VZCZCXRO5111
PP RUEHCN RUEHGH RUEHVC
DE RUEHBJ #6936/01 3050906
ZNR UUUUU ZZH
P 010906Z NOV 07
FM AMEMBASSY BEIJING
TO RUEHC/SECSTATE WASHDC PRIORITY 3194
RHMFIUU/DEPT OF ENERGY WASHINGTON DC PRIORITY
INFO RUEHOO/CHINA POSTS COLLECTIVE PRIORITY
RUEATRS/DEPT OF TREASURY WASHDC PRIORITY
RUCPDOC/USDOC WASHDC PRIORITY
RHEHNSC/NSC WASHDC PRIORITY

UNCLAS SECTION 01 OF 02 BEIJING 006936 
 
SIPDIS 
 
SIPDIS 
SENSITIVE 
 
STATE FOR EAP/CM PSECOR, AND EB/ESC SIMONS AND HAYMOND 
DOE OEA FOR CUTLER, NAKANO 
TREASURY FOR OASIA DOHNER, CUSHMAN 
USDOC FOR 4420 
USTR FOR STRATFORD/WINTER/ALTBACH/MCCARTIN 
 
E.O. 12958: N/A 
TAGS: ECON ENRG EINV PGOV EPET EFIN CH
SUBJECT: CHINA/ENERGY: TENSION AMID SHORTAGES AND PRICE HIKES 
 
REF: Beijing 1734 
 
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SUMMARY 
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¶1. (SBU) Amidst fuel shortages and even the death of a line-jumper 
at a gas station in Henan Province, China's National Development and 
Reform Commission (NDRC) has raised refined oil prices by USD 
9/barrel and gasoline/diesel prices at the pump by 20 US cents per 
gallon.  The goal is to encourage domestic oil refiners to increase 
production.  Oil refiners, unable to pass through increased costs 
for imports, have recently faced significant losses.  Government-run 
refiners have continued to produce under pressure, but the 
independents, which account for around 15 percent of the country's 
refining capacity, have moved away from gasoline/diesel and will 
likely find today's price hike insufficient to resume production. 
Another headache for the government may be consumer outrage at 
paying higher prices amid continued shortages.  END SUMMARY. 
 
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BEIJING UNEXPECTEDLY RAISES OIL PRICES 
-------------------------------------- 
 
¶2. (U) Late evening October 31, the NDRC unexpectedly announced an 8 
percent price increase effective today for refined petroleum 
products: RMB 500 per metric ton, or approximately USD 9/barrel 
(converted at USD 1 = RMB 7.5).  This rolled back a 4 percent price 
reduction from January and came as gasoline and diesel shortages, 
the worst in two years, have been spreading throughout China's 
coastal provinces and recently showed signs of moving inland, with 
anecdotal reports of diesel shortages even in Beijing.  Media quoted 
local police in Henan Province as reporting that a customer was 
killed at a service station on October 30 in Xinyang after angering 
another customer by jumping in line. 
 
¶3. (SBU) The government action is meant to encourage refineries to 
produce more gasoline and diesel in response to the shortages.  A 
Citibank analyst estimated that the oil companies recently have lost 
approximately USD 10/barrel of oil they refine due to the large gap 
between China's regulated prices and international oil prices.  The 
price increase addresses about half of this loss, but will still 
leave refiners losing USD 4-5/barrel of oil they refine, said our 
contacts.  (Comment: The firms do not benefit from the full price 
increase because not all of their output is sold at regulated prices 
as detailed below.  Also of note, to the extent that the price 
change leads to increased refinery activity, it may in the 
short-term raise China's demand for imported oil, adding to global 
price pressures.  End Comment.) 
 
--------------------------------------------- -- 
NATIONAL FIRMS PRODUCING UNDER PRESSURE, BUT... 
--------------------------------------------- -- 
 
¶4. (U) Prior to the price increase, Beijing had been cajoling 
China's national oil companies (NOCs) into maintaining refining 
production levels despite sharp increases in the international price 
of oil.  (Note: China is second to the US in petroleum use and 
imports around half of its consumption.  End Note)  In September, 
the NDRC resisted calls by the NOCs to raise prices, noted that the 
NDRC was closely monitoring retail prices nationwide to ensure 
compliance with price controls, and publicly warned the NOCs not to 
decrease their refinery production rates, even as their losses 
mounted.  Although this largely kept the NOCs in line, Beijing has 
been unable to force the country's independent refiners to maintain 
production levels, a direct cause of the current shortages at the 
pumps. 
 
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... INDEPENDENTS HAVE NOT PLAYED ALONG 
-------------------------------------- 
 
¶5. (U) Industry experts estimate that China's independent oil 
refiners, with around 1 million barrels per day of refining 
capacity, produce 10-20 percent of the country's gasoline and 
diesel.  They have cut production in the face of high international 
prices.  In many cases, they have also increased production of 
products unaffected by price controls, such as naphtha (often used 
for chemical and fertilizer production) or have simply shut their 
plants down to avoid losses.  These products, free of price 
controls, in general account for an estimated 40 percent of refinery 
output.  The NOCs have relied on unregulated products as well to 
 
BEIJING 00006936  002 OF 002 
 
 
soften the blow from losses on price-regulated production.  Industry 
analysts told clients today that it is unclear if the NDRC's price 
increase is enough to change this dynamic. 
 
--------------------------------- 
PRICE PRIMER IN DOLLARS AND CENTS 
--------------------------------- 
 
¶6. (U) Chinese media suggests that the price increase will raise 
consumers' gasoline and diesel prices at the pump by around 20 US 
cents per gallon.  Prior to the price increase, consumers in Beijing 
paid USD 2.40/gallon for premium gasoline and USD 2.00/gallon for 
diesel.  The reports also indicate that the NDRC estimates China's 
monthly consumer price index (CPI) will increase by .05 percentage 
points as a result of the price increase.  Some of our contacts 
maintain that many Chinese consumers already feel they pay too much 
for gasoline and diesel. 
 
------------------------------- 
TOUGH LESSON FOR THE LEADERSHIP 
------------------------------- 
 
¶7. (SBU) JP Morgan China Economist Grace Ng commented in a research 
note that Premier Wen had just last week announced after a State 
Council meeting that China would not raise any prices over the rest 
of the year that would affect the CPI.  Ng believes the NDRC was 
looking to reform prices for a long time but was blocked by senior 
officials who were waiting for oil prices to fall.  The lesson for 
them, in her view is that "they cannot time the market and the 
government has to do what is inevitable if it is serious on energy 
conservation, market based mechanisms, and staying on the course of 
reform." 
 
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PRICING WAS ALREADY AN ISSUE 
---------------------------- 
 
¶8. (SBU) As we reported in reftel, China has been looking to 
integrate domestic and global petroleum prices.  Concerns about 
harming consumers, rural residents, taxi drivers, and oil refiners 
have slowed this process.  Consequently, the NDRC has continued to 
rely on administrative pricing, forcing it to subsidize the oil 
companies' refinery losses while at the same time incurring public 
and media wrath when gasoline prices do not fall during periods when 
global prices decline.  Our contacts have told us that a new pricing 
mechanism is pending that will guarantee domestic refiners a profit 
while shielding consumers from major fluctuations.  It will 
supposedly incorporate elements of market-based pricing but remain 
highly controlled overall and potentially vulnerable to 
speculation. 
 
--------------------------------------------- --- 
COMMENT: TOO EARLY TO TELL IF MOVE IS SUFFICIENT 
--------------------------------------------- --- 
 
¶9. (SBU) The NDRC's price increase is probably insufficient to 
immediately abate current gasoline and diesel shortages.  Our 
contacts tell us that the move's most immediate effect will be to 
reduce NOC refining losses, but for now, it may fall short of 
reenergizing the independents.  To address the shortfall in the 
short term, the NOCs will have to ramp up their refining production 
and go abroad in search of refined products for direct sale into 
China.  Meanwhile, consumer outrage at lining up for even more 
expensive fuel is possible, and this makes further price increases 
needed to return independents to the market unlikely.  Bottom line: 
Beijing now has a new reason to hope for a fall in international oil 
prices to bring the independents back into the market. 
 
RANDT