the impact of surging oil prices on China’s economy
s In recent days, even if you occasionally watch Bloomberg, you will notice there are more frequent reports throughout the day about the fluctuating oil price. Months ago when it was at only US$60 a barrel, many analysts thought the oil price surge was due to speculative force and the price should adjust downward anytime. However, given that the price of oil keeps increasing, comments since mid-August have turned to concern with the global economic slowdown due to surging oil prices. Economists and analysts are all paying attention to oil price movements particularly as oil is at US$70 a barrel. A 75% increase from the average US$40 a barrel last year. Global oil demand has been increasing between 1.5 and 2 million barrels a day each year, but the planet has reached its supply peak now. The oil economy has shifted to the stage where Organisation of Petroleum Exporting Countries (OPEC) can no longer increase output by much to control oil prices. Alarmingly, Saudi Arabia is now reaching its production peak. With a ceiling on increasing supply while China keeps increasing its demand, oil prices can only go up rather than the reverse. CHINA’S CONSUMPTION RELATES TO OIL PRICE HIKE China and India, with the largest population, are demanding more oil to keep pace with their economic growth. China’s post-1990 economic growth had been largely driven by its transition from agriculture to manufacturing and foreign direct investment (FDI). Nominal FDI flow to China was only USD3.9bn in 1990 compared to USD154.5bn in 2004. GDP was only about RMB4,800bn in 1990 compared to RMB 13,651.5bn in 2004. Even the Chinese government had implemented macro economic control measures. Despite this, GDP still recorded a growth of 9.5% in 2004. Oil consumption in China was only about 2.4 million barrels/day in 1990 but is now about 7.5 million barrels/day. However, China’s per capita oil consumption is currently less than onethird of the US’s. That level is projected to more than 90 million barrels per day by 2030 according to a petroleum outlook forecast. The growth in oil consumption relates to the rapid growth in industrial economy. Industrial and construction activities account for more than half of petroleum use. China’s middle-class is now earning more income due to the economic growth, resulting in a higher standard of living which means they are buying cars. In 2003, the number of cars produced and sold in China had reached a total of 4.44 million and 4.39 million units, representing a growth of 35.2% and 34.2%. In 20 years, there will be more cars in China than in the US – nearly 200 million of them in China. Increased consumption of gasoline and diesel is attributable in part to the increased convenience of highway transportation and the increase in use of automobiles. Industry and transportation together consumes more than two thirds of petroleum in China. China already accounts for about 8% of world demand, having passed Japan as the second-largest consumer of oil products after the US. According to the US Energy Information Administration, around 40% of world oil demand growth over the past four years came from China and this demand is a very significant factor in world oil markets.
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China column
According to the Earth Policy Institute, per capita income in major PRC cities will increase from US$5,300 in 2004 to US$38,000 in 2031. The more they earn, the more they consume, and the research predicts China’s crude oil consumption will reach 99 million barrels/day by 2031, which practically will exceed the global production by then. Right now, over half of China’s crude
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China column
Growth in Petroleum Demand of Major Petroleum Consumption Countries (2002-2004)
Source: US Energy Information Administration
oil consumption comes from import. The direct impact of the soaring oil price is that China would have to pay a large amount of foreign exchange reserves to import oil. Every dollar increase in oil price means an extra cost of US$1.3bn a year. Therefore, the increase since last year had cost China a total of US$40bn a year or US$30 per capita.
China Oil Production and Consumption 1980-2005 (thousand barrels per day)
Consumption Net Imports
Production
Source: US Energy Information Administration
DEREGULATION OF RETAIL PRICE OF PETROLEUM PRODUCTS China used to live in the days where fluctuations in world oil price had not much effect to China’s economy. There are two reasons. Before 1993, China was self sufficient by domestic oil production. Second, since the Chinese Government believed that economic growth needs cheap oil, the central government had imposed a limit on retail price of petrochemical products. While most of the downstream petrochemical products in the country was produced from imported oil by Sinopec, one of the three largest state-owned oil companies in China, the government had, in turn, subsidised the economic growth with the availability of low-cost fuel. But as the general population took advantage of such unrealistic fuel pricing, it had created serious problems in terms of efficient use of energy. Deployment of old-model machines that would burn more energy, inefficient transportation planning, non-performance infrastructure, all these attributed to high energy wastage. And as expected, it was difficult for China’s petroleum refiners to turn a profit, so they had no incentive for domestic sales but rather export petrochemical products. The result has been widespread shortages recently in the south, with drivers queuing for hours for gasoline. To tackle the problem, top planners at the energy policy-setting National Development and Reform Commission (NDRC) called for the reform measures to gradually relax the power to set oil product pricing, moving from a lagging set price to a real-time price. As a result, retail price control had been relaxed three times during this year with an objective of encouraging efficient use of energy.
China column
SOFT OR HARD LANDING? s As a result of China’s high reliance on oil imports, inflation will be followed by an economic slowdown. Looking at the history of global economy, recession, whether large or small, would come after a short period of sharp increase in oil price. Significant impact might not be recognised immediately, but after about 15 to 16 months. In other words, a real impact to the economy is expected to be realised next year. If oil price will not retreat downward during the next half year, we will expect to see a slowdown in China’s export and internal consumption. While oil price surge, industries had switched their demand for alternatives and we have already realised the increase in coal price from over RMB150 per tonne last year to RMB320 per tonne this year. As China’s importing partners will also be facing the same pressure from oil price surge, exports from China will also slowdown. Again the chain effect is expected to pass on to surging price of commodities, increasing pressure on the profitability of small manufacturing plants and the worse is more unemployment for such large country. China’s rapid economic growth and continued expansion of its manufacturing base are fuelling a sharp demand for energy, which is becoming an increasingly important factor for world oil price increase. Ironically, it creates economic problem back to itself. Whether it is soft or hard landing depends very much on how quickly the price of oil moves. It is hoped that a hard landing will not happen, but the country’s dependency on oil has allowed oil price to control economic development of China, as well as the global economy. s
INFLATION AND ECONOMIC SLOWDOWN Though the burden of expensive oil is gradually passed on to the community to drive out the inappropriate energy users, the genuine ones are enlarging their stomach to support their growth. China had undergone a noticeable economic structural change in recent years, the growth in industrial economy had made the country much more dependent on energy supply. Heavy industries like steel and cement production as well as transportation industry are all high energy consumers. The higher petroleum price, through more expensive transportation, indirectly leads to price increases in goods and living materials. Consumers will have to pay more for their daily necessity. In 2003, when the average oil price was only US$28/barrel, total foreign currency spending for oil imports was about 1.5% of GDP and 4.9% of total imports of that year. However, when the average oil price had risen to US$40/barrel, oil imports
had risen to about 2.3% of GDP and 7.7% of total imports of 2004. With the current oil price of US$68, the impact to China’s economy would be much greater during this last half year and the next. According to the Statistical Bureau of China, for every 10% increase in international oil price, inflation in China will increase by 0.25% and GDP will fall by
0.13%. Now that global oil market had surged for more than 70% from last year, inflation is expected to increase by about 1.75%. s
Regina Wong Executive Vice President PetroAsian Energy Limited
Oil Spot Price
Source: US Energy Information Administration
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