Reforming China's Power Sector: In the Middle of the River

China's power sector has experienced unprecedented growth during the past three decades. This paper examines three phases of reform from 1985 to 2008 that contributed to this growth. Before 1980, electricity was largely considered a social service with investments funded through budget allocations. Economic reforms in 1978, however, fueled GDP growth leading to a rise in electricity demand that the power sector struggled to meet. The first wave of electricity reforms in the mid-1980s were designed to mobilize investment funds to alleviate power shortages. These reforms included a shift from funding the development of the sector through budget allocations to equity and debt obligations incurred directly by power companies. A new phase of reforms commenced in 1996 with the adoption of the Electricity Law. The law defined the rights and responsibilities of power enterprises and established provincial power companies as "single buyers". Though these reforms increased the commercial orientation of the industry, many companies engaged in discriminatory dispatch to favor their own generating units. Such abuses triggered a third wave of reforms in 2002 designed to break the monopolistic structure of the industry. The State Electricity Regulatory Commission (SERC) was established to ensure fair competition and protect consumers’ interests. Reforms have resulted in a more competitive market structure, but a comprehensive rationalization of policy on energy pricing is needed to ensure progress continues. Prices continue to be administratively managed, which hinders progress towards a competitive market. Deregulation of coal prices and the increase of world energy prices are driving up generation costs but consumers are shielded from pass-through. Unless a framework that allows market pricing to incorporate the costs of externalities is implemented, inefficiencies could lead to serious financial problems for market participants.