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Regulatory Incentives for a Low-Carbon Electricity Sector in China

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Regulatory Incentives for a Low-Carbon Electricity Sector in China Regulatory Incentives for a Low-Carbon Electricity Sector in China Flavio M. Menezesa and Xuemei Zheng∗b aSchool of Economics, The University of Queensland, Brisbane, Australia bSchool of Economics, Southwestern University of Finance and Economics, Chengdu, China Abstract This paper reviews the incentives for pursuing a low-carbon electricity sector that are em- bedded in China’s regulatory and policy framework. To do so, we first describe the industry structure and the regulatory framework. Second, we explicitly review the policies that were developed to promote energy efficiency and renewable energy. These policies range from the introduction of legal requirements to undertake particular actions to pricing mechanism and financial incentives. The paper reviews evidence that the various programs designed to replace less efficient with more efficient power generation units have already produced impressive re- sults. In addition, there has been steady progress in reducing line losses. Thus, supply-side energy efficient initiatives have been, at least, moderately successful. In contrast, we show that demand-side energy efficiency initiatives seem to have gone nowhere. Finally, we tease out the challenges faced by a sector governed by a myriad of complex arrangements, different institutions and agents who face different and often conflicting incentives for pursuing envi- ronmental and energy efficiency objectives. Keywords: Regulatory Incentives, Energy Efficiency, Renewable Energy, Electricity Sector 1 Introduction The high dependence on coal is a well-known feature of the Chinese electricity sector. Around 75.7% of China’s electricity was generated from coal in 20141. To reduce such dependence, and to achieve its carbon emissions reduction goals, the Chinese government has pursued a number of policies to promote energy efficiency and renewable energy. The breadth and diversity of these policies is impressive. They range from national initiatives to pilot programs targeting particular geographical areas. The aim of this paper is to provide ∗Corresponding author: Tel.: +86 15388118295. E-mail addresses: [email protected] (F. Menezes), [email protected] (X. Zheng) 1See http://data.stats.gov.cn/easyquery.htm?cn=C01. 1 a comprehensive review of these policies with a focus on identifying the incentives that they generate for the pursuit of energy efficiency or renewable energy opportunities. While there has been substantial interest in the policies designed to promote renewable energy and energy efficiency in China, research has typically focused on specific policies. See, for exam- ple, Cherni and Kentish (2007) and Li et al. (2011). Rather than an assessment of the performance of the various policies, our focus is on teasing out the incentives that are embedded in the complex Chinese electricity market design and regulatory framework. Doing so allows us to put forward a number of suggestions aimed at striking a more effective balance between markets and direct regulatory interventions. 2 The Electricity Sector in China China’s electricity sector has developed rapidly over the last two decades, surpassing the U.S. in electricity generation from 2011 to become the largest in the world. Total electricity generation in China achieved 5604.5 Terawatt-hours (TWh) in 2014, an increase of over 100% from 2005 levels, and 1.37 times the amount generated in the U.S. in the same year.2 This section provides a brief overview of the electricity sector in China. As it will become apparent in the summary below, the mammoth Chinese electricity sector is governed by a myriad of complex arrangements, with different institutions and agents at times facing different and often conflicting incentives. These different incentives and governance structures present challenges for the pursuit of environmental and energy efficiency objectives, which will be teased out in subsequent sections. 2.1 Installed Capacity and Generation: Fuel Mix Both electricity generation and installed capacity in China are characterised by a high depen- dence on thermal energy, as demonstrated in Figures 1 and 2. These figures highlight the unusual feature of the Chinese electricity sector where coal’s share in the generation mix is higher than its share in installed capacity. While coal is typically baseload in most countries, many provinces in China ramp coal plants up and down to meet their peak demand (Kahrl et al., 2011).3 Reducing this dependence on coal for electricity generation is the key policy challenge in China. It has, for example, led to the adoption of a new dispatch approach (the Energy Saving Power Dispatch or ESPD), which will be discussed in more detail in Section 7.1. It has also led to a rapid expansion of renewables, as one can see in Figure 1.4 Notwithstanding current efforts to reduce the coal share in electricity generation, China’s elec- tricity generated from coal in 2035 is projected to reach over 5500 TWh, more than the sum of the 2US Energy Information Administration (http://www.eia.gov/). 3The main reason that natural gas is not used as a flexible resource is its relatively high price (Dong et al., 2012; Hu et al., 2013). The intermittency and grid connection of wind-generated electricity constrain the role of wind for peak load demand. Due to security and economic reasons, nuclear power plants are not appropriate for managing peak load. 4In a short period of time, China has become the largest renewable electricity generator in the world (Dent, 2015). 2 Figure 1: Shares of Installed Capacity (GW) 1400.00 1000% 900% 1200.00 800% 1000.00 700% 800.00 600% 500% 600.00 400% 400.00 300% 200% Installed Capacity (GW) 200.00 100% 0.00 0% 2009 2010 2011 2012 2013 nuclear 9.08 10.82 12.57 12.57 14.66 solar 0.03 0.26 2.12 3.41 15.89 wind 17.60 29.58 46.23 61.42 76.52 hydro power 196.29 216.06 232.98 249.47 280.44 thermal power 651.08 709.67 768.34 819.68 870.09 increase rate of thermal 9.00% 8.27% 6.68% 6.15% increase rate of hydro 10.07% 7.83% 7.08% 12.41% increase rate of wind 68.05% 56.31% 32.86% 24.58% increase rate of solar 924.81% 727.47% 60.88% 365.90% increase rate of nuclear 19.23% 16.13% 0.00% 16.63% Date source: National Energy Administration current combined generation of the U.S. and Japan, from all sources.5 The dependence on coal implies that energy efficiency initiatives may yield a higher return than demand side management as the former can reduce total overall consumption while the latter typically only reduces peak consumption. Moreover, the high rate of expansion of renewables requires the development of regulatory arrangements in distribution and transmission to promote efficient investment. 2.2 Demand Figure 3 depicts electricity consumption by sector. The secondary industry accounts for more than 70% of all China’s electricity demand, whereas residential consumption remains around 10% of the total consumption. This contrasts for example with a 35% share of residential consumption in the U.S. over the last decade.6 The growth rate of electricity consumption in China averaged around 12% in the last decade (IEA, 2014). As economic growth slows down, and as the services sector outweighs the manu- facturing sector, the overall growth in electricity consumption will decelerate but the share of the residential and services sectors in the total demand will increase. Moreover, the increased adop- tion of electronic appliances, along with increases in income, imply that household consumption will not only represent a larger share of total consumption but also will continue to grow rapidly 5See IEA (2013). 6Calculated on the basis of statistics from the OECD library. 3 Figure 2: Electricity Generation Mix (TWh) 2010 2011 2012 2013 2014 0 1000 2000 3000 4000 5000 6000 thermal power hydro power nuclear wind others Date source: National Bureau of Statistics over the next decades. The extent of the potential for growth in electricity consumption by households becomes ob- vious once we compare per capita consumption with other countries. For example, China’s resi- dential electricity consumption per capita is around one-tenth of that in the U.S., one-fifth of that in Japan and France, and one-third of that in Korea, in 2012.7 If the residential per capita con- sumption in China catches up to that of Korea in 2012, this would add 1103.95 TWh of demand to the system, necessitating an increase of over 10% in installed capacity. This increase, both in absolute and relative terms, in residential consumption suggests that the benefits associated with demand side management initiatives, while small now, are likely to increase, as residential users are more responsive to changes in prices than manufacturers.8 2.3 Industry Structure and Regulatory Framework Historically, the electricity sector in China was characterised by the existence of a single ver- tically integrated utility operated by the central government.9 In 2002, the monopoly utility was broken into 11 independent state-owned companies, including five generation companies (i.e., the ‘Big Five’), two grid companies and four auxiliary service companies.10 7This comparison is based on the data from OECD, World Bank and China Bureau of Statistics, with resi- dential electricity consumption of OECD countries from http://stats.oecd.org/BrandedView.aspx?oecd_ bv_id=elect-data-en&doi=data-00462-en, and the data of population from http://data.worldbank.org/ indicator/SP.POP.TOTL. 8For instance, based on the computable general equilibrium model, He et al. (2011) calculates the price elasticity of residential electricity consumers in China as -0.3, contrasted with that of industry and commerce which is around -0.018. 9The Ministry of the Power Industry was responsible for the operation of the fully vertically integrated sector before 1997, when the responsability was assigned to the State Power Corporation and held until 2002.
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