Decarbonising China’s energy system

China’s carbon neutrality commitment will speed up decarbonisation in its power system. Energy storage, digitalisation and the retirement of polluting assets will all be key to this complex transition.

At the Leaders’ Summit on Climate hosted in April by US President Joe Biden, Chinese President Xi Jinping said the country is to place strict controls on coal power, with limits on the expansion of coal consumption during the 14th Five Year Plan period (2021–25), and gradual reductions in the 15th FYP period (2026–30).

These demands on China’s power system followed the Central Financial and Economic Affairs Commission’s call on 15 March to “build a power system with new energy at the centre”, using sources like hydropower, renewables and nuclear.

Over the decades, China has spent tens of trillions of yuan building its power system, which is centred around coal and cross-provincial distribution networks. Figures from the China Electricity Council show the country had 2,200 gigawatts (GW) of installed capacity at the end of 2020. Coal power accounted for slightly less than half of that: 1,080 GW.

As renewable sources of energy developed, there have been calls for a “high proportion” of renewables over the last decade. But the call to have “new energy at the centre” further elevates the importance of non-fossil energy sources, indicating that either installed capacity or output from new energy sources should make up over half of the total. This means coal will lose its leading role.

Industry insiders say the changes are coming sooner than expected.

Zheng Xinye of Renmin University of China’s School of Applied Economics said in an interview with Energy Observer that energy investments are huge and have long lock-in periods – so it is important to ensure market actors understand the significance of China’s climate commitments and start changing investment practices now.

The transition will involve putting the brakes on fossil fuel investments and going full throttle when it comes to building flexibility into the system, including power storage infrastructure and responsive demand-side applications, such as air conditioners that can be turned down a bit at the grid’s request. These could be the most complex changes to the power system for decades.

An opening for power storage

During the 13th FYP period (2015–20), China’s installed coal power capacity grew 3.7% a year, while its share of capacity dropped from 59% to 49.1%.

Zhao Junhua, head of the Energy Markets and Financing Laboratory at the Chinese University of Hong Kong’s Shenzhen Finance Institute, points out that by 2030 there will be little scope for coal power capacity to increase further.

Wind and solar are set to quickly catch up, and renewable sources of energy will overtake coal and become the country’s “main” source of power. But the intermittency of wind and solar will mean a much greater demand for responsive, stabilising supplies.

A look at provincial plans published early this year indicates that one focus will be pumped-storage hydroelectricity – a way of storing energy by using cheap electricity to pump water to a higher elevation during periods of surplus supply, and releasing it through turbines to generate electricity when there’s a peak in demand. Jiangxi is due to start work on the Fengxin Pumped-storage Hydroelectricity Station; Shandong plans second phases of work at facilities in Yimeng, Wendeng, Weifang and Tai’an; Shanxi is moving ahead with work in Yuanqu and Hunyuan; Chongqing is accelerating preliminary work in Liziwan; and Xinjiang is working on facilities in Fukang and Hami.

It seems the once waning field of pumped hydro is being reinvigorated. The last round of large-scale investment was in 2002, when power system reforms saw such facilities designated as assets belonging to the grid.

According to data revealed in plans for hydropower during the 12th FYP period, China added 9.945 GW of pumped hydro capacity during the 11th FYP (2006-2010), reaching 16.945 GW as of the end of 2010. A number of gigawatt-scale pumped hydro facilities came online during that period.

Even so, the 11th FYP target of 20 GW was not met. For the 12th FYP, the aim was to have 30 GW of capacity online by 2015. But by the end of 2015, only 23.03 GW was in operation.

Wang Huazhong, deputy chief engineer at the China Renewable Energy Engineering Institute, told Energy Observer there were various reasons for those failings, but electricity pricing mechanisms were the most important.

Previously, a range of pricing mechanisms had been used for pumped hydro, but the passing-on of costs had never been fully worked out. Despite ongoing reforms to transmission surcharges in electricity tariffs, the fixed assets and maintenance costs of pumped hydro were left out of the calculation for transmission surcharges. That left no way
to properly price pumped hydro.

The National Development and Reform Commission (NDRC) has recently released guidance on improving pricing mechanisms for pumped hydro, with “capacity costs” – meaning payments for having capacity available, whether it’s used or not – to be recovered via transmission surcharges.

Further guidance for other forms of energy storage is expected soon. On 21 April, the NDRC and the National Energy Administration issued guidance on developing new forms of energy storage, saying that a pricing mechanism for the installed capacity of grid-side storage would encourage energy storage facilities to operate on the electricity market; and that research will be carried out on paying for energy storage facilities via transmission surcharges. Better peak and off-peak pricing policies would create more room for demand-side energy storage, such as electric vehicles, whose batteries are increasingly becoming a source of storage that can participate in regulating the power system. (See our recent article China’s energy storage industry on fast track thanks to policy stimulus – https://wp.me/pd5IMn-Rr )

“The biggest breakthrough, and potential risk, would be transmission surcharges for energy storage,” said one power sector researcher. “It would help the energy storage sector, but if authorities and regulators don’t have standards in place it could provoke a rush to invest in grid-side storage.”

Industry insiders say this would be a transitional step during ongoing market reforms, prompted by China’s targets to peak carbon emissions and to reach carbon neutrality.

One energy storage expert thinks that when the market is mature, separate pricing mechanisms will be needed for each form of energy storage, rather than a single mechanism for all forms, to reward better results.

Making the system smarter

The flood of new wind and solar has disrupted a once-stable system. Until chemical batteries with large capacities and long lifespans become economically viable, it will be both expensive and difficult to use energy storage to even out the peaks and troughs of renewables generation. The addition of huge quantities of variable sources of power has created a need for smart control systems that operate across supply, the grid, demand and storage. It is also becoming more necessary to build basic digital infrastructure to support this.

The idea of a smart grid was first put forward in 2001. Since then, the United States, the European Union, Japan, South Korea and China have done significant amounts of research.

In 2018, the China Southern Power Grid, China Mobile and Huawei published a paper on the use of 5G tech in smart grids. The China Southern Power Grid said it would use advanced computing, communications and control technology to upgrade its grid, with broad-ranging research and numerous demonstration projects in grid stability, connections for distributed energy, grid connections for renewables, smart transmission and transforming, smart distribution and smart power consumption. The goal is to create a smarter, more efficient, more reliable and greener grid.

China Southern Power Grid followed this up with another paper in April this year discussing the use of a digital grid to push forward with a new type of power system. This would involve deep integration between digital and physical networks, with flows of information guiding and optimising the flow of power and services.

“The sector has started laying foundations for this, and plenty of trials have been carried out, but there’s a long way to go before we have large-scale roll-out to allow for the realisation of [digitalisation’s] potentials,” said Zhao Junhua. He thinks that China’s carbon targets and the need for a renewables-centred power system mean the next focus should be on the demand side: how to improve communication across power consumers so they can adjust consumption in line with grid needs.

Zhang Xiaobing, associate professor at Renmin University of China’s School of Applied Economics, thinks that digital technology will remake the entire electricity sector. For power generators, it will cut operating costs, improve efficiency, reduce unplanned outages and increase the lifespan of the equipment. For the grid, the widespread use of sensors will allow for full monitoring of transmission and distribution networks, improving efficiency and stability. It will make the system as a whole more flexible, and better match up supply and demand by linking the two sides. This will help maintain stability in a renewables-heavy system.

“During electricity shortages (due to lack of supply or congestion), smart appliances could reduce their usage or even shut down. That would reduce the load on the grid and help maintain stability.”

But, Zhang says, the use of that type of equipment in people’s homes is not yet widespread enough. The number of firms in China manufacturing home appliances with those smart control systems installed, for example, is in the single figures. Electric vehicles are one of the few products with the potential to help balance loads, by acting as local energy storage. But there are issues with wear and tear of batteries, as well as with incentives.

According to a paper by professors Ci Song and Kang Chongqing of Tsinghua University’s Department of Electrical Engineering, data centres could also be networked in order to relocate computing tasks. Data centres are becoming an increasingly important source of power demand. However, they are unusual in that the tasks they carry out can be relocated between them. And, as reliable and quick transmission technology develops, those tasks will be allocated by the power system with increasing flexibility.

One insider who researches demand effects said: “Research and practice into how much load can be shifted, how to do that efficiently, and how much of a benefit it will have is only now getting started.”

The use of digital tech throughout the system means predictive modes of operation will be possible, in turn requiring more computing capacity and interconnectedness. How that high-efficiency system will be managed remains to be seen.

There is also a lack of clarity on how investment costs will be recovered. A report from the State Council’s Development Research Centre said that some firms haven’t grasped the essence of digitalisation and are continuing to focus on hard infrastructure investments, rather than software.

Zhang Xiaobing said: “China’s carbon targets mean power firms need to take forceful action, but ensuring they make sustainable investments in digitalisation will be a new challenge for regulation.”

He points out that for the sector, conventional approaches to regulation have their limitations, and changes to regulatory and pricing mechanisms will be needed if investment is to shift from a sole focus on hard assets to a mixture of heavy infrastructure and light assets (digitalisation). “The current cost auditing framework for energy companies means you profit more from building a new transmission line or power station than from investment in digital technology and equipment.”

The increasingly prominent role of digitalisation in the new power system is also changing the thinking on security. An industry insider has written: “When building a new power system, we cannot meet the new security challenges with old approaches. As the power system becomes more connected and digitalised, security risks will emerge in non-conventional aspects such as financing and technology.”

Exit strategy for polluting assets

Data from the Ministry of Ecology and Environment shows the coal power generators operating in 2014 would, if run until 2040, have an average lifespan of 37 years.

“If all coal-fired generators are retired before 2040, that means almost 50% would be shut down before reaching the end of their lifespan, becoming stranded assets. And that doesn’t include the costs of shutting down new capacity added after 2014, when coal power expanded,” said Xiang Chenxi, of Renmin University of China’s School of Applied Economics, speaking to Energy Observer.

China is already seeing assets become stranded. The expansion of renewables has left less space for coal power to grow, and coal power firms, which can only generate revenue by selling electricity under current pricing schemes, have become less able to repay loans.

On 18 January 2021, Ma Jun, a former member of the People’s Bank of China’s Monetary Policy Committee and a leading advocate for green finance, published an article saying that default rates for coal power firms could reach 20% in the coming 10 years. Default rates for other carbon-intensive sectors may also go up. Financial risks arising from decarbonisation could potentially become risks to the entire financial system.

Ma said that overseas central banks, including the central banks of the United Kingdom, Holland, France and the EU, and international organisations, such as the Network of Central Banks and Supervisors for Greening the Financial System, have started emphasising the need for the financial industry to analyse environmental and climate risks. But most of China’s financial institutions have not yet fully understood the risks arising from the climate transition, and there is a general lack of foresightedness and preparation.

Peng Wensheng, chief economist and research head for the China International Capital Corporation, warned recently that the green transition could see the erosion of the value of traditional energy assets, which financial institutions have used as security for loans.

He thinks central banks and regulators should require financial institutions to reveal their exposure to such risks, with tougher capital and liquidity coverage. This would encourage those firms to reduce their backing for those assets and encourage investment in green projects. Also, mechanisms for revealing and handling such asset risks would help maintain financial stability during the transition.

Source: By Jiang Li, in Energy Observer. The article was originally published in Energy Observer, and reproduced in China Dialogue https://chinadialogue.net/en/