In 2006, deregulation and pricing mechanism reform defined China's oil market. With 2007 on the horizon, downstream oil enterprises which have long suffered heavy losses refining crude oil, such as Asia's top refiner Sinopec, expect a more agile pricing mechanism sooner than later.

 

"While wholesale deregulation policies for oil products have been released, the pricing reform for oil products is still under discussion and evaluation," Cao Xiaoxi, chief engineer of Sinopec Economic and Development Research Institute, told China Daily.

 

"After the oil market opens up, the authorities must make pricing more flexible. But when? Timing is the key issue here."

 

An industry insider who refused to be named told China Daily that the new oil product pricing mechanism is subject to final approval by the State Council and could be available for public review very soon. But the National Development and Reform Commission (NDRC), China's top economic planner, refused to make any official comment.

 

Immediately after China's trade and business watchdog MOFCOM unveiled two sets of rules deregulating domestic oil product wholesale in December, Chinese media reported that the NDRC would loosen the pricing peg between local oil products and that of three major markets in Singapore, Rotterdam and New York.

 

Current reports, however, say that MOFCOM is instead considering linking local oil products' pricing to crude oil prices in Brent, Dubai and Minas.

 

Eventually, pricing for domestic oil products will be based on a formula that takes into account the average international price, tariffs, logistics and refineries' costs and profits.

 

"I anticipate that if international oil prices stay high, the new pricing system will be adopted early next year to lessen losses for major refineries," Cao said. "However, since the new mechanism hinges on global prices' fluctuations, grass-roots consumers may find this unacceptable when global prices are too high. Authorities must also bear this in mind."

 

Angelina Lee Mei Leng, chief analyst of Platts' Beijing office, believes that the new pricing mechanism should provide State subsidies for low-income individuals, such as farmers, and sectors of public interest, such as public transportation. Platts is the world's largest provider of energy information and market research.

 

"The much-talked about new pricing mechanism is indeed more scientific. It better reflects the true value of oil products and the relationship between demand and supply. However, the government should protect underdogs such as low-end consumers," Lee said.

 

Soaring international oil prices have boosted the profitability of China's oil exploration and production business. However, the rigidity of the current pricing mechanism for local oil products causes the refining sector to run at huge losses.

 

Currently, the government maintains a tight grip on the pricing of major oil products, keeping it below the global average in order to steady inflation and supply fluctuations.

 

The NDRC raised the domestic oil price twice this year in March and May in response to surging global oil prices.

 

Deregulation

 

While the long-anticipated new pricing system could to some extent free the State from subsidizing the deficits of State-owned refiners, it may also lead to further deregulation.

 

"The much-awaited new pricing mechanism will help better tune the business operations of major refiners. Moreover, it may pave the way for further wholesale deregulation," a senior analyst with BP (China) Holding Ltd, told China Daily on condition of anonymity.

 

The market will soon open to foreign and private competition, but newcomers might find it difficult to enter the wholesale business. It is because the oil supply and pricing mechanism are still under the duel control of the existing monopoly and the government.

 

Also, many analysts are concerned that lower local prices will prompt refiners to focus on selling oil products abroad once the wholesale market opens up next year.

 

"Because of this, we believe authorities should make pricing more flexible and give more space for all players to perform," an anonymous industry source said.

 

Han Xuegong, a veteran analyst with CNPC, China's top oil producer, said that wholesale deregulation would actualise pricing reform and lift import controls. "The new pricing proposal is better, but pricing reform does not necessarily go with wholesale deregulation. That is a principle followed by many countries," Han said.

 

Han didn't believe the entry standard for oil product wholesale is too high, because every country tightly controls its oil industry.

 

Zhao Youshan, who as director of the Petroleum Flow Committee (PFC) of the China General Chamber of Commerce represents 138 private oil firms doing business in China, agreed.

 

The newly appointed director said that thorough market deregulation won't happen overnight. He believes that the local oil business should be subject to adequate State control and regulation because it a strategically important sector of the national economy.

 

Market rules

 

Under MOFCOM's "Oil Products Market Administration Rule," new wholesalers must have a minimum registered capital of 30 million yuan (US$3.8 million) and operate through a China-registered entity. They must also have a one-time annual crude processing capacity of over 1 million tons and a combined gasoline and diesel production capacity of 500,000 tons.

 

Companies with a license for importing oil products can also apply. Those applying for a sales license for indigenous and imported crude must be China-registered entities with a minimum registered capital of 100 million yuan (US$12.8 million), according to MOFCOM's "Crude Oil Market Administration Rule."

 

Eligible companies must also have a stable crude supply and base of sales sources, MOFCOM noted.

 

Lee from Platts believes raising the threshold for newcomers fends off market speculation and risks.

 

"The entry criteria are indeed raised in terms of registered capital, stable oil supply and sales channels. But they are quite necessary to filter out unqualified players and ward off market chaos," Lee said.

 

Cao from Sinopec said that in the long run, further deregulation of the market segment is unavoidable. "Companies of all types may find it relatively easy to apply for an import license in the future," he said.

 

(China Daily December 28, 2006)