China’s latest electricity tariff reform: lifeline rates at last

Some thirteen years after the World Bank recommended them in a report published in 1997, China’s government is at last on the point of introducing “lifeline” tariffs. As I explained in my column a few months ago, lifeline tariffs provide a government with the means of raising household electricity tariffs while protecting the poorest members of society. This is achieved through charging a lower, subsidised tariff for a monthly consumption of electricity which lies below a certain threshold.  The significance of the announcement by the National Development and Reform Commission on 9th October 2010 lies in the need to constrain electricity consumption by urban households, both now and in the future, and to raise revenue for the grid companies to invest in new infrastructure and services.

Since 2004, the government has put in place a wide range of measures to encourage energy efficiency and energy conservation in the industrial sector. Over the last ten years, industry has accounted for more than 70% of national electricity consumption, with heavy industry alone accounting for 55-60% of the total. In contrast, households use just 12-14% of total electricity supply. Measures to constrain household demand have so far been limited to administrative measures such as setting progressively higher energy efficiency standards for appliances and improving the implementation of building codes. But each time electricity tariffs are raised for industrial and commercial consumers, households have been protected. To my knowledge, households tariffs have not been raised since 2006, a consequence of the government’s desire to protect poorer households and to constrain inflation.  Over these five years the consumer price index has risen by about 15% and so real tariffs have fallen by this amount.

It could be argued that households account for such a small proportion of total electricity consumption that the government is wasting its time seeking to raise tariffs and constrain demand. But this argument is misguided for two reasons. First, China’s total electricity consumption is so large that the household consumption alone is similar in scale to that of the entire national electricity demand of the United Kingdom or South Korea. Secondly, the 12% share on total demand accounted for by households is small by international standards. It is certain to grow as rising incomes and urbanisation in China drive progressive electrification of household energy use. In comparison, the proportion of electricity consumed by households is about 30% in the European Union and Japan, 25% in India, 37% in the USA. South Korea, another heavily industrialised economy like China, is the only OECD country in which households account for a share of electricity demand below 15%. So, having spent five years targeting the industrial and commercial sectors, the government is right to pay attention to the household sector.

In introducing a lifeline tariff, the government has to address a number of questions: at what level or levels should the consumption thresholds be set, who is eligible for the lifeline tariff, what is the lifeline rate in comparison to the normal tariff, how should seasonal variations be managed, should the lifeline tariff consumers be subsidised by other consumers or by the utility, and should the aggregate revenue from household electricity use match the long-run marginal cost of electricity supply. As well as addressing these issues, the government needs to put in place an effective administrative system to ensure that the poor benefit from the lifeline tariff and that the remained of society do not

The initial announcement indicates that there will be three tariff blocks: monthly use below a threshold of either 110 kWh or 140 kWh; between this level and either 210 kWh or 270 kWh; and above this last threshold. The first threshold of 110 kWh or 140 kWh is high by international standards. In many developing countries the lifeline threshold is closer to 50 kWh in order to ensure that only the poorest sections of society benefit. The announcement in the Chinese press states that as many as 70-80% of households will pay only this lower tariff, and just 5-10% would pay the highest rate. The announcement makes no mention of seasonal adjustments of the thresholds. These probably will be necessary, for such a high threshold for the lifeline rate will surely allow some use of air conditioners in the summer.

It is possible to target the lifeline tariffs so that it is available only in poorer households, for example in rural areas or in the poorest urban areas. The information available from China is not sufficiently clear, but it implies that all households will be eligible to pay the low, lifeline rate for their first block of monthly power consumption, even the richer households.

The lifeline rate is to be kept at the level of current household tariffs (0.48 Yuan or 7.2 US cents per kWh), whilst the two higher bocks will be charged 0.53 Yuan (7.95 US cents) per kWh and 0.68 Yuan (10.2 US cents) per kWh respectively. The middle tariff is only 10% higher than the lifeline tariff, and so this increase would not even offset the inflation which has occurred over the last 4-5 years. The differentials between the tariffs would thus appear to be too small to provide effective incentives for most households to save energy.

The information we have at present is insufficient for us to say definitively whether the lifeline tariff consumers will  subsidised by the rest of the consumers or by the utility, and whether the aggregate revenue from household electricity use will match the long-run marginal cost of electricity supply. Given that most commentators have been saying for years that household electricity tariffs in China do not cover the long-run marginal cost of supply, then I find it difficult to see how the new scheme will change this situation. Consequently I conclude that household electricity consumers will continue to be subsidised by the grid companies and probably by the industrial and commercial users as well.

The final concern relates to the administration of this new scheme. Setting aside the opportunities for corruption, it is likely to be a complex undertaking. Not only are there several hundred million households in China, but metering systems are quite diverse including both pre-payment and billing systems, and many people still live in accommodation with shared meters. Given that the proposed scheme only requires a small proportion of households to pay the higher tariffs, it is reasonable to suppose that the grid companies will first target the wealthier households in the larger cities, before widening the coverage of this scheme. This is consistent with a move over the last few years to install pre-payment meters in most newly constructed urban households as well to retrofit them in older urban households. These meters will make it easier to introduce both lifeline tariffs and time-of-day pricing than the old meters would have done.

In conclusion, the decision of China’s government to introduce lifeline pricing for households is long overdue. Though the proposed scheme does indeed protect the poor, it fails to provide sufficient incentives for the bulk of the population to save energy and fails to substantially enhance the revenue flowing to the utilities. Too many households will benefit from the lifeline rate. However, this is an important first step which can provide the foundation for developing a scheme which does indeed encourage energy saving and provide revenue for the utility.


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