China’s central government has announced a major reform in how renewable power is priced. 

Until now, wind and solar farm operators have been guaranteed a fixed price (pegged to coal power rates) for a portion of the electricity they generate. Any output beyond that quota had to be sold at lower, more variable prices.

The new policy will see this coal-linked pricing system replaced by competitive auctions that determine the price for electricity from new wind and solar installations. Since coal power is relatively expensive to produce, this change is expected to considerably lower the price of renewable electricity specifically and electricity generally.

Local governments will draw up detailed plans and implement the auction-based system by the end of the year. The new pricing rules will apply to wind and solar projects completed after June this year, while earlier projects will continue to follow the older fixed-rate, coal-benchmarked model.

More than just a pricing adjustment, the policy may reshape China’s entire power sector. However, with coal still dominating power generation, the policy must be carefully designed to ensure that renewables displace coal and cut emissions.

How does the new pricing mechanism work?

The new Chinese system is similar to the Contract for Difference (CfD) mechanism used in the UK and other markets. Renewable energy generators bid against each other to supply electricity to the grid at a fixed “strike price”. When the market prices fall below the strike price, the government pays the generator the difference. When market prices exceed it, the generator must pay back the surplus. A dedicated fund, typically managed by the grid operator, handles these balancing payments to and from generators.

In countries like the UK, CfDs have successfully lowered renewable energy financing costs by providing stable revenues. But CfDs do have drawbacks. For instance, renewable generators might keep producing electricity even when prices drop below zero, delaying essential maintenance in order to maximise income. This has happened with wind power in Germany, where generators continued producing even when electricity prices turned negative.

Another challenge is choosing which market price to reference for payments. CfD payments are often based on day-ahead market prices, which could limit flexibility within the same day. Conversely, using real-time market pricing might discourage generators from planning their production efficiently.

CfDs can also complicate risk management, particularly for wind power. Because wind generation naturally fluctuates, operators might miss opportunities to sell power at peak market prices during calm weather. For example, wind operators in Spain have experienced huge fluctuations in revenue.

Limitations of implementation in China

China’s power sector differs significantly from western markets, with coal still dominant and government intervention common. As of late 2024, coal accounted for about 60% of China’s power generation, with prices and market share locked in through medium- and long-term contracts.

China’s spot electricity market remains small and often provides distorted pricing signals. This raises questions about whether the CfD market reference price will accurately reflect the marginal cost of generating electricity. For instance, in Shandong province, which gets 70% of its electricity from coal, the marginal electricity price is largely determined by coal generation costs. Coal generation typically has significant fuel and maintenance costs that should, in theory, ensure positive market prices. However, the province has still experienced negative spot market prices for over ten hours at a time, forcing generators to pay to generate power.

Shandong province has experienced negative spot market prices, meaning generators have to pay to generate power (Image: Alamy)

Another challenge arises from the falling costs of wind and solar projects. The anticipated strike prices for renewables are already far below current coal-based benchmark prices (approximately RMB 0.38 per kilowatt-hour). Companies may bid even lower to secure contracts, resulting in a lower return on investment. Furthermore, if local governments strictly regulate bidding price ranges – as the recent reform suggests – competitive bidding could lose its effectiveness, clustering bids at the regulated minimum price and effectively reverting to government-controlled pricing.

Renewable dispatch in China is controlled by government policy and grid operators rather than market signals. Grid operators emphasise control, creating a disconnect between responsibilities and incentives. This centralised dispatch system, without self-correcting market mechanisms, limits renewables’ ability to meaningfully replace coal, even when sufficient renewable generation is available.

CfDs may also unintentionally discourage companies from innovation and equipment upgrades, as new generation capacity bids must compete against older capacity that still benefits from higher subsidies or fixed reference prices.

What the future holds

The success of CfDs in China will depend on policy design and implementation. Three main scenarios can help illustrate this:

Scenario 1: Priority for renewables and rapid coal phase-out

Renewables receive dispatch priority, minimising curtailment. CfDs stabilise renewable revenues, and efficient spot markets allow wind and solar to quickly displace coal. Coal operates mainly as backup and its market share falls quickly. Because market electricity prices remain higher than renewable strike prices, the CfD system generates a surplus. This surplus can fund energy storage, smarter dispatch systems, or lower industrial electricity for businesses. This scenario sees the biggest emissions cuts.

Scenario 2: Gradual coal phase-out, competition slower to form

Coal’s market share declines gradually through targeted policy interventions, with coal generators still competing in the market alongside steady renewables growth. Spot market prices hover near the strike price for wind and solar and remain lower than coal’s average cost, keeping the surplus/deficit account balanced. Renewable dispatch remains heavily influenced by government interventions and emission reductions progress slowly.

Scenario 3: Locked-in coal market share, limited renewable impact

China’s substantial coal power capacity (around 1,300 gigawatts) remains dominant, running at high utilisation rates and maintaining elevated prices. The spot market is restricted, forcing renewable operators to compete fiercely for limited bilateral contracts. Spot market electricity prices frequently fall significantly below renewable strike prices, causing deficits in the CfD system. If these losses are distributed among business consumers, as currently occurs, the price of electricity will increase for them. Renewable capacity grows, but curtailment increases, failing to significantly replace coal or improve the energy mix.

Policy design is key

China’s adoption of CfDs is an important reform in renewable energy pricing. Yet outcomes depend on detailed policy design and practical implementation. For CfDs to support meaningful emissions cuts, renewables must replace as much coal power as possible, not merely add new wind and solar capacity to coexist alongside it.

If CfDs consistently generate large deficits, it would indicate that renewables are relying too heavily on subsidies and surplus conditions. If CfDs remain consistently profitable, it signals that renewables are successfully challenging coal’s market dominance.

The new CfD mechanism will need support both from policymakers and the market. Changes in the financial health of the CfD system – specifically the surplus/deficit account – will serve as an indicator of whether renewables are effectively displacing coal. Ultimately, clear, top-down market design and proactive policy improvements are essential for enabling CfDs to promote China’s energy transition and rapidly decarbonise its power sector.