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Expert Commentary - The impact of Phase 1 of the US – China trade deal on the LNG market

 

Dr. Kamran Niki Oskoui, Market Research Analyst,Gas Market Analysis Department (GMAD)

On 15th January 2020, the United States of America and China signed the Phase 1 of the Economic and Trade Agreement between the two countries. The 84-page document, which is expected to come into effect by mid-February 2020, has explained the commitments of both parties in eight chapters including Intellectual property, Technology transfer, Food and agriculture, Financial services, Macroeconomic and exchange rate, Expanding trade, Dispute settlement, and Formalities.

The outstanding part of the agreement reflects the commitment of China to purchase an additional $200bn worth of US goods and services on top of the 2017 baseline during 2020-2021. China agreed to buy an additional $77.7bn of Manufactured goods, $32bn Agricultural products, $52.4bn energy and $37.9bn worth of Services over the two years, starting from mid-February 2020 and ending December 2021. The objective of additional purchase by China is to close the trade gap of $300bn/y between the two major economies. In return, the US agreed to remove tariffs on an additional $160bn worth of goods and services. The US will also halve the tariff rates from 15% to 7.5% on the $120bn Chinese imports. However, China has not committed to reducing tariffs in retaliation. 

Focusing on the energy imports, the terms of the Agreement imply that China has to buy additional $18.5bn of US energy in 2020, over the baseline of 2017. China's energy import from the US is also to increase by $33.9bn in 2021. Taking into account the $9.1bn of Chinese energy imports in 2017, China's energy imports from US energy needs to reach $27.6bn and $42.6bn in 2020 and 2021 respectively. The Agreement listed LNG, Crude oil, Refined products, and Coal as energy imports based on commercial considerations and market conditions (Table 1). 

Table 1: Value of US energy export to China (Billion US$)

US export to China

2020

2021

Total in two years

Additional Energy imports (LNG, Crude oil , Refined products and Coal)

18.5

33.5

52.4

2017 baseline of US energy exports to China

9.1

9.1

9.1

Total level

27.6

42.6

61.5

Source: GECF Secretaries, World Bank, Factsheet of Phase1 of US- China Trade Agreement


 The commitment to purchase this massive amount of energy has raised some critical questions among energy market players. The first question is to what extent is it possible for China to absorb the additional $52.4bn worth of energy imports from the US? From a macro perspective, the additional $52.4bn worth of energy imports from the US looks feasible as compared with the total value of Chinese energy imports. China imported around $267bn and $374bn worth of energy in 2017 and 2018 respectively. As shown in Figure 1, Chinese energy imports have been fluctuating over the past years mainly due to energy price variations; and the range of variations in the value of total energy imports, reaching from $176bn in 2016 to $374bn in 2018, is quite enough to absorb $52.4bn in two years.

However, the devil is in the details. Considering the fact, that China is not committed to removing 25% of tariffs on LNG and 5% on the US crude oil, the second question is “How would US energy and especially US LNG be competitive to be imported by Chinese companies?”. The reality is that if Chinese import tariffs on US energy remain in effect, US exporters will face difficulty to expand their market in China as expected in the Agreement. Indeed, in order to realize its commitments, Chinese authorities either should bind companies to buy US energy or should exempt companies from the existing tariff. Otherwise, US LNG will not be competitive in China LNG market.

Figure 1: Trend of China Energy Imports
Figure 1: Trend of China Energy Imports
Data Source: World Bank

The third question is that if China wants to implement its commitment in terms of LNG imports, how will it be able to do it without affecting other energy partners; and what would be the effect on LNG Market?  To answer these questions, we need to analyze the trend of China’s LNG imports during the last three years. The trend of China's LNG import has been growing significantly since 2017. China imported around 38 Mt of LNG in 2017 and LNG demand hiked to almost 54 Mt in 2018, representing 41% (or 16 Mt) growth in 2018. China also imported almost 61 Mt of LNG in 2019, up by 14% (8 Mt) as compared to a year ago. During these years, China imported 1.5 and 2.2 Mt from the US LNG in 2017 and 2018 respectively; however, LNG flows from the US into China has declined to 0.3 MT in 2019 due to escalating US-China trade tension. Australia, Qatar, Malaysia, Indonesia and Papua New Guinea were the top 5 LNG exporters to China accounting for about 85% of Chinese LNG imports over the past three years. Russia’s LNG export to China have been growing during these years exceeding 3 Mt in 2019 from less than half a million tons in 2017.  In terms of volumes, considering the 1.5 Mt US LNG as a baseline, China needs to import more than 3 MT on top of 2017 level in the year 2020, and more than 6 Mt in 2021. This means that China should import at least 9 Mt of LNG for two years. Preliminary projections by GECF show that China’s LNG imports are expected to grow by more than 11% in 2020, and around 10% in 2021. If these projections comes true, China's LNG demand will reach more than 76 Mt by the end of 2021. Therefore, with the estimation of more than 15 Mt incremental demand during 2020-2021, it would be possible for China to absorb an additional 9Mt (3 Mt in 2020 and 6 Mt from the US LNG) without having major implications on its other LNG partners. China will be able to do it, only by devoting incremental demand to US LNG exporters. However, as the commitment is based on the trading Value (Price multiplied by Volume), we need to take into consideration the existing oversupply in the LNG market and lower LNG prices as compared with the year 2017. 

This implies that in order to meet the commitments in the Agreement, China has to import more than 9 Mt in two years. Having mentioned that China is not committed to removing 25% of US LNG tariffs, and expecting lower LNG prices, we need to wait and see how China's authorities would facilitate the condition for US LNG exporter to reach the committed values in the agreement. As an indication, on 6th February 2020, China announced that it will halve tariffs on $75bn of US imports to support US-China trade agreement. 

 



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