China - Tongbai Pumped Storage Project

Report No. PID6799 Project Name China-Tongbai Pumped Storage Project (@+#) Region East Asia and Pacific Region Sector Energy Project ID CNPE56424 Borrower People's Republic of China Implementing Agency Zhejiang Provincial Electric Power Company (ZPEPC) 2, Jinzhu Road (South) Hangzhou China 310007 Tel: 571-515-1166 Fax: 571-515-3979 Date PID Prepared July 19, 1999 Projected Appraisal July 19, 1999 Projected Board Date November 16, 1999 Background Country and Sector Background Adequate electricity supply in China requires an annual investment of about $15-20 billion per year - representing additions of about 12 to 15 GW of generation capacity and downstream transmission and distribution infrastructure. Remarkable progress has been achieved in diversifying financing sources through the involvement of private investors in developing generation projects (14 GW under construction and 11.5 GW in commercial operation) and listing of power generation companies in local and international stock markets (21 companies listed locally and four companies - 9 GW - listed in international markets). Despite the government's efforts to develop innovative financing schemes through joint venture and BOT projects, listing of generation companies in local and international stock exchanges, and securitization of existing assets to raise private funds, the sector still faces severe capital constraints especially at the transmission level, and in relation to large hydropower and pumped storage plants where there are substantial difficulties involved in private development. The impediments identified are: (a) weakness of domestic capital markets and inadequate mechanisms to channel domestic savings into power sector investments; (b) tariff surcharges which have been a major source of finance for sector expansion have been largely levied at the local level, leading to inappropriately sized generation expansion; (c) lack of a transparent legal and regulatory system; and (c) lack of a commercial framework and physical infrastructure to encourage power trading which would in turn allow the development of larger, economically sized generating units; (d) an investment approval system which favors the development of small size generating units; and (e) inappropriate risk allocation models and suitable debt financing instruments for financing of hydropower and pumped storage plants with very long asset lives. As a result of the above constraints about half of the capacity added in recent years is in small inefficient units (100 MW and less), financed largely through local tariff surcharges, approved at the local level, built close to load centers so as to minimize up front capital  costs and transmission requirements. Transmission Bottlenecks. Transmission infrastructure in China has not been adequately developed to allow for efficient system development and supply cost minimization. Plants are not always located in regions where the overall system cost is minimized ? some of the large plants constructed in areas close to load centers which require the transport of large quantities of coal on an overextended transport system, were not economically justified. The transmission bottlenecks continue to contribute to investment inefficiencies (lost economies of scale), location inefficiencies (overburdening of the railway system), environmental inefficiencies (heavy pollution burden on densely populated areas with limited local absorption capacity), and operational inefficiencies (uneconomic dispatch, higher losses). Inadequate Wholesale Electricity and Transmission Pricing Systems. There are two significant shortcomings of the wholesale pricing system in the power sector in China. The first relates to the pricing of wholesale/bulk capacity and energy sales/purchases from generating plants. The second relates to the inadequate recognition of transmission as a separate service that needs to be separately accounted for in electricity tariffs. These inadequacies of wholesale electricity pricing are partially responsible for the inefficient utilization and dispatch of generating capacity. Inefficient resource use stems from operation of old and/or small inefficient and therefore higher coal-consumption plants in lieu of modern, more efficient plants. The non recognition of the importance of transmission service is reflected in the inability, until recently, of utilities to include costs related to transmission in sales tariffs and to secure adequate investments for the transmission infrastructure. This is also impeding the implementation of the purchasing agency model, and progress towards competition at the generation level. Complicated and Inappropriate Tariff Structures at the Consumer Level. The "new power new price" policy introduced during the early 1980s, together with legal and illegal surcharges levied at the provincial and local levels has had the desirable effect of raising overall tariffs to levels approaching (and in some areas exceeding) long run marginal cost. However, these policies have left behind a legacy of consumer tariff structures which are complicated to administer; favor older inefficient industries over newer efficient ones; and unduly discriminate between user categories. Unclear Corporate Relationships between Power Sector Entities. Currently power companies in China operate at three main levels: national, regional and provincial/municipal: (a) the provincial/municipal power companies are responsible for generation and transmission within a province or large province-level municipality (e.g. Beijing, Shanghai); (b) the regional power entities hold the central government ownership rights to, and are responsible for supervision of, several provincial/municipal power companies, and are also responsible for inter-provincial power transfers; and (c) the national power entity holds the central government's ownership rights in the regional entities and is responsible for inter-regional power transfers. However, this multi-layer relationship is not clearly and transparently reflected in the corporate governance. Commercial and financial transactions are still carried out according to administrative rules rather than market forces. Unclear ownership rights and inadequate corporate relationships between different power entities in China impede: (a) the full corporatization of -2 -  power entities to meet the requirements of the Company Law; (b) the development of appropriate governance at the three corporate levels; and (c) the commercial operations, financial independence, and profit orientation of the sector entities. Excessive Reliance on Coal. China's heavy reliance on coal (especially for power generation) is expected to continue over the next two to three decades. Total installed capacity at end of 1998 was 273 GW, 76 percent of which is thermal capacity and the rest hydropower (23 percent) and nuclear power (less than one percent). The existing generation capacity is over-weighted towards base load plant particularly in coastal provinces where untapped hydropower resources are dwindling, and has, as noted above, a large proportion of generating capacity in small power plants which are often coal fired. Low Efficiency of Electricity Supply and Use. Improvement in energy efficiency in China is clearly indicated by the sustained low elasticity of demand to GDP growth: 0.86 during 1980-97. However, the potential for electricity conservation on both the supply and demand sides is still high. The government is now promoting programs to reduce losses on the supply side and market-based initiatives to improve electricity use. Government Strategy. The Government's strategy seeks to implement reforms on multiple fronts. The main elements of the Government's strategy to address the above problems are: Completely separating generation from transmission and distribution functions. This strategy is being aggressively implemented in many provinces -- all vertically integrated provincial power companies have been required to define a strategy to separate generation assets. Introducing competition at the generation level within provincial power systems, and developing regional power markets for inter-provincial trade. Establishing formal regulatory mechanisms at the Central and Provincial Government levels. This follows from the abolition of the Ministry of Electric Power in April 1998, and the transfer of its government regulation/supervision functions to the State Economic and Trade Commission (SETC). Developing sound corporate governance practices for state-owned power corporations and clarifying the relationships between national, regional and provincial level companies. Expanding and mainstreaming successfully strategies to raise private capital - including: (i) BOT projects with full foreign ownership developed through competitive bidding; (ii) joint investment projects with foreign investors; (iii) domestic and foreign equity listing of power enterprises; and (iv) securitization of existing generation assets to raise capital from private sources. Mitigating the environmental impacts of a coal dominated power system by: (i) developing hydropower and other renewable energy resources, and pumped storage plants in areas where hydro resources are depleted; (ii) requiring the mandatory retirement of around 10 GW of small inefficient and polluting coal fired thermal units by year 2000; and (iii) using S02 emission taxes and requiring flue gas desulphurization technologies. Increasing energy supply efficiency by: (i) reducing operating losses in generation, transmission and distribution; and (ii) expanding demand side management through pricing and energy conservation measures. Rationalizing wholesale generation tariffs and transmission tariffs, consistent with the complete separation generation from the transmission and - 3 -  distribution assets. Rationalizing consumer tariffs, including the rolling in of existing surcharges into a unified tariff structure, and the banning of future surcharges Objectives The project has two objectives: (a) Increase peaking capacity and improve load following capability and power quality in the Zhejiang power system. The construction of a major pumped storage power plant, and the implementation of an efficient mechanism to price its output in the market will be undertaken to achieve this objective. Performance will be measured by reduction in the value of lost production due to rationing in the Zhejiang power system - most of which occur due to a shortage in peaking capacity. Improvements in load following will be measured by improvements in the Area Control Error (ACE). (b) Improve the operating and investment efficiency in generation by developing and implementing a competitive generation market in Zhejiang province. An associated objective is to ensure that the market structure created can easily transition to wholesale competition. The associated sector restructuring, regulatory capacity building and removal of transmission constraints will be undertaken as part of the project to achieve this objective. Progress will be monitored by the adherence to an agreed implementation schedule for: separating and corporatizing generation stations; preparation of a market code and commencing market operation; and establishing a suitable oversight mechanism for market and sector regulation at the provincial level. The efficiency outcomes of the market implementation will be measured by the reduction in the percentage of capacity contributed by small thermal units. The potential competitiveness of the generation market will be measured by a reduction in generation concentration (i.e. the capacity owned/managed by the largest market participant). Description The proposed project consists of the following main components. Tongbai Pumped Storage Power Plant Tongbai Pumped Storage Power Plant. The development, based on an existing upper reservoir, consists of: (a) a new lower reservoir impounded by a dam with a maximum height of 68.3 m, (b) two inclined shafts and tunnels with a total length of 1270 m to connect the upper and lower reservoirs, (c) an underground powerhouse with an installed capacity of 4 x 300 MW, (d) implementation of an environment management plan, (e) implementation of a resettlement action plan including resettlement of 165 project affected households, and (f) consulting services to assist in engineering, design, procurement and construction management Transmission Reinforcement Transmission Reinforcement comprises (a) transmission lines (90 km 500 kV double circuit) and a new substation (1x750 MVA) for connecting the power - 4 -  plant to the grid, (b) reinforcement of the provincial 500 kV system including 270 km single circuit line, two new substations (2x750 MVA) and extension of two substations (2x1000 MVA), and (c) upgrading and reinforcement of the telecommunication and dispatch automation facilities to meet the new conditions required by operation of the power market in the East China region. Implementation of Power Sector Reform Plan including power market design and implementation, regulatory system design and implementation, corporate restructuring, tariff studies. FMIS development, Intranet development, distribution customer services development, generation expansion planning and consumer tariff structure studies. Financing Million US $ IBRD3 24.0 Local equity 193.1 Local debt 448.2 TOTAL 965.3 Implementation. years, from 2000 to 2007 Executing Agency. ZPEPC would be the executing agency of the project. ZPEPC is an experienced executing agency through three Bank financed projects: Beilungang Thermal Power Plant I&II (completed and rated satisfactory), and Zhejiang Power Development Project (ongoing and rated highly satisfactory for implementation progress and satisfactory for development objectives). ZPEPC has qualified personnel to undertake project preparation, implementation and operation. The power market and regulatory system development component would be executed by ZPEPC in close coordination with East China Electric Power Group Corporation (ECEPGC) and with oversight from the State Power Corporation (SP). Project Coordination. ZPEPC would be responsible for overall coordination of the Project. Project Oversight and Policy Guidance. The reform elements of the proposed Project will be supervised by SP. The SP would be responsible for obtaining State Council approvals on major reform issues. The Ministry of Finance (MOF), the State Development Planning Commission (SPC) and the State Economic and Trade Commission (SETC) will supervise Project financing and advise ZPEPC on all financing matters. The concerned provincial government agencies will oversee the planning and implementation of resettlement. Sustainability There are no significant environmental impacts that could affect sustainability. Social sustainability is assured by the comprehensive resettlement plans, the "land for land" rehabilitation strategy, and by the excellent record of ZPEPC in resettlement. Financial sustainability is assured by the preinvestment agreements and the affordability of projected tariffs. Institutional sustainability is assured by the "ownership" by ZPEPC of its Sector Reform Strategy and Implementation Plan, and the support for reform coming from central and provincial governments. - 5 -  Lessons Learned from Past Operations in the Country/Sector. Several lessons drawn from the previous three Bank financed projects in the province and completed and on-going power projects in other parts of China and the world have been incorporated in the project design and in the preparation phases to date. These are: Coordination of Bank supported activities for sector reform through economics and sector work and project lending. In design and preparation for the power market and regulatory system development component of the project, a close coordination has been maintained with the IDF financed sector reform study (which aims at setting up a policy framework for power market development in China)and the East China (Jiangsu) Power Transmission Project (which includes a component to develop power trading at the regional level within East China). The coordinated approach ensures consistency and maximizes the likelihood of replication of successful reform efforts throughout China. Efficient procurement management through prequalification and/or staged bidding. Most procurement problems which have occurred in China over recent years have been related to the qualification of bidders and offered equipment, in an environment where fully qualified bidders are continually increasing the proportion of manufacture by subsidiaries, joint-venture partners and subcontractors who are not themselves fully qualified. In addition, in information technology related equipment, fast developing technology results in difficulties in defining which technology qualifies. To a large extent, these difficulties can be avoided through prequalification or staged bidding processes and these have been assumed for the generating unit package for the Tongbai plant and for IT components. Another difficulty which has resulted in delays in power plant equipment installation in China relates to interfaces between individual suppliers. Procurement packaging has therefore been designed to reduce the number of packages to the minimum practicable level while encouraging worldwide competition. For civil works construction, which is planned to be carried out by local contractors, experience has been mixed. Therefore, ZPEPC will also prequalify local contractors. Need for early government approval of project. In recent power projects there were delays in project processing stemming from delayed internal Government approvals. These delays arose from inadequate counterpart funding sources and delayed approval of feasibility studies etc. In the current case, there is no shortage of counterpart funds and the approval process for the physical components of the project are well advanced. However, delays might be expected because of the recent major re-organization at the central level. A detailed preparation schedule has been prepared which clearly identifies Government approval steps, which are invariably on the critical path. ZPEPC has personnel permanently stationed in Beijing to expedite approval processes. Adequate resettlement planning, consultation and Monitoring. The numerous lessons learned in several of the large Chinese reservoir resettlement projects (Shuikou, Ertan and Daguangba) are being brought to bear in the limited resettlement associated with Tongbai. The transmission line resettlement process will continue with the highly successful organization and procedures developed under the Zhejiang power Development Project. Poverty Category This project does not explicitly address poverty alleviation. - 6 -  Environmental Aspects. The Project has three components. The institutional component (Power Market and Regulatory System Development) if done separately, would have been category "C". The Transmission Reinforcement component, if done separately, would have been categorized as "B". The Tongbai Pumped Storage Power Plant component is the only part of the Project that requires a full environmental assessment and is therefore category "A". However, under OD 4.01, if any one of the components of a Project is considered "A", the whole Project is classified as "A". For this reason, the Tongbai Pumped Storage Project has been classified as category "A". The Environmental Assessments for the pumped storage power plant and the transmission lines have satisfactorily addressed all the major issues likely to be associated with construction and operation. Resettlement Action Plans meeting Bank requirements have been prepared for both power plant and transmission lines. Program Objective Categories Environmentally Sustainable Development Contact Point The InfoShop The World Bank 1818 H Street, N.W. Washington D.C. 20433 Telephone: (202) 458-5454 Fax: (202) 522-1500 Processed by the InfoShop week ending July 23, 1999. Note: This is information on an evolving project. Certain components may not be necessarily included in the final project. - 7 -