19 July 2018
China is reforming its power industry to enhance efficiency and introduce competition into the sector. Photo: Bloomberg
China is reforming its power industry to enhance efficiency and introduce competition into the sector. Photo: Bloomberg

Power generators to benefit from industry reform

It has been 13 years since China launched the first round of reforms in the power sector in 2002.

In Hong Kong, the power market has a relatively small size, and power generation, transmission, distribution and retailing are all handled by two players. By comparison, the mainland power supply market is enormous and involves a number of conglomerates.

In its reform of the power industry, Beijing started by separating power generation and grid operation, breaking up the distribution function into transmission, distribution and retailing, and introducing on-grid price bidding.

The moves are aimed at enhancing efficiency and introducing competition into the sector.

The central government broke up State Power Corp. into five national generation firms and two distribution firms, namely State Grid Corporation of China and China Southern Power Grid Company. But the rest of reform has yet to be implemented.

Currently, five power generating groups and a number of smaller power plants are responsible for power generation, and they sell to the two distribution firms at on-grid price. In turn the two distribution firms take care of power transmission, distribution and retailing to end users at tariff rate.

The power tariff in Hong Kong is based on the Scheme of Control Agreement signed between the two power firms and the government. On the mainland, the on-grid price and power tariff are both set by the government. Power generators profit from selling electricity to the distribution firms, which in turn realize a profit from the difference between on-grid price and tariff.

Therefore, all five major power companies are competing among themselves as well as with other smaller players. But two distribution firms have dominated the marketplace in the northern and southern parts of the country, which means it’s difficult to raise on-grid price.

In the mean time, two distribution firms are assuming huge responsibility in transmission, distribution and retailing across the country. However, power charges vary from region to region, and business and residential users pay different rates. Also, different local government provide different subsidies.

Information about actual power transmission and distribution costs in different regions are kept by the distribution firms to themselves. That has placed them at a huge advantage in deciding prices amid the opaque system and information mismatch.

In 2008, Southern Power Grid sought a public listing, but was forced to drop the plan because of its opaque cost system. The company failed to explain its business model to investors, who were unable to calculate their investment return in the absence of a transparent pricing system.

A Shenzhen unit of Southern Power Grid has been picked to pilot a government initiative aimed at letting market forces, rather than power transmission companies, determine what end-users pay for electricity.

Under the pilot scheme, the grid company is required to determine the retail tariff based on costs without hurting its reasonable profit. The local government will set an allowable cost and allowable return, therefore fixing the grid owner’s general revenue; it will also set an independent power transmission and distribution price.

At present, the profit comes from the difference between on-grid and retail tariffs. The new scheme will provide an incentive for the grid company to beef up efficiency and cut unnecessary costs.

The reform is mainly aimed at encouraging power generators to shift to clean energy. Power firms play a critical role in the nation’s effort to tackle air pollution.

Beijing hiked on-grid price in mid-2014 and took various measures to help power generators, which are likely to see steady earnings growth.

This article appeared in the Hong Kong Economic Journal on Feb. 4.

Translation by Julie Zhu

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Columnist at the Hong Kong Economic Journal

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