China: A role model for Asia?

Aonce popular adage was ‘the West innovates and the East follows’. This leader/laggard relationship has broadly held true across a number of business sectors over the past decades but with one notable exception, the energy sector.

If western energy markets are defined as mature then most of Asia’s energy markets could be classified as embryonic, and with significant development potential. Asia is rich with energy resources, from fossil fuels to renewable resources, but many Asian economies lack the necessary internal infrastructure to fully realise this resource potential and to provide the consequent socio-economic benefits.

A comparison of the risks in EU and ASEAN energy markets would likely identify socio-economic and environment as being the main risk categories in most ASEAN countries, particularly the least developed, while security and finance would present the major risk concerns in most EU member states. This disparity in risk concern largely reflects the differences in economic maturity and energy policy objectives between the two economic regions.

Mature economies, such as in the EU and USA, generally present low socio-economic risks due to efficient infrastructure and robust per capita wealth supported by economic growth outpacing population growth. But because the pace of economic growth tends to slow in a mature economy these countries are increasingly exposed to financial risk, as seen with the 2008-09 recession. Security presents with a risk because economic development has either consumed the available indigenous energy resources and, or, energy and environment policy changes have rendered some indigenous resources unattractive, with the net result being that many mature economies become increasingly dependent on imports to maintain security.

Developing economies, including most ASEAN countries, tend to have poor rural infrastructure that leads to high urbanisation, which exacerbates rural poverty and increases socio-economic risk. Governments have tended to address this poverty by providing energy subsidies but this has only reduced the resources available to invest in social infrastructure and has entrenched the socio-economic risk. Environment, the other major risk factor, is a consequence of an energy policy approach that prioritizes affordability, with coal being the cheap default energy resource.

So the question becomes this; can a largely developing economic region, where the prevalent risks are socio-economic and environment with an energy policy promoting affordability and security, learn lessons from more mature economic regions where the main risks are financial and security with a policy focus on security and sustainability?

The question is largely rhetorical. If Asia’s economies need a role model for energy market development then there are two regional economies that can be studied – Singapore and China. The former has successfully developed on the basis of low cost regulation and a competitive free- market economy, while the latter has been equally successful in its development that has been driven by infrastructure investment and strict regulatory control.

Of the two models, Singapore is closer to the ‘western’ economic ideology but apart from its geography it has little in common with other Asian ASEAN countries and particularly with respect to energy, as it has virtually no indigenous resources apart from some solar.

China is a far more representative energy market model for Asia, with a mix of indigenous resources (both fossil and renewable) and high urbanisation, and this representativeness as a role model will be further enhanced by the end of the decade as Beijing’s progressive reforms on pricing and the environment are enacted.

Since 2015 China has been reforming its electricity market, moving towards a more market-related and contestable model. But this is not the ‘big bang’ approach of Europe, Singapore or Japan where a consumption threshold was imposed above which all supply became contestable. Indeed there is no formal consumption threshold, which makes contestability voluntary.

Under the reform process, Beijing wants to encourage large industrial and commercial consumers to buy direct from generation companies based on direct electricity purchase agreements at negotiated prices.

The aim is that this approach will introduce market influence into pricing, which in turn will support infrastructure investment and enhance supply security.

Also included in the reform process is the opening of the retail sector to non- state owned investors, with over 300 new retail companies set up. And although operational guidelines have yet to be fully developed this provides the seeds of a more competitive retail market with private companies expected to compete against state-owned suppliers by differentiating their product offerings on service and tariff plans by tailoring them to data analysis and demand side management.

This progressive electricity reform approach could work in many other Asian economies, with the pace of reform dictated more by market demand than regulatory imposition. But before any market reform can be enacted all price subsidy has to end, and this is as much about political bravery as it is economic competence.

While progression to more market-related pricing and increasing supplier choice across Asia may be a longer-term aspiration, regardless of how successful China’s reforms are, Asia’s increasing environmental conscience should generate regional interest in China’s national emissions trading scheme that is scheduled to launch by the end of 2017.

And while there remains some frustrating opacity around the details of the ETS what is known is that the metric for emissions reduction will be emissions intensity, not absolute emissions, and allocations will be dynamic and based on the carbon intensity a specific sector must achieve to meet its emission targets. This shows Beijing has developed an ETS that has learned from the shortfalls in the EU ETS and also addresses climate goals without undermining economic growth.

Today’s Asia energy market is not a pass down from the US or Europe, and neither are these energy economies considered to be a role model for energy market development in the region. And in China, Asia has a potential role model that can guide the continent to a more sustainable, secure and affordable energy future.