for 15 percent of global investment in solar photovoltaics, 14 percent in bioenergy, and almost 25 percent in nuclear. And when it comes to the unconventional gas revolution, currently dominated by North America, China will account for 30 percent of the increase to 2035, ahead of even the United States.

The global energy map is shifting, and China leads the emerging economies as a primary driver of that change. While energy independence and energy self-sufficiency can seem to offer a degree of security from fluctuations in global markets, in China they are unrealistic prospects—and, in any case, offer only illusory safety. Increasingly open, integrated, and liquid energy markets, especially in oil but increasingly in natural gas, mean that countries are exposed to global market risks and price fluctuations despite their level of import dependence. That is true in developed countries as well as emerging ones; for example, the prospect of American oil production increases thanks to unconventional extraction will do little to shield it from the global market forces. Real energy security will lie in supply diversity, well-functioning markets, sufficient investment, emergency planning, and an array of similar policies.

China's leaders are aware of these issues. In issuing the 12th Five-Year Plan for Energy Development, they have emphasized the need to address these challenges and to work with other countries. This approach should be welcomed by all who seek opportunities to create secure and stable global energy markets. Indeed, as the global energy governance framework evolves, a key role for China and other emerging economies is crucial.

Shared Challenges and Visions

Such evolution will be necessary because, looking forward, the old distinctions between the interests of producers and consumers no longer hold true. Some of the countries most worried about rising domestic consumption might well be the ones with the largest fossil fuel reserves, as subsidized prices lead to booming demand. At the same time the US, a driving force behind the founding of the IEA, is set to become the largest oil producer and a gas exporter. Emerging markets like Brazil, China, India, Russia, and others will play increasingly important roles as producers in some sectors as well as rising consumers. In a world where the energy landscape continues to change, international energy policies cannot be set in stone, and they must be developed with wide consultation. International energy governance generally cannot be dominated by the energy balances of the 1970, neither by a few producers and consumers, nor by such simplistic definitions of interests.

The IEA is engaging with major economies including China to ensure a global discussion which brings together major consumers, major producers, and countries that are both, based on shared interests and goals. The IEA's engagement with China aims to promote cooperation in data and statistics, energy technology, energy efficiency, policy analysis, emergency response, and other areas to pool knowledge resources and to collaboratively manage risk. It is those efforts, to work together to manage the rippling and global effects of new technologies, political events, economic changes, and environmental impacts, which will mark the responsible pursuit of secure and sustainable energy. While reducing import dependence, managing domestic production, and enhancing energy efficiency will all be part of a comprehensive energy security strategy, energy self-sufficiency in isolation will not. As a modern and engaged energy player, China is well aware of that.