VZCZCXRO8777
OO RUEHCN RUEHGH RUEHVC
DE RUEHBJ #0665/01 0721319
ZNR UUUUU ZZH
O 131319Z MAR 09
FM AMEMBASSY BEIJING
TO RUEHC/SECSTATE WASHDC IMMEDIATE 2877
RUCPDOC/DEPT OF COMMERCE WASHDC IMMEDIATE
RUEHOO/CHINA POSTS COLLECTIVE IMMEDIATE
RUEATRS/DEPT OF TREASURY WASHINGTON DC
RHMFIUU/DEPT OF ENERGY WASHINGTON DC

UNCLAS SECTION 01 OF 04 BEIJING 000665 
 
SENSITIVE 
SIPDIS 
 
STATE PASS USTR FOR STRATFORD, WINTER, MCCARTIN, READE, 
VENKATARAMAN, KEMP, MILLER, MALMROSE 
DOC FOR MELCHER, SAUNDERS; LORENTZEN AND SHOWERS (5130); 
HEIZNEN(6510) 
 
E.O. 12958:  N/A 
TAGS: ECON ENRG EPET EIND ETRD CH
SUBJECT: CHINA ANNOUNCES PETROCHEMICAL INDUSTRY SUPPORT PLAN 
 
REF: (A) Beijing 151; (B) Beijing 326; (C) Beijing 425; (D) Beijing 
443; (E) Beijing 515; (F) Beijing 583, (G) 2008 Beijing 4614 
 
This cable is Sensitive but Unclassified (SBU) and for official use 
only.  Not for transmission outside USG channels. 
 
¶1. (SBU) SUMMARY:  China's State Council announced a petrochemical 
industry support plan on February 19, the eighth of ten such plans 
intended to help key industries weather the economic crisis. 
Similar to the other revitalization plans (reftels), the 
petrochemical industry support plan seeks to stimulate domestic 
consumption, speed up industry consolidation, and add production 
capacity, but it proposes few specific concrete measures.  It 
appears the beneficiaries of the plan will be large, state-owned 
petrochemical companies.  If plans to accelerate the construction of 
key refining and ethylene projects are implemented fully, some 
smaller companies, in particular many of the country's 
privately-owned refineries, could find it hard to compete.  Embassy 
contacts remain optimistic that the plan will help the industry 
weather the economic slowdown and that new production capacity will 
prepare the industry for future growth.  They acknowledge, however, 
that the plan's effectiveness will hinge on the recovery of other 
industries that rely on petrochemical products.  END SUMMARY. 
 
Plan emphasizes restructuring, resource optimization 
--------------------------------------------- ------- 
¶2. (SBU) The State Council approved a new support plan for the 
Chinese petrochemical industry on February 19 - the eighth of ten 
plans formulated to help key industries weather the economic crisis. 
 (See reftels A-F for reporting on autos, steel, textiles, 
machinery, shipbuilding, IT/electronics, and light industry.)  The 
announcement emphasized that the petrochemical industry support plan 
would focus on industrial restructuring, optimization of the 
industry's product mix, technology upgrades, and more effective use 
of resources.  The plan seeks to achieve these goals by speeding up 
the construction of large-scale oil refining and ethylene projects, 
closing outdated petrochemical production facilities, limiting the 
"blind development" of the coal-to-chemicals industry, and stopping 
approvals for projects that "only aim at production expansion." 
 
¶3. (SBU) Like the other industrial support plans, the announcement 
listed only very general support measures.  As announced, the plan 
seeks to execute the following policies. 
 
a) Implement measures to stimulate demand for petrochemical 
products, enhance supervision of imports and exports, and perfect 
the pricing mechanism for energy products; 
 
b) adjust the production structure for fertilizers, pesticides, and 
other agricultural chemicals by better allocating resources, 
reducing production costs, and increasing supply; perfect the 
fertilizer storage/reserves system; expand diesel supply networks in 
rural areas; 
 
c) speed up construction of key refining and ethylene projects; 
upgrade production technology; promote efficient use of resources 
and develop a recycling economy; 
 
d) control total production output and eliminate outdated 
facilities; stop project approvals for projects whose sole aim is to 
expand production; strictly limit "blind development" of the 
coal-to-chemicals industry; 
 
e) perfect taxation policies; speed up implementation of refined oil 
products reserves system; increase credit support to the industry; 
 
f) Improve corporate governance and risk management. 
 
2008 and 2009:  A double whammy to the industry 
--------------------------------------------- 
¶4. (SBU) China's petrochemical industry, in particular the refining 
business, has been hard hit twice in the past year:  first by record 
high international crude prices in mid-2008 and second by the global 
economic crisis, which began to impact the industry in October and 
November 2008.  In the middle of 2008, as crude oil prices were 
approaching their July peak, China's refiners were reportedly losing 
as much as USD 59.35 per barrel because they were unable to pass on 
rising crude costs to customers due to government price controls on 
gasoline, diesel, and other petroleum products.  Sinopec, China's 
largest refiner by capacity, imports 70 percent of the crude that it 
processes.  It reported earlier this year that its 2008 profits 
would plunge by 50 percent yoy as a result of these price 
disparities.  According to the China Petroleum and Chemical Industry 
Association (CPCIA), the country's three largest oil companies - 
 
BEIJING 00000665  002 OF 004 
 
 
PetroChina, Sinopec, and CNOOC - are expected to have combined 
profits of RMB 222.8 billion (USD 32.6 billion) in 2008, a yoy 
decrease of 31.3 percent. 
 
¶5. (SBU) Just as pressure from high international crude prices 
started to ease early last fall, the economic crisis took hold, and 
demand for petrochemical products began to slide in tandem with weak 
growth in China's manufacturing and construction sectors (about 43 
percent of China's oil demand comes from industry according to 
Credit Suisse analysis).  Reduced diesel and gasoline demand in the 
domestic shipping industry and changing consumption habits of 
China's emerging middle class -- including sluggish demand for 
automobiles -- has also resulted in reduced sales of refined oil 
products.  According to the CPCIA, which represents more than 70 
percent of China's petrochemical companies, the petrochemical 
industry posted negative income growth in December 2008, the first 
decline in 10 years. 
 
Plan's success depends on recovery of other sectors 
--------------------------------------------- - 
¶6. (SBU) CPCIA Vice Chairman Zhao Jungui told Econoff the 
petrochemical industry welcomes the government's efforts to address 
the industry's concerns.  He explained that the industry sees the 
plan as an effort to support it through the current crisis while 
also strengthening prospects for long-term growth.  He noted that 
the plan was developed through close consultation with industry 
representatives, but his organization is still waiting to receive 
additional details.  Dr. Zhu Tong, an energy researcher at the 
Institute of Industrial Economics at the Chinese Academy of Social 
Sciences (CASS), told Econoff in a separate meeting that one of the 
most important roles of the plan is to restore confidence among 
business leaders and investors.  Zhao agreed that the plan will 
boost confidence and said he remains optimistic that the plan will 
work.  He acknowledged, however, that its effectiveness will hinge 
on the recovery of other industries that rely on petrochemical 
products such as shipping, heavy industry, and construction. 
 
Plan repackages some existing initiatives 
----------------------------------------- 
¶7. (SBU) Details about the petrochemical industry stimulus plan 
remain murky and some aspects of the plan appear intended to codify 
already existing policy measures.  Plans to "perfect the pricing 
mechanism for energy products," for example, reflect ongoing fuel 
pricing and taxation reforms, which have been under discussion for 
years.  A new pricing mechanism was announced in December 2008 and 
took effect on January 1 this year (ref G).  Plans to further reform 
oil product pricing would likely have moved forward regardless of 
the new petrochemical industry revitalization plan.  CPCIA's Zhao 
noted that fuel price reforms may be bolstered by the State 
Council's decision to include this initiative in its official 
industry support plan announcement. 
 
¶8. (SBU) Initiatives to speed up construction of key refining and 
ethylene projects also appear to be aimed at supporting ongoing 
efforts to boost China's refining capacity and restructure the 
petrochemical industry.  These plans have been in development since 
at least 2006 when the National Development and Reform Commission 
(NDRC) urged that capacity be increased after warning that oil 
refining facilities were stretched to the limit.  CASS's Zhu told 
Econoff there were already more than twenty major petrochemical 
projects (mostly oil refineries and ethylene plants) scheduled for 
completion during the twelfth Five-Year Plan (2010-2015).  Zhu 
conjectured that as a result of the new industry support plan, the 
completion of these projects (some of which are reportedly already 
under way or in the advanced planning stages) might be accelerated 
by several years. 
 
¶9. (SBU) Likewise, plans to limit investment in coal-to-chemicals 
projects reflect NDRC's ongoing efforts to discourage investments in 
resource-intensive industries.   CASS's Zhu noted that in the past, 
provincial governments in coal-rich regions had frequent 
confrontations with central NDRC officials regarding approvals for 
coal-to-chemicals projects, which local governments viewed as a good 
source of tax revenue.  In Zhu's view, by including a statement in 
the support plan that discourages investment in coal-to-chemicals 
projects, NDRC strengthened its position on this issue.  He noted, 
however, that this is less relevant in the current economic climate. 
 "Now that oil prices are low, these kinds of projects are less 
attractive to local governments because they're less profitable.  It 
will be easier for local government officials to accept this policy 
because it is no longer in their economic interest to promote 
coal-to-chemical projects," Zhu explained. 
 
Tempest ahead in China's teapot refineries 
 
BEIJING 00000665  003 OF 004 
 
 
------------------------------------------ 
¶10. (SBU) Similar to the other industrial revitalization plans, the 
petrochemical industry support plan targets large-scale enterprises, 
in this case the downstream operations of state-owned petrochemical 
companies.  By aiming to eliminate outdated facilities and by 
stopping approval of projects intended to simply add capacity to 
existing operations, the plan will likely put pressure on some of 
China's smaller, less-efficient petrochemical companies. This will 
include China's mostly privately-owned "teapot" refineries, which 
account for about 20 percent of China's current refining capacity. 
According to CPCIA's Zhao, central government authorities are 
encouraging mergers and acquisitions within the sector. As a result, 
some smaller petrochemical companies, including teapot refineries, 
will be either acquired by larger companies or shut down.  CASS's 
Zhu added that if NDRC will not approve projects whose sole purpose 
is to increase capacity, teapot refineries will no longer be able to 
expand and they will gradually be phased out. 
 
Plan supports acceleration of large-scale projects 
--------------------------------------------- -- 
¶11. (SBU) As CASS's Zhu pointed out, the revitalization plan will 
likely lend high-level support to pre-existing stimulus and refining 
expansion measures aimed at constructing new, large-scale 
petrochemical production facilities.  According to state media 
sources, approximately USD 58 billion will be allocated to fund the 
construction of up to 20 new large-scale refineries and 
petrochemical projects.  (Note:  These projects are separate from 
the petrochemical industry support plan. Funding for these projects 
will reportedly be drawn from a separate fiscal stimulus package and 
will likely require additional funding from the companies 
themselves.  End Note.) It remains unclear when all of these 
projects, which could add as much as 2.19 million barrels per day in 
production capacity according to figures reported widely in the 
press, will come online. 
 
But can China absorb extra capacity? 
------------------------------------ 
¶12. (SBU) Some analysts have pointed out that the construction of 
such a large number of petrochemical projects could lead to the 
untimely oversupply of oil and chemical products as the economy 
heads into a downturn.  Media reporting suggests this could reduce 
petrochemical companies' return on investment in the new facilities, 
as the excess capacity could come online at a time when profits are 
still being squeezed by sluggish demand.  (Comment:  It remains 
unclear how project costs will be divided between the petrochemical 
companies and central and local governments.  End Comment.) 
 
¶13. (SBU) The International Energy Agency (IEA) announced a downward 
revision of its 2009 oil demand forecast for China in late January, 
projecting that oil demand would grow by 1.1 percent, nearly 3.3 
percent below an earlier published estimate.  According to Chinese 
customs data, crude imports were down 13 percent yoy in the first 
two months of 2009 and the state-run media reports that the 
country's crude stocks rose 34 percent in January alone. (Comment: 
It is unclear whether this refers to commercial stocks or strategic 
petroleum reserves (SPR) or both.  Media reports this week suggest 
that China has filled its SPR, which some sources estimate holds up 
to 100 million barrels.  End Comment.)  With reserves reportedly 
filled to the brim and sluggish domestic demand predicted for at 
least the first half of the year, Chinese oil companies have reduced 
refinery runs and turned to exporting refined products.  Customs 
statistics state that Chinese oil product exports rose 8.5 percent 
yoy in January and February this year. 
 
Extra capacity will be needed in long-term 
------------------------------------------ 
¶14. (SBU) Embassy contacts told us they are not concerned about 
short-term overcapacity, as the industry will need additional 
capacity to cope with rising demand once the economy recovers. 
CASS's Zhu reported that there is currently a balance between 
refining capacity and petrochemical demand, but by constructing new 
refineries and other petrochemical facilities now, China will be 
prepared for future demand growth.  CPCIA's Zhao agreed that "now is 
the time" to construct new petrochemical production facilities. 
"These projects will create jobs in the industry, reduce energy 
consumption, and lead to lower production costs by achieving 
economies-of-scale," he explained.  Zhao noted that China relies on 
imports to meet about 50 percent of its petrochemical needs.  "China 
is a developing country with huge growth potential in the 
petrochemical sector," Zhao asserted.  Jiang Xinmin, Assistant 
Director of the Energy Research Institute, a think tank that advises 
the government, echoed Zhao's and Zhu's views on the long-term 
benefits of accelerating the projects.  In a late-February media 
interview Jiang said, "pushing (refinery and chemical plant) 
 
BEIJING 00000665  004 OF 004 
 
 
projects forward will support demand for basic materials, keep 
people employed, and ensure fuel and petrochemical capacity is ready 
when the economy takes off again." 
 
Comment: Big ideas, but few details available 
--------------------------------------------- 
¶15. (SBU) The government's petrochemical industry support plan 
measures appear to be mostly intended to boost confidence among 
industry leaders and provide a high-level stamp of approval for 
existing measures intended to restructure and streamline the 
industry.  This will likely benefit large-scale state-owned 
enterprises over the longer-term, but will offer minimal immediate 
relief to the industry.  The plan provided no information on plans 
for tax relief or subsidies, and it remains unclear at this point 
how the plan would affect U.S. exporters or U.S. companies operating 
in China.  There is a possibility that the government would favor 
Chinese firms in the construction of the proposed large-scale 
refining and petrochemical projects, but statements to that effect 
were not included in the plan.  As has been the case with other 
plans, the petrochemical industry revitalization plan is filled with 
lofty goals, but few hints as to how these objectives will be 
achieved.