China's energy crisis is likely to mean higher electricity prices, forcing the nation's army of metal smelters to reduce output and threatening the industrial activity that has underpinned the nation's recovery from the pandemic.
In a bid to increase power generation, the government will allow electricity prices to rise by as much as 20%, double the current limit, according to a statement Friday from China's Cabinet. Power costs for the most energy-intensive industries, which would include metals producers, won't be subject to a cap. China is the biggest producer and consumer of most metals.
Cutting the reins on power prices is a dramatic intervention in a market that China had sought to keep stable to ensure predictable costs for industrial users. The move comes as the supply of coal, China's mainstay fuel, tightens and as prices surge to record levels, leaving power firms with the choice of curtailing output or selling at a loss.
Chinese firms have already cut output of some metals this year as pressure on power supplies has mounted. Some provinces have been rationing electricity to respond to the shortfall and also meet government targets on reducing energy intensity and carbon emissions. The electricity shortage has hampered production of metals including copper, aluminum and zinc, which saw declines in September, according to a survey by research firm Mysteel.
But whether those price gains can be sustained is complicated by the fact that the factories that fabricate metals into finished products will also be facing increased power costs and are likely to be forced to reduce operations, cutting demand for their raw materials.
Among smelters, those most at risk from higher electricity bills are nickel and zinc firms, which are already operating at low margins, said Wang Yue, an analyst with Shanghai East Asia Futures Co. Raising their costs further is likely to force output cuts and could trigger a round of price increases that would see them catch up with other metals, he said. The two metals are most often used in steel production.
The impact on aluminum output, which had been worst-hit by power rationing earlier in the year, may be more limited, he said. Producers are making good profits amid an upswing in demand for the lightweight metal used in a variety of products, including window frames and car parts. In any case, about 70% of the electricity that's needed by smelters is supplied by power plants that they own, said Wang.
Goldman Sachs Group estimated last month that nearly 3 million tons of annual aluminum capacity has already been suspended in China, a sizable chunk of the nation's total of about 40 million tons.
The impact on China's steel sector, which has been cutting production to meet national climate goals since the middle of the year, is likely to be most pronounced among cleaner electric-arc furnaces.
Those producers, located mainly in the eastern province of Jiangsu, account for only about 10% of national steel output. But they consume far more electricity than the dirtier blast furnaces that dominate the industry, said Lin Lin, an analyst with consultant CRU Group.
"The driver prevailing in the market right now is still the nationwide production cap for this year," she said. But raising power prices would be a particular headache for electric-arc furnaces, which could deepen the output cuts depending on whether mills are able to pass on the costs to their customers, she said.