After two consecutive years of declining coal prices in the Chinese market, prices continued to trend downward in 2015.

According to the CCI1 index from Fenwei Energy, the price of thermal coal (Qinhuangdao spot 5,500 kcal) has been steadily declining since January. Over the past four months, the price per ton of thermal coal has dropped from over 600 yuan to just over 400 yuan. In early April, the price even fell briefly to 417 yuan.

Over the past three years, the price of thermal coal has fallen by a step each year. In 2013, the peak price of thermal coal was 620 yuan per ton, while the trough was 515 yuan per ton. In 2014, the peak price was 622 yuan per ton, and the trough was 471 yuan. In other words, the price of thermal coal fell below 600 yuan in 2013 and below 500 yuan in 2014, and it is highly likely to fall below 400 yuan in 2015.

The price trend for metallurgical coal has been similar. In 2013, the peak price of metallurgical coal was 1,360 yuan per ton, while the lowest point was 960 yuan per ton. By 2014, the price had fallen to 750 yuan per ton. As of April 2015, the price of metallurgical coal had further dropped to 690 yuan per ton. Over the three-year period, the cumulative decline amounted to 470 yuan per ton.

The prices of thermal coal and metallurgical coal have both fallen to their lowest levels in nine years—essentially returning to the levels seen before 2007. Before 2007, coal prices were still set by the government. Today’s coal prices represent the lowest level since the coal market was liberalized.

This year, the operating conditions in the coal industry have continued to deteriorate. Yitai Group’s coal production costs are among the lowest among private coal enterprises in Inner Mongolia. Even as thermal coal prices this month are poised to fall below 400 yuan per ton, the company has begun to report losses. This indicates that, at current price levels, private coal enterprises find it extremely difficult to turn a profit from selling thermal coal; the scope of losses is expanding, and the rate of production shutdowns is rising.

Currently, the operating rate of private coal enterprises in Inner Mongolia is below 50%, and that of private coal enterprises in Shanxi is below 60%. At present, there is some low-quality thermal coal available at the Qinhuangdao port, with prices already reaching 250 yuan per ton. After deducting transportation costs, the ex-mine price per ton of coal is only a few dozen yuan; once taxes are factored out, there’s virtually nothing left.

But even at these low prices, they still don’t represent the bottom line for coal prices. This year, coal prices will continue to fall. Once they drop to a certain point—beyond the overshot level—they’ll experience a slight rebound, but afterward, prices will likely continue their downward trend.

Coal production capacity far exceeds demand.

China consumes 4 billion tons of coal annually, while the total capacity approved by the central and local governments is around 5 billion tons, resulting in an overcapacity of 1 billion tons. However, China’s actual production capacity is closer to 6 billion tons, as many of China’s coal mines have the potential to exceed their approved capacities. First, workers can work overtime, thereby releasing additional capacity; second, in order to control overall capacity, the government tends to set approval thresholds for coal mine capacity lower than the actual production levels.

Looking at regional differences, after several years of rapid growth in coal production capacity in Inner Mongolia, its capacity is now starting to face pressure. In Shanxi and Shaanxi, following the consolidation of coal resources, production capacity has begun to expand. Despite the current extremely poor market conditions, coal production capacity in Shanxi and Shaanxi continues to grow. If massive investments made in previous years fail to translate into actual production capacity, the funds will be wasted. Therefore, currently, investment in new coal mines has dropped to zero, yet coal production capacity will still continue to grow due to inertia.

When Inner Mongolia was expanding its production capacity, the coal industry was already suffering from severe overcapacity. However, after Shanxi and Shaanxi integrated their resources and joined the competition, coal mines with lower production costs—represented by Inner Mongolia—have come under increasing pressure. Moreover, Xinjiang still has vast untapped coal reserves. If transportation issues are resolved, coal mines in Shanxi and Shaanxi could very well follow in Inner Mongolia’s footsteps.

Coal prices have plummeted rapidly, leading to widespread losses in the coal industry, prompting the government to intervene and stabilize the market. Starting from 2013, provinces such as Shanxi, Shaanxi, and Inner Mongolia have introduced numerous policies aimed at reducing taxes and fees and lowering costs to support the development of coal enterprises. However, due to overall overcapacity, the cost-reduction effects brought about by these policies ultimately translated into even greater room for price cuts.

Over the past three years, coal prices have been steadily heading toward cost levels. After plunging to 470 yuan per ton last year, thermal coal prices began to stabilize—but this year, even that level has become unsustainable, and prices continue to fall. This is because this year, the cost per ton of coal has dropped significantly. Take Shanxi as an example: after tax and fee adjustments, the cost per ton of coal has fallen by 50 yuan. However, the cost savings achieved have largely been offset by the decline in prices, doing absolutely nothing to alter the current survival situation in the coal industry. Meanwhile, coal companies are also working hard to cut costs, and this relentless cost-cutting race is driving the downward spiral in coal prices ever further.

Coal demand remains persistently weak.

Coal demand is facing two irreversible major trends. First, China’s economic growth model—driven by real estate—is undergoing a transformation, which directly affects market demand for steel and cement, thereby impacting metallurgical coal as well. Weak demand is driving prices down.

Second, the power generation industry, which has long been reliant on thermal power, is moving toward diversification to reduce energy consumption, emissions, and environmental pressures. This shift on the demand side is driving down prices for bituminous coal.

In 2013 and 2014, the growth rates of the real estate industry and the thermal power sector were roughly in line with the demand for metallurgical coal and power coal. Negative growth may occur in 2015. In the first few months of this year, thermal power generation growth has already slowed to zero, and some individual months have even seen negative growth.

In recent years, the emerging chemical coal sector—primarily driven by new coal-to-chemicals projects—has seen current coal consumption hovering around 100 million tons. Originally, this was a sector poised for growing coal demand; however, due to the decline in crude oil prices, these coal-to-chemicals projects are now facing significant economic challenges, causing the industry’s development to hit a snag and casting a shadow over the future growth of chemical coal.

Imported coal can't be sold off.

Two years ago, if domestic coal prices fell by 30 yuan per ton, imported coal would have faced intense competitive pressure. But now, imported coal is encountering a new situation: the international coal market is sluggish, and demand for imported coal has also declined. Furthermore, crude oil prices have dropped sharply, significantly reducing the sea freight costs for imported coal. In the past, shipping a cargo of coal from Australia to China cost around 70 yuan per ton in freight; today, that cost has fallen to about 30 yuan per ton.

In addition, the depreciation of the Australian dollar and the Russian ruble has lowered coal production costs in Australia and Russia. Under the current international circumstances, domestic coal prices have fallen, and imported coal also has considerable room for price reductions.

The "Provisional Measures for the Quality Management of Commercial Coal" have been in effect for nearly four months. However, the impact was significant only in January, when millions of tons of imported coal were affected; since then, the impact has been relatively minor. Over 90% of Australian coal meets the standards. These standards primarily affect small coal mines in Indonesia and some Mongolian coal, but overall, the impact on imported coal is not substantial.

Currently, Australian coal is still subject to a 6% tariff. Once the China-Australia Free Trade Agreement takes effect, the tariff will be reduced to zero.

Weakened government regulatory capacity

The first factor is transportation restrictions. Previously, coal shipments could be restricted through the approval of railway transport plans. However, today there’s a significant overcapacity in rail transport, and coal at the lowest prices can now be shipped by road without any approval required, offering tremendous flexibility in transportation. Under pressure from road transport, some railway segments are currently lowering their coal freight rates.

The second production restriction: Previously, coal mines operated at full capacity. However, after two years of a sluggish coal market, operating rates have now fallen to below 80%. The room for further production cuts is extremely limited. If production is cut any further, coal enterprises could face the risk of cash flow disruptions.

The third restriction on imports. For power companies, it is necessary to maintain a certain proportion of imported coal as a counterbalance to domestic coal, thereby ensuring the supply of raw coal. Currently, the portion of imported coal that could previously be freely adjusted has largely been eliminated.

The fourth safety restriction. Coal mine safety has now significantly improved. From last year to this year, large-scale safety inspections have been conducted extensively, yet they have failed to exert a noticeable impact on limiting production capacity.

The marketization of the fifth coal-fired power plant. Currently, the power sector is undergoing reform, and electricity prices are gradually being liberalized, with a downward trend emerging. Under these circumstances, it’s becoming even more challenging to stabilize coal prices.

Given the current situation in China, it is indeed very difficult for the government to introduce policies that can immediately reverse the current predicament facing the coal industry.

A coal price war is inevitable.

It is foreseeable that a price war in the coal industry is inevitable, and industry restructuring will accelerate. Coal prices are likely to remain persistently low; while there might be a slight rebound in the first half of the year, this rebound will merely be a correction from previous overselling. Once the rebound ends, another round of decline will follow. The problem of overcapacity is simply too severe—only by eliminating excess capacity can the coal industry hope to turn things around.

In the future, downstream customers will have increasingly stringent quality requirements for coal, and high-quality coal will gradually capture an ever-larger share of the market.

Having gone through a period of falling prices and fully eliminated excess capacity, and having used price mechanisms to squeeze out imported coal, there still remains the potential for exports in the future. From this perspective, we need to adopt a long-term vision: Indonesia’s coal resources are limited and will be depleted within 10 years.

Moreover, Southeast Asia is also experiencing economic development; Vietnam has already shifted from being a coal exporter to a coal importer. Southeast Asia, Taiwan, and Japan and South Korea will all become markets for China’s coal.

Moreover, the current issues of tariffs and VAT refunds facing coal exports—once these two problems are resolved—will make coal exports competitive at today’s coal prices.

After enduring fierce competition, the coal industry will be left with higher-quality enterprises. Moreover, for the next several decades, coal will remain China’s primary energy source, and many people will continue to work in this industry—though they’ll need to weather a period of painful adjustment.