VZCZCXRO8487
PP RUEHCN RUEHGH RUEHVC
DE RUEHBJ #2331/01 1650850
ZNR UUUUU ZZH
P 130850Z JUN 08
FM AMEMBASSY BEIJING
TO RUEHC/SECSTATE WASHDC PRIORITY 7963
RHMFIUU/DEPT OF ENERGY WASHINGTON DC PRIORITY
RUEATRS/DEPT OF TREASURY WASHDC PRIORITY
RUCPDOC/DEPT OF COMMERCE WASHDC PRIORITY
INFO RUEHOO/CHINA POSTS COLLECTIVE PRIORITY
RHEHNSC/NSC WASHDC PRIORITY

UNCLAS SECTION 01 OF 02 BEIJING 002331 
 
SIPDIS 
SENSITIVE 
 
STATE FOR EAP/CM AND EB/ESC 
TREASURY FOR OASIA/DOHNER 
USDOC FOR 4420 
STATE PLEASE PASS USTR FOR STRATFORD 
 
E.O. 12958: N/A 
TAGS: ECON ENRG EINV EPET EFIN PREL CH
SUBJECT: CHINA/ENERGY: NEAR-TERM FUEL PRICE HIKES UNLIKELY 
 
SUMMARY 
------- 
 
¶1. (SBU) Beijing appears unlikely to raise retail fuel prices 
significantly in the near-term amidst policymakers' ongoing concerns 
about CPI inflation and social stability.  The most commonly 
purchased blend of gasoline is held at USD 2.92/gallon, while diesel 
is USD 2.89/gallon.  Against the backdrop of rising global oil 
prices and recent retail fuel price hike announcements in Malaysia, 
India, Taiwan, and Indonesia, NDRC Vice Chairman and Director 
General of the National Energy Bureau Zhang Guobao stated on June 8 
that China's current finished oil prices are conducive to the 
country's social and economic stability.  Economists argue that 
China's sound fiscal situation will enable the government to 
maintain domestic retail fuel prices through subsidies for the 
foreseeable future.  Domestic gasoline and diesel shortages could 
eventually force regulators to raise prices, but it appears that 
concerns about CPI inflation will continue to wield greater 
influence on pricing policy through the Olympic Games in August. 
END SUMMARY 
 
TOP ENERGY POLICY MAKER DEFENDS SUBSIDIES 
----------------------------------------- 
 
¶2. (SBU) Following the Five Party Energy Ministerial in Japan on 
June 8, NDRC Vice Chairman and Director General of the National 
Energy Bureau Zhang Guobao stated to media that China's current 
finished oil prices are conducive to the countryQs social and 
economic stability.  China last raised domestic retail fuel prices 
in November 2007, by 8-9 percent.  Zhang expressed concern about the 
economic consequences of aligning too quickly with international 
prices, especially for the agricultural sector.  China therefore has 
to defer finished oil price reform in order to promote policies that 
are favorable to social and economic stability.  Zhang dismissed the 
idea that rising demand in developing countries such as China and 
India should be blamed for the surge of global oil prices, arguing 
that investments by hedge funds and other speculators have played a 
key role in recent trends. 
 
GRADUALISM 
---------- 
 
¶3. (SBU) Zhang's comments reflect China's longstanding efforts to 
keep oil price volatility from harming consumers and threatening 
social stability, in particular in rural areas where farmers depend 
heavily on diesel fuel.  Dr. Zhao Jianping, a Beijing-based World 
Bank energy analyst told us that there is a general consensus among 
Chinese leaders that domestic retail fuel prices should reflect the 
real costs of production, but domestic inflationary pressures and 
the rapid rise in international oil prices have deterred regulators 
from implementing market-derived pricing formulas that have been 
proposed over the past several years.  Zhao noted that CPI, which 
was up 8.5 percent yoy in April and 7.7 percent yoy in May, will 
continue to make it challenging for the government to raise retail 
fuel prices.  He projected that even if the State Council approves 
an upward price adjustment later this year, the new domestic prices 
would still be well below international prices.  Meanwhile, the 
government will continue to offer subsidies to its national oil 
companies to offset refining losses. 
 
 
STRONG FISCAL POSITION MEANS SUBSIDIES AFFORDABLE 
--------------------------------------------- ---- 
 
¶4. (SBU) Economists argue that China's sound fiscal situation will 
enable it to continue to finance subsidies and further delay retail 
price hikes.  According to a recent report by Morgan Stanley 
economist Qing Wang, China is in a relatively favorable position to 
maintain subsidies compared to its peers in the region due to its 
low government debt levels, which reflect consistently low fiscal 
deficits.  In Wang's view, China's fiscal strength suggests that if 
the government continues to maintain domestic retail fuel prices 
through subsidies, it can afford to do so at least for the 
foreseeable future without running into a debt sustainability 
problem.  Moreover, if the government decides to increase prices, it 
can afford to do so incrementally.  HSBC economist Hongbin Qu's 
research echoes Wang's conclusions.  According to Qu, 20 percent yoy 
growth in tax revenues over the past five years has made China 
well-positioned to cover the explicit costs of the estimated USD 40 
billion in annual subsidies, assuming international oil prices 
remain steady and the government continues its policy of subsidizing 
approximately 40 percent of refiners' losses from imported crude 
oil. 
 
BEIJING 00002331  002 OF 002 
 
 
 
SHORTAGES 
--------- 
 
¶5. (SBU) Beijing has the fiscal means to sustain subsidies, but 
retail fuel shortages may ultimately force regulators to raise 
prices according to a June 9 article in a well-informed local 
Chinese economic weekly, Caijing magazine, by economist Andy Xie. 
Domestic media has reported gasoline and diesel shortages in rural 
areas, and emboffs have observed long lines and limited diesel 
supplies both at fueling stations in Beijing's suburbs and during 
travel to interior provinces.  Diesel shortages are expected to be 
especially acute during the summer months, as farming activities 
reach a peak and reconstruction begins in earthquake stricken areas. 
 Beijing has taken steps to encourage Sinopec and Petrochina to 
increase finished fuels production, including by offering rebates on 
value-added taxes on gasoline and diesel fuels.  Despite such 
incentives, both companies continue to report refining losses. 
 
COMMENT: NOT FOLLOWING NEIGHBORS' FOOTSTEPS 
-------------------------------------------- 
 
¶6. (SBU) Comment:  Policy makers in Beijing are well aware of the 
distortions caused by fuel price subsidies, especially with regard 
to energy consumption and environmental degradation.  At the same 
time, top officials have declared inflation to be the top near-term 
economic challenge.  Further, social stability is extremely 
important in the lead up to the August 8-24 Olympic Games.  Given 
China's strong fiscal situation and its current economic priorities, 
the government appears to have both the motivation and ability to 
maintain fuel price subsidies at minimum until later this year, and 
it is likely to do away with those subsidies only gradually.