China Can't Get Enough Gas, So It Has to Rely on Coal

The push by environmentalists to cut coal out of the energy picture is pushing up against some ugly realities. Even Chinese government mandates can't make coal go away in a country strictly controlled from the top down. Some on the ground in China suggest that switching to cleaner coal is a better answer right now.

Hurting more than helping
Wang Luguang, deputy head of environmental protection in China's Hebei Province, told China's official news agency that Hebei "has faced a gas shortfall of about 6 billion cubic meters since it started to reduce coal consumption." The government's plans to shift from coal to gas has, obviously, been slower than hoped. Bejing, it seems, is getting gas while other "dirty" cities can't.

(Source: SeaWiFS Project, NASA/Goddard Space Flight Center, and ORBIMAGE, via Wikimedia Commons)

Wang Zhongmin of China's coal quality supervisor, however, has an answer for coal pollution: Use cleaner coal. Peabody Energy (NYSE: BTU  ) would agree with that assessment. Peabody often points out that the U.S. power industry was able to cut regulated emissions by 90% at the same time that it increased coal use by 170%.

Using cleaner coal is one factor, but don't forget the technology like scrubbers and gasification that help make the coal burning process cleaner. The easy answer of switching to a cleaner fuel doesn't inherently mean getting rid of coal, which is clearly proving harder to do than say.

Even with a renewed focus on the environment, Peabody expects China's demand for foreign coal to increase by 40 million tonnes over the next two years. This internationally diversified miner is prepared to meet Chinese demand from its Australian operations. Peabody's operations in that country accounted for nearly 40% of the top line in the first quarter.

Unfortunately, despite continued demand, there's too much coal floating around right now. This has led to a price decline of nearly 17% per tonne, nearly wiping out all of the profits Peabody makes from selling Aussie coal. It's no surprise, then, that Peabody lost $0.18 a share in the quarter.

When things get better
That said, the oversupply situation will eventually correct and prices will rebound. That will put Peabody in a position to prosper by serving Chinese demand. Miners operating exclusively out of the United States, however, are likely to have a harder time benefiting. The reason is that environmentalists are trying to halt the construction of coal export terminals on the West Coast. More importantly, they're winning.

That's going to impact Peabody's Powder River Basin (PRB) operations, but also competitors like Arch Coal (NYSE: ACI  ) . This miner is projecting U.S. coal export capacity to more than double over time, but most of the increase is coming from other regions of the country. That means that PRB coal is, largely, stuck in this country. Arch got about 45% of its sales from the PRB last year.

Exports to Asia could be a big plus for struggling Arch and Peabody. But West Coast terminals are fighting against a call to extend the environmental review of a terminal to include the use of the exported material in its destination market. From a U.S.-centric view of the world, that's a losing proposition.

No easy solutions
As news out of China shows, in other countries the options aren't as easy as a switch to cheap gas. Gas may be expensive, or (in the case of some regions of China) there may not be enough gas—a fact that will remain true for years, since the new gas deal with Russia requires new pipeline construction. That will leave the country burning low-quality coal unless there's an option for higher quality coal. Australian coal from companies like Peabody Energy will be there to meet that need, but PRB coal from miners like Peabody and Arch Coal won't unless we stop viewing coal as "bad" in every situation.

(Source: Nikodem Nijaki, via Wikimedia Commons)

The United States is blessed with a cheap alternative to coal, but for other countries the best option is "cleaner" coal. Until better options arise, environmentalists blocking West Coast coal terminals are essentially limiting Asia's ability to choose better quality coal. That, in the end, will keep the dirtiest coals viable for longer.

Don't hold your breath waiting for environmentalists to embrace coal, but do keep an eye on the terminal issue. It will play a big role in the future of U.S. coal miners.

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