China's smog threatens health of global coal projects

PUBLISHED : Friday, 15 November, 2013, 11:10am
UPDATED : Wednesday, 20 November, 2013, 4:34pm

A choking smog across much of northern China threatens not just the health of local residents but also that of major coal projects globally that are still on the drawing board.

Beijing’s plans to tackle pollution largely target coal-fired power, which will hit already slowing demand in the world’s top importer of the fuel.

Video: A view of Beijing's smog from atop the Forbidden City

With China’s coal demand the primary driver for a slew of mine investments over the past decade, this trend could derail a list of capital-intensive coal projects from Australia to Indonesia and Mozambique.

Even without the environmental drive, new railways from mines to ports, falling investment in coal-fired generation and slowing power demand growth could result in China’s miners exporting some of their surplus output at competitive prices, hitting regional miners and the viability of new projects.

This is a major shift for a country that built an average of two coal-fired power plants every week in the last decade, went from net exporter in 2009 to the world’s top importer just two years later, and burns nearly as much coal as the rest of the world combined.

“China is kicking its coal addiction,” said Chen Yafei, vice-director at the China Coal Research Institute. “With slower economic growth and a big push towards gas and renewables, the golden decade for coal is over.”

China’s coal imports grew 17 per cent in the first 10 months of the year, down nearly half from the 30 per cent in the same period last year.

China is kicking its coal addiction. With slower economic growth and a big push towards gas and renewables, the golden decade for coal is over
Chen Yafei, China Coal Research Institute

With weak demand and high domestic output, inventories have been stuck at record-high levels of 300 million tonnes most of this year.

China’s massive jump in coal use – to 3.8 billion tonnes last year from 2.5 billion tonnes in 2006 – drove prices of benchmark Asian thermal coal to an average of US$121 a tonne in 2011 from less than US$50 five years earlier.

But a raft of mine expansions during the boom years and weak demand caused by the global slowdown in economic growth pushed prices to a three-year low near US$80 a tonne in October last year, and they have stayed below US$100 since.

Goldman Sachs expects seaborne coal trade to grow at just 1 per cent until 2017, compared with 7 per cent from 2007-12.

Miners bullish on demand are planning projects in areas that need significant infrastructure investment, such as the Galilee basin in Australia and the Sumatra region in Indonesia, but they need high prices for the projects to make sense.

India’s GVK Power & Infrastructure and Adani Enterprises are amongst those spending billions of dollars on new mines in the remote Galilee Basin.

State coal miner Bukit Asam’s US$2 billion coal railway project in south Sumatra is in doubt after Adani pulled out. Sumatra holds half of the country’s resources but accounts for just 4 per cent of output, owing to infrastructure constraints.

In Mozambique massive spending is needed on railways and ports to allow companies like Rio Tinto and Vale to make the most of potential reserves.

“The prospect of weaker demand growth and prices at near marginal production costs suggest that most thermal coal growth projects will struggle to earn a positive return for their owners,” Goldman Sachs said in a report.

In Australia, about 40 out of 71 thermal coal mines surveyed by consultancy Wood Mackenzie had a cash cost of above US$87 a tonne, while many of the proposed projects require a coal price of US$120 a tonne to be viable, according to a report by Australia’s Centre of Policy Development.

The pollution question in China is huge, so they will shift more towards gas for transportation and in power, no matter how high the price is
Ian Taylor, Vitol

They could soon find themselves competing with Chinese coal, which is set to become more competitive as production costs fall.

Beijing is mulling proposals to scrap a 10 per cent coal export tariff, a move that could easily cause shipments to jump fourfold to the annual quota of 38 million tonnes as Chinese coal becomes more competitive.

Plans by the railway ministry to double the volume of coal carried on dedicated railroads to 2.4 billion tonnes by 2015 will cut production costs, as will an ongoing mine consolidation.

Railway tariffs cost about 0.15 yuan per tonne for each kilometre, less than half the cost of about 0.35 yuan by truck, according to data from the China Coal Transport and Distribution Association.

More coal moving by rail will cut China’s average production cost for thermal coal in the next two or three years by US$10-$15 a tonne to US$80-90, including value-added tax, according to brokerage CLSA.

Power demand growth has fallen even further than economic growth as China has cut its energy use to about 0.7 times growth in gross domestic product, according to Reuters calculations based on data from the statistics bureau. That compares with an average multiplier of 1.1 times from 2005 to last year.

A surge in hydropower, nuclear and gas power has cut coal’s share in power generation to 73 per cent this year from 78 per cent in 2007, and this is set to move even lower.

“The pollution question in China is huge, so they will shift more towards gas for transportation and in power, no matter how high the price is,” Ian Taylor, chief executive of Swiss trading house Vitol, said.

“The move will come largely at the cost of lower coal use. I personally worry that coal is going to be a problem, as demand will come off much faster than we think.”