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China's electricity shortage and its impact on manufacturing.

Chinese power cuts are having ripple effects on the entire global economy. The country’s severe electricity shortage is leaving millions of homes, businesses and industrial areas suffering from rolling blackouts.

It’s nothing short of an energy crisis, forcing people to power their homes with candles, experience failing traffic lights and even getting trapped in the lifts between floors.

So why is China facing scores of blackouts? How exactly is it impacting manufacturing and global supply chains? Below, we seek to answer these questions.

Why is China in a power shortage?

China is undergoing a power shortage mainly because of a conflict between supply and demand. As the country quickly recovers from the pandemic, there is a strong demand for electricity that China’s coal-fired power plants are not willing or able to meet.

Electricity crises are nothing new to China. In the past, the nation has battled with trying to balance electricity supply and market demand. The result has often been many of the country’s provinces undergoing power outages. This is especially during the times of peak consumption in winter and summer seasons.

In 2021, however, multiple factors have combined to make this particular power outage especially significant.

Increased demand for goods

Global demand for goods manufactured in China is skyrocketing. As both China and the world are recovering from the harsh economic impact of the COVID-19 pandemic, consumers and businesses are eager for the affordable products China is known for crafting. In June 2021, exports out of China were at approximately USD $281 billion – a 32% increase from the previous year.

China is itself improves its own economy, demanding a colossal number of raw materials as its manufacturing surges. Production was up around 6.9% YOY in October 2021, a lot quicker than other countries (especially Europe). Profits in industrial companies also boosted by about 92.3% over the period of a year to USD $109.66 billion in March 2021.

This massive demand for goods has meant a surging demand for electricity. In comparison to 2020, demand for electricity has about double its typical annual level. This isn’t surprising. As people demand iPhones, kitchen appliances and fitness equipment, China needs electricity to make that magic happen.

China’s carbon neutral policy

The problem is that coal generates around 66% of China’s electricity, and the Chinese Government has adopted a carbon neutral policy with the aim of addressing the harsh impacts of climate change.

As demand for electricity soars, so does the demand for coal (and, therefore, the price of coal). China extracted 3.9 billion tonnes of coal in 2020, and expects to extract more in 2021. Data released in October 2021 revealed that the price of coal hit record highs as the country continued to struggle with its energy crisis. Some thermal coal futures rose to as high as USD $254.44 a tonne.

But this isn’t good news for China’s green ambitions. The country aims to reach peak emissions by 2030 and full carbon neutrality by 2060 – these are their ‘Double Carbon’ goals. Every municipality across its provinces have even established neutrality as a local objective.

Controlled electricity pricing

Because of these policies, the Chinese government had deliberately kept electricity prices artificially low. The aim being to reduce the rate of energy consumption across the country. A policy known as ‘dual control’ was introduced, forcing factories to cut back operations in order to meet energy consumption and energy intensity targets.

Coal-fired power plants and generators weren’t allowed to pass the increased costs of production onto their consumers. The result was they either had to operate at a loss or reduce the output they generated. Many chose the latter.

In September 2021, the Chinese provinces of Liaoning, Jilin and Heilongjiang were reportedly the worst affected by these outages. Factories closed down (as we discuss below) and millions of homes are experiencing life without electricity.

Note that, in mid-October 2021, the Chinese Government allowed electricity prices generated by coal-produced power plants to rise. In an effort to curb the power outages, restrictions were loosened and market forces are now permitted to influence coal-fired electricity pricing.

How blackouts are impacting Chinese manufacturing

The Chinese electricity crisis is primarily causing factories to shut down and key suppliers of products to suspend their operations. The result has been a major impact on manufacturing capacity.

Factories shutting down

Skyrocketing energy prices have unfortunately meant a lot of factories that manufacture goods are closed. Blackouts across a great deal of eastern China, where most of the country’s population lives and works, unfortunately meant the production houses that manufacture goods are no longer operational.

Statistics released demonstrated that, for the first time since February 2020 (when the pandemic took its toll on the Chinese economy), factory activity contracted. This included factories that produced metal and oil products, which are high energy-consuming sectors.

To make matters worse, the energy supply crisis hit only days before ‘Golden Week’ a national holiday beginning on 1 October.

Suspended operations

Major Chinese suppliers announced they had to suspend operations in light of the crisis.

·     The company Eson, which is an important supplier to major U.S. giants Tesla and Apple, announced the suspension of its operations in Kunshan city

·     Concraft Holding, another Apple supplier, also announced it would suspend operations of its plants near Shanghai.

·     Chip packaging providers supplying large well-known brands like Intel and Nvidia also announced to those companies that their production facilities in the Jiangsu province would be suspended for a certain period.

It is therefore not surprising that the entire global supply chain has been greatly affected by the energy crisis ongoing in China.

Will market-priced electricity resolve China’s energy crunch?

We think it will have positive effects on the power crisis. A key factor behind China’s energy outage was the strict controls over electricity pricing inconsistent with market supply and demand forces. Producers were losing money every additional tonne of coal burned, so it made much more economical sense to simply close down.

In the meantime, we await to see the impact of the changing government policy. All importers of Chinese manufactured goods, for now, should still expect interruptions and delays especially in light of the ongoing container shortage and shipping crisis.

Manufacturing and Production