ERDOS (China), June 4: With oil prices at historic highs, China is moving full steam ahead with a controversial process to turn its vast coal reserves into barrels of oil.

Known as coal-to-liquid (CTL), the process is reviled by environmentalists who say it causes excessive greenhouse gases.

Yet the possibility of obtaining oil from coal and being fuel self-sufficient is enticing to coal-rich countries seeking to secure their energy supply in an age of increased debate about how long the world’s oil reserves can continue to meet demand.

The United States, Australia and India are among those countries looking at CTL technology but are constrained by environmental concerns associated with the process which releases excessive amounts of carbon gases into the atmosphere and consumes huge amounts of water.

But China, which lacks the powerful environmental lobbyists that might stymie any wide-scale initiative elsewhere, is building a major complex on the grasslands of Inner Mongolia.

“Those countries with large coal reserves, like South Africa, China or the United States, are very keen on CTL as it helps ensure energy security,” said Yuichiro Shimura at Mitsubishi Research Institute Inc (MRI) in Tokyo.

“However, the problem is that it creates a lot of carbon dioxide. Also you need a huge amount of energy for liquefaction, which means you end up wasting quite a lot of energy,” the chief consultant at MRI in charge of energy told Reuters.

In Erdos, Inner Mongolia, about 10,000 workers are putting the final touches to a CTL plant that will be run by state-owned Shenhua Group, China’s biggest coal mine.

The plant will be the biggest outside of South Africa, which adopted CTL technology due to international embargoes on fuel during the apartheid years.

“We cannot fail,” Zhang Jiming, deputy general manager at Shenhua Coal Liquefaction, told Reuters. “If things go smoothly, we will start with the expansion next year,” he said.

The plant will start operating later this year and is expected to convert 3.5 million tons of coal per year into 1 million tons of oil products such as diesel for cars.

That’s the equivalent of about 20,000 barrels a day, a tiny percentage of China’s oil needs as oil consumption in China is around 7.2 million barrels a day.

If all goes well, then Inner Mongolia will push on with an ambitious plan to turn half of its coal output into liquid fuel or chemicals by 2010. This would be around 135 million tonnes, or about 40 percent of Australia’s annual coal output.

The region, as big as France, Germany and England put together, hopes CTL will propel development while contributing to Beijing’s plan to have CTL capacity of 50 million tonnes by 2020.

That would be about 286,000 barrels a day, or about four percent of China’s energy needs based on current consumption.

CTL is also being considered by a number of coal-rich countries such as the United States, which has the world’s largest coal reserves.

The relatively low cost of CTL produced oil given current oil prices, plus the chance to be more energy self-sufficient is a powerful incentive.

The technology is being seen in some quarters as offering an opportunity for the U.S. to reduce its dependency on other countries for oil and a small U.S. CTL industry is emerging.

DRKW Advanced Fuels plans to start construction on a plant in Wyoming next year in partnership with Arch Coal Inc and with technologies licensed by General Electric and Exxon Mobil. The defence department is experimenting with CTL in an effort to cut reliance on fuel from countries unfriendly to the United States.

But CTL is highly controversial. Experts say the whole lifecycle releases about twice as much carbon dioxide, the most common greenhouse gas, as fossil fuel. Liquefying coal also requires large amounts of energy and drains water supplies.

The fuel produced through this method has a shelf life of up to 15 years, unlike other motor fuels which is attractive to the military and to governments keen to ensure fuel security.

Though CTL technology was developed about 100 years ago, it has been little used, except in Nazi Germany and apartheid South Africa, which had difficulty accessing then-inexpensive oil.

Oil prices, which have more than quadrupled this decade to above $130 a barrel, have reignited interest in CTL.

The Oil and Gas Journal in April suggested it costs $67 to $82 a barrel to produce CTL fuel, based on the experiences of South Africa’s Sansol. Exact prices would depend on a range of factors including coal and water prices and of course it is very expensive to build CTL plants.

Shenhua will be the first to use direct CTL technology on a large scale. It is different from indirect CTL, proven in Nazi Germany and by South Africa’s Sasol, and converts coal directly into liquid fuel, skipping gasifying coal into syngas.

“CTL happened only twice in world history, and both times it’s been in nations facing some kind of state of emergency with respect to energy. It should sound an alarm bell,” said Gary Kendall, from the WWF conservation group.

“There are two defining issues in the 21st century: one is carbon dioxide and one is water ... And the (CTL) process is horrifically carbon intensive. It is also very water intensive.”

The “holy grail” for CTL enthusiasts is to find a way to turn coal into liquid without releasing carbons into the air.

The idea is that the carbon dioxide, the main global warming gas, would be captured and stored deep under ground.

Carbon capture and storage, which is still the subject of much research, would alleviate the environmental impact of carbon dioxide being released into the environment, the main argument against CTL by critics. This could spur CTL development in the United States and other western countries.

Coal lobbyists in the U.S. have been clamouring for more research into CTL but they have failed to override environmental concerns due to the carbon emissions of the process. Pro-CTL amendments were dropped from the 2007 U.S. energy bill.

“If there is no good solution for CO2, the (CTL) industry will not flourish,” Chen Linming, executive vice president at Sasol China, told a conference last month, urging the government to support carbon capture and storage technology.

Shenhua and Sasol are conducting a feasibility study to build two more CTL plants in the provinces of Shaanxi and Ningxia.

Whether CTL technology could ever be used on a large-scale will depend on how coal companies deal with the massive amount of water used in the process.

China faces serious water shortages and the Gobi desert, which spans across Inner Mongolia, is expanding rapidly. There are drinking water shortages in northwest China and ground water levels are sinking every year.

Shenhua plans to use ground water and recycled water from coal mines to supply the 8 million tonnes it will need a year.

Yet Zhang said it would need to tap other sources, such as the Yellow River, in the second phase. He would not disclose how much the company spent to build the complex, or how much carbon dioxide it is expected to emit.

“There’s no doubt with oil at over $100 a barrel, CTL is very economic ... However the constraint is the availability of water,” said Michael Komesarroff from Urandaline Investments.

“The Yellow River often dries up ... In some parts of China, 30 years ago, the water table was 5 metres below the ground. Today it is 35-40 metres below the ground because they take the ground water in an unsustainable way.”

Environmentalists say that rather than invest in a process that will probably never be environmentally sound, China and other countries should move towards running cars on batteries rather than liquid fuel.

“If China’s primary concern is energy security, then I think you would want to take the most efficient way of using the resources,” said WWF’s Kendall.

“If you turn coal into electricity at high efficiency, and charge electric vehicles, you can get three times as many kilometres per unit of coal.”--Reuters