China’s SPR release: a test of mechanisms rather than a show of market might
China’s announcement that it will release oil from its Strategic Petroleum Reserve (SPR), a first such announcement and release, is hugely significant. But its importance stems from the institutionalization of China’s SPR programme rather than the near-term impact on markets and flows. Indeed, the decision to release crude from the SPR follows similar releases of metal and grain reserves, which have all been aimed at taming inflationary pressure given rising input costs. But the volumes released in the first batch are a drop in the ocean compared to China’s total imports and are unlikely to impact global prices or radically alter import flows. Moreover, they are unlikely to significantly dent producer price inflation because of the small size of the release and the domestic product pricing mechanism. The first auction, is therefore likely, first and foremost, a test of the newly created SPR mechanism. In the coming months, the government could draw down stocks from additional tanks to further test the mechanism especially if this first release is deemed a success. But even additional draws are unlikely to fundamentally alter China’s import needs as the tanks will need to be replenished subsequently. Indeed, in the near-term, any weakness in crude buying will be related to refining margins and a weak demand outlook rather than the SPR release.