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China Answers the Call for Rebalancing in the Next Decade

Mar 17, 2011

In Beijing’s cavernous Great Hall of the People, top leaders and political delegates settled on an ambitious economic course for China, now the world’s second-largest economy. Although the 12thFive-Year Plan (FYP) technically concludes in 2015, it is more apt to view the plan as the opening salvo to a pivotal decade intended to shepherd China toward a sustainable, innovative, and integrated continental economy. Indeed, the new plan is a sober recognition, in the wake of the worst economic crisis since the 1930s, that pursuit of China’s current export and investment-led growth model is facing diminishing returns. Put another way, the “low-hanging fruits” of rapidly expanding aggregate GDP are nearly exhausted.Sustaining growth, in the face of a realignment of global consumption and demand patterns, will require a different emphasis on qualitative growth and domestic consumption. A lower 7% growth target and language that trumpets economic development over growth in the plan indicate that Chinese policymakers get it. But the right diagnosis does not mean the right antidotes will necessarily be prescribed. In fact, an endeavor of such magnitude will be a very tall order and success is not assured. Given the uncertainty, however, there remainareas where China is likely to register important successes, namely altering its energy consumption patterns and enhancing efficiency.

China’s economic model propels its energy consumption, concentrated among heavy industry and manufacturing to fuel an export juggernaut. In other words, China’s energy problems are a direct outgrowth of being an industrializing “producer”, which is the opposite of the US, a consumer-led energy guzzler. Viewed this way, it becomes obvious that the energy pattern in each country reflects a major symptom of the central economic imbalance of production and consumption between China and the US. It is no surprise then that Beijing persistently argues that China’s energy consumption per capita is just one-tenth that of the US. So to the extent that China exits its current hyper industrialization phase and restructures its economy, the process should naturally lead to improvement in what seems to be unbridled energy consumption.

But waiting passively for a gradual process of economic rebalancing to solve enormous energy challenges and environmental woes is insufficient. That’s because it is not solely about energy, but about an environment under considerable strain, a population that witnesses daily the haze that cloaks numerous cities, coal miners that perish in the thousands, and rising healthcare burdens as pollution-related illnesses mount. It has been these reasons of unacceptably high social costs associated with enviable growth, rather than specific mandates to mitigate climate change, that remain important drivers of energy policy.Top leaders are thus responding vigorously by putting energy efficiency, environment, and clean energy at the top of the agenda for the next five years.

Consequently, three targets will matter the most through 2015: reducing energy intensity per unit of GDP by 16%; cutting carbon intensity per unit of GDP by 17% (40-45% by 2020); and having non-fossil fuels account for 11.4% of primary energy mix (15% by 2020). These targets are significant because they are domestically binding—meaning that they carry political weight and that actions are necessary in the 12th FYP if China has any shot of meeting these targets by 2020. China had an energy-intensity target of 20% in the 11thFYP, which in hindsight was deemed overly ambitious, as Beijing struggled to meet it even after imposing drastic measures at the eleventh hour in 2010. The carbon intensity and non-fossil fuel targets were part of China’s Copenhagen pledge, and their incorporation into the new plan, albeit not internationally binding, indicates that China has not backed away from its promises. Altogether, these targets not only form the contours of China’s energy policies for the next few years but will also impact its primary fuel mix and appetite for energy imports, as well as major upstream and infrastructure projects.

While there has been considerable “renewable fever” in China, it has obscured the substantial expansion China has in store for hydro, natural gas, and nuclear, all under the banner of clean energy. The overarching objective is to diversify reliance on coal, about 70% of the energy mix and the major culprit of carbon emissions in China. But it is simply unrealistic to achieve meaningful progress on renewables alone. Even as installed wind power has been doubling in recent years, with a total of about 40GW at the end of 2010, that still represents less than 5% of total installed capacity. Meanwhile, domestic solar demand remains miniscule as the Chinese government has resisted a feed-in-tariff that would catalyze solar consumption. This leaves much room to expand natural gas and nuclear consumption. Chinese officials aim to double natural gas in the energy mix to 8%, with the National Energy Administration projecting a very bullish 260 bcm of gas consumption by 2015. Plans for nuclear power seem equally ambitious, with the China Electricity Council (CEC) estimating nearly a five-fold increase in installed capacity to 43GW in five years. Over the next several years, no other country can rival China’s nuclear expansions.

Yet dethroning coal from its dominant position in China’s energy hierarchy will be exceptionally difficult, even assuming optimistic scenarios of deploying other energy sources. For instance, CEC expects thermal installed capacity at 67% (primarily coal-fired), or 963 GW, over the next five years, down from roughly 74% at the end of 2009. But here’s the kicker: This nonetheless represents an absolute expansion of perhaps close to 300GW of new coal capacity over the next five years. Therefore, it is imperative to simultaneously focus on developing clean coal and carbon technologies.

Barring theemergence of game-changing technologies, it is evident that there is no silver bullet in tackling China’s immediate energy conundrums. As a result, policymakers are relying on a multiplicity of tactics that involve fuel diversification, renewable deployment, resource-based taxes, and energy price reforms. So too will China have to increasingly focus on demand-side management as millions enter the middle class and alter their energy consumption patterns and covet personal autos.

And so the next decade carries with it a sense of urgency to make substantial headway on an energy agenda that resides at the core of China’s broader economic objective. Its relative success depends fundamentally on whether the 12thFYP closes the curtains on the era of “GDP fetish”and strikes a new equilibrium between quantity of growth and quality of life.Indeed, it would be in China’s and the world’s interest that Beijing succeeds.

Damien Ma is an analyst in the Asia practice at Eurasia Group.

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