China to benefit from cheap Russian gas—eventually

The “limitless” friendship between China and Russia notwithstanding, President Xi Jinping of China appears to be at least somewhat miffed at President Vladimir Putin of Russia.

For a hint of why that might be, consider the energy sector, The Wall Street Journal reports.

In theory, over the long run, Russia’s isolation from its major oil and gas customers in the West could be a boon for China—particularly with regards to natural gas, since the two nations have already agreed to expand the existing pipeline network between them. But there is a problem: For now, China is a coal- and oil-powered economy, and the transition to moving toward gas will be long and expensive. In the meantime, Mr. Putin’s war in Ukraine has helped push coal and petroleum prices through the roof. All this comes as China’s economy is already struggling with a punishing property downturn and deeply discouraged consumers.

China has long been the world’s coal-burning heavyweight, thanks to its own enormous—although not always high-quality—coal reserves. Unlike the U.S. and Europe, where natural gas has in recent years accounted for around 30% and 25% of the energy mix, respectively, gas was only 8.4% of China’s primary energy consumption in 2020. Coal was 57%.

Domestic price controls give Chinese power plants and petroleum users some relief, but even heavily discounted Russian oil is close to 40% more expensive than what China was paying for oil in late 2019. The situation for coal is even worse. China’s average import cost per metric ton was $140 in August, according to data from CEIC, up from around $70 in late 2019. Some of those imports can be substituted with domestic coal but, because Chinese coal is often lower quality, power plants generally need to blend domestic coal with higher-quality Indonesian or Australian imports, making a certain amount of pain unavoidable.

Access to Russian oil at a significant discount to global crude prices does give Chinese refiners a big advantage to the extent they are able to export fuel products like diesel into world markets—and such exports did rise sharply in August, after lagging for much of the past year.

But other oil-dependent industries like petrochemicals aren’t seeing much benefit, at least for now. The combination of a depressed Chinese economy and sky-high global oil prices is bad news for Chinese petrochemical firms. CEIC data shows that the Northeast Asian market price of ethylene, the basic petrochemical behind many plastics, has been below the Chinese price of naphtha—the oil-derived feedstock for ethylene production—this summer.

Someday, more pipelines delivering large quantities of deeply discounted Russian gas might give energy-intensive Chinese industry an enduring cost advantage of the sort U.S. and Middle Eastern-based petrochemical firms using natural-gas liquids have long enjoyed. Legions of gas-fired power plants might provide a convenient, reliable and cheap alternative to coal.

For now, though, China is stuck with expensive coal and oil at a time when the economy desperately needs help. No wonder Mr. Xi is grinding his teeth.