The World's Greatest Coal Arbitrage: China's Coal Import Behavior and Implications for the Global Coal Market

In 2009 the global coal market witnessed one of the most dramatic realignments it has ever seen - China, long a net exporter of coal, suddenly imported a record-smashing 126 Mt tons (103 Mt net). This inversion of China's role in global coal markets meant that Chinese imports accounted for nearly 15% of all globally traded coal, and China became the focal point of global demand as traditional import markets like Europe and Japan stagnated in the wake of the financial crisis.  The middle kingdom's appetite for imported coal seems insatiable, and the "China Factor" appears to have ushered in a new paradigm for the global coal market.

But China doesn't "need" the coal.  The world's largest coal producer cranked out 2.96 Bt of production in 2009, backed up by 114.5 Bt of reserves.  While the world's other fastest growing importer, India, is plagued by a growing gap between coal supply and power demand that it is unable to fill domestically, this is not the case in China.  The spike in Chinese demand for imported coal is therefore a more complex (and less easily predictable) phenomenon that requires careful examination if the world is to understand what impact China might have on global energy markets in the coming decade.

In this paper Richard Morse and Gang He devise a model that explains Chinese coal import patterns and that can allow the coal market to understand, and to some degree predict, China's coal import behavior.  They argue that the unique structure of the Chinese coal market creates a series of key arbitrage relationships between Chinese domestic coal markets and international coal markets that determine Chinese import patterns.

The implications of this argument are significant for the development of the global coal trade in the coming decade.  The arbitrage relationships that Morse and He describe directly link the domestic price of coal in China to the global price of coal. Developments in China's domestic coal market will be a dominant factor determining global coal prices and trade flows (and by implication power prices in many regions).  This makes understanding the domestic Chinese coal market, which operates according to a unique economic and political logic, crucial for any participant in the global markets.