Cablegate: China/Energy: Tension Amid Shortages and Price Hikes

VZCZCXRO5111
PP RUEHCN RUEHGH RUEHVC
DE RUEHBJ #6936/01 3050906
ZNR UUUUU ZZH
P 010906Z NOV 07
FM AMEMBASSY BEIJING
TO RUEHC/SECSTATE WASHDC PRIORITY 3194
RHMFIUU/DEPT OF ENERGY WASHINGTON DC PRIORITY
INFO RUEHOO/CHINA POSTS COLLECTIVE PRIORITY
RUEATRS/DEPT OF TREASURY WASHDC PRIORITY
RUCPDOC/USDOC WASHDC PRIORITY
RHEHNSC/NSC WASHDC PRIORITY

UNCLAS SECTION 01 OF 02 BEIJING 006936

SIPDIS

SIPDIS
SENSITIVE

STATE FOR EAP/CM PSECOR, AND EB/ESC SIMONS AND HAYMOND
DOE OEA FOR CUTLER, NAKANO
TREASURY FOR OASIA DOHNER, CUSHMAN
USDOC FOR 4420
USTR FOR STRATFORD/WINTER/ALTBACH/MCCARTIN

E.O. 12958: N/A
TAGS: ECON ENRG EINV PGOV EPET EFIN CH
SUBJECT: CHINA/ENERGY: TENSION AMID SHORTAGES AND PRICE HIKES

REF: Beijing 1734

-------
SUMMARY
-------

1. (SBU) Amidst fuel shortages and even the death of a line-jumper
at a gas station in Henan Province, China's National Development and
Reform Commission (NDRC) has raised refined oil prices by USD
9/barrel and gasoline/diesel prices at the pump by 20 US cents per
gallon. The goal is to encourage domestic oil refiners to increase
production. Oil refiners, unable to pass through increased costs
for imports, have recently faced significant losses. Government-run
refiners have continued to produce under pressure, but the
independents, which account for around 15 percent of the country's
refining capacity, have moved away from gasoline/diesel and will
likely find today's price hike insufficient to resume production.
Another headache for the government may be consumer outrage at
paying higher prices amid continued shortages. END SUMMARY.

--------------------------------------
BEIJING UNEXPECTEDLY RAISES OIL PRICES
--------------------------------------

2. (U) Late evening October 31, the NDRC unexpectedly announced an 8
percent price increase effective today for refined petroleum
products: RMB 500 per metric ton, or approximately USD 9/barrel
(converted at USD 1 = RMB 7.5). This rolled back a 4 percent price
reduction from January and came as gasoline and diesel shortages,
the worst in two years, have been spreading throughout China's
coastal provinces and recently showed signs of moving inland, with
anecdotal reports of diesel shortages even in Beijing. Media quoted
local police in Henan Province as reporting that a customer was
killed at a service station on October 30 in Xinyang after angering
another customer by jumping in line.

3. (SBU) The government action is meant to encourage refineries to
produce more gasoline and diesel in response to the shortages. A
Citibank analyst estimated that the oil companies recently have lost
approximately USD 10/barrel of oil they refine due to the large gap
between China's regulated prices and international oil prices. The
price increase addresses about half of this loss, but will still
leave refiners losing USD 4-5/barrel of oil they refine, said our
contacts. (Comment: The firms do not benefit from the full price
increase because not all of their output is sold at regulated prices
as detailed below. Also of note, to the extent that the price
change leads to increased refinery activity, it may in the
short-term raise China's demand for imported oil, adding to global
price pressures. End Comment.)

--------------------------------------------- --
NATIONAL FIRMS PRODUCING UNDER PRESSURE, BUT...
--------------------------------------------- --

4. (U) Prior to the price increase, Beijing had been cajoling
China's national oil companies (NOCs) into maintaining refining
production levels despite sharp increases in the international price
of oil. (Note: China is second to the US in petroleum use and
imports around half of its consumption. End Note) In September,
the NDRC resisted calls by the NOCs to raise prices, noted that the
NDRC was closely monitoring retail prices nationwide to ensure
compliance with price controls, and publicly warned the NOCs not to
decrease their refinery production rates, even as their losses
mounted. Although this largely kept the NOCs in line, Beijing has
been unable to force the country's independent refiners to maintain
production levels, a direct cause of the current shortages at the
pumps.

--------------------------------------
... INDEPENDENTS HAVE NOT PLAYED ALONG
--------------------------------------

5. (U) Industry experts estimate that China's independent oil
refiners, with around 1 million barrels per day of refining
capacity, produce 10-20 percent of the country's gasoline and
diesel. They have cut production in the face of high international
prices. In many cases, they have also increased production of
products unaffected by price controls, such as naphtha (often used
for chemical and fertilizer production) or have simply shut their
plants down to avoid losses. These products, free of price
controls, in general account for an estimated 40 percent of refinery
output. The NOCs have relied on unregulated products as well to

BEIJING 00006936 002 OF 002

soften the blow from losses on price-regulated production. Industry
analysts told clients today that it is unclear if the NDRC's price
increase is enough to change this dynamic.

---------------------------------
PRICE PRIMER IN DOLLARS AND CENTS
---------------------------------

6. (U) Chinese media suggests that the price increase will raise
consumers' gasoline and diesel prices at the pump by around 20 US
cents per gallon. Prior to the price increase, consumers in Beijing
paid USD 2.40/gallon for premium gasoline and USD 2.00/gallon for
diesel. The reports also indicate that the NDRC estimates China's
monthly consumer price index (CPI) will increase by .05 percentage
points as a result of the price increase. Some of our contacts
maintain that many Chinese consumers already feel they pay too much
for gasoline and diesel.

-------------------------------
TOUGH LESSON FOR THE LEADERSHIP
-------------------------------

7. (SBU) JP Morgan China Economist Grace Ng commented in a research
note that Premier Wen had just last week announced after a State
Council meeting that China would not raise any prices over the rest
of the year that would affect the CPI. Ng believes the NDRC was
looking to reform prices for a long time but was blocked by senior
officials who were waiting for oil prices to fall. The lesson for
them, in her view is that "they cannot time the market and the
government has to do what is inevitable if it is serious on energy
conservation, market based mechanisms, and staying on the course of
reform."

----------------------------
PRICING WAS ALREADY AN ISSUE
----------------------------

8. (SBU) As we reported in reftel, China has been looking to
integrate domestic and global petroleum prices. Concerns about
harming consumers, rural residents, taxi drivers, and oil refiners
have slowed this process. Consequently, the NDRC has continued to
rely on administrative pricing, forcing it to subsidize the oil
companies' refinery losses while at the same time incurring public
and media wrath when gasoline prices do not fall during periods when
global prices decline. Our contacts have told us that a new pricing
mechanism is pending that will guarantee domestic refiners a profit
while shielding consumers from major fluctuations. It will
supposedly incorporate elements of market-based pricing but remain
highly controlled overall and potentially vulnerable to
speculation.

--------------------------------------------- ---
COMMENT: TOO EARLY TO TELL IF MOVE IS SUFFICIENT
--------------------------------------------- ---

9. (SBU) The NDRC's price increase is probably insufficient to
immediately abate current gasoline and diesel shortages. Our
contacts tell us that the move's most immediate effect will be to
reduce NOC refining losses, but for now, it may fall short of
reenergizing the independents. To address the shortfall in the
short term, the NOCs will have to ramp up their refining production
and go abroad in search of refined products for direct sale into
China. Meanwhile, consumer outrage at lining up for even more
expensive fuel is possible, and this makes further price increases
needed to return independents to the market unlikely. Bottom line:
Beijing now has a new reason to hope for a fall in international oil
prices to bring the independents back into the market.

RANDT

© Scoop Media