After a decade of rapid capacity expansion, Mainland China is the undisputed leader of petrochemical production globally. But in the wake of an economic slowdown and rising geopolitical tensions, the country has had to contend with significant oversupply of some key products.
The Chinese government has taken steps to reduce overcapacity and build self-sufficiency across different petrochemical value chains—moves that are reshaping supply and demand balances and global trade flows worldwide. Northeast and Southeast Asia petrochemical producers will feel the impacts the most. To succeed in this environment, multinational corporations operating in China should focus on expanding their presence in products that remain in short supply. That means pursuing advantages in certain feedstocks and prioritizing downstream expansion into fine chemical production, leveraging technologies that are still under development in China.
Expanding Refinery and Petrochemical Capacity
Over the past decade, market reforms, strong economic growth, supply chain resilience, and technology breakthroughs enabled Mainland China to enlarge its refinery and petrochemical capacity dramatically.
Building Capacity. From 2015 to 2017, China’s central government enacted various policies to promote expansion of domestic refinery-petrochemical production. It opened the market to privately owned enterprises (POEs), decentralized the project approval process, and granted private players the right to invest in large-scale refinery-petrochemical integrated projects.
Between 2015 and 2020, production capacity expanded rapidly across major petrochemical chains in China. GDP grew 6% to 7% annually, with rapid urbanization supporting driving demand for plastics, synthetic fibers, and other chemicals. But as concerns about the environmental impact of increased petrochemical production grew, the government began taking concrete steps to reverse this development. In 2020, President Xi announced the Dual Carbon Pledge, a promise to reach carbon peaking by 2030 and carbon neutrality by 2060.
Reducing Imports. During the pandemic, China’s petrochemical supply chain suffered serious disruptions, leading to price hikes for many chemical intermediate imports. In response, the government made supply chain resilience a top priority, enacting measures to reduce petrochemicals companies’ dependency on imports. It also boosted investment in R&D to reduce reliance on Western technology behind the production of key petrochemicals. The development of local versions of key process design packages such as polyethylene (PE) and paraxylene (PX) allowed China to expand its reach in petrochemical value chains.
The development of local versions of key process design packages has allowed China to expand its reach in petrochemical value chains.
These policies helped refinery-petrochemical players, mostly POEs and multinational companies (MNCs), expand China’s production capacity significantly during the pandemic. The buildout significantly reduced the country’s need for key petrochemical imports. (See Exhibit 1.) Volumes of imported PE and PX dropped significantly, and in the case of polypropylene (PP), China became a net exporter. Methanol was the exception. Import dependency rose because it was cheaper for coastal plants to purchase methanol produced in plants in the Middle East that ran on natural gas than to truck it in from coal-based plants in interior China.
Policies to Rationalize Capacity
During the pandemic, the Chinese economy constricted significantly, with GDP growth dropping to 3%, the lowest rate in decades. Petrochemical overcapacity became a serious issue as the demand for residential housing dropped, and along with it, the need for plastics, synthetic fibers, and other chemicals. In addition, Chinese exports faced tariff policies—for example, regarding India and Europe—and electrification weakened the demand for Chinese gasoline and diesel. At the same time, regional supply disruptions in feedstock imports from the Middle East and Russia jeopardized China’s primary sources for crude oil.
The 14th Five-Year Plan. The Chinese central government began implementing policies to curb refinery overcapacity and strengthen petrochemical self-sufficiency. In 2021, it launched the 14th Five-Year Plan (5YP), which called for controlling emissions, improving energy security, and gradually reducing oil imports. New capacity-swap rules required retired capacity to exceed new capacity additions. Refining and petrochemical projects now needed to be included in the national project catalogue to obtain construction approval. And export tax rebates were reduced or canceled for selected products with overcapacity issues, such as methanol.
The 15th Five-Year Plan. China has continued to roll out policies to guide refinery and petrochemical sector development. Earlier this year, the government presented the 15th 5YP to build on the 14th. Ther are three key areas of focus:
- Energy Self-Sufficiency. The security of the oil and gas supply remains a top-tier priority. The government explicitly mandated carbon peaking, setting carbon and energy intensity targets for petrochemicals and other industries that consume large amounts of energy.
- Value over Volume. The rationalization of commodity production capacity is to continue. Capacity expansion will shift to quality, high-end products, including advanced polymers, high-performance fibers, composites, and functional materials.
- Increased Capacity Guidance. The central government will take over controls on capacity expansion and project approvals from local governments. And monitoring of product- and subsector-level capacity will be used to address the intense competition in this overcrowded market.
Impact of Overcapacity on Global Trade Flows
China’s petrochemical overcapacity will likely be around for a long time. (See Exhibit 2.) This will have enormous impacts on the supply chains of different geographical regions worldwide. Overseas suppliers of most feedstocks and chemical intermediates face less demand in China and more competition from Chinese players in the global market. Here are some of the most important ways we believe global trade flows are likely to change.
Overseas suppliers of most feedstocks and chemical intermediates face less demand in China and more competition from Chinese players in the global market.
Northeast Asia. Northeast Asia will feel the greatest impact from the rising volumes of Chinese commodity petrochemical exports. Japan and South Korea have higher feedstock and production costs as well as a double freight burden—they must ship feedstock from the Middle East and US as well as ship out the finished products. As a result, both countries will likely face shrinking markets in China and the “Global South” economies—new markets like Bangladesh, Indonesia, and Peru, with large population bases and rapid GDP growth.
Southeast Asia. Southeast Asian producers will also face a shrinking Chinese market for their commodity petrochemical exports. Since geographical proximity and recent economic growth make Southeast Asia a preferred export partner, Chinese exports to the region will grow, driving down prices for domestically produced petrochemicals.
Middle East. The volume of Middle Eastern feedstock exports to China has already declined significantly in the wake of China’s growing self-sufficiency. Although the Middle East will retain its cost advantage, its exports to China will continue to decline. In addition, China’s growing volume of petrochemical exports to Southeast Asia will displace Middle East players volumes in the market. As China fills more of Asia’s incremental demand and intraregional trade flow grows, Middle Eastern players will need to rethink their export strategy.
Europe. Thanks to a wave of capacity decommissions in Europe over the past several years, the region will increasingly become a destination for Chinese and Middle Eastern volumes previously destined for Asia. At the same time, European companies in the commoditized value chains will experience margin pressures from lower-cost Chinese production.
United States. American companies in C2 (ethylene) value chains remain resilient because of a feedstock advantage in ethane. For this reason, US players can maintain or even gain market share in China and the broader Asia market. But China’s export growth in C3 (polypropylene) and C6 (paraxylene) value chains will increasingly challenge US producers in Latin American markets such as Mexico and Colombia.
The Case of Polypropylene. Polypropylene (PP) provides an example of how these trade flows could play out globally. (See Exhibit 3.) Rapid capacity expansion of commodity-grade PP production since 2020 has created a domestic surplus. As a result, China’s PP imports will continue shrinking, and the volume of PP exports to Global South countries will continue surging. Chinese PP exports are displacing Northeast Asia in intra-Asia trade. They are also competing with Middle Eastern exports to Southeast Asia and US exports to Latin America.
Implications for Multinationals
In the wake of Mainland China’s petrochemical capacity expansion, MNCs have struggled to reduce their dependency on the China market. But its size, integrated industrial base, and manufacturing infrastructure make this market difficult to replace.
To remain competitive in China, global producers should identify products and grades that are still in short supply and where domestic supply is not becoming strong enough to displace imports. They should pursue strategies that best leverage capabilities that are still under development in China, whether upstream feedstock access or downstream technology and know-how. MNCs could also leverage China’s capacity advantage to restructure their supply networks:
- Players with Feedstock Advantage. MNCs with a feedstock advantage, such as some companies in the Middle East, can invest in joint ventures, using their feedstock for the assets.
- Players with Technology or Know-How. Chinese players are increasingly investing in the production of fine chemicals, highly pure chemicals substances manufactured in limited quantities. Global players with strong technology capabilities have the opportunity to build a presence in these downstream specialty niches before the market is saturated. By relocating manufacturing capacity to China, MNCs can enjoy lower energy costs, operational costs, and capital expenditures than in their homeland. They should, however, avoid relocating pure commodity-grade capacity because they have higher SG&A expenses and related overhead than Chinese companies.
The speed and effectiveness of China’s petrochemical rationalization efforts will have enormous consequences for the petrochemical sector worldwide, reshaping supply dynamics, pricing, and trade flows. As China shifts from rapid capacity expansion to more value-driven growth, the transition will create new challenges and opportunities across regions and value chains. Petrochemical players will need to adapt to the new landscape.
