China on the Verge of Energy Crisis

China on the Verge of Energy Crisis

By Mr. Chan Kung and Mr. He Jun

The energy crisis, once thought to be out of reach, has recently reappeared gradually around the world, and China too is beginning to face the challenge as well.

Under the pressure of global climate change, the world’s energy sector has begun a large-scale energy transition. As conventional energy sources are becoming “obsolete” and “dirty”, financial institutions are reducing their financing to related companies. With the advent of such changes, oil companies are developing new energy sources. This in turn, has led to a pessimistic outlook for conventional energy such as oil and coal; the fall in oil prices should be a normal manifestation in line with this trend.

However, under a series of factors, international oil prices have instead seen a sustained rise, almost continuously since last December. WTI crude, for example, rose by as much as 33% in 2 months from USD 67/barrel on December 2, 2021 to USD 90/barrel on February 9, 2022; during the same period, Brent crude rose by 29%.

Figure: U.S. WTI crude rising for nearly two months

Source: Sina Finance.

Since 2021, international natural gas prices have risen to varying degrees, among which European natural gas prices have seen the most significantly rise. As Europe’s energy crisis deepens, the imbalance between supply and demand in the market has caused prices to soar. European wholesale gas prices in February 2022 are 5-6 times higher than in early 2021; electricity prices have soared as a result, with average price in major European countries exceeding EUR 300 per megawatt hour (MWh), compared with less than EUR 50 per megawatt hour in 2019. Gas stocks across Europe are now at just 68% of full capacity, well below the 10-year average. U.S. natural gas prices are also on the rise, with households paying an average of USD 746 to heat their homes in the winter, up about 30% from last year, and those in regions such as the Midwest are likely seeing increases of about 49% year-on-year, the highest on record since the winter of 2008. In parts of Asia, natural gas prices even once jumped fivefold. 

It is important to emphasize that, in addition to the impact of COVID-19 and increased energy demand in the winter, geopolitical factors have played a great role in this round of global oil and gas price increases. In particular, the confrontation between Russia and the United States and Europe over the Ukraine issue has a great impact on the global energy market. Russia has drawn a line in the sand that Ukraine’s membership of NATO would mean war. The U.S. and NATO, on the other hand, insist that it is not up to Russia to decide whether Ukraine joins NATO. While ANBOUND has long ruled out a war between Russia and the United States and Europe over Ukraine, it is a reality for the energy market that tensions in geopolitics are exacerbating risks in the energy market. Josep Borrell, the European Union’s high representative for foreign affairs and security policy, has warned that Europe is facing its most serious security threat since the Cold War.

About 40% of Europe’s gas imports come from Russia, while Gazprom, Russia’s state-owned supplier, sells 70% of its natural gas to Western Europe. The import dependency ratio of Germany, Italy, and nuclear-rich France on Russian gas are 49% 46%, and 24%, respectively, according to data from the European Union Agency for the Cooperation of Energy Regulators (ACER). Europe’s natural gas stocks were 36% of storage capacity as of February 6. The gas shortage comes at a time of renewed tensions between Russia and Ukraine, raising the issue of energy security. The European Union has proposed new rules aimed at improving gas reserves, allowing member states to jointly purchase gas to form strategic reserves. The European Union is also increasingly interested in long-term supply deals, with officials negotiating with Azerbaijan, Qatar, and the United States to secure additional supplies. Russia’s Gazprom has also diversified its customer base with LNG terminals and pipelines to China and Turkey, and plans to undertake more projects. Europe and Russia are working to reduce their interdependence, which could benefit gas exporters in the United States and elsewhere.

The Russia-Ukraine crisis has strengthened the EU’s resolve to enhance energy security. However, changes will only happen slowly, given the time and huge investments needed to switch fuel sources, or to build new pipelines and LNG terminals. This means that a reduction in the EU’s interdependence with Russia on energy supply and demand is unlikely to be achieved in the near future. Shifting geopolitical factors will continue to hit energy markets, particularly Russia’s gas deal with the European Union. Historically, Russia has used its energy exports as a tool to exert political pressure on other countries. Russia cut off gas supplies to Ukraine over a price dispute in 2006 and again after the annexation of Crimea in 2014. In 2009, Russia again cut off supplies to Europe through Ukraine. Energy experts warned that Russia will have to pay a price if President Vladimir Putin “weaponizes” gas supplies to Europe amid rising tensions between Russia and Ukraine.

Researchers at ANBOUND would like to point out that the deterioration of global energy security caused by geopolitical factors will not only affect Russia and the EU, but also affect China due to changes in the global energy supply and demand pattern.

China is the world’s major energy importer, and its crude oil and LNG imports are also the world’s largest. According to energy production and import data released by the National Bureau of Statistics, in 2021, China imported 320 million tons of coal, 512.98 million tons of crude oil, and 121.36 million tons of natural gas, a 19.9% year-on-year jump. In terms of import dependence, China’s import dependency ratio on oil, natural gas, and coal in 2021 was 72.1% (down 1.5 percentage points year-on-year), 45.5% (up 3.3 percentage points year-on-year), and 7.3% (up 0.05 percentage points year-on-year), respectively.

China’s dependence on the international market for oil and gas is so high that it greatly exceeds the energy dependence of EU countries on Russia. China’s dependence on external energy supplies shows the energy supply chain between China and the international market and the risk channel between China and the world in terms of energy security. Once a relatively extreme geopolitical conflict occurs in the current fragile international energy market, the impact of the energy market will ripple through China, regardless of whether China is involved in the conflict.

As the “world’s factory”, China is certainly aware of the importance of energy and mineral resources to a country. China’s 14th Five-Year Plan places great emphasis on the three major areas of economic security facing China, i.e., food security, energy security, and financial security. Among these three areas of economic security, food security and financial security are mainly domestic matters, but the key to energy security lies not in the domestic market but in the international market. To this end, a considerable amount of international resources will be invested in China’s future development to ensure energy security. This also means that energy security will be a long-term “sensitive point” and risk factor for China, and one that can be easily exploited for geopolitical “leverage”.

At present, China is still trying to build a conventional energy security system. Not long ago, during Putin’s visit to China on February 4, China and Russia reached an agreement on energy purchases and sales. Enterprises of the two countries signed an agreement on the purchase and sale of natural gas, making it the second long-term gas supply contract between the two. After setting up the new pipeline, it is expected that Gazprom’s total gas supply to China will reach 48 billion cubic meters per year.

About the Authors

Mr. Chan Kung

Mr. Chan Kung, Founder of ANBOUND Think Tank (established in 1993), Mr. Chan Kung is one of China’s renowned experts in information analysis. Most of Chan Kung‘s outstanding academic research activities are in economic information analysis, particularly in the area of public policy.

Mr. He Jun

Mr. He Jun, Partner, Director of China Macro-Economic Research Team and Senior Researcher. His research field covers China’s macro-economy, energy industry and public policy.

The views expressed in this article are those of the authors and do not necessarily reflect the views or policies of The World Financial Review.