China's Pledge for Cleaner Fuel to Fight Smog Raises Cost Concerns

China has raised fuel standards to help clear the air, but new pricing policies for the cleaner fuel have cast doubt on plans for energy reforms.

On Sept. 23, the National Development and Reform Commission (NDRC) announced it would accelerate the drive to cut auto emissions with reduced sulfur content in gasoline and diesel fuel.

The move is part of the government's ambitious five-year plan to improve air quality in Beijing and over 300 other cities.

Over the weekend, intense smog conditions strangled cities and citizens in China's north, as poor visibility closed expressways and delayed flights, news agencies said.

Air monitors at the U.S. Embassy in Beijing recorded particulate readings well in excess of hazardous levels, according to the Associated Press.

Darkened skies snarled travel at the end of the Golden Week fall holiday and disrupted sports events.

Beijing authorities have estimated that the city's 5.37 million vehicles account for 22.2 percent of its overpowering smog.

Coal burning ranks second as a source, contributing 16.7 percent, the city's Development and Reform Commission said last month.

High-grade fuel requirements

The central government has already required high-grade fuels to be made available for Beijing with sulfur content below 10 parts per million (ppm), the official Xinhua news agency said.

While China's "fifth-phase" fuel is equivalent to Europe's Euro V standard, higher sulfur is still allowed in most of the country, where "third-phase" fuel is sold with content up to 150 ppm.

"Fourth-phase" fuel, with sulfur content of up to 50 ppm, will be required by next year for gasoline and by 2015 for diesel, while the fifth phase is set for 2017.

Air quality benefits are expected to be significant, with an 82-percent drop in vehicle particulate emissions from shifting from fourth to fifth-phase fuels alone, the NDRC and the Ministry of Environmental Protection said.

Higher costs

But the upgrading costs to refine the new fuels will also be substantial.

The NDRC estimates that production costs for oil companies will rise 30 percent, Xinhua said.

To shift some of the burden onto consumers, the NDRC has ordered price hikes of 290 yuan (U.S. $47.37) per ton for fourth-phase gasoline and 370 yuan (U.S. $60.44) per ton for diesel to be charged over the next two years.

Drivers would pay an additional 160-170 yuan (U.S. $26.13-27.76) per ton for fifth-phase fuels after 2017, the NDRC said.

The pricing policy is aimed at making users pay 70 percent of the upgrade costs, said Hong Kong's The Standard, citing mainland reports.

By charging consumers, the government may hope to speed up the upgrades by assuring refiners that they can cover their costs.

Premium 'too low'

But one of the problems is that the numbers do not seem to add up.

According to calculations based on prices cited by The Wall Street Journal, the increase for fourth-phase gasoline would be only 3 percent of retail costs, not 30 percent.

Total price hikes for fifth-phase fuel would be only about 5 percent of current rates, leaving producers to bear the major share of the costs.

The modest increase appears to be a half-measure aimed at appeasing the public. Similar pricing policies for power consumption have done little to promote conservation in the past.

"The premium is too low," said Philip Andrews-Speed, a China energy expert at the National University of Singapore. "This implies heavier refining losses for the companies and possibly larger subsidies."

Without market pricing, higher consumption may erode the benefit of cleaner fuels.

A step back

The policy may be seen as a step forward for environmental regulation but a step back from energy reforms after the new government ordered more frequent adjustments in fuel prices as one of its first orders of business in March.

The new rules, based on international price changes over 10 working days, have been generally seen as a success in reducing refiners' losses, but they still fall short of a fully flexible market system based on supply and demand.

On Sept. 28, for example, analysts were able to predict the NDRC's latest price change a day in advance by tracking international markets, according to Xinhua reports.

In the past, such price-setting rules have allowed speculators to play the system, leading to profiteering, hoarding and artificial shortages.

But the NDRC's announcement of price hikes for cleaner fuels through 2017 suggests the government has no plans to get out of the price-setting business anytime soon.

"Given that oil product prices are meant to react to international prices, I don't see how they can set an actual future price today, though they could set the premium," said Andrews-Speed.

"All this is inconsistent with the rhetoric of the new government which emphasizes reform and market forces," he said.