Originally published in China Practice Update E-communication, January 18, 2012

On December 26, 2011, the National Development and Reform Commission of China (NDRC) released the Circular of the National Development and Reform Commission on Initiating Pilot Reforms for Natural Gas Price Formation Mechanisms in Guangdong Province and Guangxi Autonomous Region, NDRC Pricing [2011] No. 3033 (the "Circular"), promulgating rules that authorize a pilot reform program for wholesale and retail natural gas prices in Guangdong and Guangxi. The ultimate goal of this pilot reform program is to liberalize wellhead prices of natural gas and allow them to be guided by the market, while the government retains control over tariffs for the pipeline transportation of natural gas.

China currently links its natural gas prices to production costs. Under this pilot program, the new pricing mechanism for natural gas will be more market-guided in the two provinces. The city-gate prices of natural gas will be linked to the prices of certain forms of alternative energy that are formed through market forces, and the natural gas prices at various stages will be adjusted accordingly. For example, the wellhead price will be the city-gate price minus the costs of pipeline transportation. "City-gate price" refers to the sales price of natural gas pumped at the "city gate" where the natural gas is delivered from suppliers to buyers (including local pipeline firms, urban gas fuel firms, and direct bulk users).

Buyers and sellers in the two provinces will be able to negotiate their respective city-gate prices under price caps that have been set at RMB2,740 per cubic meter for Guangdong and RMB2,570 per cubic meter for Guangxi. The downstream sales prices of natural gas subsequent to city-gates will be controlled by local pricing administrations, which can link the downstream prices to the upstream prices and hold hearings on natural gas prices.

City-gate prices will apply to pipeline-transported natural gas produced domestically at onshore fields and imported gas (including shale gas, coal-bed methane, coal gas, and other kinds of unconventional natural gas). City-gate prices will be adjusted once per year, and the frequency of adjustment will gradually increase to once every six months or every quarter. The NDRC expects to gain experience from the pilot reform program and then extend the new natural gas pricing mechanism nationwide.

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