Guest Post: The “Fracking” Revolution Comes to China

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Submitted by Elliot Brennan of The Diplomat,

As shale gas fever sweeps through Beijing, analysts are looking at the costs and benefits of extracting what is increasingly a controversial source of energy. But for China, with its growing middle class, the immediate and long-term demand for energy has the potential to spark a revolution in shale gas before sufficient and safe technological know-how and regulations are developed.

A very vocal debate continues to rage in the U.S. and Europe as to the environmental consequences of shale gas extraction. Meanwhile, China’s National Oil Companies (NOCs) continue to purchase and buy into North American oil and gas companies with specific expertise in shale gas extraction. For better or worse, China’s shale gas revolution looks set to be thrust into the public spotlight, both at home and abroad.

Extracting shale gas is tricky. Shale, a sedimentary rock that is typically highly porous and has low permeability, traps hydrocarbons as it is formed. To remove the gas, shale formations must be stimulated, most commonly using hydraulic fracturing, or “fracking.” The technique involves pumping water, sand and chemicals at high pressure into the shale formation, cracking the rock and allowing the gas to be released to the surface. The 1 to 3 million gallons of water that are pumped into the shale formation must then either be recycled or pumped into water disposal wells in subsurface rock formations.

In addition to these skill-intensive practices, the extraction process also demands three-dimensional seismic surveying, which evaluates potential subsurface resources, and horizontal drillingtechnology. Both demand expertise and experience, yet the capability of most companies outside of North America, including China’s National Oil Companies (NOCs), to safely and effectively perform such high-tech extraction is limited.

The emergence of shale gas is a game changer. Countries that have traditionally relied on hydrocarbon exports for political clout (the Persian Gulf, Russia, Venezuela) will inevitably lose some of their petro power. Europe could become less energy dependent on Russian supply by importing liquid natural gas (LNG) from North America and by exploiting the potentially significant shale gas deposits in Poland and other countries. Australia, which has significant deposits and much of the pre-existing infrastructure to begin extraction, could see its clout in the energy politics of the region increase– forcing a significant redraft of Canberra’s “Australia in the Asian Century” White Paper.

In effect, the “shale revolution” signals the end of the peak oil debate. New technology means new resources, which in turn could mean a new geopolitical map. However the mere presence of the resources doesn’t mean that their extraction in the short-term is viable, a problem China knows all too well.

China’s oil fields are drying up. The International Energy Agency’s (IAE) World Energy Outlook for 2010predicts China will import 79% of its oil by 2030, a figure that demonstrates the pressing need for China to develop new energy sources. Enter shale gas and the “unconventionals.”

Estimates of China’s shale gas resources differ. China’s Ministry of Land and Resources estimates reserves of 886 trillion cubic feet (tcf), while the U.S. Energy Information Administration puts the country’s resources at 1,275 tcf. The upper estimates would mean China sits atop more shale gas than the U.S. and Canada combined. According to China’s 12th Five-Year Plan, by 2015 China should be extracting 6.5 billion cubic meters of shale gas per year, with a view of producing 100 billion cubic meters by 2020. China’s goal is to meet 10 percent of the country’s energy demands from shale gas the same year. To successfully meet the goal, China’s oil and gas industry needs to bridge its large knowledge deficit. Despite some progress, recent successes in domestic extraction technology have been modest.

Under the Shale Gas Development Plan for 2011-2015, shale gas has been labeled by the Ministry of Land and Resources as a separate mineral from conventional hydrocarbons. This move frees shale resources from the clutches of “the big three;” Chinese state-owned majors – China National Petroleum Corporation (CNPC), China Petroleum & Chemical Corporation (Sinopec) and China National Offshore Oil Corporation (CNOOC) – allowing Beijing to redistribute exploration contracts. Importantly, the move encourages competition among state-owned majors, local enterprises and foreign companies.

China’s NOCs, while not state-run, benefit from state financing. Their capital flows during the global downturn in 2008 gave them the flexibility to expand globally. For China’s NOCs, establishing partnerships with other international oil companies allows them to diversify risks and gain technical know-how through the supply chain.

At home and abroad China is making waves. The opening of a recent tender to foreign companies demonstrates the extent to which the often go-it-alone Chinese Communist Party feels it needs to secure a rapid and successful energy boom. Royal Dutch Shell, Chevron, Exxon Mobil and British Petroleum are alljointly surveying the key provinces of Sichuan and Guizhou with local companies. As part of the new tender, other joint ventures are expected to follow.

Flush with state financing, China’s NOCs have in recent years begun buying up stakes in North American energy companies and their subsidiaries. Some of their recent buy-ins have been the purchase of Nexen and a stake in Devon Energy Corp, one of the founders of shale gas extraction. Such purchases allow China’s NOCs to absorb expertise. While this in itself isn’t enough to meet their energy needs, it is a step toward building capacity for China’s NOCs in shale gas exploration and extraction.

China’s NOCs have been known to employ a “market-for-resources strategy,” whereby access to China’s market is granted to a resource holder in exchange for imports of resources from that country. This now looks to be morphing into a “market-for-know-how strategy.” In the early stages of coal bed methane exploration in China, foreign groups contributed 70 percent of the funding. With already significant foreign involvement, the shale gas industry looks set to emulate this model.

However, the all-important extraction process of shale gas, hydraulic fracturing, just as its name suggests, needs water – and large amounts of it. So while shale could provide energy, it will require large volumes of water that will be costly both to consume and to recycle. Water scarcity remains a key concern for the Chinese government, while water pollution is an increasing worry for the Chinese public. One recent report noted that already “up to 40 percent of China’s rivers were seriously polluted” and “20 percent were so polluted their water quality was rated too toxic even to come into contact with.”

Experts warn that China will face growing water shortages in coming years. Water-intensive industries such as mining are competing for increasingly scarce water sources. Low rainfall in the northwest of the country, where much of the shale is believed to be, means these areas will have to rely on limited and finite groundwater. In the face of these shortages, China established a special 25 million USD fund for a cloud seeding program in 2012 to operate in “areas prone to drought and haze.” Water can be transported into China’s northwest via pipeline but that would be costly and require significant new infrastructure, such as desalination plants and pipelines that would likely need to stretch across the country for thousands of kilometers – a similar feat to the 4,200 km Xijiang to Shanghai gas pipeline.

Shale gas has approximately half the carbon content of coal. For China, the replacement of coal for gas in power generation could reduce emissions and pollution.  It would kill two birds with one big stone, as criticism grows over the country’s pollution levels both in air and water. However, some warn that shale gas may also reduce investment in renewable energy sources.

In the U.S., environmental concerns dominate the debate. Public concern over water contamination and the release of harmful gases during shale gas extraction are gaining increasing media attention. This has been exacerbated by claims that research commissioned by industry-friendly lobby groups in the U.S., such as the American Petroleum Institute and the American Natural Gas Alliance, have muddied the water on the environmental impact of shale gas extraction. However, according to an IAE report, Golden Rules for a Golden Age of Gas, the environmental risks inherent in the process can be easily mitigated. The report outlines the “golden rules” required to address the environmental and social impact of developments in unconventional gas. It predicts that major risks can be decreased and safety improved if the cost of drilling and completing of a shale gas well is increased by 7 percent.

A dozen or more chemicals may be added to the water and sand pumped into a shale-gas well, including radioactive tracers that help assess the formation and relevant fractures. While these tracers are strictly monitored under guidelines handed down by the Nuclear Regulatory Commission in the U.S., in China the regulations may be less stringent. In addition, other radioactive material may be dislodged in the fracking process and may have to be disposed of from flowback water.

If strict regulations are not in place to seal the well from leaching, aquifers and ground water may become contaminated by run-off chemicals, methane or radioactive minerals displaced in the process. A 2011 US Environmental Protection Agency (EPA) report suggests that fracking may have resulted in the contamination of ground water.

Recent and successful protests in China to stop the construction of a chemical plant in Ningbo demonstrate growing public concern about some government-backed developments. The October 2012 protests followed other victories to stop the construction of petrochemical plants in Xiamen and Dalian. In Dalian, some 10,000 protesters took to the streets. With a growing middle-class, increasing internet and social media access, and more public involvement and activism in key local concerns, the government and local authorities will likely have to be accommodating of public displeasure in order to maintain stability as China grows. A Tiananmen-style alternative appears unlikely as it could backfire, both at home and abroad.

If the current hype proves correct and gas prices remain strong, China’s shale gas could be just the energy boom that Beijing seeks. It could allow China to meet its ambitious growth targets. As many commentators have suggested, however, shale gas may prove less of a blessing and more of a “resource curse,” spelling environmental disaster and nationwide instability. Either way, as Sino-American partnerships are forged and shale gas extraction in China ventures into unchartered waters, one thing is certain: The world will be watching.