By Tom Miles, Chen Aizhu and Fayen Wong (China Daily)

BEIJING - China has granted initial environmental approval to an $8.8 billion project by the South African petrochemical firm Sasol Ltd and China's top coal producer Shenhua Group to turn coal into fuels.

The environmental clearance brought the project, potentially one of the largest foreign investments in China, a step closer to final approval from the top economic steering body, the National Development and Reform Commission (NDRC), after nearly a decade of talks between the two companies.

The project, to be built in Northwest China's Ningxia Hui autonomous region, plans to make 3.16 million tons of diesel and 655,500 tons of naphtha a year, according to a post on the Ministry of Environmental Protection's website.

After backing coal-to-liquid (CTL) investments as a way of improving energy security and easing its growing dependence on foreign oil, China went cold on the technology in 2008, cancelling dozens of projects amid concerns about high costs and the impact it would have on scarce local water supplies.

The country's massive coal industry has also been developing its own coal-liquefying technology, which has become a drag for the government to rush approving projects like this one by Sasol, which emerged from discussions with Shenhua back in 2000.

"The Chinese government obviously favors domestically grown technology when it comes to approvals, given that Shenhua already started a similar plant based on pure Chinese know-how," said a Beijing-based oil industry official.

Shenhua Group, parent of Shenhua Energy Co Ltd, has built its first CTL plant in the Inner Mongolia autonomous region, which is expected to produce 3 million tons a year by 2015.

"It seems that one big reason the project got the go-ahead was the potential for technology transfer from Sasol to Shenhua. It's a very important consideration given how new this sector is in China," said Shi Sijin, an analyst at Hawker Capital.

But Shi said the approval shouldn't be interpreted as meaning that Beijing is shifting its cautious position on the sector and that the Chinese government is unlikely to encourage more CTL projects.

Sasol's CEO Pat Davies told analysts in December that the firm was expecting a positive outcome from the Chinese government early this year and hoped to make the investment decision during this calendar year.