China’s green growth strategy as an industry policy or a green environment policy?

Which features would you highlight as important for understanding China’s growing role on the world market for renewable energy technologies, such as solar panels and wind turbines?

You need rare earth metals to manufacture solar panels. During the 1960s, 70s and 80s, the largest production site for rare earth metals was in California. China has largely taken over this production and produces more than 90 per cent of the world’s rare earths metals. When the Chinese introduced their export quota in 2011, the price of rare earths such as cerium oxide jumped 475 per cent in just five months. In addition, China tried to protect the domestic price of rare earth metals. Therefore, we have this price difference between the export price and the domestic price, which give Chinese manufacturers of solar PV systems and of wind turbines a competitive advantage. A complaint was subsequently launched at World Trade Organization (WTO). Because of the high prices, production of rare earths is now also picking up outside China. But also there we can see that Chinese mining companies are jealously trying to protect their “near- monopoly” position by signing concession contracts with the Government of Greenland, which has the second largest “accessible” rare metals in the world, next after China.

Which environmental concerns are at stake in their renewable energy policy?

There are concerns about the environmental consequences of the rare earth production. For example, Australia has a large mine that produces some kind of rare earth metal, but the processing of the ore is not taking place in Australia but in a large plant that they are building in Malaysia. So they are shipping all this highly toxic ore to Malaysia where it is then processed into refined products. You ask yourself: “why don’t they do it in Australia?” Labour force is not much cheaper in Malaysia than it is in Australia nowadays. It is of course because of the environmental restrictions in Australia.

What would you consider to be responsible behavior in relation to the manufacturing of solar panels and other renewable energy sources?

When we speak about responsible policies, we have to accept that China is saying: “Why should our workers work under these health conditions to export to your countries, why don’t you use your own workers?” This was the Chinese reaction. I think this reaction explains a little bit the complexity of defining what is responsible development.

You probably heard that CO2 emissions in China are now the largest in the world. Many say that it’s because there are a lot of people in China. But the emissions in China are now higher than in Europe; if you look at per capita emissions in China, they are larger than per capita emissions in France right now. Another common response is to say that it’s because China started recently. However, if you look at cumulative CO2 emissions per capita, then you see the way it’s going. China is quickly approaching the level of Europe. So by around 2030, cumulative emissions per capita in China will be more or less on the level of Europe. So whether we look at emissions now, or whether we take historical emissions into account, we have to say that China no longer has any excuses. Of course China knows it has a responsibility and cannot continue to talk that responsibility away. Yet, the driving force behind China’s massive investments into energy efficiency and into renewable energy – China became the world’s largest investor on both fronts in 2012 – is not climate policy but domestic policy. China wants to reduce air pollution and minimize its dependence on imported energy fuels.

China has a problem of high pollution. On the list of the ten most polluted places in the world, we find seven Chinese cities. And on the list of the most polluted cities in the world, 16 out of 20 are in China. The government takes this information seriously, and so does the population. The population is quite upset with the smog in cities, so upset that many say that they don’t believe the official figures claiming that it’s improving, because they can still see the smog. There’s an enormous drive to improve the situation. Because urbanization is so recent and continuing, they have the possibility, by better urban planning, to improve their cities.

How is China going about the development of cities?

If you look at green city designs, it is worth noting that the best architects in the world right now are spending a lot of time in China. As for the most advanced designs in green city development, the most innovative experiments take place right now in China, not in Europe. The reason is, of course, that China is so enormous, that they can always make some pilot projects. They have the funds and they have the possibilities in this huge country. What the Chinese do is first to test “all” policy instruments that have been tried abroad and make sense of them. In contrast, European governments tend to focus on one instrument. The Chinese always look at the interesting concepts that are being developed. Whether it’s technology or policy instruments, the Chinese say: “Let’s try them!”

For instance, they say: “In this city, we test carbon trading”. In six, seven cities in China they try to establish a carbon trading system. They test it to see how it works. In other Chinese cities they introduce carbon taxation and say: “Let’s see how it works”. They separate their pilot projects, and they use the best experts in the world to work with the Chinese experts to develop good solutions, and then they see what happens. And once they see what works best, they go for it at the national level. This approach explains why you see unbelievably interesting concepts being developed in China. You have some city regiments in China now that are fully self- sufficient in energy. On all rooftops, you have agricultural protection. So if you want to see the most advanced developments in green cities, you have to go to China.

What do you consider to be the main drivers for innovation policy in China?

There is 10-11% economic growth in China these days. Roughly 3% are productivity increase, the rest has been capital investments and more labor. More labor, more labor, more capital. Most of the 3% productivity increase has been structural change, such as higher valued production chains. But this growth area will soon be exhausted. What is really on the mind of the Chinese is that they have to develop their own technology; they have done the easy part of catching up by now.

For instance, when they developed the wind turbine industry, they crafted a draft strategy, which I was asked to peer review. From the very beginning of the process, they said to me: “Wolfgang, you have to help us design the policy and get around problems with the World Trade Organization (WTO) in terms of how we can promote our own industry. We don’t want to have foreign wind turbine manufacturers investing in production in China because they just take market share away from our own manufacturers”.

How does the investment strategy of China differ from that of other countries?

If you look at the size of investment, and the size of savings in China, you see that the investment rate of China is roughly 50% of Gross Domestic Product (GDP). 50%. For comparative purposes, the Japanese never went beyond a 32% investment rate. And you know, all investment rates have gone down. If you look at the EU countries, we have gone down to 20% of GDP. We used to be at 28%. The composition of economic growth in China has very much been driven by gross fixed investment. Only little contribution to economic growth comes from private consumption, which is down to 38% of GDP in China. In our countries, it’s almost double that rate: around 66%. The exports have been important in terms of share of GDP, but mostly it has been the national investment drive, which has generated growth in China. They do know that this situation cannot continue, that they have to change; they need more intelligent investments now.

Does China have an innovation policy?

Innovations are driving the current policy in China, but they have to actually make these innovations. A few weeks ago they had their meeting on the prospects for China for the year 2030, and how to get there. When they prepare a strategy report, their own experts carry out 95% of the work, but they always make sure to have some key foreign experts involved. They say: “We need to have world class research”. One of the problems the Chinese have right now is collaboration with Chinese universities. For example, Germany stopped collaborating with Chinese universities four years ago because it was a one-way traffic of know-how exchange. The Chinese got their information – they like to get information from others – but it was not reciprocal. In our universities, we encourage university teachers to work closely together. They really work together as teams and also with industries. The idea is that we have to give away some of our know-how, but we also get access to that of others. In fact, the Chinese know that people are very careful when they collaborate with them, because they are afraid that the Chinese will not contribute to the exchange of knowledge.

China knows that, in order to get world class researchers, they must engage in research collaborations with leading research institutions abroad. Therefore they must somehow change the mentality in China. That’s to say: “Hey, you also have to give away some of your know-how, risking that some of the foreign companies will make profit from it, but this is the only way that you really can become world class”. This is one of the directions they are trying to look into, not least for green development, which is important to them because it can help improve the quality of life in their cities and at the same time open huge export possibilities. In their 12th Five Year Plan, which has been adopted from 2011 to 2015, three of the seven strategic industries are in green technology.

What would you consider to be the current energy mix in China?

If you look at the structure of energy supply, it was totally coal dominated in 2004. In the latest analysis of what is happening in China, the forecast predicts, to our great surprise, that coal will still represent more than 60% of energy supply in China in the year 2030. Despite all the investments, they still expect coal to supply more than 60% of the energy supply. Oil 30%, renewable energy 7%, and natural gas 3%. The idea is that they’ll expand hydropower with 100 GW. China invests every year 100 GW of new power capacity, which is equivalent to the total installed power capacity of France, that’s the order of magnitude we are speaking about. They also want to expand the share of nuclear power generation and expect to have some 40 GW of nuclear power installed by 2020. In fact, China moved 1.1 million people in order to allow the construction of the Three Gorge Plant. It’s something we can’t do here.

The Germans, as you know, closed down their nuclear program recently. You know they made a decision to close down their last power plant by 2022 and to replace it by intermediate wind energy. But the problem for the Germans is that their wind energy supply is offshore. They’re getting their wind energy in the future from Northern Germany, but where they really need power is in Southern Germany. So they have to build these big transmission lines. When you build transmission lines, you need environmental impact assessments and consultations, which means that the Germans are never going to build these transmission lines by 2022, there’s no chance.

Where is China with coal, oil and shale gas?

You can understand why China still is very much into coal, because they have these huge coal reserves. What about oil? By 2030, China will have to import 75% of their oil consumption. One of the main reasons for the increase in oil prices over the past eight years is the demand from China. China adds 2.5 million barrels per year in additional demand on the world oil market, every year. In comparison, Kuwait’s total oil exports are 2.5 million barrels. So the increase in Chinese demand on the world oil market is equal to the total production of Kuwait. That adds pressure.

China expects that 50% of the gas consumption in 2030 will be based on imports. Like everybody else, and perhaps even more so, the Chinese don’t want to be dependent. The Chinese are almost obsessed with security of supply. So, to reduce their dependency on energy supply, which they hate and everybody hates, they are now looking into shale gas. The 5-year Plan, which has just been adopted, expects that they should already reach some 6.5 billion cubic meters of shale gas by 2015 and 60 to 100 billion cubic meters by 2020. Whether they will achieve it is another issue. The geology is quite complicated in China and they have much less understanding of the geology than they do in the United States, where they have done drilling nationwide for decades and generated rich data about the geological structures. This is why the US could pinpoint where they could actually find reservoirs to develop. Despite all the know-how, the same companies have not been able, so far, to find deposits for exploitation in Poland, which is also a country with good shale gas resources.

As you probably know, the large shale gas supply in the United States means that the local price of gas has now dropped to less than 3 US dollars per million British Termal Units (BTU). In contrast, in the EU we are paying 12 dollars per million BTU. This price differential has lead to concerns about whether our chemical companies, like BASF, can actually continue to have competitive production in Europe. They have to pay 12 dollars for their gas supplies and transform it into chemical products, while their competitors in the United States pay only 3 dollars. In fact, shale gas in the United States has become a game changer. In addition, it’s impacting negatively on renewable energy. So it’s causing problems.

Does China have a strategy for saving energy and limiting CO2 emissions in future cities?

The other area that China has gone into is promoting energy savings; it is promoting district heating, for instance. Amazingly in the 1990’s and early 2000, an enormous amount of homes obtained heating from old- fashioned coal fired stoves. In the cities, you would have tiny five MW or five horsepower coal fired boilers supplying heat. Of course these coal fire boilers had no chimneys or only a tiny little chimney, so the pollution from heat supply in Chinese cities was enormous.

Any city north of the Yellow River that has more than 50.000 inhabitants had to convert to centralized combusting heat power. This policy has had two impacts. First, of course, centralized combusting heat is a much more efficient source of power. Secondly, they have high chimneys, so the pollution is transported far away. High chimneys have been the main instruments to improve air quality in Chinese cities. At the same time, they have said: “All power plants with a capacity of less then 300 MW have to be eliminated”. Actually, 50 GW, half of the total capacity in France, has been eliminated this way. They have also gone into clean coal technology in power plants and developed quite advanced building codes. Yet like everybody else, they have problems with implementation.

The energy efficiency requirements in the building codes are estimated to have a compliance rate only between 5% and 30%, depending on the local governments. So, of total new construction, less than 30% actually complies with the energy efficiency criteria. Even in the Netherlands, which we think of as a well-organized country, the average compliance rate of building codes is only around 40%. And again, it depends heavily on how eager the local authorities are to control compliance with the building code.

How ambitious is China with renewable energy installations in their own country?

Global demand for solar panels grew incredibly from 170 MW per year to 23 GW per year in 2011. Of the 23 GW, only 2 GW were installed in China. But Chinese solar companies had captured 70% of the world market. This Chinese predominance is one of the reasons the French government decided to limit their solar PV support to 500 MW per year, because why should they give subsidies to a Chinese technology?

Wind power is the same. I was contacted in 2006 by the Chinese to review their strategy for the wind turbine industry. At that time, their goal for 2020 was 20 GW of wind. By 2011, they had installed 40 GW of wind already. You can see the difference: whereas EU countries in 2011 installed less then 10 GW, China installed 17 GW. The market development has been incredibly fast and the ability of the Chinese to grab this market development has been unbelievably impressive.

What is the secret behind China’s competitive advantage?

A key question is: why, why is it that they succeeded? Two weeks ago, New York Times had a very interesting article on Apple in China⁸. In a meeting with Steve Jobs before he died, Obama asked him: “What can I do in order to get employment for manufacturing Apple smartphones back to the United States. Apple only gives employment to 40.000 people in the United States, whereas Apple employs 700.000 people through supply chains outside the United States, most of them actually in China”. The response from Jobs was: “You can’t do anything, because those jobs will not come back”. Then New York Times asked: “What? Why is it that production has moved to China and that it wouldn’t be able to come back?” And then Jobs gave an example. When they had the first prototype of the iPhone, he took it and said: “Hey, look here, scratches on the screen”. He was angry and asked: “Why does the screen have scratches? It’s because I have keys in my pockets. Consumers who buy this product also have keys in their pockets. We cannot have a product that gets scratches from keys, therefore we cannot use plastic; we have to use hardened glass”. Now, apparently the production process is very complicated, so he ordered his staff and said: “Within three months, you must have the production ready for sale, so you have to develop the production process and you have to find a producer”. They answered: “Where can we find a producer?” Within two days they received an email from this famous factory in China that is owned by a Taiwanese and has 170.000 employees on one plant, just on one plant. Of these 170.000 employees, 40.000 employees live at that plant. At a later point in time Apple needed to involve a total of 8.000 engineers for a specific product development, and again, where do you get 8.000 engineers who can be ready to work with a two months’ notice? Only in China.

So the argument in this article was that the cost of labor force in China is indeed lower than what we pay, but moving back their production to United States would increase labor costs only by 45 dollars per smartphone. Since Apple’s margin on the phones is much higher than that, they could have survived the supplementary expense. However, they would never have been able to get new products out on the market as fast. Every few months, Apple launches a new model; they cannot do that with any production facility in the United States. The Chinese have the scale and they have the scope. If you need somebody with a specialized screw, you can always find a supplier nearby who can produce that specialized screw. The Chinese have exploited this competitive advantage; they have gone towards economies of scale. They have always aimed to create big.

What role can we expect China to play in renewable energies in the future?

The Chinese have caught up in the patent game. In wind power technology, the Chinese are slightly behind but better than Germany, better than Denmark and on level with the United States. So they are learning fast. Frighteningly fast. And they are aiming high. By the year 2030, they expect to get an export market of clean energy somewhere between 230 and 400 billion. The 230 billion is realistic if international policies continue as they are now. If suddenly the EU community increases their share of renewables, then they expect that the Chinese export markets could reach almost 400 billion.

As always, the Chinese look at the national market in whatever they do. Since they have a huge national market, they have the economics of scale and the economics of scope that they can use to also get the world market. They always go for it. How did they catch up so easily? They decided recently that they needed their own technology. Until the year 2000, they simply relied on foreign technology, setting up pilots and demonstrating wind farms in China. Imported wind turbine technology captured 95% of all wind turbines installed in China. That changed rapidly. By 2003, 33% of the new capacity installed was manufactured in China. And last year, almost 90% of total capacity was manufactured in China by Chinese firms. They have just had a few external manufactures from Vestas, Nordex, Gamesa and so on, mostly to avoid excessive problems with the WTO. The way they transformed the internal market was to intensively create a market for the turbines starting in 2006. They made tenders. The tender criteria for creating wind farms was not the cheapest cost of production per kWh, which is the criteria we normally use, but the cheapest investment cost per kW. The Chinese turbines were less efficient than turbines produced abroad, but they were cheaper for investors. If the criteria had been the cost of production per kWh, foreign manufacturers would have won a very high market share, but by choosing investment cost per kWh, they could justify that the vast majority of winners were Chinese manufacturers.

How did China build their capabilities in renewable energies so rapidly?

The Chinese had concerns about their lack of capabilities right from the start, but as always, they proceeded through a whole range of strategies. They said: “Okay, one way to acquire technology and know-how is to engage in joint ventures. Let us do it”. Indeed, they always proceed through joint ventures. Another way to develop capabilities is through production licenses. Two different Chinese firms said: “We can also get technology simply by making it, by signing a contract with a specialized bureau. We do it”. So they did that. At the same time, they looked for foreign wind turbine manufactures that were technologically strong but financially weak. Those, they purchased. In this way, a couple of German wind turbine manufacturers turned to China and are no longer productive in Germany. And finally they said: “We can also develop our own autonomous technology”. So they developed tenders for the manufacturing of Chinese wind turbines. Again they looked, from the very start, not just at land turbines but also at concepts for offshore wind turbines. Think Chinese.

The Chinese strategy for acquiring capabilities in new energies started in the late 1990s. At that time, China required of manufacturers that wanted to sell wind turbines to China that 70% of the investment volume were domestic production components. In this way, they built local blade manufacturers, gearbox manufacturers, generator manufacturers, tower manufacturers, and electronic control equipment manufacturers. This strategy also explains why the Chinese wind turbine manufacturers could proceed quickly in the market; all the know-how was there, allowing them to move forward easily, which they did. The Chinese has the largest manufacturer of solar PV, they’re number one by capacity, number one in installed solar power capacity, number two in installed wind capacity world wide, number three in installed bio-mass capacity, and number one in world market share. To illustrate, 70% of the PV systems in California are manufactured in China.

The problem is that when you proceed fast, you miss something. Actually, close to 1/3 of the Chinese wind farm capacity is ready for use but is not connected to the grid because the goal was to increase capacity, not to sell energy. Most of the small PV systems have not yet been connected to the grid. That is a problem; it generates losses. But China will surely conquer this challenge like they have the previous ones.