As the mercury pushes past 40 degrees Celsius, Beijing’s streets and suburbs whir and drip as the city’s residents take refuge from the summer heat. They hide in the forgiving cool generated by air conditioners clinging to apartment walls, grumbling from the windows of shops and restaurants, and hidden in malls and department stores.
Past the city’s northwest sixth ring road, as the hills emerge from the plains, locomotives inch along rail track dragging cars that trail off over the horizon in the direction of Inner Mongolia and Shanxi. They carry the raw material for Beijing’s air-conditioned bliss: matte-black coal. Unfortunately for everyone, getting to Beijing is more and more difficult.
"Sometimes the trains just stop here, waiting to move on," said Mr Li, a fruit farmer who lives under the arches of a nearby rail bridge. "It’s always this way this time of year, and in the winter when it snows. They need more coal for electricity," he said, sweeping dust from his crates of cherries and pecans. "Beijing has too many people."
The waiting trains outside Beijing are a symptom of a national problem. While about 38% of Beijing’s 2008 US$586 billion stimulus package was earmarked for infrastructure spending – roads and rail – bottlenecks continue to threaten economic growth even as they are exacerbated by growing demand. By way of example, according to the National Development and Reform Commission (NDRC), air conditioner demand increased by 8.56 million units last year.
The problem has grown to such an extent that for the past several years, the Ministry of Railways has ordered local railway authorities to prioritize the transport of coal – still the dominant fuel of China’s economic expansion – to ease the pressure on fuel deliveries during the months of peak electricity use. The ministry said China’s rail system transported 814 million metric tons of coal between January and May this year alone, up almost 18% from the same period last year, with coal loads up 43.5% to 40,227 cars a day by mid-June.
While policy makers struggle to ease the transport of coal from the mines of the north to the industrialized east and growing interior, the prioritization of railroads for fuel transport may come at a price.
The rapidly emerging markets of China’s hinterland – the new focus of Beijing’s push to transform China’s economy into one driven by domestic consumption – already suffer from inefficient transport networks that fragment supply chains and drive up costs. With rail freight flagged for coal transport, companies setting up production facilities inland are short on transport options.
They are held back by a logistics environment that He Dengcai, vice-chairman of the China Federation of Logistics and Purchasing, calls "small, dispersed, poor and weak."
"Professional service capabilities are limited and logistics infrastructure is still not at a reasonable level," said He.
Local transport monopolies also stand in the way of successfully integrating China’s overall transport structure, he added.
The problems affecting the efficient transport of heavy goods like coal across the country are deep-rooted. Zhang Xiaodong, associate professor at Beijing Jiaotong University’s School of Traffic and Transportation notes that China continues to lack an effective multi-modal transportation system, and that a distorted pricing system stands in the way of maximizing efficiency. He sees government involvement in coal transport as problematic, particularly during periods of peak coal demand in summer and winter months.
Raw material bias
Others, like Li Zhichun, a professor at Huazhong University of Science and Technology’s School of Management, see one of the major problems as simply being one of a lack of capacity.
"Chinese railway freight transport tends to be biased toward carrying large-scale raw materials such as coal and some high value-added goods. Transporting railroad containers is far behind global industry standards," Li said.
Rail transport reform currently lags behind economic reform, and errors and shortcomings are widespread, said Li.
"For example, distribution problems arise in which the coal that should be transported to site A can inexplicably be redistributed to site B," he said. "Companies have to increase their transport costs to cover these mistakes."
These problems limit the effectiveness of attempts to control the price of coal itself. In June, the NDRC ordered coal companies to maintain stable prices and honor rates agreed to in annual coal supply contracts as benchmark prices at the major coal port of Qinhuangdao started to rise again.
But while major coal suppliers like China Shenhua Energy (601088.SH, 1088.HK) have stated that they will not increase prices this summer, the cost of transportation means power companies will still face downside pressures on their earnings.
Fitch Ratings noted that although Huaneng Power International (600011.SH, 0902.HK), one of the country’s biggest energy suppliers, booked a 38.7% rise in first quarter revenue as domestic power generation increased 40.1% year-on-year over the period, margins were squeezed due to a 43.8% rise in operating expenses.
The ratings agency pinpointed two reasons for this jump in costs: a spike in thermal benchmark coal prices in Qinhuangdao past RMB800 (US$118) per ton, and transportation bottlenecks – even after paying more for coal, it still wasn’t getting the fuel into its furnaces on time.
It’s not just individual companies that are hurting; these bottlenecks in China’s transport systems may prove costly to the country’s long-term economic growth.
"Logistics costs as a percentage of GDP are generally put at between 17% and 18%," said Turloch Mooney, a managing partner and co-founder of the regional supply chain industry community Supply Chain Asia. "A figure between 17% and 18% is probably much too high for coastal and southern areas, for instance, and certainly much too low for many areas inland."
Mooney also questions China’s position in the World Bank’s 2010 Logistics Performance Index (LPI). China ranked 27th in the World Bank’s table out of total of 155 countries surveyed.
"This is a score far higher than the country’s overall income level would suggest and may reflect more responses to their survey from international logistics providers in coastal and southern areas," he said. "Improvement in China’s logistics and transport infrastructure and services is clearly very patchy and uneven."
The World Bank itself placed a caveat on China’s ranking. "It is important not to over-interpret this result," it said in its report. "Because LPI survey respondents have much more experience with a country’s main international gateways than with its smaller or more remote border crossings, a high LPI score does not necessarily indicate uniformly strong performance within a large diverse country."
Beijing is doing what it can to improve performance nationwide. It invested about US$88.6 billion in railway expansion across the country last year, increasing the rail network to 86,000 km. By the end of 2010, China will have put down another US$122.9 billion as the Ministry of Railway moves toward its target of 120,000 km of rail by 2020. J.P. Morgan infrastructure analyst Karen Li said expenditure on rail is likely to stay around the US$103 billion mark between 2010 and 2012 and US$59 billion between 2013 and 2015.
"Almost all the railways are operating at capacity or even over-capacity," said Zhou Guohua, professor at China Southwest Jiaotong University’s School of Logistics. "This investment will increase logistics and transportation capacity to a much higher level and improve logistics efficiency within several regions, particularly the Yangtze River Delta and Pearl River Delta."
Of the thousands of kilometers of new track being laid, 16,000 km will be high-speed rail, about a quarter of which has already been completed. High-speed rail, it is hoped, will free up schedules on existing track for freight movement as passengers move to new rapid transport networks. The expansion of slower lines will also allow for more heavy cargo, like coal, to reach China’s inner and coastal regions in a more efficient manner.
But the very fact that rail is prioritized by the government for the transport of commodities is in itself a problem for anybody else looking to move goods across the country.
Pilar Dieter, director of management consulting firm Alaris Consulting in Shanghai, sees this unusual transport dynamic as a potential stumbling block for China’s economy.
The problems are especially clear when it comes to shipping items to rapidly emerging consumer markets in the country’s interior.
"When you try to shift goods in China, because rail is government owned, the priority is given first and foremost to things like coal and the military. So if you are reliant on rail for shipping containers full of furniture or auto parts, for example, those containers are going to take an absolute third or fourth on the list of priorities, if they are considered at all," said Dieter.
Dieter said private companies have been reluctant to rely on rail, simply because they can’t. "They’d like to, because if you look at the West – the US in particular – rail is a dominant mode of transport that is not readily available here," she said.
While coal and commodities transport hog up most of China’s rail use, it’s the nation’s roads that bear the brunt of freight transport. According to KPMG, highways account for about 75% of all freight movement around China.
The 11th Five-Year Plan aims to extend the length of China’s National Trunk Highway System from 40,000 km in 2004 to 65,000 km by the end of this year. The total length of China’s roads has doubled since 1990 to about 1.93 million km by 2005, with 2.3 million km of roadway targeted for completion by end-2020.
But road transport in China is costly. According to Alaris Consulting, the average cost of transporting one twenty-foot equivalent unit (TEU) container from an upper Yangtze city to the east coast is about US$2,950, compared with about US$885 by rail. One of the leading causes of higher road transport costs is excessive tolls.
"Excessively high transport costs eat away at margins of logistics companies that should be going to improving distribution services and operations," wrote Supply Chain Asia’s Mooney in a recent report. He said transport still accounts for more than 50% of total logistics costs in China – a figure that is twice the average for OECD countries.
Mooney says the government is trying to lower this figure but that local governments desperate for revenue continue to levy tolls. These are not small-time operations: They include many listed government-backed toll road operators such as Zhejiang Expressway (0576.HK), Jiangsu Expressway (600377.SH, 0177.HK), Sichuan Expressway (601107.SH, 0107.HK) and Jiangxi Ganyue Expressway (600268.SH), all major arteries of China’s Pearl River Delta and Yangtze River Delta industrial hubs.
In many cases this means disproportionately high tolls for many road tranport firms. The US Department of Transportation (DoT) concluded in a 2008 survey that Chinese toll rates are comparable to those in the US and Europe, but that this did not reflect an economic reality in which Chinese per capita GDP is much lower.
"Accordingly, the Chinese are trying in some cases to renegotiate concession agreements to allow lower toll rates, but offset lower toll revenues with long concession time periods from 30 to 50 years," the DoT said in its survey.
At an average toll rate of RMB0.08 (US$0.01) per ton per kilometer, the costs of transporting goods on China’s toll roads quickly mount up. The situation has enticed some of the 750,000 domestic transport companies to overload their trucks – a major safety concern – or hit non-toll trunk roads with the effect of slowing delivery times and creating more logjams.
No quick fix
In light of such realities, the DoT noted that solving China’s transport bottlenecks in rail and road transportation will mean improving operational strategies and the use of technology, not just expanding physical capacity.
But how and when will the economy see the results of such improvements in ensuring goods arrive where they need to be, when they need to be, and in a cost-effective and efficient manner?
"It is hard to give any clear timeline," said Beijing Jiaotong University’s Zhang. "Many existing problems have been noticed by the government but when can solutions be put forward? That is the question." He suggests there will be few significant achievements in China’s logistics sector until the end of the 12th Five-Year Plan in 2015.
At least until then, farmer Li will keep watching the coal cars stalled along the tracks to Beijing, dusting off his fruit as the trains wait to get moving again.