Understanding China Through Its Petroleum Sector

The best way to understand the economy and geopolitics of a country is by studying its petroleum sector, because fossil fuels are so central to human needs. Three basic metrics can tell us more than scholarly tomes on international relations ever will – oil and gas production, consumption, and imports.

China’s phenomenal rise over the past three decades was fuelled by an exponential growth in the consumption of hydrocarbons, and its quest for meeting these needs defines its strategic thinking more acutely than manufacturing or trade do.

Today, China consumes 14 million barrels of oil a day (MMbopd), second to America which buys 18-19 MMbopd. China produces around 4 MMbopd domestically, and imports about 10 MMbopd. It is the world’s largest importer of crude oil.

China consumed roughly 375 billion cubic meters (Bcm) of gas in 2022, again, second only to America. Domestic gas production has doubled in the past decade to 222 Bcm, and supplies 58 per cent of the country’s needs. The gap is covered by gas imports via two routes: through pipelines from Russia and Turkmenistan, and from overseas on Liquefied Natural Gas (LNG) tankers.

Two metrics, consumption and import, have slowed down and dipped in the past three years for both oil and gas. This may be attributed to a number of factors, including the impact of the Wuhan virus pandemic, continued weak demand, trade disruptions by the Russo-Ukrainian war, and a delayed economic recovery.

However, levels of Chinese gas production have increased impressively with large, new discoveries being periodically reported. Domestic gas production has actually doubled in the past decade, courtesy also sizeable deep-water-deep-stratum finds in the waters off Hainan Island.

As the black curve in the chart below shows, gas production growth has remained quite consistent, even if it has been unable to keep up with the faster consumption curve (orange).

Their oil production had gone into decline in the last decade, after the giant Daqing oil field started to show its age. But this has been reversed in the past five years, with the Chinese bringing on stream a number of excellent discoveries in the shallow waters of the Bohai Bay mouth. They have managed to do this by successfully chasing what they call ‘buried hill reservoirs’ – heavily fractured hard rocks juxtaposed favourably to source rocks by relatively recent tectonics.

The strategy seems to have worked since the Bohai sedimentary basin has become more prolific than their traditional oil patch in the Manchurian Plains. What we don’t know is the longevity or sustained productivity of these new discoveries since fractured reservoirs are notoriously susceptible to water ingress from neighbouring aquifers, and can deplete quite swiftly. Nonetheless, for the time being, Chinese oil production levels are on an upward trend again.

Readers may note the sharp, perceptible dip at year 2015 on the blue oil production curve in the chart below, and how the curve has turned upwards again from 2019.

But buried hills and deep waters aside, that still leaves China with an onerous task of meeting its substantial hydrocarbon imports. How does it do this?

Crude oil first: 

China imports most of its oil from the Organization of the Petroleum Exporting Countries (called OPEC+ now, after Russia became an adjunct member). Half of its imports are from the Middle East, and a sixth from Russia. A full million barrels a day come from Iran, but official confirmation is hazy because Iran has been sanctioned by America.

Additionally, China imports relatively smaller quantities of oil from Russia, and some from Kazakhstan, through pipelines. Unfortunately, satisfactory clarity is not routinely available for the volumes pumped to China.

Import accounting is further muddled because some of the Iranian crude oil is shipped deniably under Qatari or Malaysian cover. Also, the oil import pie is not static. Every once in a few years, China offtakes large volumes of American crude to test the new administration in Washington DC. Invariably, these purchases swiftly taper off because oil diplomacy fails to resolve the adversarial relationship between the two nations.

But by and large, the import pie is not expected to change dramatically for the rest of this decade for two reasons (save a substantial increase in oil imports from Iran if the geopolitical climate permits that): one, Chinese exploration and production companies are heavily invested in many foreign acreages from where they source their oil; and, two, China maintains excellent symbiotic relations with OPEC+ by remaining their biggest buyer.

Natural Gas:

Although China has made huge strides in gas production over the past decades, it still needs to import 40 per cent of its consumption needs. That import component is only set to grow when demand recovers, and more Chinese gas fields either enter into a decline phase, or reach their economic limits, over the coming decade.

China has made sizeable investments in its vast shale gas plays, but their large-scale commercial exploitation has just not taken off, and most probably won’t for geological reasons, so import dependency will remain.

That requirement will be met by two routes – LNG or pipelines. As on date, the split is broadly 25 per cent LNG and 15 per cent piped gas. It is a testament to the size of the Chinese market that, although it imports about a fifth of all LNG sold globally, this still amounts only to a quarter of its needs. Also, while Chinese LNG sourcing varies from year-to-year, 50-60% is imported from Australia and Qatar.

This is where some gas math enters our story to make it even more interesting.

China imported a total of 152 Bcm gas in 2022. Of this, 93 Bcm was LNG (35 Bcm from Australia and 25 Bcm from Qatar). The balance 59 Bcm is pipeline imports from Central Asia (40 Bcm, mainly Turkmenistan), Russia (15 Bcm), and Myanmar (4 Bcm).

But this gas import scenario is set to change over the rest of the decade, after China took three important decisions:

One, in March 2023, Russia and China formally agreed in principle to the construction of a second gas pipeline, which will run from Russia southeast across Mongolia into China. It will deliver an additional 50 Bcm of Russian gas to China by 2030. Gazprom, the Russian energy major, completed the feasibility study in 2020.

Two, China and Turkmenistan are planning a second pipeline which will also unlock gas from Tajikistan and Kyrgyzstan. It will supply an additional 30 Bcm to China.

Three, in February 2022, China and Russia formally concluded a 30-year gas deal for the supply of 10 Bcm Russian gas through a new pipeline which would run west from Sakhalin Island across the Sea of Japan. It is expected to be commissioned in two to three years.

Combined, the three new pipelines will supply an additional 90 Bcm of gas to China. To this we must add 10-15 Bcm additional gas per annum from domestic production. 

Now, even assuming an annual gas consumption growth of 20-25 Bcm, we see that most of China’s requirements would be met from the new pipelines plus domestic gas production. It would also significantly reduce China’s dependency on LNG.

As a chart below shows, that is very bad news for major LNG exporters like Australia and Qatar who, respectively, export a third and a tenth of their LNG to China. Qatar, in fact, has been pushing for increased Chinese offtakes since the global gas trade was disrupted by the Russo-Ukrainian war. And Australia’s surge to the top of the LNG export table in the past decade has been predicated upon bulk purchases of its gas by China.

And it can only get worse for two reasons: first, if Chinese gas consumption growth remains sluggish (it could); and second, increasing competition for market share from new LNG players like Mozambique, Tanzania, and Iran, who are set to start exporting LNG in a big way this decade.

Thus, in conclusion, the colossal impact of these new pipelines on the global LNG market cannot be overstated. This is pure geopolitics at play.

Incidentally, though, this is very good news for India. Financially, it means India will be able to cut better LNG deals. And strategically, China will look that much less nervously at the Malacca Straits, although, caveat emptor, Beijing’s traditional propensity for galloping paranoia must never be discounted.