The Phase One trade agreement between the United States and China puts America back on track to become a significant supplier of oil and gas to the world’s largest energy import market, even if the goals set out in the agreement prove unachievable.
Under the agreement, China committed to increase imports of U.S. energy products – mainly crude oil and natural gas – to $18.5 billion in 2020 and $33.9 billion in 2021.
But with China keeping in place tariffs on U.S. crude and liquefied natural gas (LNG), it’s hard to see trade levels reaching those heights.
American energy will remain more expensive for Chinese companies than supplies from elsewhere because of Beijing’s 5 percent tariff on U.S. oil and 25 percent levy on U.S. LNG.
The world is awash in oil and gas at the moment – OPEC and its allies are deliberately holding back 2.1 million barrels a day of production to support higher prices – which means China can easily find alternative suppliers to the United States, particularly in the Middle East and Russia. .
Moreover, Chinese officials, including Vice Premier Liu He, who was in Washington last week to sign the agreement with President Trump, continue to stipulate that any uptick in trade be based on “market-driven” purchases. The fine print in the deal gives China significant wiggle room to avoid U.S. energy imports based on “commercial considerations.”
So the trade deal should, at least for now, be met with cautious optimism. Mike Sommers, president of the American Petroleum Institute, accurately described the deal as a “positive step forward” while encouraging the Trump administration to “stay at the negotiating table until the U.S.-China marketplace for energy trade is fully restored and all remaining tariffs are lifted.”
In the meantime, President Trump will need to remain vigilant about making sure China lives up to its commitments under the deal. The president faces an election this November and has made trade with China a top priority. There will be immense pressure on him to deliver well before Election Day.
From an energy security standpoint, the moment is right for China to resume purchases of U.S. oil and gas. Current tensions in the Middle East make Beijing’s overreliance on the region a risky bet.
China’s imports of U.S. crude averaged about 360,000 barrels a day in the first quarter of 2018 before dramatically falling as the trade war worsened, eventually leading to the 5 percent tariff in September 2019. China did not take any significant volumes of U.S. LNG last year after duties came into effect in September 2018. All told, the value of China’s imports of U.S. energy products totaled $4.3 billion last year.
At their peak in 2017, U.S. energy-related exports to China totaled $9.1 billion, according to the International Trade Commission. The dramatic fall-off in exports to China has been a sore point for U.S. producers.
The need to identify new markets for U.S. energy commodities is even larger today. America is a considerably larger oil and gas exporter now, with total crude exports averaging 3.1 million barrels a day in November 2019 — more than twice the rate they were in November 2017. LNG exports are also rising rapidly — the U.S. is already the world’s third-largest exporter and is on track to become its biggest by 2024.
Before the trade spat soured relations, U.S. producers were carving out a healthy share of the Chinese market — at one point in 2018, China was importing nearly 500,000 barrels a day of American crude.
Today, U.S. producers desperately need to develop new export markets to accommodate growing domestic supplies, as refiners at home have virtually maxed out on the light sweet crude that the shale boom has brought to global markets at a record pace.
The situation may be even more even severe for natural gas producers and LNG shippers. Over the next two years, China’s LNG demand is forecast to total approximately 15 to 25 million tons per year as the country continues to enjoy robust economic expansion, and more and more Chinese enter the middle class. The U.S. is an obvious partner to meet growing demand in Asia, but the current tariffs are making rival suppliers like Qatar, Australia, and Russia more attractive to Chinese importers.
Because of the remaining tariffs, analysts are skeptical that U.S. exports could reach the levels laid out in the trade deal over the next two years. At $60 a barrel, America would need to ship about 845,000 barrels a day to China this year to hit the $18.5 billion target.
That’s probably not going to happen — although some market observers believe a move toward 700,000 barrels a day is possible.
Much hinges on China’s appetite for the lighter, lower sulfur crude oil that the U.S. produces from its prolific shale fields. Many Chinese refineries are configured to run a heavier “sour” crude with a higher sulfur content. U.S. crude simply is a bad match for China’s current refining sector.
Still, tariffs remain the paramount stumbling block to increased energy trade volumes. Market conditions are a factor, but it’s likely that large purchases of U.S. energy supplies by China will be conditional on both sides lifting tariffs.
To that end, Phase One is a step in the right direction. China may very well wait to see how the election in November plays out before yielding anything more in trade talks. Still, for the moment, U.S. producers should feel better about their future access to the lucrative Chinese market.
