China's "Dash for Gas": Challenges and Potential Impacts on Global Markets

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China's "Dash for Gas": Challenges andPotential Impacts on Global MarketsSarah O'Hara a & Hongyi Lai aa University of NottinghamPublished online: 15 May 2013.

To cite this article: Sarah O'Hara & Hongyi Lai (2011) China's "Dash for Gas": Challenges andPotential Impacts on Global Markets, Eurasian Geography and Economics, 52:4, 501-522

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Eurasian Geography and Economics, 2011, 52, No. 4, pp. 501–522. DOI: 10.2747/1539-7216.52.4.501Copyright © 2011 by Bellwether Publishing, Ltd. All rights reserved.

China’s “Dash for Gas”: Challenges and Potential Impacts on Global Markets

Sarah O’Hara and Hongyi Lai1

Abstract: Two UK-based researchers examine the significant recent growth in China’s demand for natural gas, a fuel not long ago considered of marginal importance but now viewed as criti-cal for the country’s future economic growth. Based on a range of databases as well as industry and media reports, the authors demonstrate how rapid demand growth since 2005 has trans-formed China from a minor, self-sufficient gas producer to a major buyer on international gas markets. They also analyze projections for future demand growth (25 years), showing China’s demand for gas will grow faster that anywhere else in the world, and explore the potential for development of China’s substantial domestic gas reserves to mitigate import demand over the short to medium term. The study concludes with an assessment of China’s potential impact on global gas markets over short, intermediate, and long time horizons. Journal of Economic Literature, Classification Numbers: L710, P280, Q310, Q400. 6 figures, 6 tables, 85 refer-ences. Key words: China, natural gas, gas pipelines, LNG, LNG terminals, unconventional gas resources, coalbed methane, shale gas, gas hydrates, tight gas sands, East China Sea, South China Sea, natural gas pricing,

INTRODUCTION

Until the 1980s China’s influence in the world economy was minimal, but this began to change following economic reforms launched in 1978 (Naughton, 2007). By mid-

2010 China stood as the second-largest economy in the world (China Overtakes, 2010) with many predicting that it will surpass the United States within roughly a decade (e.g., China’s Economy, 2011; Dunkley, 2011). China’s economic boom has been paralleled by an increase in its energy consumption, which has risen from 16.5 to 86.4 quads2 since 1980. China is now the largest consumer of energy in the world3 and between 2007 and 2035 China’s energy consumption is expected to increase more than 133 percent to almost 182 quads (Table 1), by which time it will account for nearly 25 percent of global energy consumption (IEA, 2010b;

1Respectively, Professor of Geography, School of Geography, University Park, University of Nottingham, NG2 7DU, United Kingdom (sarah.o’[email protected]) and Associate Professor, School of Contemporary Chinese Studies, International House, Jubilee Campus, Nottingham, NG8 1BB, United Kingdom (Hongyi.Lai@nottingham .ac.uk).

2A quad of energy is equivalent to 1015 BTU (British Thermal Units). A quad is equal to 172 million barrels of crude oil, 36,000,000 metric tons of coal, or 970.4 billion cubic feet (bcf) of natural gas.

3According to an International Energy Agency (IEA) statement in July 2010, China may have already overtaken the U.S. as the top energy user in the world (IEA, 2010a), a claim swiftly denied by Chinese authorities, who argued that the IEA had overestimated the country’s use (China Denies, 2010). A joint statement by the Chinese National Energy Agency and National Bureau of Statistics (August 11, 2010) stated that the country’s energy consumption in 2009 was more than 200 million tons of oil equivalent (mtoe) less than the amount consumed by the U.S. (China Reiterates, 2010).

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13

502 EURASIAN GEOGRAPHY AND ECONOMICS

Tabl

e 1.

Fue

l Use

and

Pro

porti

on o

f Ene

rgy

Mix

for C

hina

200

7–20

35

Tota

l ene

rgy

cons

umpt

ion

in:

2007

2015

2020

2025

2030

2035

Fuel

Qua

dsPc

t.Q

uads

Pct.

Qua

dsPc

t.Q

uads

Pct.

Qua

dsPc

t.Q

uads

Pct.

Liqu

ids

15.5

2020

.420

23.7

2027

.719

31.4

1934

.619

Nat

ural

gas

2.6

35.

15

6.6

57.

96

9.1

610

.16

Coa

l54

.870

65.2

6476

.463

88.5

6210

0.5

6211

2.4

62N

ucle

ar0.

61

1.9

23.

53

4.5

35.

33

6.2

3R

enew

able

s4.

56

8.7

911

.29

13.8

1016

.410

18.5

10To

tal

78.0

100

101.

410

012

1.4

100

142.

410

016

2.7

100

181.

910

0

Sour

ces:

Com

pile

d by

aut

hors

from

EIA

, 200

9, 2

010.

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O’HARA AND LAI 503

Fig. 1).4 China’s demand for energy is staggering and if the current forecasts are correct the country will need to source nearly 100 quads of additional energy over the next 25 years to meet its needs. To put this into context, this is nearly as much energy as that the US consumed in 2007—its peak year for energy use.5

The vast majority of China’s energy demands are met by the country’s abundant coal resources, and in 2007 coal provided 70 percent of China’s energy with oil accounting for a further 20 percent (Table 1). The remaining 10 percent was derived from renewables, natural gas, and nuclear energy, which accounted for 6, 3, and 1 percent of China’s energy consump-tion, respectively. Although coal will continue to dominate China’s energy mix, its relative importance is expected to decline from its current level of 70 percent to 62 percent by 2035, with other fuels, notably natural gas and energy from renewable sources, becoming more important (Table 1). Notwithstanding the percentage decline, the actual amount of coal con-sumed will almost double, from 2.1 to 4 billion metric tons annually. Oil consumption is also set to double, while the consumption of energy from renewables and natural gas is forecast to quadruple.

China’s reliance on coal has resulted in well-documented environmental and health prob-lems (e.g., see Zhang and Smith, 2007; Vennemo et al, 2009). According to the World Bank (n.d.), 20 of the world’s 30 most polluted cities are to be found in China6 and the World Health Organisation has estimated that there are over 720,000 premature deaths in China each year as a result of poor air quality (Zhang et al, 2010). Combustion of coal has also resulted in China becoming the world’s largest emitter of SO2 and CO2. In 2009, for example, China accounted for over 24 percent of the global emission of CO2 (BP, 2010) up from 8 percent in 1981 (Gregg et al., 2008), prompting much criticism of China’s failure to curb pollution

4According to the International Energy Outlook 2010 (EIA, 2010) global demand for energy in 2035 will be 739 quads.

5According to the EIA in 2007, the United States consumed 101.7 quads of primary energy (Newell, 2011). Energy consumption fell slightly in 2008 to 99.8 quads and further still in 2009 to 94.6 quads (U.S. Energy, 2009; Newell, 2011).

6According to the EIA (1998), when combusted coal and oil release higher levels of harmful emissions, including a higher ratio of carbon emissions, nitrogen oxides (NOx), and sulphur dioxide (SO2) than gas. They also release ash particles that contribute to pollution. The combustion of natural gas, on the other hand, releases very small amounts of sulfur dioxide and nitrogen oxides, virtually no ash or particulate matter, and approximately half the CO2.

Fig. 1. The U.S. and China’s share of global energy consumption between 1990 and 2035 (fore-cast). Source: Compiled by author from EIA (2010).

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levels (e.g., see Kahn and Yardley, 2007; Mulvenney, 2007). Recognizing the need tackle the country’s widespread environmental pollution, in 2009 China volunteered to reduce CO2 emissions, per unit of GDP by 40-45 percent compared to 2005 levels, setting a target date of 2020 to achieve this aim (Borger and Goldenberg, 2009). Moreover, as part of China’s efforts to alleviate the environmental problems that have emerged from its heavy use of coal and to diversity its energy sources, the Chinese government has outlined plans to increase the country’s use of renewable energy to 15 percent of primary energy consumption by 2020 and to make greater use of natural gas.

Historically, natural gas has not been a major energy source in China, and at less than 4 percent of the country’s energy mix it is significantly lower than the global average of 24 percent (BP, 2010). However, natural gas is one of a number of resources that has been given “critical” status for China’s future economic growth (CSES, 2010) and plans to increase the use of natural gas were first set out in China’s Ninth Five-Year Plan (1996–2000; Yamaguchi and Cho, 2003) and reiterated in subsequent plans. According to China’s Twelfth Five-Year Plan (2010–2015), natural gas will account for 8 percent of the country’s total energy con-sumption in 2015 (China to Double, n.d.) and in the process the country will have overtaken Japan as the major natural gas consumer in the Asia-Pacific region.7 The Chinese government further anticipates boosting the share of natural gas as part of total energy consumption to 10 percent by 2020 (e.g., see Higachi, 2009; Thomson and Horii, 2009, p. 651).

In this paper, we provide an overview of the past, present, and future use of natural gas in China together with information on how natural gas use will develop in different sectors. We then discuss in detail China’s estimated reserves of natural gas and its potential of devel-oping these resources over the next 25 years. Finally we consider how China will fill the gap between production and consumption of natural gas before providing an assessment of the impact that China will have on global gas markets in the short, medium, and longer term.

NATURAL GAS USAGE IN CHINA CURRENT AND FUTURE PROJECTIONS

Despite significant known reserves of natural gas, factors such as distance to market, lack of infrastructure, and cost relative to coal have limited natural gas usage in China; until quite recently it has tended to be used either as a local fuel or as a feedstock in chemical fertilizer production (Higashi, 2009). As recently as 2000 the proportion of gas in the country’s energy mix was less than 2 percent (Natural Gas, 2010), with annual usage of the order of 0.5 trillion cubic feet (tcf). The push by the Chinese government to increase natural gas usage resulted in a more than quadrupling of gas consumption between 2000 and 2010. Current estimates suggest that China’s annual demand for natural gas will grow faster than any other country, averaging 6 percent annually over the next 25 years; China is expected to account for 22 percent of the increase in global gas demand over this period (EIA, 2010). By 2035 demand for gas in China will be nearly 10 tcf, by which time the country will rank third among global gas consumers (ibid.; Fig. 2).

7This assessment is likely to change in the wake of the March 11, 2011 earthquake and tsunami that devastated vast areas of Japan’s eastern coast. The impact on some of Japan’s nuclear facilities, most notably the Fukushima Daiichi plant, is likely to have major repercussions for Japan’s nuclear energy industry, a major energy source for the country. It appears that Japan’s demand for natural gas will inevitably increase in the short to mid-term. Moreover, Japan may not be the only country in which gas demand may increase, as many countries (including China; see Thomson, 2011 in this issue) review their nuclear policies and/or at least temporarily postpone construction of new facilities.

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China’s natural gas usage is expected to increase across all sectors of the economy. The industrial sector is and will continue to be the biggest user of natural gas; over the next 25 years it will increase its natural gas consumption from 1.4 to 4.7 quads, with gas accounting for 4.3 and 8.8 percent of total fuel use in 2007 and 2035, respectively. It is in the residential sector, however, that the most dramatic changes will be seen. In 2007 natural gas accounted for 15 percent of the energy use in the residential sector, but this is forecast to increase to 27 percent by 2015 and 50 percent of all use by 2035. Notwithstanding this increase, gas use in the residential sector will account for less than 35 percent of total natural gas usage compared to nearly 50 percent for the industrial sector. Significantly, despite the huge effort by the Chinese government to convert public transport to cleaner fuels such as compressed natural gas, the actual amounts used is and will continue to be negligible (Table 2).8

CHINA’S NATURAL GAS RESERVES

China has significant onshore and offshore gas reserves (Fig. 3). According to BP the country’s proven natural gas reserves have almost quadrupled since 1980 and in 2009 stood at 86.7 tcf; equivalent to 1.3 percent of the global total (BP, 2010). This figure is likely to increase as developments in exploration and extraction techniques result in significant new on-shore and off-shore finds. The most recent assessment of China’s national gas resources undertaken during 2003-2007 indicated that natural gas resources across the country could be as high as 1550tcf of which 970 tcf are considered recoverable although as yet 880tcf are undiscovered (Table 3). The largest proven reserves of natural gas to date are in the Ordos,

8In June 2009, the Chinese authorities launched an initiative to replace up to 50 percent of official cars with vehicles powered by non-petroleum alternatives such as compressed natural gas. The number of conventionally pow-ered automobiles, however, is increasing rapidly. Although private car ownership is relatively low, currently standing at 20 million, this is likely to increase rapidly and by 2025 could reach 250 million; some estimates suggest that by 2050 the figure could be as high as 700 million (China’s Transport, 2009).

Fig. 2. China’s actual and forecast natural gas consumption (tcf), 1980–2035. Sources: Actual consumption was compiled by authors from BP (2010); consumption forecasts are from EIA (2010; see Reference Case Appendix A at http://www.eia.doe.gov/oiaf/ieo/pdf/ieorefcase.pdf).

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Sichuan and Tarim Basins respectively, which account for nearly 70 percent of China’s known reserves. With respect to as yet to be discovered resources, the 2003–7 assessment indicates that one of the richest areas will be the Tarim Basin in North Western China. The region is already a major gas producer with 17.3 tcf of proven reserves with an estimated 190 tcf of undiscovered resources.

To date most of China’s gas resources are found onshore, with proven reserves of nearly 75 tcf. But according to the 2003–2007 national assessment, offshore reserves could be as high as 600 tcf with significant reserves likely in the East and South China Sea. At present proven reserves in China’s near-shore fields are approximately 12 tcf, but there could be in excess of 185 tcf of recoverable resources, with the East China Sea and the Yinggerhai regions considered to be especially important (Zhao et al., 2008). Reserves of gas in China’s far offshore regions are also expected to be substantial, with recoverable resources estimated to be nearly 200 tcf, although gas reserves have not yet been proven (Table 3).

Although the 2003–2007 national assessment indicated that China has significant reserves of natural gas, the focus was on conventional gas9 and with the exception of coalbed methane

9Natural gas can be defined as being conventional or unconventional. Conventional gas resources are deposits occurring as discrete accumulations in structural or stratigraphic traps that are either “associated” with oil fields or isolated “non-associated” gas fields. Historically, conventional natural gas deposits have been the easiest and cheapest

Table 2. Fuel Use by Sector (quadrillion BTU) for China 2007–2035

Sector/Fuel 2007 2015 2020 2025 2030 2035

Residential Liquids 0.9 1.0 1.0 1.0 0.9 0.9Natural gas 0.6 1.3 1.8 2.3 2.9 3.4Coal 2.5 2.6 2.7 2.7 2.6 2.5

CommercialLiquids 1.0 1.0 0.9 0.9 0.9 0.8Natural gas 0.2 0.3 0.4 0.6 0.7 0.8Coal 0.3 0.3 0.3 0.3 0.3 0.3

Industrial Liquids 7.0 7.5 8.3 9.4 10.3 11.2Natural gas 1.4 2.8 3.5 4.0 4.5 4.7Coal 24.1 26.5 30.1 33.2 35.6 37.4

TransportationLiquids 6.1 10.4 13.0 16.0 18.7 21.2Natural gas 0.0 0.0 0.0 0.0 0.0 0.0Coal 0.1 0.2 0.1 0.0 0.0 0.0

Electric powerLiquids 0.5 0.5 0.5 0.5 0.5 0.5Natural gas 0.5 0.7 0.9 1.0 1.1 1.2Coal 27.7 35.6 43.2 52.3 62.0 72.2

Sources: Compiled by authors from EIA, 2009 and 2010, Appendix F.

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(CBM) the potential of unconventional gas resources (such as shale gas, tight gas, hydrate gas, and water-soluble gas) was not explored. Yet China’s geology suggests a greater uncon-ventional resource potential than in Europe. Developments in the unconventional gas sector in the past decade have been enormous, and estimates of China’s unconventional gas resources suggest that they may be up to 30 times the size of conventional resources. According to Ma (2009) China could have in excess of 5350 tcf of unconventional gas, while the Xinhua News Agency (2009) puts the figure in excess of 7797 tcf (Table 4). Given the potential scale of these resources, it is not surprising that the Chinese government has made the exploration and development of the country’s unconventional gas resources a priority.

to extract and have thus dominated natural gas usage. The growing maturity of many conventional gas fields, however, has resulted in increase investment in unconventional gas exploration. Unconventional natural gas is basically gas that is more difficult or less economical to extract, with the most important sources being tight gas sands, coalbed methane, and gas shales. Unlike well-defined conventional reservoirs, tight gas reservoirs differs from conventional reservoirs in that sedimentary sequences are charged with gas in much the same way that an aquifer is charged with water, but getting the gas out is neither easy nor cheap. Rapid developments in drilling technology and improvements in hydraulic fracturing, however, are transforming the gas industry: as a result estimates of global gas reserves have risen significantly. Between 2006 and 2010, for example, the U.S., which leads developments in shale gas exploration and extraction, saw natural gas reserves increase by 35 percent (Stevens, 2010). The speed at which supplies are being brought to market is also impressive, and while shale gas accounted for only 1 percent of U.S. natural gas supply in 2000, by 2009 it accounted for 20 percent; in 25 years that share is forecast to be 50 percent (Kefferputz, 2010).

Fig. 3. Major gas-bearing basins in China and its offshore regions, based on Zhao et al. (2008) and Higashi (2009).

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The potential for China’s CBM industry is enormous. With estimates of nearly 1300 tcf of CBM, of which over 350 tcf are considered recoverable and (as of early 2011) 11 tcf proven, the Chinese government is keen to develop the sector.10 In 2009 the Chinese gov-ernment ended China United Coalbed Methane’s monopoly over the industry by allowing China’s other major state-owned players to enter the field (More Sino-Foreign, 2011). One of the big players, PetroChina, for example, announced in 2010 that it intended to invest more than $1.5 billion on CBM projects (EIA, 2010) and has indicated that it intends to increase production twelvefold, to over 140 tcf by 2015. The government is also encouraging foreign investment in the sector with a number of huge deals signed with energy majors such as BP and Shell (e.g., Chen, 2010; Shell Signs, 2011).

10In February 2011, for example, Petro China announced that it had discovered 5.5 tcf of CBM in Qinshui Basin in North Shanxi Province (Seamgascentral, 2011).

Table 3. Natural Gas Resource Categories in China (tcf)

Area Basin Resource Recoverable resource

Proven reserve

Undiscovered resource

Onshore Tarim 312.85 206.92 17.30 189.61Sichuan 189.61 120.76 18.01 102.75Ordos 164.90 102.40 25.07 77.68Sangliao 49.43 26.84 1.41 25.42Jungaar 22.95 16.60 1.77 14.83Bohai Bay 38.49 15.18 5.30 10.24Qaidam 56.50 30.37 4.59 26.13Other 115.82 72.74 1.06 71.68Total 950.90 592.50 74.50 518.00

Nearshore Yinggehai 46.15 28.60 3.88 25.07E China Sea 128.53 87.57 2.47 85.10Qiongdongnan 39.19 25.42 2.82 22.60Pearl River M. 26.13 16.95 1.06 16.95Other 45.90 26.84 2.12 24.01Total 286.01 185.38 11.65 173.73

Far offshore Zongjiannan 25.42 15.54 0.00 15.54Wan’an 33.90 21.19 0.00 21.19Beikang 34.96 20.13 0.00 20.13Zengmu 152.19 95.69 0.00 95.69Other 65.32 39.90 0.00 39.90Total 312.14 192.44 0.00 192.09

Total China 1549.05 970.32 86.51 883.81

Source: Compiled by authors from Wang et al., 2005 and Zhao et al, 2008.

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Although the potential for developing CBM has long been recognized, only in the last couple of years has there been significant interest in the potential for China to develop its shale gas resources. China’s Ministry of Land and Resources has indicated that Sichuan, Chongqing, Guizhou and Hubei provinces are likely to have significant resources. According to Ma (2009), China’s shale gas reserves could exceed 1,000 tcf, although these estimates are dwarfed by those cited by the Xinhua News Agency (2009), which suggests that the country could have over 3500 tcf of shale gas (Table 4). The Chinese government clearly sees the development of its shale gas resources as a national priority, and in August 2010 inaugurated a shale gas research center to support the country’s development of the fuel (Factbox, 2010). Moreover, during the November 2009 state visit of Chinese Premier Hu Jintao to the United States, U.S. President Obama announced the launch of a new U.S.-China Shale Gas Resource Initiative (Lee, 2009). As part of the initiative, it was agreed that the two countries would conduct joint technical studies aimed at accelerating the development of shale gas resources in China.

A major potential gas resource in China is gas hydrates (Lu et al, 2011). Gas hydrates are a concentrated form of natural gas found in both marine sediments and permafrost regions and may be a possible future energy source (Milkov and Sassen, 2002). Although at a very early stage, preliminary explorations suggest that there may be extensive gas hydrates in the South China Sea region and in the country’s permafrost area (Lu et al., 2011). According to Ma (2009), potential reserves of hydrate gas could exceed 2100 tcf, and if developed could provide a significant energy resource. The Chinese government has set ambitious targets for the development of its unconventional gas reserves. The current Twelfth Five-Year Plan set an annual target of 706 bcf, 2.8 times that specified during the final years of the Eleventh Five-Year Plan (Unconventional, 2010). In addition, the government has said that it wants shale gas output to reach over 1 tcf by 2020 and over 3 tcf by 2030 (China Unconventional Gas, 2010; China’s Unconventional, 2010). Output from CBM is also expected to increase, although developments have not been as rapid as hoped. Targets for CBM output set out in the country’s Eleventh Five-Year Plan called for production to reach 175 bcf by 2010. It is clear that output fell far short of this target, being around 35 bcf for that year (More Foreign, 2011).

BARRIERS TO DEVELOPMENT AND USE OF CHINA’S NATURAL GAS RESOURCES

A number of factors have hindered the development of China’s gas reserves. The first is a pricing policy that has kept the price of gas low. Compared to oil and coal, China has made

Table 4. Estimated Unconventional Gas Resources (tcf) in China

Resource type Resource amount (tcf)

Tight gas sands 424CBM 1299/1059*Shale gas 1084/3531*Gas hydrates 2119Water-soluble gas 424

Sources: Compiled by authors from Ma, 2009 and Xinhua News Agency, 2009 (*).

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slow progress in establishing market-based pricing for natural gas, resulting in relatively low gas prices compared to those prevailing on international markets. The government has main-tained a regime that covers the following three elements and is designed to allow the gas price to exceed costs: (A) ex-plant price; (B) transportation tariff; and (C) end user price. The cen-tral government controls both (A) and (B), whereas provincial governments control (C) (e.g., cf. Ni, 2009 and IEA, 2010b, p. 604). In 2005 the government introduced an institution for reforming the wholesale price of natural gas. On December 26, 2005, the government sought to reform wholesale pricing of natural gas by increasing the Tier-I wholesale natural gas price from all gas fields supplying industrial and urban consumers by 50–150 yuan per thousand cubic meters; the corresponding price increase from fields supplying fertilizer production plants was 50–100 yuan.11

Although in the past China’s gas pricing regime did not lead to any explicit subsidies due to its self-sufficiency in gas, net imports in recent years have resulted in explicit gas subsidies. Higher prices are regarded by many as necessary to encourage producers to increase domes-tic supply, including unconventional gas (IEA, 2010b, p. 604). Gas subsidies in China were estimated to be $0.5 billion, or 2 percent in 2009 (meaning that consumers paid 98 percent of competitive market reference prices). Both figures were down sharply from 2008, when they were $7.1 billion and 26 percent, respectively (ibid., p. 605).

On May 31, 2010, China’s National Development and Reform Commission (NDRC) announced the reform of prices for natural gas extracted onshore, effective June 1, 2010.12 In June 2010, the NDRC eventually abolished the previous pricing system and increased the scope for price negotiation between buyer and seller. The increase should help to reduce the price gap between domestic supplies and imported gas (such as LNG) and between domestic gas and rival energy sources (such as liquefied petroleum gas [LPG]). This move was viewed by many analysts as an important step toward a final market-based pricing regime, with the price increase not only encouraging consumers to use gas more efficiently, but also attracting investment from China’s national oil companies in domestic exploration and production, and encouraging LNG and pipeline gas import projects (IEA, 2010b, p. 604).

On the positive side, China’s national and local governments have introduced or are contemplating fiscal measures to encourage CBM development. Currently, the Ministry of Finance provides around 0.20 yuan per cm subsidies for CBM production, supplemented by the subsidy from local governments (e.g., 0.05 yuan per cm in Shanxi Province). CBM devel-opers also enjoy exemption of import tariffs on production equipment and rebates of VAT on its exports. The government is considering applying similar preferential treatment to shale gas

11The reform in 2005 contained the following components. First, two price tiers were specified: a Tier-I price applied to all natural gas produced from the Chuanyu, Changqing, Qinghai, and Xinjiang gas fields, as well as natural gas under the state plan from the Dagang, Liaohe, and Zhongyuan gas fields. All the other natural gas was subject to the Tier-II price. Second, the former dual price system of state prices and state-advised prices was replaced by a system of prices set by buyers and suppliers within a stipulated range from the state-advised price. Third, the natural gas wholesale price was to be adjusted once per year in line with the price of substitute products such as petroleum, and the change over the previous was not to exceed 8 percent. Finally, in the upcoming three to five years, the Tier-I price was to be gradually adjusted to the level of the Tier-II price (Zhongguo, 2005/2006, pp. 59–60).

12The reform included the following changes: (1) Tier-I and Tier-II prices were unified; (2) the upper range within which the buyers and suppliers fixed the price of natural gas relative to the state-advised price was increased to 10 percent, with the lower range having no limit; (3) the retail price for natural gas used to fuel automobiles was to be set at a ratio of 0.75 to 1 relative to the gasoline price; (4) the price of natural gas was increased by 230 yuan per 1000 cubic meters; and (5) the price of domestically produced onshore natural gas was raised by 25 percent, or by 0.23 yuan per cubic meter, on June 1, 2010. The reform was intended to reflect higher costs, bring the price closer to market-based pricing, and encourage energy savings. The retail price of gas before the adjustment, 2.05 yuan per cubic meter, was set in 2007 (see China Adjusts, 2010; Majority, 2010; Natural Gas, 2011).

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production (With Rapid, 2010) and in November 2010, China announced the first shale gas license round for domestic firms (Thompson, 2011).

But even with the significant shift in the pricing of natural gas, other factors have to be overcome. Not least is the fact that gas is often found in areas where the geology is extremely complex or, for example, in far offshore regions. Although significant developments in tech-nological know-how have revolutionized the unconventional gas industry, driving down costs and increasing proven resources, other factors (including lack of infrastructure) can make the application of these technologies created in the West to Chinese unique geological condi-tions problematic. Thus despite the strong signal from the Chinese government that it intends to push forward the development of its unconventional gas sector, large investment in gas exploration and development is still needed and China must accelerate investment in basin-specific technology. In the early years of unconventional gas development, over 70 percent of exploration spending has been provided by foreign capital, yet most investors are relatively small companies, only a small number of horizontal wells have been drilled to date, and the supply chain remains inadequate (Thompson, 2011). It is worth noting, however, that China has made significant investments in shale gas and CBM developments elsewhere in the world as part of its strategy to gain new insights into exploration and extraction techniques. Between October 2010 and March 2011, Chinese energy companies have entered partnerships with major energy exploration and development companies in Australia, Canada, and the United States (CNOOC, 2010; Nicholson, 2010; McCullough, 2011), thereby increasing its presence in this rapidly growing sector.

Furthermore, government policies, limited pipeline networks, and geopolitical fac-tors will need to be overcome if China is to fully realize its unconventional gas potential. For example, the country has a very fragmented gas pipeline network, and while the major national oil companies operate the main trunk pipelines, local distribution companies are responsible for local transmission. As a result, regional monopolies exist, which has hindered the development of a national gas transmission grid. Moreover, the pipeline infrastructure is quite limited, and despite the fact that a number of major gas lines have been constructed in the last few years, most notably the West–East Gas Pipeline,13 as of February 2011 the country only had an estimated 21,700 miles of gas pipeline.

Even with plans to increase the size of the network by an additional 14,000 miles by 2015 (EIA, 2010) China’s network will still be only one-tenth the size of the grid that serves the U.S.14 The lack of pipeline capacity will not only impact the ability to get gas to market but will also influence decisions on whether to invest. Without pipelines producers will be hesitant to invest in developing reserves, while developers will not invest in new pipeline infrastructure unless there is sufficient gas produced to justify their investment.

Further exacerbating the situation is the fact that there are conflicting policies over the development of unconventional resources. In the case of CBM, for example, there are often conflicting interests between CBM produces and coal miners having separate production-sharing contracts (PSCs) for the same territory (China’s Huge, 2010). Until these differ-ences are resolved it is not clear who—coal miners or gas developers—will have priority

13The first West–East Gas Pipeline, which became operational in late 2004, started from Lunnan in Xinjiang Province and extended to Shanghai, spanning over 4,000 km (2,500 miles). It transports gas primarily from the Tarim Basin to the eastern part of the nation. In 2009 it transported 657 billion cubic feet of gas. In February 2008 China started the construction of the second West–East Gas Pipeline, scheduled for completion in late 2011, which will con-nect Horgos in Xinjiang with Guangzhou, spanning 8654 km (5377 miles) and 15 provinces. Estimated investment in the project will be 142.2 billion yuan and its annual capacity just over 1 tcf (Interpreting, 2010).

14At the end of 2008, the U.S. had over 305,000 miles of natural gas pipeline (e.g., EIA, n.d.).

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development rights. The Ministry of Land and Resources does try to mediate such conflicts, as does the Notice on Integrated Exploitation of Coal and CBM effective in 2007. Moreover, although a government regulation has declared a principle of “CBM first and coal second” in blocks of land containing both CBM and coal resources, the government has also pledged its support for coal miners to exploit CBM and coal in order to integrate the two sectors (ibid.). Similarly, the fact that mineral rights are held by the national government, whereas local gov-ernments’ approval is needed in order to use land for the purpose of exploring and extracting natural gas can be an obstacle for gas developers, especially in arid climates such as Ordos and Jungaar, where water rights need to be separated from those according use of land for drilling. The process of securing approval for CBM projects has been slow in China, as the approver (NDRC) must take time to understand new technologies and building regulatory frameworks, and to ponder their impact on the population (Thompson, 2011). This results in noticeable governmental discretion, legal unreliability, and possible sluggishness in the development of CBM. Thus although CBM is in many ways further along a development trajectory than other forms of unconventional gas, production of CBM may yet lag behind other resources, notably shale gas.

The challenges of developing China’s offshore resources are also immense, and in addi-tion to the difficulties facing onshore development, there is the added complication of these resources being subject to differing territorial claims. In the East China Sea, for example, mainland China, Japan, and Taiwan have been embroiled in territorial disputes for decades, and while Japan and China have agreed in principle to joint development of hydrocarbon resources in the region, the two sides have different interpretation as to what this means (Valencia, 2007). There are similar territorial disputes in the South China Sea (Lai, 2009) and China’s desire to develop the region’s hydrocarbon resources (especially gas) has increased in tandem with its desire to increase the share of gas in its primary energy mix. Devising a well-conceived strategy and creating the right investment climate are crucial if the country is to realize its potential.

NATURAL GAS PRODUCTION

China’s production of natural gas has risen substantially over the last three decades. In 1980 the country produced just over 0.5 tcf of gas, but by 2007 this had risen nearly fivefold to 2.4 tcf (Fig. 4) and the EIA (2010) has forecast that this figure will increase to 5.6 tcf by 2035. Significantly production from conventional sources is expected to peak by 2020 before fall-ing back somewhat. In contrast, production from unconventional sources is expected to rise sharply from 0.2 tcf in 2007 to 3.1 in 2035. The EIA’s estimates, however, are significantly lower than the Chinese government’s targets, with the government setting out ambitious plans to increase gas production to over 7 tcf by 2020 (Ni, 2007), and the most recent production figures suggest that output has increased sharply since 2007 and stood at 3.31 tcf in 2010 (BP, 2011; China to See, 2011). Notwithstanding this difference, China does have the largest projected increase in natural gas production in non-OECD Asia for the period 2007–2035 (from 2.4 tcf in 2007 to 5.6 tcf in 2035), with an average annual increase over the period of 3 percent (EIA, 2010). Increases in natural gas supplies that are easily accessible account for most of the total production growth between 2007 and 2020. After 2020, continued growth in natural gas production in China comes from more expensive tight gas, shale gas, and CBM resources (Fig. 4).

In 2007, China produced 2.45 tcf of natural gas while it consumed 2.49 tcf, and for the first time in almost two decades, the country became a net natural gas importer. Consumption

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for 2007 rose from 2006 levels by about 25 percent, and the country began importing (since 2006) liquefied natural gas (LNG), amounting to nearly 140 bcf in 2007, to fill the gap. China is expected to continue importing natural gas in the future via LNG, and is considering a number of potential import pipelines from neighboring countries.

FILLING THE GAS GAP

Over the next decade there is likely to be a significant gap between the demand and production of natural gas in China and by 2020 the country could be dependent on imports for nearly 50 percent of its needs (Fig. 5; CSES, 2010). However, if the Chinese government is to achieve its target of gas accounting for 10 percent of the energy mix, the gap will be even greater. Although some analysts anticipate that China’s gas gap will narrow after 2020 as unconventional sources come on stream, in the short to medium term China will need to source significant additional supplies to meet its needs. Indeed the 2010 International Energy Outlook suggests that China will still be importing 43 percent of its gas needs by 2035 (EIA, 2010). As part of its strategy, China has signed large long-term contracts with various gas-producing countries to provide it with gas via pipeline and LNG; in 2009 it became the first Asian country to import both LNG and gas via pipeline (Natural Gas, 2010)

LNG Imports

China began importing LNG in 2006 following the opening of its first LNG receiving terminal at Dapeng in Guangdong Province (Fig. 6). Imports in 2006 totaled 35.3 bcf, but have since risen sharply and were more than 450 bcf in 2010 (Table 5). Over the next four to five years LNG imports are forecast to rise to over 1.27 tcf, and according to Wood Mackenzie (China Gas, 2010) by 2020 China could be importing over 2.25 tcf of LNG a year, by which time it will account for approximately 13 percent of the global LNG market (Morikawa,

Fig. 4. Gas production from conventional and unconventional resources in China between 1990 and 2035. Sources: Compiled by authors from BP (2010) and EIA (2010).

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Fig. 5. Consumption and production of gas in China between 1980 and 2035. Sources: Compiled by authors from BP (2010) and EIA (2010).

Fig. 6. Major natural gas infrastructure in China.

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2008). Although increased production from China’s unconventional gas sources may temper demand for LNG after 2020, China will still be an important player on the LNG market and it has signed a number of large, long-term contracts for LNG supplies. At present Australia is China’s biggest supplier of LNG to China, with CNOOC finalizing a 20-year agreement with Australia LGN Pty Ltd to supply 3.6 million tons a year in 2010.15 Other major suppliers at present are Malaysia and increasingly Qatar.

The increase in LNG imports has required significant investment in LNG receiving ter-minals, and the Chinese government has adopted a policy of siting one project in each coastal province (Miyamoto and Ishiguro, 2006). By the end of 2010, China had three operational LNG terminals (Shenzhen, Fujian and Shanghai) with a combined capacity of 9.3 million tons (453 bcf). These stations operated at near full capacity in 2010. Additional LNG receiving stations will come on line in 2011, and by 2015 the country could have as much as 46 million tons (2.25 tcf) of import capacity. This figure is in line with forecast demand for the country in 2020 (OGFJ, 2010)

International Pipelines

In addition to LNG imports, China is expected to import significant quantities of gas via international pipelines (Fig. 6). The Central Asia–China Gas Pipeline (CAGP) was China’s first project allowing China to import pipeline gas from international sources. It starts at the

15The agreement has been described as Australia’s largest ever single LNG export contract (Pannett, 2010).

Table 5. China’s LNG Imports from Selected Countries (bcf), 2006–2010

Country 2006 2007 2008 2009 2010

Algeria 0.0 14.8 6.0 0.0 0.0Australia 35.1 116.5 126.7 166.7 184.0Belgium 0.0 0.0 0.0 2.8 2.8Egypt 0.0 0.0 8.8 2.8 2.8Equatorial Guinea 0.0 0.0 5.6 2.8 2.8Indonesia 0.0 0.0 0.0 25.4 86.5Malaysia 0.0 0.0 0.4 31.7 59.3Nigeria 0.0 2.8 8.5 2.8 6.0Oman 0.0 2.4 0.0 3.2 0.0Peru 0.0 0.0 0.0 0.0 2.8Qatar 0.0 0.0 0.0 19.4 56.9Russia 0.0 0.0 0.0 8.8 18.0Trinidad and Tobago 0.0 0.0 0.0 2.8 2.5United Arab Emirates 0.0 0.0 0.0 0.0 2.8Yemen 0.0 0.0 0.0 0.0 24.7

Total imports 35.1 136.6 155.4 269.4 452.0

Sources: Compiled by authors from BP, 2007, 2008, 2009, 2010, 2011; China’s LNG, 2010; China Imported, 2011.

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city of Gedaim on the Turkmenistan-Uzbekistan border and runs through Uzbekistan and Kazakhstan before terminating at Horgos in China’s Xinjiang Uygur Autonomous Region. At Horgos it connects to the Second West-East Gas Pipeline. The CAGP has dual, parallel lines, each running for 1,833 km (1,138 miles). Construction commenced in July 2008, and CAGP Line A began operations in December 2009, with a delivery capacity of 200 bcf per year. In August 2010, Line B became operational, bringing the daily dual-line capacity to 883 mcf (25 million cm) and annual capacity to 322 bcf (Zhongya, 2011). Turkmenistan intends to increase the gas supply to the CAGP to 1.4 tcf/year in 2012, when the South Yolotan field is developed. In June 2010 a memorandum of understanding between China and Uzbekistan was signed to provide a further 350 bcf annually via an additional transmission line that would be linked with the CAGP; in the same month, an agreement was concluded between China and Kazakhstan to jointly build the second phase of the Kazakh-China gas pipeline, to be linked with the CAGP, and to commission it in 2012 (EIA, 2010).

China and Russia have also agreed to build two gas pipelines. A memorandum of under-standing between the CNPC and the Russia’s Gazprom in March 2006 stipulated the con-struction of two pipelines from Russia’s Far East to China. The first pipeline is the so-called Western route (or Altai Project), which will link Russia’s Kovykta gas field with China’s Xinjiang, with a capacity of 1–1.4 tcf/year. It will integrate with the West-East Gas Pipeline. It is scheduled to become operational in 2015. The second, or Eastern pipeline, will extend from Russia’s Sakhalin Island to service Russia’s Far Eastern provinces, and may ultimately extend to China’s northeastern provinces, terminating in Beijing. Its proposed capacity ranges from 1,060 to 1310 bcf/year (China-Gazprom, 2010).16

China also signed an agreement with Myanmar in March 2009 for the construction of a pipeline that will deliver gas from two of Myanmar’s offshore blocks to China’s city of Kunming. The consortium administering the project includes Daewoo, CNPC, and ONGC of India. Construction has already started on the 1123-mile pipeline, which is slated to deliver 420 bcf/year; it is expected to be completed in 2013 (EIA, 2010).

CHINA: THE NEW GAS GIANT

In the last decade, China has emerged as a major player in global gas markets and gas has become a significant third component in the country’s energy mix. In five short years, China has transitioned from small, self-sufficient gas producer to major gas importer, with Australia and Central and Southeast Asia emerging as significant sources of supply. China is now the largest gas market in Asia and within the next few years will likely be Asia’s largest importer of natural gas. As China’s demand for this cleaner fuel increases over the coming decades, the country will begin to have a significant impact on the global gas market. In addi-tion to importing gas, Chinese enterprises have become heavily involved in the exploration and development of conventional and unconventional resources in Asia and other parts of the world, most notably Australia, thereby strengthening its economic ties and potential influence in these regions (e.g., Pannell, 2008). Such influence may arouse the fear in some quarters about overreliance on Chinese export markets and about China’s growing profile, and even preponderance in the resource trade of these countries. Indeed one of the reasons why the British-Australia mining conglomerate Rio Tinto refused to strike a business deal with the Chinese metal giant Chinalco in 2009 was Australian regulators’ fear that China would have too big a say in production of iron ore and other commodities (Macalister, 2009). For the

16For background on the markets for Sakhalin’s oil and gas developments, see Bradshaw (2010).

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Table 6. Operational, Under-Construction, Proposed, and Planned LNG Receiving Terminals in China

LNG terminal Stage Capacity,Mill. tons/bcf Stages Stakeholders

Shenzhen Operation 3.7/180.3 Phase I 2006 CNOOC, 33 percent; BP 30 percent

Construction 6.6/321.4 Phase II 2011 CNOOCFujian Operation 2.6/126.6 Phase I 2009 CNOOC, 56 percent

Construction 5/243.5 Phase II 2012 CNOOCShanghai Operation 3/146.1 Phase I 2009 CNOOC, 45 percent;

Shenergy, 55 percentConstruction 10/487.0 Phase II N/A CNOOC

Dalian Construction 3/146.1 Phase I 2011 CNPC, 75 percent

Approved 6/292.2 Phase II N/A Rudong, Jiangsu

Construction 3.5/170.5 Phase I 2011 CNPC, 55 percent; Pacific Oil & Gas, 35 percent

Approved 3/146.1 Phase II N/A CNPCTangshan, Hebei

Approvala 6/292.2 Phase I 2011 CNPCApprovala 10/487.0 Phase II N/A CNPC

Qingdao Approvala 3/146.1 Phase I 2013 SinopecApprovala – Phase II 2014 Sinopec

Ningbo Construction 3/146.1 Phase I 2012 CNOOC, 51 percent: Zhejiang Energy, 29 percent

Approved 9/438.3 Phase II N/A CNOOCZhuhai Approved 3/146.1 Phase I 2011 CNOOC, 25 percent:

Guangdong Electric, 35 percent

Proposed 4/194.8 Phase II N/A CNOOCHainan Proposed 2/97.4 Phase I 2010 CNOOC

Proposed 1/48.7 Phase II 2015 CNOOCShenzhen Proposed Phase I 2012 CNPC, 51 percent; CLP, 24.5

percentQinzhou Planned n.a. Phase I N/A CNPCZhuhai Approved 3.5/170.5 Phase I 2013 Sinopec

3/146.1 Phase II N/A SinopecWenshou Approvala 3/146.1 N/A Xinao GasRizhao Planned 0.5/24.4 N/A DaesungShantou Construction 1.2/58.4 Phase I 2012 Sinogas

aThese plants have received initial but not final approval from Beijing. Sources: Compiled by authors from Priestley, 2010; China Imported, 2011; and various media reports.

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Central Asian republics, however, China offers an alternative export route that reduces their reliance on Russia’s gas transit network, provides them with greater bargaining power, and could have significant implications for Russia and China’s influence over energy politics in the Central Asian region (O’Hara, 2004).

Significantly, China’s demand for gas is also having broader implications. For example, the rapid rise of shale gas in the United States and the global rescession have resulted in a global gas glut. This has not only driven down world gas prices but has also led to LNG receiv-ing and export terminals being mothballed, and new developments shelved. China has been able to take advantage of this situation to renegotiate deals on favorable terms. Petro-China allowed an agreement to purchase LNG from Australia’s Browse to expire in January 2010 (it was inked in 2007 when prices were high). Its strenuous negotiation with Russia’s Gazprom over pricing is expected to last until mid-2011despite the fact that both parties agreed in principle to a gas supply deal in 2009 after years of negotiation. Analysts believed that the expansion of unconventional gas production and supply is an underlying reason for China’s drive for a favorable and tough international bargaining position (Dyer, 2010).

But while China is likely to have a major impact on gas markets in the short to medium term, it has made clear its intention to develop domestic supplies as well. Although onshore reserves are likely to be developed first, the potential for offshore gas resources is significant and their development is likely to come to the fore in the longer time frame. The gas reserves in the East China Sea and South China Sea could serve to intensify existing disputes over territorial waters between China and the neighboring nations. A dispute in the East China Sea between China and Japan over the Diaoyu (or Senkaku) Islands has resurfaced, and both are contesting sovereignty over the Chunxiao gas field. While the disputes between China and the Southeast Asian nations over territorial waters in the South China Sea have been long stand-ing, in recent years China has indicated that the waters of the South China Sea fall within its core national interests, thereby hardening its stance in the dispute.

It is clear that in the space of five years China has emerged as a major part of the global gas industry, both as a consumer and potentially as a supplier. Its impact on global gas mar-kets already is significant and will continue to grow. The implications for the gas industry will be far reaching and are likely to have huge implications on economic and geopolitical relations for a long time to come.

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