Fitch: Higher China Coal-Bed Methane Subsidy Not Enough to Lift Industry

Fitch Ratings says today that the new subsidy increase for coal bed methane (CBM) production in China is not enough to boost the industry significantly, and it remains challenging for the country to meet its 2020 target for CBM production.

The Ministry of Finance announced in early March that it will raise the subsidy for CBM production to CNY0.3/cubic metre (cbm) during the 13th Five-Year Plan (2016-2020) from the previous CNY0.2/cbm. The subsidy could be further adjusted should production costs and prices change in the future.

China aims to produce 40bn cbm of CBM by 2020, which is more than double the actual production of 18bn cbm in 2015, as part of a wider strategy to reduce air pollution. Production in 2015 fell far short of the 12th Five-Year Plan (2011-2015) target of 30bn cbm. Meanwhile, only 8.6bn cbm CBM was used in 2015, with 65% of the CBM produced in underground mines wasted.

The higher subsidy is beneficial for the CBM producers. However, Fitch believes it is not adequate to lift production to meet the ambitious 2020 target. This is particularly as prices of substitutes for CBM - conventional gas and generally oil products - have significantly fallen. Although the CBM price is not regulated in China, it has to be competitive compared with conventional natural gas to attract customers. The current city gate gas price in CBM-rich provinces, like Shanxi, Shaanxi and Inner Mongolia, is already below the production cost for CBM of around CNY2/cbm. The /cbm increase in the CBM subsidy is therefore not likely to have a significant impact on production.

The CBM sector also faces other hurdles to further development, in Fitch's view. Technological challenges have hindered output growth in the past, as most of the CBM resources in China are in geologically difficult areas. Other economic incentives such as taxes and other benefits may not materialise due to intervention by local governments. In addition, mining rights for CBM are largely concentrated at the national oil companies. Private capital has also found it difficult to penetrate the sector given high investment costs as well as regulatory priority given to owners of existing oil and coal resources mining rights to explore CBM. The lack of infrastructure to transport or utilise low-density underground CBM also explains why so much of the production is not used.

Meanwhile, the unit capital investment in CBM is about 4.5x of that of conventional gas. Fitch expects the national oil companies or coal producers who own most of the current mining rights to give priority to more economical and conventional projects now, when oil and coal prices are depressed. Investments in CBM would have lower priority if there are no further supportive policies.