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Sinopec A Litmus Test For Reform

Business, China, Company Strategy, Economics, Olefins
By John Richardson on 18-Feb-2013

Sinopec.pngBy John Richardson

CHINA’s new leaders are under increasing pressure to do something about the dreadful pollution that blights the lives of hundreds of millions of people.

One Shanghai resident told the blog, “The air quality is so bad here I have taken up smoking again. I figured that as my health was already in jeopardy from simply breathing in, I might as well get some pleasure out of the process”.

But a government scheme promoting the virtues of smoking probably wouldn’t cut it.

And so Sinopec could be required to do its bit to clean up the air.

“China’s new leaders, ever wary of anything that might cause unrest, have promised to clean up the pollution quickly. Among their targets are the country’s antiquated, filthy oil refineries,” writes The Economist in this article.

“Sinopec is not like a Western oil firm. As an arm of the state (and a more powerful one than the environmental-protection ministry) it has a lot of say in writing its own rules,” continues The Economist.

“That is perhaps why in much of China regulations allow the sulphur content in petrol to be as high as 150 parts per million, whereas European standards cap it at 10 ppm!!!!” said the same article. [Our quadruple exclamation marks].

“The ruling State Council announced earlier this month that it will unveil new standards for diesel in June and petrol in December that will cap the sulphur content at 10 ppm, to be implemented nationwide by 2017. Refiners must upgrade facilities, or else.”

Politicians might make an example of Sinopec in an attempt to prove that they are serious about reforming the state-owned enterprises (SOEs) in general.

The SOEs are accused of exerting an excessive and harmful influence on the economy.

They have made excessive profits because of poor environmental standards and access to cheap finance and land etc, it is widely argued.

Suppressed savings rates – which have allowed the state-owned banks to lend to the SOEs very cheaply – have dampened domestic consumption.

Lots of low-cost cash has also resulted in an over-reliance on big-scale, and often inefficient, manufacturing investment as a driver of economic growth.

Sinopec might well continue to argue, though, that it is hugely disadvantaged compared with its overseas peers. It has to buy crude at international prices while selling gasoline, diesel etc at prices that are kept artificially low by the government (see the above chart).

The answer could be to fully liberalise fuel prices, giving Sinopec the revenues to introduce cleaner fuel standards.

But allowing Sinopec to earn the money to get rid of foul air risks creating another problem for Beijing: People taking to the streets over more expensive fuel, at a time when there is already a great deal of tension over the high cost of living in China’s big cities and towns.

And so it possible that, if the anti-pollution drive is indeed genuine, Sinopec will see its margins squeezed, as The Economist argues.

It could thus have less cash to become a global giant in exploration and production – and perhaps one day in refining and petrochemicals, also – which some commentators see as its destiny.

Equally, it might find it harder to fund petrochemicals capacity expansions at home.

Or the government might be persuaded just to give Sinopec money to pay for higher fuel standards.

But such financial support could be viewed as the government maintaining unfair, economically-distorting support for the SOEs.

The Sinopec story is one example of the many complexities surrounding China these days.

Any number of outcomes are possible.