China's top economic planning agency has submitted a plan to scrap an annual coal contract system requiring suppliers to sell certain quantities to power companies at preferential prices, industry sources said on Tuesday.
The move heralds a big step towards liberalisation of the thermal coal market in China, the world's biggest buyer of the fuel, and could trigger an increase in imports since domestic prices would no longer be kept artificially low.
The move may also free up the electricity markets, where tariffs are set by the government.
The National Development and Reform Commission (NDRC) has submitted the plan to the State Council, China's cabinet, and approval is expected to come within weeks, said two trading sources who were briefed on the matter.
"They will need to approve it before we start the annual contract conference, which is normally held in early December," said a source at a trading firm under a state-owned coal group.
"The main aim is to open up the coal market and it is now a good time to do so because spot prices have fallen sharply and are converging with term prices."
Australia's Newcastle spot thermal coal index has fallen as much as 30 percent since the start of 2012 to a year-low of $81 a tonne, largely due to weaker consumption by China as its economy slows down.
MARKET PRICES
Currently, coal-price contracts are signed every year at an annual meeting organised by the China Coal Association and the NDRC, whereby coal suppliers agree to sell certain quantities to power companies at prices set far below the market rates.
Term prices for 2012 were set at around 570 yuan per tonne, while spot coal prices were capped at 800 yuan.
The dual-price mechanism, which allows power companies to secure around half of their annual coal consumption at preferential rates, has caused headaches for suppliers and power stations alike in the past.
When spot coal prices were much higher than term rates, coal miners would either fail to supply the agreed volumes under the annual contract or send out poorer quality coal.
However, when spot prices tumbled this year and were briefly below the term rates, many power companies defaulted on their contracts, which caused miners to incur heavy losses as they also had take-or-pay contracts with the railway bureau for transport capacity.
Under the proposal, the NDRC will also stop allocating railway capacity to the coal sector, which means suppliers and power companies will need to negotiate with the railway bureau directly, the sources said.
The NDRC will continue to encourage miners to ink long-term contracts with power companies, the sources added, but will give sellers the freedom to adjust prices on a quarterly or half-yearly basis.