Regulatory Changes Affecting COAL shipments to CHINA by SKULD

Applicability: Shipowners, Charterers and Traders

Prepared with the assistance of Angad Dhaliwal, intern with Skuld Singapore Branch.

The developments

With a view towards reducing air pollution and increasing support for the domestic coal industry, the Chinese Government's National Development and Reform Commission (NDRC) has passed new regulations restricting the ash and sulphur content in commercially used coal. Under these regulations, which come into effect from 1 January 2015, the sale and import of coal with ash content more than 16% and sulphur content higher than 1% will be banned in certain densely populated cities of China. In particular, the cities around the Pearl River Delta, the Yangzte River Delta and some northern cities including Beijing, Tianjin and Hebei are to be banned from burning coal exceeding such ash and sulphur limits. Furthermore, the ash and sulphur content will be limited to 20% and 1% respectively for coal that will be transported for more than 600 km from the site of production or the receiving port (this is the part relevant to shipping).
Indonesia, which is the largest exporter of thermal coal in the world, has also recently started to enforce rules limiting coal exports with a view to preserving strategic resources as well as meeting increasing domestic demands. The Government has taken steps to lower the coal output, limiting licenses for mining and export and decreasing the production target by 6%, from 421 million tons in 2013 to 397 million tons this year. Out of the total coal produced in 2013, only 17% was estimated to have been absorbed by the domestic market. Under its long-term plan, the Government wants to boost domestic consumption by double digits starting next year, while further limiting exports at the same time. The aim behind taking these steps is to put an end to illegal mining activities as well as ensuring sufficient supply of domestic coal for Indonesian power plants. As part of its effort to control the mining sector the Indonesian Government was reported to have annulled over 150 coal licenses this year.

Impact of the new measures

The Chinese regulations will have an impact on coal shipments although it is still open to see exactly how significant this impact may be. With respect to the export of Australian coal to China, which at present is estimated to consist up to 80% of cargoes which may exceed the upcoming sulfur and ash content limits, the change may at first seem to suggest a dramatic change. The impact may be tempered, however, because (1) coal can be processed or 'washed' to meet the new ash specifications, although this process will increase the cost of production and it remains to be seen whether China would be willing to pay extra for the low ash product. In part this would depend on the cost of coal sourced elsewhere, including potentially longer voyages from South America which would mean higher freight rates factored in to the overall cost. Further (2) Australia, with its wealth of coal resources, could seek to change the type of coal being exported to China, i.e.: shipping cargoes that do meet the new criteria. Additionally (3), Australia and China have signed a free trade agreement in November 2014, under which a 3% Chinese tariff on coking coal is to be scrapped immediately while a 6% thermal coal tariff will be phased out during the next two years. The outlook is therefore subject to a number of factors.
On the other hand, coal exports from Indonesia to China are unlikely to be significantly affected by regulation on the Chinese side given that Indonesian coal is likely to meet the sulphur and ash requirements. Indonesia already has a free trade agreement in place with China, so the new coal tariffs will not affect their exports to a great extent. Where Indonesian coal may experience an issue is with respect to the Chinese regulations which require that the minimum energy requirement of 3,940 kcal/kg for coal that is transported more than 600 km from the receiving port. The reason being that some Indonesian coal has a value of only around 3,700 kcal/kg, which means that such coal will have to be imported to ports that are close to the final intended destination where it is to be used.
Separately the Indonesian Government is targeting a coal production rate of 397 million tons in 2014, out of which it wants 73 million tons to be allocated to the domestic market. This is being done to safeguard domestic energy resources for future energy supply not only because Indonesia's large and rapidly expanding population is increasingly being connected to the country's electricity grid, but also because it expects a surge in energy demand from domestic industries. Despite of the new Indonesian coal export rules, it was reported that exports actually increased 9.8% during October 2014, the first month to be affected by the new rules.
Indonesian Coal Production, Export and Consumption Statistics:

	2006	2007	2008	2009	2010	2011	2012	2013
Production	194	217	240	256	275	353	391	421
Export	144	163	191	198	208	272	308	-
Domestic	49	61	49	56	67	80	83	-

in million tons
Source: Ministry of Energy and Mineral Resources

Loss prevention advice

Overall, there is some confusion following the new regulatory measures from both Indonesia as well as China with respect to what can be exported and imported as of 1 January 2015. While the rigour of the enforcement of the changes in Indonesia seems unclear at this time, correspondents in China confirm that it is fully expected that the new regulations will be given full effect.
For members, be they shipowners, charterers or traders, it will be important to grapple with the regulatory changes to ensure that voyages and shipments do not meet unexpected regulatory sanctions. That means shipowners should start to ask for more detailed cargo specifications when fixing vessels and charterers / traders should be ready to know what these answers may be to such questions. The alternative is to risk delays and disputes if later an issue is raised about the cargo, either by regulators in Indonesia or in China.
Particularly it will be important to check:

1. is the cargo being supplied by a properly licensed mining entity (be it in Indonesia or elsewhere)
2. does the cargo come with a valid export license, not just valid at the time it is issued but valid for the time of the proposed shipment
3. what are the importing country's cargo specifications (particularly in China) with respect to ash and sulphur content as well as its calorific value
4. is the cargo destined for use in any of the cities / regions affected by the most stringent requirements in China
5. will the cargo consigned to China be used within 600 km of the port in which it is discharged
6. if the cargo will be used further than 600 km from the Chinese discharge port, does it meet the requirements for such types of cargoes

These are perhaps more detailed questions than owners, charterers and traders are familiar with asking or considering when fixing a vessel to lift coal to China, but given the pending regulations, it will be prudent to consider the same in advance of concluding any fixture.