Early this year, as snowstorms and power shortages hit southern China, Aluminum Corp of China (Chalco) made a belated announcement. In December it had shut down two of its plants in Guizhou province, it said on its website, blaming “natural disasters and insufficient thermal coal supplies.”
In July, Chalco was in trouble again. In response to a power shortage, the company was forced to cut monthly production at two smelters in Shanxi province by up to 25%.
The common link among the four plants was coal. Coal provides over 60% of China’s total energy needs and is responsible for 80% of its electricity production, according to the International Energy Agency (IEA).
As coal supplies tighten, that dependence is hurting industry. Power shortages like the ones Chalco has faced are not uncommon, and could have long-reaching consequences.
“The threat of the energy supply chain in China becoming a longer-term bottleneck on growth is a little bit scary,” said Andrew Driscoll, head of resources research at CLSA.
For China’s independent power producers (IPP), bottlenecks already exist. IPPs struggle for profitability, stuck between relatively liberalized coal prices and cheap government-set power tariffs. A recent cap on thermal coal prices and two small increases in average end-user tariffs would help little, said the head of an IPP, who asked to remain anonymous.
One issue is control. China is no stranger to price caps, but it has been unable to direct the coal market. “The coal mining industry is incredibly fragmented,” said Graeme Train, an analyst with Steel Business Briefing (SBB), an industry research house.
To deal with this, Beijing has implemented the caps at major domestic coal ports instead of individual mines, helping it to keep tabs on prices closer to end users. Earlier caps left more room for transportation and other unregulated costs to raise prices.
But reports indicate traders are resisting the caps. Li Tianshun, public relations manager at Shanxi Jincheng Anthracite Mining Group, a major miner, said the caps have not changed what the company pays for its coal. This is because demand for coal continues to grow and supplies remain limited. A government policy to shut down small operators for safety and environmental reasons has closed around 10,000 mines comprising 8% of China’s coal market, said Driscoll.
But less demand due to slower power generation growth – down from about 15% in the first quarter to 8% year-on-year in June – could cause other problems.
Driscoll said IPPs are reluctant to generate more power because they’re losing money. That and coal shortages constrain generation growth, leading to power rationing for industries.
To avoid shortages, more mills are building their own power plants. Some have contracts with mines to guarantee supplies, if not stable prices. Unfortunately, this doesn’t address a major problem.
China’s coal mines are mostly located in the northern interior, but demand is concentrated along the coast. There are only two modern rail links dedicated to coal, despite more than half of coal supplies being moved by rail, according to the IEA.
Beijing is trying to alleviate transport problems, but Song Xiaoming, an analyst at Standard & Poor’s, said the lack of rail infrastructure poses a serious medium-term threat.
Even less likely to change soon is industry’s reliance on the grid for power. Industries with their own power plants – and occasionally even mines – are in the minority. That leaves most exposed to future power shortages.