Lauri Myllyvirta
More than half of China’s provinces have been rationing electricity over the past couple weeks, disrupting the daily lives of tens of millions of people. Elevators have been turned off, stores’ opening hours have shortened, and factories have had to reduce operating days and power consumption. Some provinces have experienced outright blackouts. Meanwhile, September saw industrial output decline for the first time since China started recovering from the COVID-19 lockdowns.
It’s the worst electricity crisis China has faced in a decade. The immediate cause is that China is still highly dependent on coal, which provides 70 percent of the country’s power generation. The electricity prices paid to generators are regulated by the central government, while coal prices are set on the market. When coal prices rise, unless regulators increase electricity prices, it doesn’t make economic sense for coal power plants to keep supplying electricity. Plants can then avoid generating at a loss by claiming they have a technical malfunction or by failing to purchase the coal they need to run, both of which happened in the run-up to the current crisis.
But the reasons for the crisis can also be traced back to a string of policy missteps and poorly thought-out market interventions after the beginning of the pandemic. The crisis has put China’s continued dependence on coal in stark relief, even as its market shares of renewable and nuclear energy have continued to increase.
Regulated power prices are intended to shield electricity users from price risks—a subsidy that comes at the expense of those who generate the power. Beijing is usually slow to raise prices because the public feels it when it does.
China’s recovery from the initial economic shock of the pandemic relied excessively on construction and heavy industry, which caused demand for coal to increase 11 percent in the first half of 2021. This short-term trend was in sharp contrast with Beijing’s calls for a “green recovery” and its strengthened pledges to reduce emissions.
The increase in coal demand meant that the market was always going to be tight. But the government’s attention was on combating producer price inflation, and hiking power prices didn’t fit that agenda. Instead, as fuel prices started to rise on the back of the global recovery and blistering demand in China, the regulators took actions that amounted to an implicit ban on raising coal prices, and they were even considering a formal price cap. This meant that Chinese coal miners couldn’t charge the high rates that others on the market were getting abroad.
Failing to raise power prices and pushing back on coal price increases meant that coal plants cut back on coal purchases and ran down the stockpiles instead. It also meant that coal mines didn’t ramp up output in time, as the regular price and demand signals were dampened.
Now, power plants have been running down their stocks for months. Reported coal inventories at major power plants started falling below historical averages a year ago and at the end of August fell 37 percent from the same time last year, according to industry data from Wind Financial Terminal.
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