by Ryan McKinley
As China is the world’s number one energy consumer, what happens in its energy sector has large and widespread implications around the globe. Until fairly recently, the Chinese have been content with producing domestic sources of coal to power their industries. But as concern for the environment grows and hydraulic fracturing technologies improve, developing China’s unconventional natural gas reserves may become more enticing for Beijing. This paper seeks to outline some of China’s current challenges in, and reasons for, exploiting these assets. In short, it explores the potential for a North American style “shale-gas revolution” in the world’s largest energy market. As I will argue, it’s more likely than you might think.
China is the single largest consumer of coal, and its consumption accounts for almost half of total global consumption.
China’s Coal Problem
As the tendrils of coal produced smog choke the residents in most of China’s largest cities, calls for pollution reduction have garnered the attention of the Chinese Politburo. The industrial behemoth, with 69% of its primary consumption relying on coal, has historically sought to secure its energy resources by relying on domestically produced coal, while eschewing imports of potentially more expensive and foreign-produced natural gas. On paper, producing its own power using domestic coal makes sense for China as it has the third-largest reserves in the world, behind only the United States and Russia according to the Energy Information Administration (EIA). What is most noteworthy, however, is that China is the single largest consumer of coal, and its consumption accounts for almost half of total global consumption. The environmental cost of this is most tangible to those living in highly industrialized cities. In fact, only 3 out of 74 of China’s biggest cities met minimum air quality standards last year. On March 5th 2014, Reuters reported that Chinese Premier Li Keqiang declared pollution in China “nature’s red-light warning against inefficient and blind development.” Unfortunately, details of how China would go about improving pollution levels were scant. While Li Keqiang did not state it outright, Beijing is likely considering lowering its consumption of coal in order to decrease CO2 emissions and improve air quality. In the U.S. for example, CO2 emissions hit a 19-year low in 2012 due to an increase in the use of natural gas by 10% and a decrease of coal consumption by 13%. However, it is not just for environmental reasons that China may want to shift away from coal.
Coal’s biggest advantage in China, apart from being cheap, is that it could be produced domestically, thereby reducing dependence on foreign supplies – a central theme underpinning China’s energy security strategy. But as consumption has risen, domestic production has not been able to keep pace and China became a net-importer of coal for the first time in 2009. This means that not only has coal become less secure, but it becomes exponentially less beneficial as its effects on the environment and human health become more apparent. Could domestic production of shale gas be the answer to China’s environmental and energy security concerns? For starters, it is necessary to examine the amount of shale gas that is potentially available to the Chinese.
China has roughly 144.4 trillion cubic meters of shale gas—larger than total U.S. reserves by 50%. Of these 144.4 trillion, China is thought to have somewhere around 36.1 trillion cubic meters of technically recoverable deposits.
Assessing Shale Gas Reserves in China
Gas currently represents around 4% of China’s primary energy consumption. However, domestic gas production has begun to grow considerably, and Beijing has recently started importing piped gas from Turkmenistan and Myanmar, as well as liquefied natural gas (LNG) from various exporters. The shift towards utilizing natural gas to keep its economy moving forward seems almost inevitable, and many believe that shale gas will play a crucial role in this transition. Some estimate that China has roughly 144.4 trillion cubic meters of shale gas—larger than total U.S. reserves by 50%. Of these 144.4 trillion, China is thought to have somewhere around 36.1 trillion cubic meters of technically recoverable deposits, a sizeable amount in its own right.
There are three major basins which are believed to be the most favorable in terms of reservoir qualities: the Sichuan Basin in south-central China, the Tarim Basin in north-west China, and the Ordos Basin in north-central China (including Inner Mongolia). Furthermore, there are roughly seven additional basins scattered throughout the country with sizeable quantities, but less favorable reservoir qualities. It is important to note here that although the estimates for these fields are staggering, shale gas developments are still in their early stages. Very limited drilling has been carried out in these locations and highly detailed information on shale formations is either limited or not available. Most estimates have been done based on analogous major shale gas formations in the U.S. Regardless of whether the numbers are higher or lower than initial estimates, the potential for largescale development of shale gas certainly exists. But this does not answer the question of whether or not China will pursue these reserves or simply opt for less technologically intensive alternatives. To compare this to the study of physics, how willing and able is China to take this potential energy and convert it into kinetic energy?
The Challenges in Developing China’s Shale Gas
The gas deposits mentioned earlier are located from 2,438 to 6,400 meters (8,000 to 21,000 feet) below the earth’s surface. The process of exploiting these resources is known as “hydraulic fracturing” or simply “fracking.” In short, this is done by injecting fluid that is typically mixed with water and sand/or chemicals into rock formations, fracturing the rocks and forcing them to open. These fractured rocks allow oil and gas to flow out of the formation into the wellbore (the hole created) from where it can be extracted. With this in mind, what are some of the obstacles standing in the way of a Chinese shale gas boom?
There is still a big need for foreign expertise in China, and fracking is generally undertaken by small-medium sized companies (SMCs) in the U.S. Indeed, China is a challenging place for foreign companies, and this may restrict their development of shale gas assets.
The process of fracking presents three major hurdles for Chinese energy companies. First, the amount of water required to carry out this process is enormous, and it will be difficult to supply the amounts needed as the country already faces severe water shortages. Second, the process requires the available infrastructure, most notably pipelines, in order to transport these resources to the market. Compounding this problem is the fact that the process of fracking generally requires a high degree of mobility. Wells that are being fracked generally have short lifespans. This means that the operation has to be picked up and moved to a new location fairly regularly. Thus, transportation issues become a serious problem. Last, and arguably most critical, is the lack of fracking technology in China. It is for this reason that some experts such as Fan Gao, a Bioinformatician at MIT, caution against optimistic assumptions for China’s shale gas boom. According to him, there is still a big need for foreign expertise in China, and fracking is generally undertaken by small-medium sized companies (SMCs) in the U.S. Indeed, China is a challenging place for foreign companies, and this may restrict their development of shale gas assets. According to him “the scale of risks and uncertainties involved are unfavorable for small or medium size independents seeking quick turnover and returns”. Additionally, unlike their major IOC counterparts, these SMCS may be uncomfortable working with major Chinese national oil companies (NOCs) and may find the new business climate and regulations daunting.
In 2009, Chinese authorities announced plans to ramp up shale gas production with a target production of 20-40 billion cubic meters per annum by 2020.
While these companies generally specialize in extracting shale gas, they face substantial barriers and are generally viewed unfavorably by Chinese NOCs for a few reasons: the aforementioned lack of full-scale appraisal of shale resources in China; the lack of selection of prospective blocks by these companies; and the unproven ability of existing techniques to extract gas from the geologically challenging shale basins. It is worth emphasizing that the competition between these SMCs has largely driven the technological innovation needed to ignite the shale gas boom in North America. Without these companies, fracking in a country dominated by national oil companies (NOCs) would likely prove to be a slow and arduous endeavor, as the technology to exploit shale gas in China’s difficult terrain would be slow to develop. This competition would also be hampered by the regulated domestic gas prices – greatly decreasing profit margins – and by the fact that distribution networks are owned by NOCs.
Overcoming the Obstacles
But the indicators for China’s shale gas boom are of course not all negative; the challenges presented by lack of infrastructure, water shortages, and technological capacity can be remedied. Recent developments in fracking technology have rendered the use of water in the process obsolete; as it can be replaced with carbon dioxide. But, according to Kevin Bullis from MIT Technology Review, “if this process is going to be used on a large scale, it will require a major investment in infrastructure for getting carbon dioxide to fracking sites.” This sort of large scale infrastructure, which the Chinese are accustomed to building, can be developed to get the gas to markets, and the missing competition amongst SMCs in the country could be replaced by partnerships with IOCs and Chinese NOCs.
Shell, in conjunction with PetroChina, has already invested $1 billion a year to tap into China’s vast basins of shale gas.
Overall, the Chinese government views shale gas development rather favorably. In 2009, Chinese authorities announced plans to ramp up shale gas production with a target production of 20-40 billion cubic meters per annum by 2020. Fulfilling this goal would see shale gas production account for about 10-15% of China’s total gas production, though this number is probably optimistic. Fan Gao notes that “operators seem to be much more cautious than policy makers” about how much shale gas can be produced. Companies in the industry simply do not share the ambitious production numbers put out by the government, mostly due to the lack of exploration that has been completed.
IOC Involvement and Chinese Government Initiatives
In spite of this, large IOCs with extensive experience operating abroad are lining up for the chance to develop China’s shale gas. Shell, in conjunction with PetroChina, has already invested $1 billion a year to tap into China’s vast basins of shale gas. Chevron has formed a joint venture with China National Petroleum Corporation (CNPC) and has begun exploring the Sichuan basin.
ConocoPhillips has also formed a joint venture with Sinopec and will be competing for reserves with Chevron in the same basin. Perhaps the competition between these “teams” will help quicken the development and spur a shale gas revolution after all. In addition, China has begun auctioning off areas in these basins and in 2012 awarded 19 shale gas blocks to 16 different companies. Naturally this has kicked up the number of competitors looking to turn some profit, and encouraged a third round of bidding in late 2013. Although, as expected, these companies are finding production and exploration challenging given the deep drilling depths and tough operating conditions, such as mountainous regions and densely populated areas. However, it should also be noted that the risks taken by these companies may well be worth it. Beijing now has 2,000 vehicles powered by natural gas and is seeking to increase this number substantially. Furthermore, according to the Beijing Environmental Protection Bureau, a total of 7,000 natural gas powered public buses will be put into service by the end of 2015. While this number isn’t exactly overwhelming, the emphasis being placed on the emerging role of natural gas in the Chinese economy by the government is noteworthy. In other words, Beijing is at least acknowledging its intention to increase natural gas consumption. For this reason, the potential profit in the Chinese market seems simply too big to ignore for both IOCs and NOCs.
If Beijing can manage to lift some of the barriers and reduce the risks for foreign companies seeking to develop their shale gas reserves, we may well have a shale gas revolution that dwarfs the one going on in North America.
China’s addiction to coal is a problem that affects every resident in one way or another, and could even lead to civil instability in the future. The status quo cannot be maintained if China wants to continue with its unprecedented economic growth, and the most viable substitute is natural gas. As we have seen, coal is too polluting and damaging to public health. Generating electricity via renewables is generally expensive and unreliable, and oil is a poor substitute due to costs and the inability to produce enough domestically to match consumption. It is my opinion that while there might not be a Chinese shale gas boom in the short-term, perhaps in the coming decades it will become feasible. In the short-term, gas imported from foreign exporters will have to make up for any reductions in coal usage. However, if Beijing can manage to lift some of the barriers and reduce the risks for foreign companies seeking to develop their shale gas reserves, we may well have a shale gas revolution that dwarfs the one going on in North America. The reserves are enormous, and the Chinese seem to be enthusiastic about this potential. The government has recently prioritized land approvals, allowed tax-free imports of equipment, and has even begun offering subsidies to explorers. The results have been positive: shale gas output rose 200 million cubic meters in 2013 alone. While this is certainly not near the 117.7 billion cubic meters of conventional gas produced every year, it has made Sinopec optimistic. The company now thinks it can produce 3.2 billion cubic meters of shale gas annually by 2015. In the past, the Chinese have been willing to pay for their energy security by developing the infrastructure of other, supplier nations. Perhaps a shale gas revolution will happen if Beijing is willing to put in the effort and money domestically. The Politburo has historically had little qualm with developing infrastructure in other countries to secure its energy supplies, and given its enthusiasm for shale gas, it only makes sense for them to invest in their domestic infrastructure. If China can successfully enlarge its domestic gas production to the levels of (or greater than) the United States, the effects on global energy would surely be profound.
Ryan McKinley is an MA student in the ENERPO program at European University at St. Petersburg.
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