China power crunch shows price folly, crackdown cost

BEIJING (Reuters) - As much of China blames severe winter weather for the power crisis that has crippled the nation this week, Beijing's policymakers are being forced to face up to the fact that they've also played their part in the crisis.

For the moment, however, they look unlikely to budge on the two main issues -- low state-set electricity tariffs that are causing power generators to run in the red as coal prices leap, or the crackdown on unsafe, deadly coal mines.

Even though higher power prices might encourage plants to rev up operations to thwart its worst shortages ever, analysts say fears of stoking already high inflation or provoking unrest ahead of the summer Olympics wil stay their hand for a while yet.

"At the moment we are assuming that there will be an increase in power prices in July and that is contingent on the rate of inflation moderating, which our economists believe will happen," said Stephen Oldfield, head of Asian Utilities Research at UBS.

Chinese authorities, power sector officials and the media have focused on the fierce weather and heavy snows as the cause of the power shortages, as key power lines snap and coal trains come to a standstill, causing stockpiles of the country's main power fuel to dwindle. They have denied any link to the tariffs.

But traders and analysts say Beijing's remedies -- including a two-month ban on coal exports, and urging railways to give priority to cargoes of the fuel -- tackle only symptoms of a flawed pricing system rather than the root of the problem.

"Power plants are suffering... The more they generate, the larger the losses get," said one broker at an international firm.

"Even when they are short of coal, and they have to shut down part of their plants, they still do not want to import."

The supply problems are also worsened by government policies to reduce the appallingly high death toll in its mines by closing the smallest producers.

The result of the latest turmoil is that politicians who have long supported cheap energy -- so long as the cost is borne by state-owned energy firms -- are now grappling with hard decisions about how to fund subsidies, and what they are prepared to sacrifice for more balanced growth.

REBELLION

Beijing's quandary is a familiar one. Three months ago oil refiners who suffered from buying near $100 crude oil and selling cheaper diesel and gasoline began to reduce output in an unvoiced protest against the government's profit-destroying policies.

Beijing intervened then, raising prices by 10 percent and browbeating refiners into stepping up fuel imports to a record high in a bid to end its worst shortages in four years.

But this is the first time power producers have risen up, a timely reminder of the problems with price controls, even as Beijing expands them further under an inflation-fighting package.

With inflation in December only slightly down from an 11-year high, Premier Wen Jiabao pledged in early January to hold energy prices in the short term and control costs for other consumables.

Officials are likely hoping a thaw will ease coal prices and end the power shortfall, which one official newspaper put at 70 gigawatts or almost equivalent to all Britain's capacity, and the industry regulator estimates around a still-high 40 GW.

Even if the problems persist, Wen's promise means he will be loath to increase tariffs before the spring, for fear of looking like the economy is spinning out of his control.

SAFETY VS SUPPLY?

Meanwhile, utilities such as Huaneng Power International, China's top producer, weigh the cost of running in the red against incurring Beijing's wrath if they worsen the crisis.

Power prices in China were up 2 percent in December from the year before, while coal prices -- which the government allows to fluctuate more freely -- rose 14 percent.

"Net profits at major power generating companies could fall 20 percent or more in the first quarter this year although their output is expected to increase some 10 percent," said Yang Ming, a power analyst at Shenyin and Wanguo Securities.

But he said the profit squeeze could prove a bonanza in the long run if they use deep pockets to pick off smaller rivals in crisis -- as PetroChina and Sinopec did during fuel crunches, when smaller wholesalers without refineries were badly exposed.

Also standing to benefit are the small mines closed for their unsafe operating standards, judging by comments by top economic planner Ma Kai, posted on the Internet on Sunday.

"Small coal mines that have been rectified to comply with safety conditions and have returned to conditions (suitable for) production, will be supervised and urged to give priority to the supply of thermal coal," Ma said.

Last year nearly 4,000 miners died in China's pits, and another senior official said on Monday that small mines would not be reopened for the sake of easing shortages.

But in the past Beijing has retreated from similar policies when costs started to mount. And small though they are, the loss of the mines and improvements in standards are hurting output.

"It does raise the cost," said Dali Yang, director of the East Asian Institute in Singapore.

"But to the extent that you are really dealing with the safety issue, I think it's a price worth paying."

With inflation high and blackouts looming, it is no longer clear if China's energy bureaucrats still agree with him.

(Additional reporting by Lindsay Beck and Jim Bai in Beijing; Nao Nakanishi in Hong Kong; Editing by Jonathan Leff/Ramthan Hussain)