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China's energy transition hinges on power sector recalibration, market forces

Highlights

Need for advanced power and carbon trading markets

Renewables need to be supported by market mechanisms

Changing landscape for electricity pricing and regulation

China's efforts to decarbonize its power sector has triggered intense debate about the role of its existing fossil fuel-based electricity system and the extent to which the system will have to be recalibrated.

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There is general consensus that an electricity supply chain based predominantly on renewables will have to be fundamentally different from one based on fossil fuels, mainly to handle intermittency issues and introduce market-based mechanisms for both power and carbon trading.

The debate however, is largely around securing smooth energy transition, ensuring stable power supply and the pace and criteria for decommissioning coal-fired plants. The recent energy crisis exacerbated concerns around indiscriminate phasing down of coal and volatility if electricity prices are deregulated in a market-based system.

"What I am anxious about is, after renewables dominate the power system, how will our juvenile power market be impacted," Xia Qing, Professor at Tsinghua University, said at a recent industry forum.

He said Shanxi's provincial power market, which hosts one of China's pioneer spot trading platforms, recently experienced volatile electricity prices that hit Yuan 594.2/Mwh ($85.99/Mwh) when wind power supplies were low, and dropped to Yuan 159.8/Mwh ($25.02/Mwh) in two days when wind power recovered.

"It is incorrect to say renewables have zero costs. It has to incur the cost of managing intermittency" Xia said, adding that renewable power producers are expected to offer competitive prices and simultaneously increase investments in storage.

Xia said that in a renewables-dominated power system two marketplaces are needed -- one market for the green electricity itself, that determines prices at different times of the day based on supply and demand fundamentals; and a second market when green electricity is insufficient, covering power sources like utility-scale battery storage, fossil fuels, pumped-storage of hydropower, etc.

"If such a market mechanism can be implemented, electricity suppliers will proactively invest in technologies like storage capacity, driven by price signals," he said, adding that consumers also need to be motivated to change their habits and choose renewables.

"The government's role is to set the boundaries of the market and give free rein to market forces within this boundary. However, it will take time for the government to understand the market and make 'the invisible hand' more powerful," Xia added.

Market forces

"I don't think a high-quality system merely means clean or high efficiency. High-quality means realizing energy transition at an optimal cost," Jiang Liping, Vice President at State Grid's Energy Research Institute, said.

"Our power system will become increasingly diverse in terms of technologies and market participants. Government-setting plans and regulations alone cannot manage it. The market force is of vital importance," she added.

China has been gradually introducing electricity trading in a predominantly regulated power market. It its pilot program for green electricity trading between consumers and generation companies on Sept. 7, jointly managed by the two state-owned power grids, State Grid and China Southern Power Grid.

The system has yet to evolve into a fully effective and powerful market mechanism that can support renewables. One of China's challenges is its large size and the lack of a system to transfer and sell power from renewables rich remote provinces in the north to demand centers further south.

"We need to think about this on a national scale. The government needs to facilitate inter-regional power transmission. Meanwhile, a market mechanism should also be well established that supports inter-regional power trading," Huang Shaozhong, former director with National Energy Administration, Northwest Regulatory Bureau, said.

"Currently, Jiangsu, Zhejiang and Guangdong provinces [in the east and southeast regions] are reluctant to buy electricity from the Northwest. They asked for low prices and are concerned about the negative impacts on local employment and taxation," Huang said.

Changing demand landscape

Huang said some export-oriented companies in Zhejiang province are already facing requirements from their international customers that a proportion of their electricity usage must come from renewables. "This is a good channel for us to boost renewable consumption," he added.

There are other signs that higher power prices will be passed on to high-usage consumers. During the recent energy crisis, China had lifted some regulated power prices to cover surging fuel costs for utilities and make emission-intensive industrial sectors pay actual power prices.

For instance, Sichuan's average thermal power price for the electrolytic aluminum sector increased by 74.3% from the baseline price to Yuan 699.29/Mwh ($109.48/Mwh) in Nov., Wang Peng, Dean at North China Electric Power University, said.

"For each emission-intensive sector, we are setting benchmarks of energy consumption per unit of output," Wang said.

The dilemma for Chinese policymakers is where to draw the line between higher power prices and the impact on economic growth and industrial sectors that are already under pressure.

The power sector has pioneered decarbonization, where it is relatively easier to implement, but industrial sectors like steel and cement are expected to face greater decarbonization costs considering undeveloped technologies, Yang Lei, Associate Dean with Beijing University, Institute of Energy, said at the forum.