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Energy Policy 36 (2008) 16971711 www.elsevier.com/locate/enpol

From state monopoly to renewable portfolio: Restructuring Chinas electric utility

Chunbo Maa,, Lining Heb,1
a

Alcoa Foundation Research Fellow, Erb Institute for Global Sustainable Enterprise, University of Michigan, Ann Arbor, MI 48109, USA b California Independent System Operator (CAISO), Folsom, CA 95630, USA Received 9 November 2007; accepted 2 January 2008 Available online 6 March 2008

Abstract Deregulation and decentralization in the electricity sector have thrived worldwide since the early 1980s. China also started restructuring its electricity industry since the mid-1980s. The reform shares many common features with restructuring practices in other countries and exhibits some unique characteristics as well. To some extent, two features, namely governmental administrative departments dual role of government and business inherited from a highly centralized planned economy, and the coal-intensive nature of power generation, has determined many aspects of the evolution of Chinas electric power sector. This paper aims to provide a comprehensive account of the process with some emphasis on recent developments. We also identify some of the features that are similar to electricity market reforms in other countries and, most importantly, those that characterize the uniqueness of the restructuring practices in Chinas electricity industry through investigating the administrative framework, price and investment mechanisms, and associated legislation and policy settings at each of the ve stages in the evolution of the electric utility sector. The paper concludes with a discussion and summary of some generic characteristics and remaining challenges. r 2008 Elsevier Ltd. All rights reserved.
Keywords: Electric power; Renewable portfolio; China

1. Introduction Since the early 1980s, utility restructuring has become an international trend. Chile was the rst to reorganize its electricity market in 1982. The Chile practice has inuenced following reforms in other Latin American countries. In 1989, the British government launched the restructuring and privatization of the state-owned Central Electricity Generating Board to separate the ownership and operation of generation, transmission and distribution (T&D). The British practice was then used as a model or a catalyst for the deregulation in other Commonwealth countries such as Australia and New Zealand. Norway introduced similar innovations in 1991. In US, early important restructuring efforts include the creation of non-utility generators in the
Corresponding author. Tel.: +1 734 615 5681; fax: +1 734 647 8551.

E-mail addresses: cbma@bus.umich.edu (C. Ma), lhe@caiso.com (L. He). 1 Tel.: +1 916 608 7054. 0301-4215/$ - see front matter r 2008 Elsevier Ltd. All rights reserved. doi:10.1016/j.enpol.2008.01.012

Public Utilities Regulatory Policies Act of 1978 (PURPA) and the introduction of transmission open access in the break-through legislationEnergy Policy Act of 1992; however, comprehensive utility restructuring and competition initiatives only began to be taken seriously by policy makers in the mid-1990s, marked by Federal Energy Regulatory Commission (FERC) Order 888 and 889 (Hogan, 2002; Joskow, 2006). Experiences and lessons on utility restructuring and deregulation have been studied widely. Despite the differences in the models adopted in various countries, some common features and steps are identied. Newbery (2001) and Jamasb (2002) compared the practices in developed and developing countries and summarized some of the generic reform aspects: clear legal framework, incentive regulation (IR), separation of competitive segment from monopolistic segment, open network access, wholesale market construction, and appropriate privatization. However, the primary aims of utility reforms in developing countries are basically different from those in

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developed countries. In developed countries, the focus has been to improve efciency while in developing countries the attraction of investment for generation capacity expansion is a main concern resulting from the chronic supply shortage which in turn results from a mix of weak infrastructure and high demand growth (OFFER, 1998; Rajan, 2000). The practices in many Latin American and Asian countries have generally followed this path (International Energy Agency (IEA), 1997; Lalor and Garcia, 1996; Mendonca and Dahl, 1999). Later in 2000 and 2001, the California electricity crisis led many to suggest that further electricity reforms be carried out prudently. The crisis had repercussions in both developed and developing countries (Brennan et al., 2002; Joskow, 2006; Rudnick and Montero, 2002; Yeh and Lewis, 2004). China has also launched electric utility reforms since the mid-1980s. The experiences in China have exhibited both uniqueness and common features compared with those in other countries. This paper conducts a policy analysis of Chinas electric utility reforms over the past two decades. The paper is organized as follows. The second section provides an overview of Chinas electricity industry and related studies. The third section investigates the utility restructuring in each of the ve stages. Policy discussions and conclusions are provided in the last section. 2. Overview Chinas electricity industry has developed rapidly in the past two decades. China is currently the worlds second largest electricity generation market only after the United States. By 2006, electricity generation had reached 2834.4 TWh, which accounts for 14.9% of global total and is nearly ve times the amount that the entire Africa generated (British Petroleum (BP), 2007). What makes Chinas power situation particularly compelling, however, is the coal-intensive nature. While coal contributes 28.4%

of primary energy consumption (commercial energy only) worldwide in 2006, it accounts for 70.2% in China (Fig. 1). Thermal power accounts for 77.82% of Chinas total power generation while hydro, nuclear, wind, and other renewable energy contributing only 20.67%, 1.1%, 0.3%, and 0.11%, respectively (SERC, 2006b). Chinas heavy dependence on coal, combined with its large population, and explosive economic growth have taken a heavy toll on the environment and pollution-related human health issues. On the one hand, the country has experienced cycles of under and over-capacity in generation due to inefcient resource allocation. This caused grid reliability problems and led to frequent blackouts in many provinces. On the other hand, electricity supply and demand are extremely unbalanced geographically. There is a substantial mismatch between the geographic distribution of energy resources such as coal and hydro which are major sources of electricity, and centers of economic and population growth where electricity demand is highest. While the northern and western China is abundant in coal and hydro resources, most of the economic and population centers are located in the East and South. The electric utility reform in China has been launched for over two decades since 1985. The sector has experienced fundamental changes. A series of reform policies aimed to cultivate a market-oriented electricity sector have been consistently implemented. They are successful in some aspects while have not fared as well as expected in others (Andrews-Speed and Dow, 2000; Blackman and Wu, 1999; Li and Dorian, 1995; Wirtshafter and Shih, 1990; Xu and Chen, 2006; Xu, 2006). Earlier reform policies have been well in line with the international trend of utility restructuring in developing countries. As in other developing countries, capital constraint has been a major concern in Chinas electricity industry, which has constrained the expansion of generation capacity (Blackman and Wu, 1999; Li and Dorian, 1995). However, focus changed as the

70.17% 56.17%

24.38%

28.41% 22.89% 18.27% 10.85% 6.32%

China

India

USA

Japan

Canada

Brasil

Europe and Erasia

World

Data Source: BP, 2007, million tones of oil equivalent (mtoe).

Fig. 1. Coal dependence of primary energy consumption 2007.

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reform proceeded. Generation capacity expansion topped all priorities during early period of utility restructuring while market competitiveness and efciency improvements obtained more attention in later periods and the latest policies have started to address environmental concerns. Despite the common features shared by utility restructuring practices in many countries, the exact restructuring process is country specic. Ideology, institutional arrangements, economic, social, and political conditions all could inuence the path as well as results. For example, by comparing the utility restructuring practices in Brazil, India, and China, Run et al. (2003) argued from a sociologistic perspective that relative success in Chinas utility restructuring was due to a policy of gradualism, which may be a result of multiple factors including communist ideology, nationalistic ambitions, realistic leadership, and less opposition from interest groups. Yeh and Lewis (2004) examined the politicaleconomic logic and argued that the reform in electricity industry is more of a creative, dynamic response to a set of technical and economic constraints on the one hand and the political imperative to stay in power on the other, rather than a wholesale adoption of free markets. To understand the commonness and uniqueness of Chinas power sector reforms, we rst have a thorough look at the reform process. 3. Reform of Chinas electricity industry The development of Chinas electricity industry can be separated into ve stages. This section analyzes the restructuring trajectory in the aspects of administrative framework, price and investment mechanisms, and legislative and policy settings. Special attention is placed on the milestone reform in 2002 and the recent initiative to bring renewable energy into the electricity portfolio. 3.1. Stage 1pre-reform state monopoly (19491985)2 Before 1979, the electricity industry was under the administration of the Ministry of Water Resources and Electric Power (MWREP). The MWREP was combined and separated several times into two partswater resources and electricity generationpartly due to the tensions between the two sides over budgetary priorities for hydropower vs. thermal power (Lieberthal and Oksenberg, 1990). The MWREP was phased out in 1979 and divided into the Ministry of Electric Power (MOEP) and the Ministry of Water Resources. These two Ministries were merged to the MWREP again in 1982. Table 1 summarizes the transition of organizational structure in Chinas electricity industry during the past few decades. These administrative Ministries played dual roles of government administration and business operation. For example, the
2 See Xu (2002) and Yeh and Lewis (2004) for development in Chinas electricity industry before 1949.

MWREP functioned as policy maker, plan implementer, industry regulator, state-owned assets manager, and business operator, with parallel counterparts co-existed at the state as well as provincial levels. Actually, the dual-role feature is common to all major industries in the old centralplanned economic system. China has gradually started deregulation and decentralization of its economy since the start of its economic reform in 1978. The electricity industry is among the latest few sectors that were reformed and deregulated. Before 1985, the administration, resources allocation, investment decisions, and prices in the electricity industry were fully controlled by the central government. During this pre-reform period, there were no independent generation prices for power plants and T&D prices for grid usage, because the whole industry was organized as a vertically integrated state-owned utility (VISOU) and all prices were simply internal transfer prices. Electricity prices were used virtually for accounting purposes rather than as a means for resources allocating. On the retail side, prices are guided by catalog prices, which were rst published in Electricity and Heat Prices Catalog 1965 and then amended in 1975 by the MWREP (Catalog 1965 and Catalog 1975). The prices have been deliberately kept low to support economic growth. The investment strategy for this period was known as walking on two legs: centralized large-scale projects and decentralized rural electrication. Unlike other countries that have gradually expanded their electric network into rural areas, China has relied on decentralized plants gradually linked together to form local and then regional grids (Wirtshafter and Shih, 1990). The industry had long been inicted by capital constraints and the capacity expansion further slowed down in early 1980s. Lewek (1986) attributed the slowdown to constrained capital and bad planning: (1) cutbacks in national investment in heavy industry beginning in 19791980 (industry structure adjustment) also affected the power industry; (2) too many expansion projects started within a short period of time without adequate resources actually diluted available capital; (3) and an increase in investment for power transmission facilities further reduced the funds available for plant construction. To make things worse, under state monopolistic system, there was no room for investments from other sources, which limited the increase of generation capacity. In fact, investments from other sources were not even allowed to enter this industry because the electricity industry was considered as of strategic signicance, which must be controlled by the state. The advantage of a highly centralized system is that resources can be allocated and mobilized effectively (but not necessarily efciently) for specic national goals. However, this economic framework was unable to meet the needs of the accelerated economy. The articially lowered electricity prices, insufcient investment in the generation and transmission facilities, and inadequate ability to produce generating equipment jointly resulted in a chronic power shortage, which became a serious

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1700 C. Ma, L. He / Energy Policy 36 (2008) 16971711 Table 1 Organizational structure of Chinas electricity industry Period Overseeing Plan/price/investment/ regulation Independent regulator Generation Transmission/ distribution

19491953 19531985

Post-war reconstruction; old bureaucratic structure maintained State Council (since 1955) State Planning Commission None Ministry of Fossil Fuels (19531955) MOEP (19551958) MWREP (19581979) MOEP (19791982) MWREP (19821988) MOE (19881993) MOEP (19931998) Provincial power bureaus IPPs State Power Corporation Local power corporations IPPs Huaneng Datang Huadian Guodian Power Investment Other IPPs State Power Gird

19851997

State Council

State Planning Commission

None

19972002

State Council

SDPC and SETC

None

2002present

State Council

NDRC

SERC

Southern Power Grid

bottleneck when the modernization speeded up (Li and Dorian, 1995). 3.2. Stage 2generation promotion (19851997) In 1988, the Ministry of Coal Industry, the Ministry of Oil Industry, the Ministry of Nuclear Industry, and the MWREP were all cancelled and merged into the newly established Ministry of Energy (MOE). In 1993, the MOE was cancelled and the MOEP was established again. The highly centralized administrative style did not change signicantly at this stage; however, some reform policies introduced had ultimately profound effects. A groundbreaking policy document was issued in 1985 by the State CouncilInterim Provisions on Promoting Fund-Raising for Electricity Investment and Implementing Multiple Electricity Prices 1985 (Interim Provisions of 1985). Major elements include: (1) provide guidelines to separate the responsibilities of government and business. Although the actual separation did not happen until 1997, this initial step paved the way to the eventual separation; (2) make Bureaus of Electric Power at the provincial level the operational entities and give local government appropriate jurisdiction over the development of the electricity industry so that specialized policies could be made locally; (3) make favorable policies to encourage investment in the electricity industry from various local, foreign, and private investors; (4) while the generation price of electricity for the VISOU was still the internal transfer price, the government provided guided price to the newly built non-utility generators or independent power producers (IPPs). The

guided prices are determined according to the rule of repayment of principal and interest to guarantee prots. The focus of these reform policies was mainly to remove the capital bottleneck that had constrained the countrys electricity industry for over 30 years, and to promote more generation to meet the increasing demand driven mostly by the accelerated economic growth. For this purpose, the policies were quite effective. By 1997, the nationwide chronic power shortage had been by and large relieved (Xu and Chen, 2006). Additionally, the newly built IPPs diversied the market entities and for the rst time introduced the element of competition on the generation side. Although there was little real competition at the time due to tight supply, the introduction of IPPs initially nurtured the market environment that would be needed in later reforms. Despite the progress, the reforms at this stage also brought new challenges. One result of the reform policies at this stage was a complicated and inefcient price scheme. On the one hand, the reform resulted in a double track price scheme on the generation side: the invisible internal transfer prices for the VISOU and the guided prices for IPPs. New investments came from various sources so that capital structure and cost differs substantially between IPPs. The rule of repayment of principal and interest was essentially a rate-of-return regulation under which prudent costs and appropriate prots were almost guaranteed. Guided prices for the IPPs became so diversied that nearly every IPP was given its individual price. The new price regulation had several drawbacks: (1) incentives for cost control, efciency improvement, and technology

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innovation were rather weak because the guided prices were based on accounting costs so that any cost uctuation would naturally pass onto the price. Moreover, IPPs may be inclined to exaggerate their accounting cost to get a higher price. As a consequence, the overall level of generation prices increased rapidly; (2) the incentives were further depressed by the risks that the increased cost associated with innovation might be ruled imprudent if innovation efforts failed; (3) the rate-of return regulation may favor projects that over-invest in physical assets due to the AverchJohnson effect (Averch and Johnson, 1962), which further constrain the already tight capital supply. On the other hand, the price scheme on the retail side became complicated as well. To cope with the conict between the at catalog prices on the retail side and the rapidly increasing generation prices on the generation side, the new policy of Fuel and Transportation Add-ups (FTAs) was implemented. The catalog prices were not changed; instead, the FTAs were imposed as an adjustable surcharge on catalog prices based on uctuations of coal and transportation costs, which had been calculated and published annually by State Planning Commission. The old catalog prices were eventually combined with the FTAs in 1993. The renewed catalog prices would be adjusted periodically to reect the uctuated fuel and transportation costs. Besides FTAs, the state established a Power Construction Fund (PCF) in 1988 which was collected through a surcharge of 0.02 Yuan/KWh on electricity prices. The PCF made signicant contributions to the development of the electricity sector; however, the management and property rights often become disputed. In 2000, the surcharge was merged into the catalog prices. Another surcharge of 0.003 Yuan/KWh has also been imposed to establish the Three Gorges Construction Fund since 1992. The rate was raised to 0.004 Yuan/Kwh in 1994; it was further raised to 0.007 Yuan/KWh in 1996 for direct beneciary regions from the Three Gorges Projects and other developed regions; in 2000, this surcharge was increased to 0.015 Yuan/Kwh for all developed regions. Moreover, as local governments obtained expanded jurisdiction over local electricity development, a variety of surcharges was imposed. The complicated price structure resulted in high regulatory, supervisory and transaction cost. Table 2 lists price schemes introduced at various stages and associated policies. Deregulation policies in the mid-1980s also had signicant impacts on investments in the electricity industry. Firstly, investments from private investors and local government thrived due to the introduction of non-utility generators. As far as the pattern of investments is concerned, local governmental investments contributed primarily to hydro projects while private sector investments contributed primarily to thermal plants which are less capital intensive and have shorter lead times (Li and Dorian, 1995). Over the period of 19901999, China ranked the second after Brazil in terms of total private

Table 2 Price reforms in Chinas electricity sector Period Before 1985 Price schemes Internal transfer prices Catalog prices Associated policies Catalog 1965 (MWREP [1965])/Catalog 1975 (MWREP [1975] No. 67) Interim Provisions of 1985 (State Economic Commission, State Planning Commission, MWREP, State Bureau of Commodity Prices [1985]) Notice of 2001 (State Planning Commission [2001] Price No. 701)

19851997

Guided prices FTAs (combined with catalog prices in 1993)

19972002

Operation-period prices (incumbent generators/ non-bidding prices) Yardstick prices (new entrants/non-bidding prices) Two-components prices Simplied catalog prices Coal and electricity prices Co-move Differentiated industrial electricity prices (introduced in 2004 and fully specied in 2006)

2002present

Scheme of 2002 (State Council [2002] No. 5) Scheme of 2003 (General Ofce of State Council [2003] No. 62) Notice of 2004 (NDRC [2004] Price No. 2909) Procedures of 2004 (NDRC [2005] Price No. 514) Notice of 2006 (General Ofce of State Council [2006] No. 77)

investments in the electricity industry (Jamasb, 2002).3 On the one hand, capital shortage was relieved by the expanded investment sources; on the other hand, many power plants constructed during this period are smallscaled, which were inefcient and unable to achieve scale of economy. A large proportion of these small plants were fossil-red with low thermal efciency and high pollution discharges. Even until 2003, the energy efciency of fossilred power generation is still 9% below the world average (Graus et al., 2007). Secondly, foreign capital began to enter China electricity industry in the early 1990s which had long been considered one of the pillar industries that must be controlled by domestic capital. The purpose for opening the electricity industry to foreign investments and loans was rstly to supplement the constrained domestic capital and secondly to introduce advanced technologies and equipments. Earlier foreign investments and loans focused on hydro projects and coal-red plants, with international development loans primarily nancing hydro projects and foreign direct investments (FDI) nancing
The counterpart in US restructuring process is the introduction of nonutility generators, known as qualifying facilities (QFs), by the PURPA of 1978. The scope of QFs was expanded in the Energy Policy Act of 1992.
3

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coal-red plants. The chronic electricity shortage and the deregulation policies created a large market potential for foreign investment; however, both the total volume of FDI and the unit size of the plants were constrained by a variety of institutional barriers such as ownership restrictions, rate or return restrictions, project approval requirements, electricity industry regulations, and the risk of default on power purchase agreements (PPAs) (Blackman and Wu, 1999). Particularly, small-scale plants were favored due to institutional biases which stemmed from the advantages of building small plants: bypassing the convoluted approval and regulatory process, meeting urgent local needs quickly with short construction cycle, and the low risk associated with such plants given their small scale and reliance on imported equipments. Although FDI was found to have had a signicantly positive impact on energy efciency in general, its contribution was constrained by building smallsized power plants compared with more energy-efcient large-scale plants. Lastly, the rate-of-return regulation was designed to attract new investments and to protect newly established non-utility generators, but again it may bias both domestic and foreign investors in favor of capitalintensive projects due to the AverchJohnson effect (Averch and Johnson, 1962), which suggest that the increased capacity might not be achieved at highest efciency. With introduction of IPPs and the favorable price scheme, generation capacity increased dramatically and the long-standing power shortage was basically alleviated; however, a competitive electricity market was far from being established. The electricity industry was still characterized by low efciency in resources allocation, and distortions in business behaviors and industrial relationships; the dual roles of government administration and business operation remained unchanged. Business operation was therefore subject to frequent interference from policy makers; the VISOU still dominated the market with monopolistic control over the T&D network. It could provide IPPs with unequal access to its downstream T&D network; the new double track pricing scheme provided weak incentives for both the VISOU and IPPs to improve efciency and control costs. Power prices for customers escalated; additionally, as local government obtained more jurisdiction over the development of local electricity industry, local protectionism thrived, which created institutional barriers for inter-regional trading of electricity and efcient resources allocation. These issues did not obtain the highest priority during this period when adequate supply was the nations top concern. However, the relationship between electricity demand and supply changed in late 1990s and thus the reform focus shifted as well. 3.3. Stage 3state entrepreneurialism (19972002) To make business operation government interferences and market entity, the State Power founded based on the VISOU in independent of frequent make the VISOU real Corporation (SPC) was March of 1997. The SPC

no longer took the responsibility of industrial administration as the MOEP, but became an electricity business operator in the real sense. The SPC and the MOEP coexisted for 1 year to ease the transition. In 1998, MOEP was dissolved and its administrative functions were transferred to a new department under the State Economic and Trade Commission (SETC). The focus of the state entrepreneurialism reform at this stage was to clarify and separate the responsibilities of governmental administration and business operation, and it included two key components: (1) separation of the government and enterprise and (2) separation of the ownership and operation.4 However, the transition did not happen overnight; the Chinese task was much more challenging due in part to the historical cradle to grave responsibilities for workers inherited from the old planned economy. The transition involved fundamental changes and created new problems in many aspects such as the nancial administration, the role of ofcials, and the treatment of the workers (Duckett, 2001). Fortunately, the electricity industry was among the last few industries where state entrepreneurialism was carried out. There were experiences and lessons that could be learned from practices in other industries. State entrepreneurialism was a necessary and rst step to restructure the VISOU; however, the reform had not touched the organizational base of the VISOU. The monopolistic position of the newly founded SPC remained unchanged. The SPC still controlled half of the countrys generation assets and almost all of the T&D assets, which became a key obstacle to build a competitive electricity market. In 1999, pilot practices to separate electricity generation from T&D, and access the grids through competition were carried out in ve pilot provincesHeilongjiang, Liaoning, Jilin, Shandong, and Zhejiang, and one pilot cityShanghai. The pilot practices were short-lived mainly because the construction of these power markets was still constrained by old monopolistic practices of the SPC. However, these practices provided initial experiences and paved the way for the eventual dismantlement of the SPC in 2002. Besides the organizational restructuring, important reforms were also introduced in the price scheme. As mentioned above, the rule of repayment of principal and interest had in fact resulted in a complicated price systemone plant, one price, and driven up the guided prices. To simplify and control the prices, a new price schemeoperation-period prices and yardstick prices5
4 To some extent, it is similar to the practice that the British government restructured the state-owned Central Electricity Generating Board to separate the ownership and operation. 5 The price scheme change in many aspects mirrors the US introduction of IR programs, or yardstick programs, as alternatives to rate-of-return control since the late 1970s. Rate-of-return range programs allow prices to uctuate with changes in costs while under yardstick competition programs a utilitys price is based on the costs of comparable utilities. The change from repayment of principal and interest to operationperiod prices and yardstick prices in China serves a similar purpose.

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was practiced in 1997. The price under repayment of principal and interest is based on costs occurred during the repayment cycle. It is usually higher in the repayment period of a new plant due to the repayment costs. Once the repayment period ends, the power price drops during the remaining operation period. Generation costs and the internal rate of return on capital are actually plant specic. The price under the new scheme is based on an average social generation cost and a unied internal rate of return on capital over the remaining operation period. For incumbent plants, this is indeed an operation-period price while for new entrants the new scheme virtually species a unied yardstick price. The new scheme was formally specied in Notice on Regulating Administration of Electricity Prices in 2001 (Notice of 2001) and is still in practice now. 3.4. Stage 4monopoly dismantlement (2002present) The reform at this stage really marked a milestone in the development of Chinas electricity industry. The major features were presented in a key governmental document Scheme of the Reform of Electricity Industry (Scheme of 2002), which was approved by the State Council in April of 2002. It mapped out the general platform for following reforms. The focus was to break the vertical monopoly of the SPC and introduce competition (mainly on the generation side) through diversifying the generating entities, which was aimed primarily to lower cost and improve efciency. The rst important action was the dismantlement of the SPC on December 29, 2002. Total assets were divided into 11 new corporations including two grid operatorsState Power Grid and China South Power Grid, ve IPPs (Big Five)Huaneng Group, Datang Group, Huadian Corporation, Guodian Corporation, and Power Investment Corporation, and four auxiliary corporationsPower Generation Consulting (Group) Corporation, Hydropower Engineering Consulting (Group) Corporation, Hydraulic and Hydroelectric Construction (Group) Corporation, and Gezhouba (Group) Corporation. State Power Grid includes ve regional grids: Northwestern Grid, North Grid, Northeastern Grid, Central Grid, and East Grid. The division of generation assets and transmission assets were not completed all at once. The Big Five did not receive all state-owned generation assets from the SPC. 9200 MWs of generation assets were transferred to the four auxiliary corporations and were provisionally managed by State Power Grid. Another 6473 MWs were directly controlled by State Power Grid. These two chunks of generation assets, known as Item 920 and Item 647, have eventually been divested and purchased by other generation corporations since 2006 (State Electricity Regulatory Commission (SERC, 2006a)).6 Both Item 920 and Item 647 are highquality generation assets. The difference is that the state6 This can be viewed as the divestiture of generation assets equivalent to that of investor-owned utilities in US electricity industry.

owned assets take majority control in enterprises associated with Item 647 and it is not the case under Item 920. The difference in ownership structure explains the different ways by which these remaining generation assets are divested. While Item 920 is open to all investors who satisfy the qualications set by SERC, Item 647 is open exclusively to the Big Five. It is intended to provide some protection for the workers in the state-owned enterprises and meanwhile adjust the unbalanced asset scale between the Big Five due to the discrepancy between actual assets received and book assets when they are initially established. The divestiture of Item 920 was fully completed in the May of 2007 and the processing of Item 647 began right after that. Secondly, a series of new policies on pricing schemes have been introduced and detailed in Scheme of 2002, Scheme of the Reform of Electricity Prices 2003 (Scheme of 2003), and Procedures for Implementation of the Reform of Electricity Prices 2005 (Procedures of 2005). Operationperiod prices and yardstick prices are still used in regions where competitive regional wholesale market has not been established. For regions where competitive wholesale transaction has been introduced, the price consists of two components: capacity price which is determined by the government according to the average cost of all generation units in the market, and volume price which is determined competitively in the market. On the retail side, the catalog was simplied to include only ve categories. A unit-price scheme is implemented in residential and agricultural electricity sales and a two-component price scheme, which is similar to the counterpart on the generation side, is implemented in industrial and commercial electricity sales. Additionally, differentiated prices were introduced in 2004 and rened in Notice on Rening the Policy of differentiated Electricity Prices (Notice of 2006). Electricity uses in energy-intensive industries are charged with higher prices. Since coal is the dominant fuel for power generation, power supply became tight again as the cost of coal soared after 2002. To ease the conict between the coal industry and the electricity industry, the Coal and Electricity Price Co-move policy (CEPC) was introduced in Notice on Constructing the Mechanism of Coal and Electricity Prices Co-move 2004 (Notice of 2004). To understand the new policy, it is necessary to rst have a look of the coal pricing scheme and its relation to the electricity market. As the coal supply became abundant partly due to the proliferation of private coal mines, the price of coal was deregulated in 1993 and the coal market became competitive. However, electricity prices were still tightly controlled. To promote electricity generation to fuel the economy, the price of coal sold to the electricity sector (called within-plan coal) was deliberately kept at low levels. Thus a double track pricing scheme was formed. When coal price uctuates in free market but electricity price remains constant, conicts between these two industries are inevitable. The low-price policy on the within-plan coal does promote electricity generation but harms the coal industry. The coal industry

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became one of the largest loss makers and by 1993, it was receiving nearly six billion RMB Yuan in national subsidies (Yeh and Lewis, 2004). It is also argued that the double track pricing system had an adverse impact on the electricity market as well. Many IPPs lack the political inuence to qualify for much within-plan coal, thus have to seek higher-priced coal from the free market. This creates unfair competition between the IPPs and the power giants (James, 2004). Under the old pricing system, company behavior and industrial relationships were distorted. The CEPC policy, aimed to ease the conicts between the two industries, includes two key components: (1) electricity generation prices co-move with coal prices; (2) electricity retail prices co-move with generation prices. The co-movement is not a free market adjustment but is regulated and determined periodically by the NDRC to avoid extreme price uctuations. The actual adjustment will only be activated if the uctuation of coal prices exceeds 5%, otherwise the uctuation will be accumulated to the next period. To some extent, the policy mitigated the conict between the two industries and relieved the electricity sector from being squeezed by the soaring coal prices and relatively at catalog prices. However, this is accomplished at the cost of end users with some users suffering more than the others. As stipulated, the uctuation in coal prices will eventually be passed onto the end users. The price uctuation will be shared among different end users; however, catalog prices will not be affected to the same degree. Prices for residential users, agricultural users, and small fertilizer producers will be kept relatively stable. Any changes to residential prices have to go through public hearings. Although the policy stipulates that 30% of the cost increase due to coal price uctuations must be absorbed by the generators, most of the cost will still be borne by the end users. The scheme does not provide strong incentives for cost control and efciency improvements. Thirdly, competition mechanisms are also introduced through the construction of wholesale and retail markets. Competitive regional wholesale marketsPower Coordination and Transaction Centers (PCTCs)were scheduled to be established by the end of 2005. Power plants will bid through PCTCs and gain grid-accessing priorities according to their bids.7 It is aimed to create incentives for cost control and efciency improvements. Due to the resurgent power shortage since 2002, the construction of PCTCs is delayed. However, the reform has regained momentum recently. Pilot practices have been conducted in Northeast and East China regional markets. Wholesale market in South China has entered into simulated operation. On the retail side, large-volume users will be allowed to directly
7 The functions of PCTCs are similar to those of other wholesale market arrangements such as the Independent System Operators or the Regional Transmission Organizations in the US and the New Electricity Trading Arrangement or the recent British Electricity Trading and Transmission Arrangements in the UK.

purchase electric power from generators. Pilot practices have also been introduced in Jilin and Shandong provinces and 12 other provinces have led applications to the SERC to start similar reforms (SERC, 2006b). And lastly, a new regulatory bodySERCwas founded in March, 2003, and a specialized supervision system is established. The regulatory authorities are shared between several government departments with the NDRC (which is established in 2002 by combining the SETC and the State Planning Commission) taking the lead on electricity industry investments and price making, the State-owned Assets Supervision and Administration Commission supervising the business performance of the stateowned assets, the State Environmental Protection Agency taking charge of environmental protection in the electricity industry, and the newly established SERC supervising the market competition, market entry, and electricity security. A report from SERC (2006b) reported some progress at this stage: (1) generation increased substantially. From 2001 to 2006, national electricity generation almost doubled from 1434.6 to 2834.4 TWh (BP, 2007); (2) generation entities have been further diversied. In 2002, the SPC owned 46% of the nations generation assets, while the Big Five only controls 38.79% of the nations generation capacity in 2006. Other power corporations that are administered by the central government contribute 10% of total generation capacity. Power generators administered by local governments become the majority with 45% of the total capacity. Private and foreign investments make the remaining 6.21%; (3) competition drives generation cost down by about 2025% generally; (4) particularly, efciency gains and cost reduction have been achieved from pilot practices of regional wholesale market. However, a critical evaluation of these results is not possible due to the missing details on how these results are derived. First, it is unclear that the surge in generation from 2001 to 2006 was a result of related policies introduced during this period. It may rather be a knee jerk reaction to the ban on the construction of power plants from 1999 to 2002 which also contributed to the power shortages during 20032005.8 Second, there is still little real competition even in the generation side. Competition mechanisms are only simulated in pilot markets. Evidence of cost reduction and efciency gains are critical in evaluating the performance of pilot experience and extending the practices to larger scale. However, such information is not presented in the report. Despite the vague progress, some challenges remain. On the one hand, independence of the SERC may be hampered by the interconnected elite leadership between the SERC and the Big Five, which may in turn undermine the intended aims of the reform (Yeh and Lewis, 2004). On the other hand, the NDRC is still the leading regulatory department taking control of investments and prices. The SERC, designed as the independent regulator of the power
8 Discussions in this paragraph have beneted signicantly from comments from an anonymous reviewer of an earlier draft of this paper.

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sector, currently has limited authorities. Since the NDRC is an all-powerful department regulating many industries, independence of the SERC may be further weakened. Additionally, evidences of progress so far are rather limited and preliminary at best. Rigorous research is needed especially with regard to the impacts of reforms on generation efciency, social welfare, and environmental impacts, which can then be used to guide adjustments of current policies and designs of following reforms. 3.5. Stage 5clean and efcient power (2006present) While complementary policies have been implemented on the platform mapped out in the Scheme of 2002 and more are anticipated, some parallel initiatives have driven the reform toward a new direction which marks a new phase in the reforms of electricity industry. Reliable supply and market efciency had always been prioritized when the nation was plagued by chronic power shortage, frequent blackouts and cycles of over- and under-capacity. Many past and current reform measures have been designed to promote generation capacity and improve market efciency. With all these on-going reforms, the environmental challenge, which has long been considered a secondary concern, now has to be taken seriously by Chinas electricity sector. The challenge is rooted in the coal-intensive nature of Chinas power sector. Coal consumption accounted for 70.2% of Chinas total primary energy consumption in 2006 (BP, 2007). In 2004, power sector was estimated to account for around 50% of total coal consumption in China (IEA, 2006b). As Chinas energy consumption increases rapidly in recent years, greenhouse gases emission and pollutant-related human health problems induced by coal burning have drawn more and more attention from policy makers. There has been an increasing interest and growing awareness of environmental protection from the public. The country has provided for environmental protection since the Constitution of 1982, followed by specialized environmental legislation and policies. Table 3 lists major national environmental legislation and policies related to the power sector. They are complemented by local policies and implementation procedures. Additionally, there are also associated sections in the national FiveYear Plans. Earlier environmental efforts focus on conservation and efciency improvement, which has effectively reduced Chinas energy and carbon intensity. However, the total greenhouse emission still increases rapidly due to the coal-intensive nature and compelling demand for energy. According to IEAs projection under the reference scenario, China will overtake the US as the worlds largest carbon emitter before 2010, which comes sooner than previous predictions (IEA, 2006c). More recently on June 19, 2007, the Netherlands Environmental Assessment Agency announced that Chinas 2006 CO2 emissions surpassed those of the US. This is the rst study showing that China has become the largest carbon emitter.

Table 3 National environmental legislation/policies related to electricity industry Year of enactment 1982 1987 1989 1994 1995 1996 1996 1997 2002 2004 2005 2007 Legislation/policy

Constitution Law of Convention and Control of Atmospheric Pollution (amended in 1995 and 2000) Environmental Protection Law Agenda 21 Electric Power Law 2010 Long-Term Plan Regulations for Administration of Environmental Protection in Power Sector Energy Conservation Law Environmental Impact Assessment Law Medium- to Long-Term Energy Conservation Plan Renewable Energy Law Medium- to Long-Term Plan for Renewable Energy

Although researchers still have not reached a consensus on the timing, conclusions vary only by a few years. China has come to a critical point where it not only needs to face the challenge of sustainability with its own development but deal with the mounting pressure from the global community. Researchers have been proposing options for China to effectively control its carbon emissions. Nakicenovic et al. (1998) showed that to limit both sulfur and carbon emissions, the best technologies focus on rapid technological progress and the use of energy resources other than coal. Zhang et al. (2006) has found that the potential of further improvement in carbon intensity through improved generation efciency appears to be low. More opportunities exist in the substitution of other fuels for coal. Both studies call for clean energies in the energy portfolio. In the global context, many countries have introduced renewable portfolio targets to mitigate environmental impacts induced by fossil fuels. Table 4 lists the various renewable energy targets set by 38 countries collected by the Global Renewable Energy Policies and Measures Database, IEA. In the US, the renewable portfolio standard (RPS) has been adopted in 22 states and the District of Columbia as of mid-2006 (Rabe, 2006).9 These targets are different in many aspects such as volume target vs. percentage target, share of total energy vs. share of total electricity, eligibility of various renewable energies, as well as aggressiveness of the targets. Nonetheless, they are all aimed to increase the share of renewable energy in total energy portfolio and mitigate the adverse environmental impacts of fossil fuels. China has launched several renewable programs10 to promote the development of renewable energy since the mid-1990s and some of these programs
9 In 2007, the States of Oregon, North Dakota, South Carolina, New Hampshire, Missouri, Virginia have also added to the list. 10 Examples of such programs include Brightness Program (1996), Ride the Wind Program (1996), Capacity Building for the Rapid Commercialization of Renewable Energy Project (1999), National Debt Wind Power Program (2000), Township Electrication Program (2001), and Wind Power Concession Project (2004).

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1706 Table 4 National renewable energy targets Country Australia Austria Belgium Brazil Cyprus Czech Republic Denmark Estonia Finland France Germany Greece Hungary Ireland Israel Italy Japan Korea, Republic of Latvia Lithuania Luxembourg Mali Malta Netherlands New Zealand Norway Philippines Poland Portugal Singapore Slovakia Slovenia South Africa Spain Sweden Switzerland Turkey United Kingdom Renewable energy targets 9500 GWh of electricity annually by 2010 78.1% of electricity output by 2010 6% of electricity output by 2010 Additional 3300 MW from wind, small hydro, biomass by 2016 6% of electricity output by 2010 56% of TPES and 8% of electricity by 2010; 810% of electricity by 2020 29% of electricity output by 2010 5.1% of electricity output by 2010 35% of electricity output by 2010 21% of electricity output by 2010 12.5% of electricity output by 2010 20.1% of electricity output by 2010 3.6% of electricity output by 2010 13.2% of electricity output by 2010 2% of electricity by 2007; 5% of electricity by 2016 25% of electricity output by 2010 7% of TPES by 2001 2% of total energy consumption from new and renewable energy by 2006 6% of TPES (excluding large hydro) and 49.3% of electricity by 2010 12% of TPES and 7% of electricity output by 2010 5.7% of electricity output by 2010 15% of TPES by 2020 5% of electricity output by 2010 9% of electricity output by 2010; 10% of primary energy by 2020 30 PJ of new capacity (including heat and transport fuels) by 2012 7 TWh from heat and wind by 2010 An increase in renewables of 4.7 GW of total existing capacity by 2013 7.5% of TPES and 7.5% of electricity by 2010; 14% of TPES by 2020 45.6% of electricity output by 2010 Installation of 50,000 m2 of solar thermal systems by 2012 31% of electricity output by 2010 33.6% of electricity output by 2010 10,000 GWh or 0.8 Mtoe RE in the nal energy consumption by 2013 30.3% of electricity from renewables by 2010 60% of electricity output by 2010 3.5 TWh from electricity and heat by 2010 2% of electricity from wind by 2010 10% of electricity output by 2010 C. Ma, L. He / Energy Policy 36 (2008) 16971711

Data source: Global renewable energy policies and measures database, IEA.

have been very successful. However, they are mostly independent of or supplementary to the traditional energy industry, particularly the power sector, which is by far the largest contributor of Chinas greenhouse emissions. In other words, these programs do not change the energy industry fundamentally. Even for programs where explicit targets are specied, they are mainly indicative rather than mandatory.

The new stage of renewable energy development is marked by the approval of the Renewable Energy Law (REL)11 in February, 2005, which has been effective since 2006. While the law is about renewable energy in general, it pays special attention to renewable power. It established the legislative foundation and articulated the development direction for Chinas renewable power. The key features include: (1) a renewable energy target (Article 4); (2) licensing renewable generators through a tender (Article 13); (3) power grids must purchase electricity from qualied grid-connected renewable generators (Article 14); (4) xed-term differential (favorable) price for gridconnected renewable energy (Article 19); (5) price difference between renewable power and traditional power shared by the grid (Article 20); (6) a renewable energy development fund (Article 24); (7) preferential loans and tax benets (Article 25 & 26). Following the enactment of REL, complementary rules for implementation have also been issued. For example, rules for grid open access for renewable power were stipulated in SERC Order 25, issued in July 2007. The most important feature of REL is that for the rst time, construction of a renewable energy target is written into a law, which gives renewable energy development the highest legislative support. The detailed targets were specied in a couple of following NDRC plans. In early 2007, NDRC issued the 11th Five-Year Plan for Energy Development which states that by 2010, coal, oil, natural gas, nuclear, hydro, and other renewable energy should account for 66.1%, 20.5%, 5.3%, 0.9%, 6.8% and 0.4% of total primary energy consumption respectively. According to the denition of renewable energy12 in REL which excludes nuclear but includes hydro, the renewable energy will jointly contribute 7.2% of the total primary energy. However, the renewable energy target was raised in a later NDRC document in the same yearMedium and Long Term Plan for Renewable Energy Development (MLTPRED). The MLTRED, which is viewed as a comprehensive complement and extension to the REL, states: make efforts to increase the share of renewable energy in total energy consumption to 10% by 2010 and 15% by 2015. These targets are best understood as indicative rather than mandatory. Notably, the MLTPRED stipulates mandatory market shares (MMS) for renewable power generation. The generation from non-hydro renewable resources must account for 1% by 2010 and 3% by 2020 of the total grid capacity. For all investors that have installed capacity over 5,000 MW, non-hydro renewable generation capacity must account for 3% and 8% of total generation capacity by 2010 and 2020. These renewable portfolio targets may rst
11 The current study does not provide detailed evaluations of the REL; rather, it only describes some of the key components and features of the law and their implications. For a detailed discussion and assessment of the potentials and weaknesses, see Cherni and Kentish (2007). 12 According to the REL, renewable energy includes hydro, biomass, wind, solar, geothermal, and ocean energy.

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appear moderate compared with those of other countries (Table 3); however, it is rather challenging and aggressive given Chinas current level of renewable generation. By 2006, thermal, hydro, nuclear, wind, and other renewable energy accounts for 77.82%, 20.67%, 1.1%, 0.3%, and 0.11% of the total power generation (SERC, 2006b). According to the REL denition of renewable resources, the current share of renewable generation is only 0.41% (wind and other renewable energy). This ratio must increase to 1% within 4 years by 2010 which is equivalent to roughly 25% annual increase in share terms. Assuming that power generation increases at the same average rate as that during 20002004 which is roughly 13%, the MMS translates to a 41% annual increase during 20072010 and 26% during 20112020 in volume terms. Moreover, the robust increase is not a 1-year dedication but a continuous effort for one and a half decade. Additionally, the task may turn out to be even more challenging given Chinas historical heavy dependence on coal generation. Delmas et al. (2007) has found that at the utility level and under conditions of deregulation, the lower the percentage of coal generation in total generation, the greater the annual increase in renewable generation. This is because, for a utility that depends heavily on coal, an expansion to renewable generation represents a shift away from its competency base in coal-red plants. Given the coalintensive nature of Chinas electricity generation, the majority of power plants are still primarily comprised of coal-red units. Thus, an aggressive policy to expand the share of renewable generation by a large margin is extremely challenging if not unrealistic. Another implication of Delmas et al.s study is that a renewable portfolio will provide more market potential for the new entrants who have not developed competency in specic generation technologies. Much recent attention has been placed on renewable energies (other than large-scale hydro and nuclear), especially wind; however, the impact and potential should not be exaggerated. As we have seen, wind and other renewables currently only account for less than 0.5% of Chinas total power generation. Even if China does manage to boost the absolute quantity of renewables substantially, it will probably amount to just a few percent of the total capacity. Other clean options may provide better opportunities. First, more often than not, hydro and nuclear are still the main options of clean energy on the table when the issue is to control carbon emissions. Second, the coalintensive nature of Chinas energy consumption and fast economic growth are expected to remain for the foreseeable future. These facts call for other alternatives such as demand-side management and efciency improvements of coal-red generation (IEA, 2006a). The power sector is now Chinas largest single source of greenhouse gas emissions that has caused various health and environmental consequences. However, low-efciency plants, many of which have minimal or no pollution control technology, persist in this sector. There is still large potential of efciency improvements (Berrah et al., 2001).

4. Discussions and conclusions 4.1. Shift of reform priority The development of Chinas electricity industry has experienced ve stages: pre-reform state monopoly, generation promotion, state entrepreneurialism, monopoly dismantlement, and, clean and efcient power. A clear shift of priority can be identied from policies introduced at each stage. During the pre-reform period, like many other industries, electric utility was monopolistically controlled by the central government. The focus was to effectively mobilize and allocate rather limited electric resources based on national development plans. Since the onset of the economic reform in the late 1970s, many industries have been gradually deregulated. Deregulation in electric utility sector was also launched in the mid-1980s. The early priority (Stage 2) was to attract investments from sources other than national capital to promote generation capacity. As power shortage was basically alleviated, reform priority shifted to market efciency. Inherited from the old centralized economy, the sector necessarily experienced two fundamental restructuringrstly disentangling the dual roles of government administration and business operation historically played by the sector, and secondly dismantling the VISOU. As the pressure of environmental protection and the challenge of sustainable development become compelling, a renewable element has been included in the electricity portfolio through a MMS recently. In the past 30 years, the trajectory of Chinas electricity industry reform covered electricity generation capacity, grid reliability, market efciency, and energy sustainability, and its initiatives transited from relieving immediate capacity deciency in the 1970s to introducing far-reaching and forward-looking sustainable energy policies in the new century. 4.2. International comparison First of all, the priority shift at various stages of Chinas utility restructuring and reform practices at each stage are well consistent with ndings by Newbery (2001) and Jamasb (2002) about generic reform aspects and primary aims of restructuring in developing and developed countries. Chinese practices at early stages (before 1997) are more consistent with those of developing countries (since 1997) while later policies have more in common with those of developed countries. Some major elements of the restructuring can nd their counterparts in restructuring practices of other countries. Take US utility restructuring as an example, the PURPA of 1978 in the US created nonutility generatorsQFs. The Energy Policy Act of 1992 in the US delegated to states the authority to decide how to proceed with utility restructuring. The Interim Provisions of 1985 in China also provided for creation of non-utility generators and made the Bureaus of Electric Power at provincial level operational entities. Since the late 1970s,

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many states in the US have adopted various IR programs as alternatives to rate-of-return control. China also introduced operation-period prices and yardstick prices to replace the old repayment of principal and interest scheme. FERC has issued Order 888, 889, and 2000 for open access to grid, information disclosure, and wholesale market construction, all of which have counterparts in the Scheme of 2002 in China. The Scheme of 2002 also dismantled the VISOU into eleven independent corporations. The dismantlement of VISOU and recent sale of Item 920 and Item 647 is equivalent to the divestiture in many states in the US. More recently, China has introduced the MMS policy which requires a mandatory share of power coming from renewable resources. The policy is similar to the RPS policy adopted in many states of the US (and many renewable target policies in other countries as well). Actually, the two policies have many elements in common such as PPAs, feed-in tariffs, preferential tax benets, public benet funds, and most importantly a renewable portfolio. Despite all these similarities we have identied above, they are most notable at the stage of policy formulation. Plans and statements do not translate to real action and actual results naturally. Indeed, many of the market reforms prescribed in the Scheme of 2002 are not proceeding as planned. Uncertainty, delays, and low transparency can weaken the intent and undermine the implementation. Implementation details need to be well prepared in advance and delays should be avoided once a specic reform is scheduled. Both lessons and experiences are abundant from global experiences (WB, 2004). 4.3. Top-down vs. bottom-up Chinas electricity industry restructuring has mostly been a top-down process. This is in part due to the fact that Chinas current electric utility sector is inherited from the old centralized economic system under which the central government takes on dual roles of government administrator and business operator. The dual-role system results in the unique stage of state entrepreneurialism in Chinas utility restructuring process which is aimed to disentangle the role of government from that of business. The central government has played a leading role in Chinas utility restructuring. While in the US, the state government has been dominant in electricity regulation for decades (Rabe, 2006). Particularly, the Energy Policy Act of 1992 in US delegated to states the authority to decide for themselves how to proceed with utility restructuring, and state regulatory commissions has become the platform for most of the subsequent initiatives toward electric utility restructuring. It appeared that China had a similar policy component in the Interim Provisions of 1985 to make the provinces real operational entities. However, the provincial regulatory bodies in China have much less authorities over utility restructuring than their US counterparts. After all, the US is politically a federal system while China is formally unitary. Most restructuring policies and rules in

China are made at the national level and then local governments make complementary procedures to implement the national policies. 4.4. Gradualism approach Similar to Chinas overall economic reform, there have been no big bang or shock therapy reforms in Chinas electric utility restructuring. The reform has adopted a gradualism approach which may result in consistent and stable regulatory regime. Restructuring initiatives are rst outlined by the central government and its administrative departments. A few provinces and cities are then selected for pilot practices to gain experiences and identify problems. As the practices become mature, a national policy is made and practices are expanded to the whole country. The reforms reviewed in this paper occurred in a period of over two decades with each major initiative introduced and pilot-practiced well before nal implementation. For example, separation of government and enterprise was not implemented until 1997; however, the guidelines had been provided in Interim Provisions of 1985. Before the eventual dismantlement of the SPC in 2002, pilot practices to separate electricity generation from T&D services had been carried out in ve pilot provinces and one pilot city. Similarly, many voluntary and indicative renewable energy programs have been carried out since the mid1990s. Complementary tax and customs policies were also introduced to promote the development of renewable energy technologies. These efforts have prepared the sector for the later introduction of the renewable portfolio. Recently, pilot practices have also been introduced to accumulate experiences in wholesale market construction and direct retail access to large-volume consumers. Run et al. (2003) has argued that China has achieved a relative success in attracting FDI in electric power sector compared with Brazil and India, beneting from a stable regulatory regime and a cautious approach; however, the denition of success maybe too loose in this case. Although Chinas been successful in promoting substantial new capacity through FDI, the average size of FDI-based generating units has been rather small, mostly less than 100 MW, which may be less efcient than their counterparts in Brazil and India as well as those existing units in China. Despite policy consistency and caution due to the gradualism approach, it is still too early for Chinas electricity reform to claim success at this stage. Such a claim entails evidences on improvements in grid reliability, economic efciency, environmental indicators, social welfare, etc., all of which have been rather limited. 4.5. Pragmatic leadership Run et al. (2003) also argued that the pragmatic leadership at the policy-making and implementing levels supported by growth-oriented and network-based processes has allowed a stable, gradually liberalizing

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restructuring of the electricity sector to proceed in China. Yeh and Lewis (2004) similarly analyzed the role of the engineering and particularly electrical engineering background of many top ofcials in the development and restructuring of electric utility. These analyses are valid partly because the restructuring process so far has been mainly aimed to promote generation and increase market efciency, both of which are in the immediate benet of many associated interest groups such as the emerging private rms and the growing village and township enterprises. Other interest groups such as rational staff in state-owned enterprises and subsidized consumers are at least not in a position to hinder or thwart the restructruring process. However, this benign situation does not naturally extend to the latest restructuring process with the renewable portfolio and other clean options in which case the immediate benet is much less than the long-term benet. One inuential interest group in this process is governmental ofcials, who have been historically evaluated and promoted according to short-run economic performance since the onset of Chinas economic reform in the late 1970s. It is possible that environmental considerations are consistent with economic development in some cases. For example, compliance with renewable portfolio requirement is actually economically benecial in regions that are abundant in renewable resources or in need of job creation. However, for most other regions where traditional energy sector is well established, the incentive to build thermal power plants using reliable fuel resource and mature technology, which will make immediate contribution local economy, is denitely stronger than that to replace thermal power plants with risky renewable power. Even for regions where environmental considerations triumph economic pursuit, the implementation of the associated environmental regulationsrenewable portfolio in this casemay be weakened. Rabe and Mundo (2007) show that in the US, business and industry have an important optionpetitioning federal institutions to over-ride or preempt state authority when confronted with strict state environmental regulation. Although such option is hardly available for Chinese enterprises, they could obtain favorable policy treatment through cultivating close relationships with local ofcials or even using bribes. A counteracting factor which favors environmental efforts would be governmental ofcials political liabilities or ambitions when confronted with new challenges of environmental protection. Yeh and Lewis argued that Chinas electric utility restructuring so far is more of a creative, dynamic response to the political imperative to stay in power rather than a wholesale adoption of free markets. Whatever the true mechanism, it points out the possibility of aggressive environmental efforts when public awareness and concern about environmental protection engenders the legitimacy of the leadership. 4.6. Road ahead With Chinas electric utility restructuring proceeding for over two decades, the sector has been fundamentally

reshaped. Many important policies have been introduced and implemented as discussed in this paper; however, challenges remain. For example, competitive wholesale market and retail access are only at experimental stage and little consensus has been achieved as to how to implement these reforms. Even though creating wholesale markets and granting direct retail access improve market efciency in theory, it is by no means guaranteed in practice. Many practical details matter. First, details of market design are very important; the success of electricity industry deregulation and reforms, which is evidenced by successful experiences as well as painful energy crises over the world in the process of deregulation and market formation. For instance, Hogan (2002) showed that details of market design had signicant impacts on the success of a regional wholesale electricity market. Wiser et al. (2005) also illustrated that state RPS policies had different impacts on renewable energy market development due to policy design details. On the other hand, market reforms are not simply copy-and-paste process, either from region to region or country to country. Successful implementation should also take into account specic institutional characteristics such as legal system, governmental administration, political regime, and interest groups. The Scheme of 2002 has mapped out a well-edged platform for the following reforms and the REL also outlined the new direction of power sector development in the long run; however, it is not clear whether the Scheme and the REL t well in Chinas current institutional framework and whether complementary procedures and measures can be carefully designed in a timely manner and implemented effectively. The answers to these questions also address how well Chinas reforms in electric power sector will fare on the road ahead. Notwithstanding its ambition, the renewable portfolio poses an unprecedented challenge to electricity industry reform from the perspectives of grid operation and market coordination. On one hand, incorporating renewable energy-based electricity into power grid changes the current operational procedures, and substantial efforts need to be made to ensure green grid reliability. For instance, the output from wind and solar generation can change dramatically, both up or down, in a very short period of time. These rapid changes pose signicant challenges to system reliability as well as forecast accuracy. On the other hand, an innovative mechanism needs to be formulated to trade off economic efciency and environmental benets in the electricity market. Given the current market structure and economic differences between fossilfuel and renewable energy-based generation practices, it is not unreasonable to provide new entrants with preferential policies to level the playing eld. However, mechanisms should be designed carefully and properly so that the market as a whole is not hampered and incentives are created for renewable power producers to control cost and improve production efciency in the long run. Fortunately, the challenge of integrating renewable resource into the

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grid is not unique to Chinese electric power industry. International experiences are available and collaboration opportunities exist (CAISO, September, 2007). State commitment is essential for the effective implementation of environmental policies. When conicting with other needs, environmental norms require government mandate. This is by no means an easy task given the fact that relevant institutional framework has not been fully set up in China. Although the one factor that is predominantly weighted in assessing government ofcials is still economic performance, environmental protection has gradually entered into the assessment procedures of ofcials in some provinces. It is interesting to see to what extent this new initiative could result in consistent efforts on the implementation of renewable portfolios in this case. Another related issue is how much binding power the mandatory renewable energy market share regulation will have. Eventually, the binding power will come from punishment on violators. The punishment clause in the REL is rather weak. Currently, violators will only be punished through a ne no more than the amount of economic loss incurred by associated violations. It is unclear that the magnitude of the punishment would deter violators. It is also possible that violators escape from exposure and punishment. With weak economic punishment and uncertainty of exposure, there may be cases where gains from violation exceed potential punishment so that enterprises will deliberately violate to make prots. The binding power of the REL is therefore weakened. To cope with the challenges, a relatively independent regulatory agency is needed to unify the regulatory regime and better serve the regulatory role. It seems that the newly established SERC are designed to take on the responsibilities. However, it now shares much of these functions with other governmental administrative departments including the NDRC, the all-powerful policy-making agency for all industries. Currently, SERC mainly supervise the market competition, market entry and electricity security while NDRC still plays a leading role and takes control of power sector investments and price making. Without authorities on sector investments and price making, SERCs regulatory capabilities are much constrained, and, unied power sector regulation and policy coordination is hard to achieve. However, in current China, it is impossible to have a highly independent regulatory body for electric power sector other than the NDRC. Nonetheless, SERC can enhance its capabilities as regulator through international collaboration, learning from experiences of other regional or national regulators whose development may share common points with China, and also beneting from expertise from international experts. Some international organizations (World Bank (WB) in particular), in collaboration with numerous Chinese as well as international experts, have actually made signicant contributions to Chinas recent reform in this sector (Berrah et al., 2001; Berrah and Wright, 2002; Hu et al., 2005; IEA, 2006a; Shao et al., 1997; WB, 1994, 2000). The

World Bank (1994) recommended that China takes a few steps to reform its electric power sector. The reform path proposed by the WB has been actually followed in general although some elements have been delayed. Later, the World Bank (2000) discussed Chinas over-complex licensing regime and recommended a one-stop shop approach for licensing so that generation licensing does not obstruct market entry. Berrah and Wright (2002) suggested a roadmap for establishing an effective regulatory body in Chinas electric power sector. The recent IEA report has also made a few detailed suggestions on how SERC could reinforce its capabilities in various aspects (IEA, 2006a). From state monopoly to renewable portfolio, the nations power sector has experienced fundamental changes. However, it is still too early to predict anything, success or failure, of Chinas utility restructuring. While studies on impacts of utility restructuring on generation efciency, environment, and social welfare have been conducted in other countries such as the US, there has been little research on these issues in China. All these topics deserve more exploration from researchers to provide evidences and advices for future policy making. Acknowledgments This project received nancial support from the Alcoa Foundation Conservation and Sustainability Fellowship Program at the Erb Institute for Global Sustainable Enterprise at the University of Michigan and the Chauncey Starr Fellowship Program at Rensselaer Polytechnic Institute. We would also like to thank two anonymous reviewers for very helpful comments. References
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