China’s Got a Problem With Gas

Saturday, March 22, 2008 18:28
Posted in category Uncategorized

Yesterday, my post Senior Economists: China to Surpass by 2025 – Me: HOW? looked at the fact that China would need to overcome some large raw material barriers to maintain a level of growth that would propel the economy past the U.S.’s.

With oil going about 105 USD per barrel this week though, I think we have found a point on the curve where China’s sustainability see a barrier… as at this level, where petro companies make more money by exporting their gas rather than selling it domestically (I think)

My proof? 3 days I ago I began seeing lines of motorcycles in my neighborhood waiting for gas… and today while riding out to a migrant school, it was trucks. 20-30 deep… and,when asked, the bus driver was telling us that the lines were becoming worse and worse

Being at the front of the bus, I asked the driver about the current rations, and he told me that the current rations allow for each driver to buy a maximum of 200RBM of gas, and that if they need more they have to go to another station.

Now, I have done absolutely no research to understand how widespread this is, however I am going to make a guess that this is a phenomenon that only gets worse in the hinterlands.

Where this is important is that, as I discussed in China’s Economy is Running Out of Gas… Literally, transportation costs and delays are increasing (pay attention JIT exporters), price hikes are coming, and this issue will get worse as more cars hit the road.

i.e. the curve is no longer linear… it is becoming exponential (as the graph shows)

What do you think could be done? Petro China thinks a price hike is in order, but what about reducing the number of cars on the road? Will the strategic oil reserve help?

Update: Here is a interesting article on Petro China’s recent earnings release, where the opening paragraph is:

PetroChina Ltd. said Wednesday that profits rose by just 2.3 percent in 2007 as government controls blocked it from passing on record-high crude costs to consumers, though a Chinese auto-buying boom drove a 21 percent jump in total sales.

So, my last question is what would petro prices move to if they were priced to market?

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6 Responses to “China’s Got a Problem With Gas”

  1. Levin says:

    March 23rd, 2008 at 7:42 am

    Penetration rate of cars in China is still low. Wait till it gets higher.

    Furthermore, what will happen to Chinese exports when the transportation cost of goods to western world outstrips the labour cost saving by manufacturing goods in China ? Will closer labour pools be more competitive, like Mexico, Brazil, Eastern Europe ?

    Hopefully Chinese will realize that their manufacturing industry is built on top of relatively cheap oil.

  2. Rich says:

    March 23rd, 2008 at 7:12 pm

    Levin,

    I am not an oil expert, nor a member of the Bush family, but I am curious to know what China does pay for oil. I have heard that China’s oil quality, particularly for petro and diesel, is lower than anything the EU or US would accept… and in addition to world prices moving up, the fact that they need to improve the quality of their fuel is also going to add up as well.

    R

  3. Cao Meng De says:

    March 24th, 2008 at 8:26 pm

    Price control always lead to shortage. Never worked before, Never will. Time to phase out the price control. High prices would naturally lead to conservation and curb wasteful use of energy.

    I am highly biased as I have large stake in PetroChina. But even as a super patriot, I applaud PetroChina’s decision to sell oil to Japan rather than refine at loss to sell at artificially low level domestically. If China is serious about cooling down overheated economy. Let the energy price rise, also lift the curb on electricity tariff (I am biased again, I own stocks in Huaneng Power) , market will do the rest.

  4. Rich says:

    March 24th, 2008 at 8:51 pm

    Cao Meng De,

    Good to get the biased perspective, and in theory I would agree with you that the market should be making the pricing decisions.. really, they should have been long ago when everything was cheap and inflation had yet to build pressure.

    Now though, the government is worried about inflation and I am not sure that the healthy steps are being taken.

    So, what is the next investment model with this in mind? Who (besides the laobaixing) will benefit from the price controls?

    R

  5. Cao Meng De says:

    March 24th, 2008 at 11:45 pm

    Rich

    R u asking for stock tips? : )

    Actually I like PetroChina and Huaneng Powers at the present price level (I mean as traded on Hong Kong or New York, Shanghai is still expensive), Everybody have discounted these two because of price control and that has already being factored into the price of the stock. I don’t think the price control will last. When government is forced to change course, the stocks will take off. Just a little Contrarian thinking.

    But keep in mind Mr. Buffett started to sell his PetroChina shares when the shares are about $147 on New York Stock Exchange. Of course he had to sell early because of the huge holdings he had. Right now PetroChina trades at $123 in New York. So your upside in short term is probably limited. Then again, you don’t have much downside, IMO.

    What I like is actually something less energy intensive but nonetheless will be in high demand whether the economy slows down or not. I just opened positions in NetEase(NTES) and Shanda (SNDA) last week. They operate multiplayer online games.

    NetEase has been the most profitably Chinese company for last 4 years, higher margins than the oil companies, higher than Baidu. Being a former computer game junky and knowing my peers in China, this is a growing industry. They are basically selling products to addicts.

    But I never had chance to buy into these companies cheaply until recently. The Bear Stearns and state of US financial industry really had people scared. But I am following the axiom “be fearful when others are greedy and be greedy when others are fearful”

    When I had seen Richard at Peking Duck and Kaiser Kuo talking about skyfalling, I knew it was time to get greedy. So I pulled the trigger.

    Of course, you should do your own research before buying any stocks.

    It just occured to me that you might be ask about economic development model rather then stocks, hmm. I feel a little silly.

    Anyways, Nobody really profits from price control not even Laobaixing. Cuz artificial low prices discourage production which leads to shortage. That’s why there were always long lines to purchase basic goods in ol’ Soviet Union and China before 1982. That’s why price control never worked. But hey maybe I am just being brain washed by Milton Friedman.

    China is 8 times less energy efficient in producing an unit of GDP than Japan. Higher energy prices will force wasteful industries to find ways to produce more with less energy. Meanwhile lift the cap on electricity price will encourage power companies to expand capacity.

    China has a lot of coal and coal won’t run out in a while yet but coal is very dirty source of energy. Government need to spend more on clean coal technology or create incentives to build more nuclear plants. More investment is also needed to expand and upgrade infrastructure that it will be cheaper to transport coal from north and west to south and east.

    Oh and let the RMB be completely convertible meaning more appreciation against the dollar. It’s not enough to hike the interest rate. Money supply has been growing too fast. The influx of dollars via trade surplus and Chinese Central Bank’s effort at “sterilize” the inflow meant more printing of RMB and we are consequently importing inflation from United States, esp , as Bernanke crank up the money printing press.

    I believe that combination of high energy price and tightening of money supply will kill off the inflation. This should be No 1 priority for the leadership.

    High inflation is what lead to 1989. High inflation also killed KMT regime after World War II. And it’s alway better to act sooner than later.

  6. Cao Meng De says:

    March 25th, 2008 at 1:28 am

    I just reread my piece and realized that I wasn’t making sense at all.

    Let me explain myself.

    High rate of inflation occurs when money supply grows too fast. Chinese government have step in the right direction by raising rates and reserve requirement. But that’s not enough.

    Right now, exchange rate of RMB is managed instead of floating. Therefore Central Banks have to buy dollars as much as $200 billion per year (equivalent to its balance-of-payments surplus, this is 2005 figure) to maintain the yuan’s exchange rate against the U.S. dollar.

    This is equivalent of increasing the money supply by printing extra $200 billion worth of RMB. Massive intervention of $200 billion per year has been directly boosting the amount of base money by 1.6 trillion yuan ($1 = 8 yuan, again 2005 figure) a year, which represents an annual increase of approximately 30%.

    To counter this, The People’s Bank of China (Chinese Central Bank or PBOC) opt for sterilization policy whereby PBOC sell government debt to contract the money supply by an equal amount.

    An underestimated RMB appreciation rate and, in particular, previously unsuspected large inflows of hot money are resulting in overly huge foreign exchange reserves, making extremely difficult the sterilization operations of the central bank.

    I believe the only realistic solution is to let RMB float. Higher RMB will make import of dollar-denominated commodities cheaper, including oil.

    With free floating currency, PBOC’s raise of interest rate will be more effective in contracting the money supply.

    Oil will still be high though. Export will slow due to strengthening RMB. High energy price plus slowing export will dent demand for energy and commodities thereby denting inflationary pressure. Yes I am part Monetarist part Keynesian.

    That’s my theory, anyway.

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