UPDATE 2-China reforms shale gas price, pilots new scheme

Tue Dec 27, 2011 8:49am EST

Related Topics

* China to liberalise well-head price of unconventional gas

* Unveils new gas pricing in Guangdong and Guangxi

* City-gate prices linked to imported fuel oil and LPG

* Announcement comes as inflation eases (Adds NDRC, analyst comment; unconventional gas)

By Jim Bai and Chen Aizhu

BEIJING, Dec 27 (Reuters) - China will liberalise wholesale prices for unconventional gas and has unveiled a pilot scheme to link domestic natural gas pricing to imported fuels, steps that could boost imports as well as output of the cleaner-burning fuel.

Demand for natural gas to power the world's second-largest economy is growing fast, with annual consumption set to triple to 300 billion cubic metres (bcm) by 2020 from a decade earlier. Gas is one of the preferred fuels in China as it looks to curb use of dirtier coal.

China will liberalise well-head prices for shale gas, coal-bed methane and coal gas, its National Development and Reform Commission (NDRC) said on Tuesday.

"This is quite a significant step, a change that domestic gas producers have been waiting to see," said Yan Kefeng of Cambridge Energy Research Associates.

"It sends a broad signal that the Chinese government wants to liberalise gas prices, which by itself is an incentive to unconventional gas."

The United States estimates China's shale gas reserves could be bigger than its own. A revolution in production techniques is overturning U.S. dependence on imported gas. China has yet to begin commercial production, in part because existing pricing mechanisms made doing so unprofitable.

The NDRC said on its website www.ndrc.gov.cn, "The eventual goal of China's gas price reform is to liberalise well-head prices and let the market decide the prices. The government only manages the prices of pipeline transmissions."

While well-head prices are freed, sales would still be subject to set prices for gas pumped to local pipeline companies, town gas firms and direct bulk users such as petrochemical firms and power plants to turn a profit.

Those prices are known as city-gate prices and for now are subject to reform only under a pilot scheme in two areas.

To make profits, gas producers such as PetroChina, Sinopec and China United CBM would need to cap production costs for unconventional resources below city-gate prices.

With reforms to encourage production in place, analysts expect unconventional gas to supply a significant portion of Chinese demand beyond 2020.

A more market-based system for pricing shale gas was widely expected as China starts its hunt for the trapped gas, which requires hydraulic fracturing to release it. The technology is new to Chinese companies and initially more costly than conventional production.

China has set an ambitious target to pump 6.5 bcm of shale gas by 2015 and 80 bcm in 2020, or a quarter of China's total gas consumption.

IMPORTED FUEL LINK

New city-gate prices will be linked to the import cost of fuel oil, used in power generation, and liquefied petroleum gas (LPG), used for cooking, the National Development and Reform Commission said on Tuesday. Natural gas is increasingly replacing both fuels.

The new pricing mechanism replaces one based on production costs and applies to domestically produced gas from onshore fields as well as imported pipeline gas.

Such a change will help top energy firm PetroChina pass on to consumers the costs of more expensive gas piped in from central Asian producers.

Gas imports are likely to account for a third of supply by 2020. China is rapidly expanding the capacity of liquefied natural gas (LNG) terminals to meet that need as well as bringing in gas by pipeline. Imports currently account for 24 percent of demand.

The scheme will be effective from Dec. 26 and applied first in south China's Guangdong province and Guangxi region, the NDRC said. Both rely heavily on imported gas.

NDRC said the scheme would be expanded nationwide if the pilot is successful.

The pilot scheme was announced as China's November inflation tumbled to a rate of 4.2 percent, the lowest in over a year. That may have given the government leeway to risk the potential inflationary impact of a rise in gas prices.

The government used prices of imported fuel oil and LPG in Shanghai as a starting point to derive the city-gate prices for Guangdong and Guangxi.

It gave a 60 percent weight to fuel oil and 40 percent weight to LPG to calculate an alternative price for natural gas with equivalent calorific value, and discounted the outcome by 10 percent. The final result was the benchmark price in Shanghai.

City-gate prices in Guangdong and Guangxi were then set based on the benchmark, giving additional consideration to China's main gas flow directions, pipeline charges and local economic conditions.

Based on prices for imported fuel oil and LPG in 2010 which corresponded to crude oil prices of $80 a barrel, the city-gate ceiling price in Guangdong was set at 2.74 yuan ($0.43) per cubic metres and 2.57 yuan in Guangxi, the NDRC said.

The city-gate prices will be adjusted annually, and prices will later be adjusted once in six months and once in a quarter, according to the commission. (Editing by Simon Webb and Jane Baird)

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