China: Hungry for Energy

Beijing hunts for a coherent policy as it gets hooked on foreign oil

Next year, Chinese consumers will buy 900,000 automobiles. They will purchase apartments at the rate of more than 8,000 a day, furnishing them with appliances and heating systems. Legions of entrepreneurs will start businesses that require light and heat. And foreign and domestic companies will open or expand thousands of factories that depend on reliable supplies of electricity.

All those cars, appliances, and factories will eat up massive amounts of energy, most of it directly or indirectly a product of oil and gas. Less than 10 years ago, China used so little of those commodities that it was a net petroleum exporter. Today, its thirst for oil, natural gas, and the power they generate is second only to the U.S.'s. Energy consumption in China is expected to grow at 4% a year over the next decade. "China's growth in energy demand over the next 20 years will present tremendous opportunities," says ExxonMobil (XOM ) China Chairman P.C. Tan.

While that is good news for foreign oil companies, it's a big headache for the Beijing government. Next year, China's net oil imports will reach an estimated 70 million tons--up fivefold from 1996 (chart). If current trends continue, by 2010, half of China's energy needs could be filled by foreign oil. Like the U.S., Beijing considers it dangerous to be at the mercy of global oil markets. A spike in petroleum prices could put pressure on state finances and hit the economy just as tariff barriers to foreign competition are dropping. At the same time, Beijing is worrying anew about America's growing global influence, especially its military chokehold on the Malacca Straits, through which much of China's oil sails from the Persian Gulf.

Now, amid mounting international instability, the government is looking to secure its energy supplies and create a coherent energy policy that addresses a multitude of problems. And Beijing is moving fast. Over the next 10 years, policymakers aim to spend $100 billion to build pipelines, ramp up oil and gas exploration at home and abroad, and overhaul the nation's inefficient power plants. For the first time, Beijing is debating the creation of a strategic oil reserve that would hold 20 days' worth of imports and cost some $3 billion. Premier Zhu Rongji also plans to further deregulate the energy market--cutting subsidies and freeing prices--and is encouraging its top petroleum companies to boost their productivity and become more market-oriented. A key factor behind the push to increase oil and gas production is the need to wean the country off the cheap, plentiful coal that is poisoning Chinese cities.

SAVINGS STASH. What Beijing is trying to do all at once--hike domestic production, cut dependence on foreign oil, diversify into natural gas, further deregulate energy prices--is a monumental challenge. Consumers, already paying close to international prices for gasoline, heat, and electricity, are likely to pay even more. Hard-pressed factories and power plants, too, will feel the pain. At the same time, Beijing will have to find the money to pay for the massive rollout of infrastructure. And it has to construct a new regulatory framework. "We must adjust the structure of our entire energy sector," says an official at a state energy research institute.

Many experts reckon China has the resources to pull it off. "Don't forget this is a country with a huge amount of savings," says World Bank energy specialist Noureddine Berrah. "And with World Trade Organization entry, the big financiers are coming to Beijing--or are already here." Moreover, China is opening the energy sector, welcoming more foreign participation in everything from exploration to petroleum refining. It is beginning to allow multinationals to take equity stakes in domestic petroleum companies. ExxonMobil, BP, and Royal Dutch/Shell Group have invested more than $1 billion in the three top domestic oil companies--China National Offshore Oil (CNOOC), PetroChina, and Sinopec--and between them, Shell and BP (BP ) plan to open hundreds of gas stations in south China.

Beijing's preferred defense against dependence on foreign oil is to boost production at home. China is sitting on 24 billion barrels of crude--enough for 20 years at current demand. Now, after years of watching existing wells run dry, the government is encouraging the three biggest oil companies to go out and find new fields. One promising spot is Bohai Bay, off China's northeastern coast. CNOOC aims to develop nine Bohai Bay projects over the next few years. The company has begun production at one field that it says will rival in size China's historic Daqing fields--a million-barrel-a day source of quality crude that already has lasted 30-plus years.

China also has been pushing its companies to secure supplies from abroad. PetroChina's parent, China National Petroleum Corp., has invested billions in fields in Sudan, Peru, Burma, and Kazakhstan. PetroChina formed an overseas exploration arm in October and is looking at deals in Canada and Southeast Asia. In November, CNOOC signed a preliminary deal to jointly develop a natural gas field off Australia's Northwest Shelf. It would supply gas to a liquid natural gas terminal (LNG) in Guangdong that CNOOC is building with BP Group.

Beijing hopes LNG will play a major role in its efforts to switch to cleaner-burning fuel. Policymakers want gas to account for 6% of energy use by 2010, up from 2% now. China certainly has enough gas--8 trillion cubic meters of proven reserves. But much of it sits below the far western region of Xinjiang, as well as under Inner Mongolia. That means the gas must be piped all the way to China's booming southern and coastal cities. Hence, the government plans to lay thousands of kilometers of pipe over the next decade. The centerpiece is the $5 billion West-East line, which will run 4,000 kilometers from Xinjiang to Shanghai. Both Shell and Russia's Gazprom are vying for the proj-ect. "For us, this is very important, says Tan Ek Kia, chairman of Shell's North East Asia operations. "This is the first and most important pipeline."

TEAMING WITH TAIWAN? While China's drive to modernize its energy sector is an imperative, there are financial risks. In their eagerness to find overseas fields, says the World Bank's Berrah, Chinese companies are bidding up to four times the going price for drilling rights. That could leave less money to build refineries and pipelines. And the push into LNG also could backfire. Natural gas is twice the price of coal, and some wonder if Beijing will find a market for it among China's hard-pressed companies. Still, PetroChina President Huang Yan remains bullish since the government is restricting the use of coal, forcing cities to use more gas, and offering tax breaks to lay pipe. "We're going to solve the problems," he says.

Indeed, Beijing intends to pull out all the stops to secure its energy supplies. It is even considering a joint venture with archrival Taiwan. Chinese officials are encouraging CNOOC to pursue talks with Taiwan's Chinese Petroleum Corp. about extracting oil and gas from under the Taiwan Strait. Not long ago, such a prospect would have been unthinkable. But the world looks a lot more fragile these days. And China's thirst for oil grows daily.

By Dexter Roberts and Mark L. Clifford in Beijing, with bureau reports

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