September 22, 2023/Fitch Ratings

China’s new rules for a nationwide power spot market are likely to promote renewable power consumption, as they allow discovery of electricity prices in real time, says Fitch Ratings. This will also help to balance power supply and demand during peak hours.

The new rules establish fundamental principles governing China’s electricity spot market on a national level. Each region may then localise the implementation based on its market dynamics. We expect local authorities to roll out the new rules gradually to minimise the impact on power-generation companies (gencos) and users. Medium- to long-term electricity trading dominates China’s power market at present, and only a few regions – including Gansu, Guangdong, Shandong, Shanxi, Shaanxi, Jiangxi and West Inner Mongolia – have set up a spot market. Several other provinces have also started simulations or tests.

The pilot spot markets in these provinces remain small and only serve to settle intra-hour differences between actual power output and expected output specified in annual or monthly sales contracts. We believe local authorities will encourage power gencos and users to still enter into long-term contracts, even under the new rules, in an attempt to ensure the stability of the electricity supply.

Increased penetration of spot markets will enable more long-term contracts to include a price curve for different times within a day, and thus allow more power gencos to address power surpluses or deficits. Coal- and gas-fired power tariffs could be higher during peak hours, with price caps and floors in place to contain volatility, guiding power users to lower their consumption during peak periods and reducing the pressure on the power supply at peak load.

At the same time, more price differentiation, reflecting real-time supply and demand dynamics, increases consumption of renewable power. Downward price pressure during the hours when renewable power output increases may guide coal- and gas-fired power generators to reduce production. Renewable power would also become more competitive due to its lower variable cost. This is despite the risk that renewable power may sometimes face lower tariffs under a more timely pricing mechanism, as its intermittent nature constrains the ability to adjust output when supply and demand change.
 
We expect more coal-fired plants to transit gradually to base loads and focus on providing peak-shaving services, in line with the government’s decarbonisation policy goals, as the proportion of renewables in the power mix increases. The new rules also propose a trading market for ancillary services and a capacity compensation scheme to establish a baseline for reasonable returns at thermal plants after the transition.
 
Among Fitch-rated power gencos, Gansu Province Electric Power Investment Group Co., Ltd. (Gansu Power, BBB-/Stable), Guangdong Energy Group Co., Ltd. (A/Stable) and Shenzhen Energy Group Co., Ltd. (A/Stable) operate in provinces with existing spot markets. However, we estimate over 90% of their power sales will remain under mid-to-long term contracts, which will underpin high revenue visibility, while the complementary spot markets will allow better returns for thermal power when demand rises. The spot market in Gansu province, where Gansu Power operates, provides additional income to compensate for load adjustments in thermal power and helps reduce curtailment in renewable power when supply is high.