Pulling the plug

In a bid to control swings in investment ?fashion' in China, the State Economic and Trade Commission (SETC) on August 13, 1999 issued the first Commercial and Industrial Investment Sector Catalogue to Halt Redundant Construction (the catalogue). The catalogue, compiled by the SETC's industrial policy department, lists 201 projects that will be banned from 17 sectors starting September 1, 1999. Regulated areas include iron, coal and gold mining, and the petrochemicals industry. However, it is in the power sector where the legislation may be particularly effective.

There seems to be confusion at SETC about the ban's applicability to foreign-related projects; the catalogue was issued by SETC and therefore its status is that of a departmental rule, rather than an administrative rule or State Council regulation. The preface to the catalogue provides that 'those matters that ?involve amendment of the Foreign Investment Industrial Guidance Catalogue shall be dealt with by SETC in conjunction with the relevant departments of the State Council.? As a legal matter, of course, the SETC cannot amend the guidance catalogue, which was promulgated by the State Council in 1995. According to the Provision-al Regulations on Foreign Investment Guidelines, issued by the State Planning Commission in 1995, the SETC plays a significant role in the implementation of the foreign investment catalogue.

The SETC list seems to be intended as a unified version of the prohibited section of the foreign investment catalogue revised in 1998, applying to both domestic and foreign investors. It is likely that the SETC catalogue will eventually be incorporated into it.

As far as the section on power projects is concerned, the list will probably affect both foreign and domestic projects. With the abolition of the Ministry of Electric Power in 1998, the Department of the Power Industry of SETC has assumed regulatory functions for the power industry, although in practice many regulatory functions are exercised by the State Power Corporation of China, whose establishment was approved in late 1996.

Several items in the SETC catalogue relevant to project finance clearly have their roots in recent legislation. These items relate generally to small and medium-sized power plants. Among them, the most important is item number 155: ?Conventional coal-fuel generating units within the coverage of large power grids and with a unit capacity of 100,000kW and below (excluding generating units involving comprehensive utilisation of resources).?

This prohibition (and the exception) reflect reform efforts aimed at upgrading the general quality and capacity of the power sector. Further, both dovetail with the government's intention to shut down all small thermal plants operating in China, with the exception of environmentally sound small plants. An April 1999 SETC circular provided that plants with a capacity of 25MW or less must be closed by the end of 1999. In addition, low- and medium-pressure units of 50MW and below must be closed by the end of 2000, while high-pressure units of the same capacity must be closed by the end of 2003, unless special approval is received. According to official reports, the Chinese government had already shut down small thermal plants with a total installed capacity of 2.84m kW by the end of 1998. Under the April 1999 circular, no new approvals were to be issued for projects under 1(X)MW. However, officials have indicated that the shutdown plan does not include co-generation or other environmentally sound small plants, which are being encouraged.

A second item of considerable importance is number 118, which relates to manufacturing projects producing conventional coal-fuelled thermal power generating equipment with a capacity of 100,000kW or less.

This prohibition follows on from the ban on small power stations described above. If existing small coal-fired plants are to be shut down and new ones denied approval, there will no longer be a domestic market for such power-generating equipment. It also follows from the ban on imported turbine equipment reported to have been promulgated in late 1998 or early 1999. At that time, an internal circular was allegedly issued prohibiting the importation of foreign-manufactured turbines for use in conventional, coal-fired plants with a capacity of 600MW or less. Because the circular is confidential, however, we have been unable to review its provisions or verify the ban.

The underlying question is whether the SETC catalogue will be any more successful than its predecessors in curbing the excesses of Chinese industrial investment. While it may succeed in containing investment in the power sector, due to that industry's highly regulated nature, it remains to be seen whether the other prohibitions will prove effective.

Freshfields 1999. Written by Susan Finder of Freshfields, an international law firm. For further details, contact Lucille Barale in Hong Kong (tel: +852 2846 3400 or e-mail: lbarale @ fresh fields. com) or Matthew Cosans in London (+44 171 936 4000) or e-mail: mcosans@freshffields.com)