While a balance between supply and demand will be achieved in China’s electricity market in 2007, the country’s economic growth cycle and rigid planning practices mean that this balance will be temporary, according to a new Capgemini report.
In 2005 alone, China added 70 GW of electricity generating capacity to its grid, equivalent to the total installed capacity of the UK. This frantic rate of new build that has been taking place since power shortages first emerged in 2002, has ensured that by 2007 a balance between supply and demand in the country will be achieved. The respite, however, will be short-lived, according to a new report by consultants Capgemini.
In its China Electricity Market 2006 report, Capgemini forecasts that targets for investment in new generation plant have been under-estimated. China’s installed generating capacity now exceeds 500 GW, and the government has planned for this to reach 950 GW by 2020. This will not be enough to meet demand, according to Capgemini: an additional 280 GW of capacity will be required by 2020.
Comparison of the installed capacity of different types of players 2004
“The China power market will require, on average, 48 GW of new capacity every year, which is equivalent to two thirds of the UK’s total installed capacity today,” said Colette Lewiner, energy, utilities and chemicals global sector leader at Capgemini. “Even with the additional capacity planned, per capita consumption of electricity in China will only reach the level of the US in the 1950s.”
“In the past three years, a nationwide power shortage spurred a new wave of physical investments in new power plants, which will restore a balance of short-term demand and supply expected by 2006/7,” added Lewiner. “But the huge growth of the Chinese economy means that without extra investment that surplus will dissipate once again between 2010 and 2020.”
While China’s electricity market had a surplus of generating capacity in the late 1990s, by 2002 it was experiencing peak power shortages in 12 provincial grids. This rose to 23 grids in 2003 and 26 grids in 2004. While this is in part due to China’s rapid economic growth and the geographic separation of its coal resources and load demand centres, the mismatched economic growth and power construction cycles are also to blame.
On average, the construction cycle of a power plant is four years, while a typical economic growth cycle is nine years; this can mean that power shortages exist during periods of economic growth, when power plants are under construction, and that a balance, or even a power surplus situation is reached when the economy is in the descending period of its cycle.
The mismatched cycles of power construction and economic growth are exacerbated in China by the rigid, centrally-planned government regime, which, says Capgemini, lacks flexibility. The power planning and investment approval regime often fails to take into account the cyclic nature of the economy, forecasting moderate economic growth when actually the economy is expected to enter the growth phase of its cycle, leading to periodic surplus and shortage periods in the power supply-demand balance.
In compiling its report, Capgemini interviewed over 140 senior utility executives, a very high proportion of whom stated that the key to resolving China’s power supply problems lies in strengthening grid construction. Some 98 per cent of those interviewed thought that grid construction lags behind power plant construction, leading to bottlenecks in the system that prevent areas with surplus capacity selling power to those with shortages. Around 97 per cent also stated that demand side management measures should be strengthened.
Capgemini’s report also finds that not only does China’s power generation mix need to be optimized, but that also the government’s target for introducing a broader mix of carbon-free energy sources is unlikely to be met.
Coal fired generation capacity currently accounts for 73 per cent of installed capacity, and 83 per cent of total generation. This compares to hydropower, which accounts for 15 per cent of generation, and nuclear, at 2.3 per cent of generation. The dominance of coal has resulted in a number of problems, not least the environmental impact. China needs to invest in clean coal technology while promoting the use of clean and renewable energy technologies as much as possible, says Capgemini.
However, virtually all of the power generation projects under construction in China are coal fired, and as a result, the proportion of coal in the generation mix will rise for the next three years. While the situation will improve in five years’ time, it is estimated that the proportion of coal in the generation mix will still be as high as 60 per cent by 2020.
Forecast of investment capital demand to 2020
The nature of the fuel mix means that China is likely to come under international pressure over the environmental performance of its power sector. Some 96 per cent of Capgemini’s interviewees stated that the country must make adjustments to its power mix, and most see hydropower, nuclear, wind and other renewables as being the best options.
Hydropower: There is room for development in China’s hydropower sector, and Capgemini believes that it will continue to account for at least 20 per cent of installed capacity. It has forecast that by 2020 China will have an installed hydropower capacity of 267 GW.
Nuclear: Nuclear power currently accounts for just 1.55 per cent of installed capacity in China, but this should rise to 3.25 per cent by 2020, equating to 40 GW of capacity.
Renewables: China has ambitious targets for implementing wind power capacity, and in 2005 adopted the Renewable Energy Law, which outlines the responsibilities of government and society with respect to renewable energy development, and established a series of measures to encourage renewable energy. By 2020 the country aims to have installed 30 GW of wind power, but this, says Capgemini, is unrealistic, requiring an annual growth rate of over 25 per cent.
There is also potential for the development of natural gas fired capacity in China, says Capgemini, which believes that the exploitation and transportation of gas in China will have moved on by 2020, allowing the capacity of gas fired power plants to have risen to 85 GW, or 6.9 per cent of total installed capacity.
The forecast long-term power shortage and need to re-balance the power mix is good news for investors. According to Capgemini, China’s electricity market will require an investment of $590 billion to deliver a total installed capacity of 1230 GW by 2020. “It is a huge market and this represents a huge opportunity for investors,” commented Lewiner.
Lewiner points out, however, that foreign investment in China’s utility sector has decreased in recent years. In 1990 it accounted for 12 per cent of investment in the sector and now accounts for just five per cent, and this has been manifested in the withdrawal of some major foreign utilities.
“The main reason for their withdrawal is that their profits have fallen as the price of coal has risen,” says Lewiner. “Coal is dominant in the energy mix and since the coal industry was deregulated, coal prices have risen by 40-100 per cent. However, electricity prices are capped and so the utilities have been squeezed.”
Another reason for the decreasing investment levels is the uncertain investment environment. Uncertainty over the investment climate in China’s power sector was revealed in Capgemini’s interviews, when 58 per cent of interviewees stated that the climate was “not clear”; 33 per cent said that the sector was fit for investment, meaning that high profit margins could be achieved and investment risk was relatively low.
“If electricity market deregulation continues once again, and price deregulation is achieved, then the prospects for utility investment will improve,” notes Lewiner. “Utilities need to have the right price signals and transparency is needed. The regulatory environment must be clearer and the government must be consistent in its pricing policy.”
One way for utilities to overcome the rising coal prices in the current environment is to apply a “backwards integration strategy”, i.e. invest in coal mining operations or form partnerships with mining operators. However, there is already intense competition between the domestic players in the mining sector and so foreign investors are unlikely to choose this route.
While utility sector investment may present some barriers, opportunities for equipment suppliers are plenty. The need for 48 GW of new capacity each year means that China will continue to be a key market.
“Those that will really benefit are the manufacturers,” says Lewiner. “And if they can localize investment through joint ventures then they can kill two birds with one stone: they can sell into the Chinese market but will also produce low-cost equipment to sell elsewhere.”
Opportunities in coal fired power plant construction will inevitably continue. While conventional coal technology will continue to be important on a cost basis, clean coal technology will increase in importance due to environmental pressures.
Capgemini forsees huge investment opportunities in the nuclear power sector. To achieve its stated objective of 40 GW of nuclear capacity by 2020, China requires an investment of $49 billion. More than 25 sites are planned for the next 15 years, with each site consisting of 4-6 units, each above 1000 GW.
For international players, technology transfer will be a decisive factor in gaining a foothold in China, particularly with respect to the use of third generation nuclear technology. The way forward for the main manufacturers is to team up with appropriate partners to take up the opportunities on offer.