Beijing is considering the establishment of a shale demonstration zone in an area roughly the size of Germany where it will auction off rights to private companies in land currently administered by state-owned companies Sinopec and CNPC.
As Beijing continues with its corruption probe and consolidation efforts within key industries, Chinese President Xi Jinping’s vision for reforming the oil and natural gas sector has become clearer. During the last few months, various officials from the State Council and other key Chinese institutions have revealed some of Beijing’s plans for the sector, and China is preparing to announce these plans later this year. One common rumor from other sources has been the merger of Chinese state-owned giants China National Petroleum Corp. (CNPC) and China Petrochemical Corp. (Sinopec). However, both corporations have categorically denied the rumor, and the leak of Beijing’s plans paints a different picture.
Under this scenario, Beijing will continue to reduce the power of its major oil corporations, introduce more market-oriented reforms, and encourage competition between China’s national oil companies and foreign private companies. In making the energy sector more market-oriented, China will continue to liberalize various pricing mechanisms, possibly removing government control entirely. Beijing will open up a number of areas to private companies throughout the sector. This will include stripping ownership of some of China’s major national oil companies’ assets. As with market-based reform and deregulation measures being introduced in other sectors, the broad end goal is to increase efficiency and lower costs and prices as the Chinese economy slows down.
Analysis
Beijing clearly is using its anti-corruption campaign as a way to remove any resistance within the “Big Three” state-owned oil companies — CNPC, Sinopec and the China National Offshore Oil Corp. (CNOOC) — to Xi’s reforms. Beijing recently issued a one-sentence statement April 27 that it had opened up a corruption probe into Sinopec President Wang Tianpu. […]
Reform Initiatives
China has long been a major hydrocarbon producer and now ranks as the fourth largest oil producer, behind Russia, the United States and Saudi Arabia. However, decades of oil production, the decline of easily exploitable resources and the rise of domestic natural gas consumption have forced China to develop more expensive and more technologically challenging resources. Overcoming these constraints requires a shift in the way the industry operates for a number of reasons. One of the problems is that many of the new resources China is developing are too expensive and/or risky for a single bloated company like CNPC to develop, forcing China to allow partnerships with other entities. This is not a new phenomenon: CNOOC has signed more than 200 production-sharing contracts, and Chevron Corp. and others have been active partnering with Sinopec and CNPC onshore.
While partnering with international oil companies has been successful in many ways, China is moving to the point where private investors are being allowed to invest without partnering with these international firms. This was first allowed in 2012 when China launched its third-round shale auction, in which domestic private companies were allowed to bid. Unfortunately for Beijing, the bidding round has not produced very successful results in exploration activities. First, due to the historic dominance of the Big Three, China never developed private oil companies with the access to technologies needed tounlock shale gas resources that even the Big Three had little to no experience with. Now, China is aiming to take private investment freedom one step further and allow foreign firms to secure oil and natural gas blocks in some areas and operate them themselves.
Second, and more important, CNPC and Sinopec hold almost all of the promising areas for any hydrocarbon production potential. It should be no surprise, then, that China’s winners in the third round have had little success. Moreover, foreign companies would not be interested in buying up blocks with little potential. There are only two solutions to this problem, and both put Beijing’s interests squarely against those of Sinopec and CNPC: Reclaim parts of Sinopec’s and CNPC’s land, or allow international oil companies to operate independently of Sinopec or CNPC on their land. Breaking down Sinopec’s and CNPC’s dominance in areas like this is one of the reasons that diminishing their political power is key, especially in areas where shale development will be popular, such as Sichuan province where Zhou held the State Council’s top office.
Beijing will use a combination of both options to solve the exploration problem. It likely will reclaim some of Sinopec and CNPC’s land and auction it off. Moreover, Beijing is considering the establishment of a shale demonstration zone in an area roughly the size of Germany in the southern half of the country, where it will auction off rights to private companies in land likely currently administered by Sinopec or CNPC. Beijing is also considering a two-tiered system of oil and natural gas rights. The details are not clear, but it could involve letting Sinopec and CNPC retain the rights to conventional oil and gas deposits in a block while auctioning off the rights to underlying shale resources to other companies. Regardless of the extent of these plans, they will mark the first time that foreign companies are allowed to invest directly in China’s upstream sector alone — a fundamental shift in the way China’s energy sector operates — and will force Beijing to introduce rules and regulations on entities it has very little control over.