China's global quest for oil

Demand isn't everything: the determined way in which China secures its oil supplies will further the interests of China Inc. But there will be opportunities as well as threats.

by Philip Andrews-Speed, World Business magazine
Last Updated: 23 Jul 2013

1. CHINA IS NO LONGER SELF-SUFFICIENT

China became a net importer of oil for the first time in 1993. But such has been its electrifying growth rate that in little more than a decade it has become dependent on imports for more than half its oil needs. By 2020, its domestic production will account for less than 30% of its oil consumption.

2. CHINESE DEMAND AND THE GLOBAL OIL PRICE

During 2003-04, a surge in economic activity, stimulated by government policy, drove up demand for oil in China by 25%, while domestic output rose by just 3%. Over this period, China accounted for 30% of the incremental global demand for oil imports. It also contributes to the high price of oil in another way: most of its refineries cannot cope with the 'sour' crude oils produced from the Middle East, and it prefers to import higher-quality, 'sweet', oils from West Africa, putting extra price pressure on this type of oil, which is preferred by many refiners.

3. DEVELOPING GLOBAL SOURCES WILL BRING CONFLICT WITH US

In order to satisfy its growing demand, Chinese energy companies are scouring the world for new sources. Inevitably, this brings China into conflict with the US. The two most prominent examples of this are in Iran and Sudan, where China is developing major oil interests.

4. POTENTIAL SOURCES IN RUSSIA AND KAZAKHSTAN

Increasingly, China is also looking to Russia and Kazakhstan for new sources of oil. There has been a long debate about the route of a new pipeline linking Russia and east Asia, and this seems to have been resolved in China's, rather than Japan's, favour. Meanwhile, an oil-export pipeline from Kazakhstan to China has recently been completed and will go into operation later this year. This will add to the strain on Sino-American relations and it is not difficult to imagine Central Asia becoming a new source of tension.

5. YET MORE CONFLICT

China's domestic production has become increasingly dependent on its western region, where the majority of the population is non-Han Chinese and is a potentially unstable region. In addition, China is hoping that the reserves off its continental shelf in the South China Sea will become an abundant source of oil. The problem here, though, is that they are a source of major dispute with Japan which has an overlapping claim to these maritime areas.

6. THE FUTURE

It is likely that China's growing demand for oil will lead to rising international tension and continue to be a major pressure for oil-price inflation. But the effects of China's rising demand will also be mitigated by two other factors. The country is diversifying its sources of energy.

At present only 2.5% comes from natural gas and less than 1% from nuclear power. In contrast, natural gas accounts for 25% of the world's total energy consumption, and nuclear power provides 12% of energy supply in neighbouring Japan and South Korea. China is also immensely inefficient in its use of energy and the government has recently put in place a package of measures to address this problem.

Two aspects of China's rising demand for oil will affect global business.

The first relates to the impact of this demand on international energy markets, on energy prices and on the behaviour of energy users. The second relates to the approach that China takes to secure its supplies. At home, the government has taken drastic action to restrain demand for oil, mainly by targeting industrial users, including power stations. As a result, in 2005, demand rose by less than 3%.

The Chinese national oil companies are also upgrading their refineries to take Middle Eastern crude oils and are constructing new refineries, which will ease the structural pressure on sweet and light oil. International investment in new oil production does seem to have accelerated in the past year, but little of the required investment in new refining capacity seems to be taking place, except in East Asia. This is, and may continue to be, the single most important economic factor underpinning high oil prices.

Thus the 'China factor' is only one driver of oil prices. The challenge for international business is how to respond to the current high oil prices, rather than how to deal with China's specific contribution to these prices.

All major energy users will need to review their strategies with particular regard to using energy more efficiently, finding ways to conserve it or seeking other sources of energy.

Though this requirement is independent of any obligations relating to global warming, in many cases both objectives may be addressed by the same strategies. These challenges will provide opportunities for manufacturers and service companies working in energy efficiency, energy conservation, emissions abatement and alternative energy.

LONG-TERM SUPPLY DEALS

The second aspect of China's oil demand - the manner in which it seeks to secure its supplies from overseas - provides both challenges and opportunities that are specifically related to China itself. The key elements of the government's strategy are to sign long-term supply deals with major oil exporters, secure import routes and invest in overseas oil fields. Over the past few years, China has signed major oil and gas supply deals with countries such as Saudi Arabia, Iran, Russia and Angola. Import pipelines from Russia and Myanmar are under discussion, and a pipeline from Kazakhstan has recently been completed. By the end of 2005, Chinese national oil companies had concluded investment agreements in more than 40 countries, and were negotiating in several others. The extensive involvement of the government in many of these activities, together with its willingness to do business with 'states of concern', has led to disquiet in governments and oil companies around the world.

FULL IMPACT OF 'CHINA INC'

Though energy security concerns are the main driver for the government's involvement, other considerations include foreign, industrial, trade and social policy. As a result, some countries are feeling the full impact of 'China Inc.', with the arrival of oil companies, oil service companies, construction companies, manufacturers and traders, usually accompanied by a low-cost Chinese workforce. These commercial activities are often backed by aid instruments provided to the host government by China, such as debt cancellation, grants and low-interest loans, and are underpinned by the intensification of diplomatic activity and, in some cases, military cooperation.

For these reasons, Chinese companies may prove serious competitors to international companies in certain sectors. In the countries in which they are active, the national oil companies are likely to play a leading role in China's commercial and diplomatic initiatives, on account of their size and the strategic significance of their business. Thus, national oil companies may be seen as a 'Trojan Horse' for the spread of China Inc.

While China's enterprises are unlikely to threaten the interests of the world's leading corporations, they may compete effectively with those that do not have leading-edge technology, skills or management expertise.

However, every threat to one party provides opportunities for others.

China's companies have a great deal to learn about operating in the international environment - as shown by the China National Offshore Oil Corporation's failed bid for Unocal in 2005. They will also need funding. Opportunities for law and accounting firms, banks and consultants, and oil companies, therefore, are set to grow.

- Philip Andrews-Speed is a specialist in China's energy policy and is director of the Centre for Energy, Petroleum and Mineral Law and Policy at the University of Dundee, Scotland.

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