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Volkswagen's cheating and China's exports showcase diesel woes

By Clyde Russell
September 22, 2015 12:39 IST

For several years diesel gained market share over gasoline, particularly in Europe, where governments encouraged motorists to switch to diesel in the belief that its superior fuel economy would outweigh the higher pollutants per litre burned, notes Clyde Russell.

Image: Volkswagen’s new Jetta. Photograph: Sanjay Sawant/Rediff.com
 
 

It may seem to be stretching a rather long bow to link the overbuilding of refining capacity in Asia and the Middle East to Volkswagen's woes in the United States, but the common thread is the threat to diesel's dominance of the oil barrel.

The commissioning in recent years of a slew of advanced refineries, which aim to maximise diesel output and run on heavy, sour crude grades, has boosted supplies of the transport fuel in both Asia and Middle East.

While some of these refineries were built in order to serve domestic demand, some were aimed at snaring export markets in Europe, Africa and elsewhere.

However, refining capacity appears to have been overbuilt, particularly in China, resulting in rising exports of refined products, particularly diesel.

These exports are hitting the market at the same point that the outlook for diesel appears to be weakening.

Image: Interiors of Volkswagen’s new Jetta. Photograph: Sanjay Sawant/Rediff.com
 
 

While not directly related, the admission by Volkswagen that the German carmaker rigged emissions tests of diesel-powered vehicles in the United States is symptomatic of a wider problem.

While Volkswagen's motivation is most likely commercial, insofar as it wanted to make its cars pass the emissions tests without the need for expensive engine modifications or additional pollution control devices, it does underline that diesel's popularity is waning.

For several years diesel gained market share over gasoline, particularly in Europe, where governments encouraged motorists to switch to diesel in the belief that its superior fuel economy would outweigh the higher pollutants per litre burned.

This trend was starting to be replicated in Asia, especially given the increase in popularity of sport utility vehicles (SUVs), which tend to perform better and with greater economy when fitted with diesel motors instead of gasoline units. 

In turn, refiners spotting this trend and invested in building plants to produce more diesel, normally by upgrading fuel oil into the higher value product.

Volkswagen's troubles aren't the only problem facing diesel, with some countries considering changing arrangements that favour diesel over gasoline, with France leading the way by stating it wanted to progressively phase out diesel cars from this year onwards - a big step in a country where diesel vehicles used to represent about two-thirds of total sales.

In what may be seen as ironic, Volkswagen is one of the leading manufacturers helping to make gasoline cars more attractive by producing small-capacity turbocharged units that offer similar power, torque and fuel economy to diesel units, as well as arguably a more enjoyable driving experience.

Image: Several countries that used to heavily subsidise diesel, such as India and Indonesia, have phased out support. Photograph: Reuters
 
 

Exports ramp up as demand growth slows

In Asia, several countries that used to heavily subsidise diesel, such as India and Indonesia, have phased out support, leaving diesel more exposed to market prices and thereby discouraging the purchase of diesel vehicles.

Slower industrial demand in China and a weak mining sector in Australia are also limiting demand growth in the Asia region.

Chinese trade data is a case in point for the issues surrounding diesel in Asia, with exports rising to a record 722,516 tonnes in August, equivalent to about 174,800 barrels per day (bpd).

This was a 77 percent jump on July's figure, taking the year-to-date gain to 9.3 percent.

To put this in perspective, China's diesel exports have been trending sharply higher since the recent low in September 2014, when they were about 15,650 bpd.

Image: Diesel surplus will grow, cutting into refinery margins. Photograph: Reuters
 
 

These Chinese exports are finding their way into an increasingly oversupplied diesel market, given the cargoes now coming from new refineries in the Middle East, such as the 400,000 bpd Yanbu plant in Saudi Arabia, which started exports last year, barely a year after the similar-sized Jubail refinery, also in the Middle Eastern kingdom. 

In addition, the shale oil boom in the United States has seen that country turn into a large exporter of diesel as its refineries maximise output in order to cash in on high margins for gasoline in the domestic market.

Thomson Reuters Oil Research and Forecasts estimates that the total supply of diesel from the major exporting regions of Asia, the Middle East and the United States have gained 5 percent more than 8 million tonnes, or about 2 million bpd, in 2014-15 from the 2011-13 period.

With more refineries due to come on line in the next few years, the likelihood is that the diesel surplus will grow, cutting into refinery margins.

The profit from refining a barrel of diesel from Dubai crude in Singapore has dropped from almost $20 a barrel in December last year to a low of $7.39 on July 30, although it has since recovered to $14.73 on Monday.

Nonetheless, it has spent most of this year below the $15 level, which is viewed as the margin most refiners would want to see maintained in order to make their plants sustainable on a long-term basis.

Worryingly for refiners, it appears that diesel margins have moved structurally lower and will struggle as supply growth is likely to outweigh demand growth for years to come. 

Clyde Russell
Source: source
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