By Andrzej Zwaniecki
USINFO Staff Writer

Washington - China cannot reduce its heavy dependence on energy resources and address energy-related environmental problems unless it implements financial market reforms, U.S. experts say.

The single most important factor driving up Chinese energy consumption is that country’s skewed financial system, which not only allows state-owned companies to keep much of their earnings but also affords them easy credit, according to a new research study. Banks consider it less risky to lend to state-owned companies, which are concentrated in the heavy-industry sector, than to smaller, often privately owned and more energy-efficient enterprises in the light-industry sector, it says.

The study, by Trevor Houser and Dan Rosen of the New York-based China Strategic Advisory consulting firm, was presented May 1 at the Peterson Institute for International Economics.

The rapid pace of growth in the Chinese economy has been a major concern of economists not only because of the sharp increase in energy use in the country but also because this energy consumption has global environmental implications.  Much of China’s industry is fueled by coal.

The upsurge in energy use has led to power outages and more pollution in China, as well as strain on global oil supplies and increased volatility in international energy markets, the report says.

Houser told USINFO that the energy intensity of the Chinese economy – the amount of energy consumed per unit of economic growth – has shot up over the last five years after falling consistently in the previous 25 years.

What caused Chinese overall energy intensity to rise was the shift from less energy intensive light industries toward more energy intensive heavy industries, as the country became a large producer of commodities such as steel, aluminum, glass, cement and paper, the researchers argued.

The shift was not a result of any economic policy planned by the central government but rather an outcome of competition among provinces, counties and cities to expand the economy, capital stock, tax revenue and corporate profits, they said.

“No one has planned this,” Houser said.

He said the trend further was fueled by the distorted cost structure of capital investment in China. Costs associated with China’s energy-intensive industries are either artificially low or obscured, for example, by disregard for public health and environmental protection.

Houser and Rosen see no short-term way out of China’s energy conundrum.

Attempts by Beijing to reassert control over China’s provinces or improve energy efficiency are not likely to reverse the trend, Houser said, at least not in the near future.

“An energy policy alone cannot fix the problem,” he said.

Only broader reforms that improve the efficiency of capital allocation can move China closer to a more sustainable energy path, Houser said.

U.S. Treasury Secretary Henry Paulson has made financial market reforms the main focus of the U.S.-China Strategic Economic Dialogue (SED), launched in September 2006. Following up on an initial round of talks in Beijing in December 2006, a second SED meeting is scheduled for May 22-23 in Washington.

Paulson has said that such reforms are a necessary precondition for more balanced, harmonious, innovation-based and environmentally sustainable growth.

Hauser said China must make hard choices, but developed countries can help by offering technical assistance to Beijing in designing and conducting financial market reforms.

Paulson already has indicated that Washington is willing to offer such assistance.

Looking forward, the paper suggests, the United States and other developed countries should help China focus on promoting energy efficient buildings, transportation and city planning.

Jane Nakano, a China policy affairs officer at the U.S. Department of Energy, says her department for more than a decade has pursued bilateral energy cooperation with China in energy efficiency, renewable energy sources, nuclear power, clean coal and other fields. The two countries constantly look for opportunities to expand energy-related technical cooperation, Nakano told USINFO. For example, the department recently offered to train Chinese specialists on how to assess and improve energy efficiency in the Chinese industrial sector, she said.

U.S. officials also believe that greater transparency in China’s oil reserve plans could help reduce uncertainty and volatility in global energy markets. 

In recent months, according to Nakano, the Bush administration has urged Chinese leaders to commit to using national petroleum reserves in coordination with countries holding similar stockpiles. Unilateral draw-downs would have almost no calming effect on global oil markets, she said. Nakano said the administration also has urged China to use its petroleum reserves only during physical supply disruptions and not as a market management tool.

The full text of the report is available on the Peterson Institute of International Economics Web site.

For more information on U.S. policies, see The United States and China.