11 February 2015

Why Is China Stockpiling Millions of Barrels of OIl?


With oil prices in a free fall, China seems to be stepping up its efforts to create a generous oil stockpile. This article discusses current state of oil stockpiling in China and its possible effect on the Chinese economy.

A global glut of oil supply has driven down oil prices. From peak levels in June 2014, the Brent crude oil price has fallen by around 50 percent. (Related Understanding Benchmark Oils: Brent Blend, WTI and Dubai). The Organization of Petroleum Exporting Countries (OPEC) nations are not reducing output, which is contributing to oversupply. Oil supply from fracking has further pushed down prices. (Related: How Does Fracking Affect Oil Prices)
Oil Stockpiling in China

China, among the world’s largest oil consumers, seems to be making the most of the situation by stockpiling oil to increase its reserves.

China does not publicly release much petroleum-related data, but a few available details point to increased Chinese stockpiling:

    A Reuters report suggests that China currently holds strategic petroleum reserves (SPR) equivalent to 30 days of imports.  The Chinese government is further planning, “to build reserves of around 600 million barrels, or about 90 days of imports.”
    Futuresmag reports that ChinaOil, a unit of country’s biggest energy company, bought a record 23.5 million barrels of Middle East crude on a Singapore trading platform in October 2014.
    Bloomberg reports that between January and September of 2014, “China bought about 440,000 barrels a day more crude than it consumed.” Bloomberg calculated the surplus by deducting the quantity processed by Chinese refineries from the total of imports and domestic production.

Historical Instance of Similar Oil Stockpiling:

The October 1973 to March 1974 Arab oil embargo period resulted in oil prices quadrupling, leading to multiple consequences on the global economy. While OPEC nations benefitted from the jump in prices, the U.S. economy suffered. This paved the way for the United States to form its first strategic petroleum reserves (SPR) in 1977. According to latest available data from the U.S. Energy Information Administration, the U.S. strategic petroleum reserve stands at around 690 million barrels which is sufficient to fulfill 37 days of the nation’s oil demand. This reserve, as well as oil from domestic fracking, affords the United States some energy security.

How Chinese Oil Stockpiling Affects the Chinese Economy

China’s oil stockpiling goals appear to be following the U.S. strategy. China is a net importer of oil, so building the stockpile during periods of low oil prices makes sense.

The big challenge facing present day China is the slow economic growth indicated by the recent figures. The Chinese GDP is expected to decline to 7.3 percent in 2015, the lowest level since 1990. Chinese authorities appear to be trying to boost growth by investing in large public building projects. Aided in part by the declining oil prices, China has embarked on a massive $1.1 trillion spending spree spread across more than 300 infrastructure and energy sector projects in 2015. China will likely spend another half trillion in 2016.

Declining energy costs will mean higher incomes and savings for Chinese individuals, businesses, and the government. More disposable income will improve confidence in business and the economy. This may lead to more investments, business expansions, and growth across different layers of economy at a national level.

Historical observations shows that especially in a large oil importing country like China, lower oil prices lead to interest rate cuts. This means easy availability of capital to individual borrowers, investors, entrepreneurs, businesses, and even foreign investors. More easy capital may open up new business frontiers and markets by relaxing monetary and fiscal policies. This can further instill confidence in the national economy and can lead to a cascading effect across multiple sectors.

National energy security, built in part from increasing oil reserves, will act as a strong measure to provide the much needed support to economic reforms and can pave the way for much needed economic stimulus in China.

The Bottom Line

Falling oil prices provide an excellent opportunity for China to build it oil reserves and increase its energy security. However, only lower priced oil with oversupply will not assist in dismantling the slow and government controlled structural framework, which has been identified as major hurdle in Chinese economic development. Chinese authorities may need to expedite decision making, especially for investments and economic reforms, which will help it achieve the maximum, much beyond the current state of being known as another low cost manufacturing hub. Building expected levels of oil reserves will take long time, and interim fluctuations in oil prices may also act as deterrent to China's plans.

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