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Analysis: Russia, China, And The Politics Of Energy

Is Russia positioning itself to become China's major supplier of oil and gas in the near future? This frequently asked question took on new significance on 21 December when President Vladimir Putin -- explaining the "perfectly normal" procedures implemented during the auction of Yukos's main production unit, Yuganskneftegaz -- told reporters in Schleswig, Germany, that China's National Petroleum Corporation (CNPC) would participate in some unnamed fashion in "working with Yuganskneftegaz assets."

Putin's statement was elaborated upon on 30 December by Industry and Energy Minister Viktor Khristenko, who said CNPC could be offered a 20 percent stake in Yuganskneftegaz, the "International Herald Tribune" reported.

The 100 percent state-owned CNPC is China's largest oil-and-gas company. It accounts for 79 percent of oil supplies on the domestic market and holds a 95 percent share of the domestic natural-gas market and a 40 percent share of the market for oil products.

Enter The Japanese

However, on the same day that Khristenko was offering CNPC a stake in Yuganskneftegaz, Prime Minister Mikhail Fradkov signed a directive on construction of an $18 billion oil-export pipeline connecting Western Siberia with the Pacific coast. According to Russian media reports on 3 January, the state-controlled pipeline monopoly Transneft will be the main contractor of the 4,200-kilometer pipeline with a projected annual output of up to 80 million tons (503 million barrels), which will run from the Irkutsk Oblast town of Taishet to the port of Pervoznaya near Nakhodka on the Sea of Japan.

After Japanese Prime Minister Koizumi's visit to Russia in January 2003, the Nakhodka route become the favored proposal, greatly aided by Japan's offer to finance the entire pipeline cost. South Korea, desiring an alternate oil source, also voiced its preference for the Nakhodka route.

With Yuganskneftegaz now safely in the hands of Rosneft, a Russian state oil company, Putin seemed willing to discuss doing business with CNPC. Putin's vague statement that Gazprom and CNPC have agreed on cooperation in the energy sector and that the two partners were to determine the way CNPC is to participate, as AP reported on 22 December, did little to clarify matters. The Russian decision to build a pipeline that bypasses China might well have damaged the two countries' relations.

Unclear Cooperation

When Chinese Prime Minister Wen Jiabao promised early last year to invest $12 billion in Russia's energy infrastructure needs by 2020, the Russian side did not commit itself to his proposal nor to building a proposed $2.5 billion pipeline from Siberia to Datsin, China, which the Chinese government has been aggressively advocating.

Russian news agencies offered little new information on Russian-Chinese energy cooperation and the joint statement adopted at the end of Wen's talks in Moscow in September was blandly noncommittal: "The two countries will take measures to implement cooperative projects in oil and natural gas, including the construction of pipelines between China and Russia."

Russian-Chinese cooperation in the energy field has been uneven. China, with the fastest-growing demand for energy in the world, faces the strategic need of reducing its dependence on Middle Eastern, African, and Southeast Asian oil, for which it is obliged to pay delivery premiums. For over a decade, China has increasingly sought to buy a larger share of Russian oil and gas, but a number of factors seem to have been thwarting these efforts.

For one thing, the majority of Russian natural gas is pumped from western Siberian gas fields to Europe and CIS countries. The gas enters the old Soviet pipeline system, which has been used since 1968 when the first Russian gas deliveries began to Western Europe. Building a new pipeline network in the direction of China is an expensive and politically sensitive proposition for the Russian leadership. While the Chinese side has offered to bear part of the financial burden of this construction in return for gas, political factors seem to be delaying any firm decision.
China, with the fastest-growing demand for energy in the world, faces the strategic need of reducing its dependence on Middle Eastern, African, and Southeast Asian oil.

Second, the former strategy of Yukos was aimed primarily at exporting oil to Western Europe by pipeline and to the United States via tanker. China initially played a relatively minor role in the company's strategic plans. This changed when Yukos's then-CEO Mikhail Khodorkovskii decided to try to revolutionize the Russian oil market by building a private oil pipeline to China. The Yukos-led plan to build the Angarsk-Datsin pipeline met with fierce opposition within the Kremlin, and Khodorkovskii was prevented from pursuing it.

Now that the Kremlin has shelved the Angarsk-Datsin pipeline for good, the new owners of the bulk of the Yukos empire will have to rethink the role their company will play.

As an alternative to the pipeline, Yukos began shipping Russian oil to China by rail tanker cars, which turned out to be both an expensive and low-volume method of supplying Chinese needs. Yukos currently pays about $160 in transport tariffs and export duties for each of the 650,000 tons of oil it ships to China each month, including 400,000 to CNPC and 250,000 to Sinopec, a large Chinese refiner.

The Chinese side, which seemingly understood for quite some time that Russia was not too anxious to promote Chinese industrial growth, started the construction of a 3,000-kilometer rival oil pipeline from neighboring Kazakhstan. This pipeline is estimated to cost $3 billion, and to supply up to 20 million tons of oil per year.

With Yuganskneftegaz now in the hands of Rosneft, it remains to be seen how the Russian government will honor Yukos's Chinese contracts.

Increase In Demand

A Russian gas-industry study prepared in July concludes that demand for natural gas in the Asian-Pacific rim will increase from 370 billion cubic meters in 2005 to 651 billion cubic meters in 2020. In the same period, European demand for gas is expected to increase from 440 billion cubic meters to 647 billion cubic meters.

The study forecasts that in 2020, Russia, taking into account its purchases of gas from Central Asia, will be able to deliver between 35 billion and 38 billion cubic meters of gas to Asian-Pacific-rim countries, mainly China, Japan, and South Korea, out of a total of 273 billion to 281 billion cubic meters of gas exports. The bulk of Russia's Gazprom gas, however, will be going West -- to Europe and the CIS countries.

The delivery of gas to China was projected to go via a pipeline from the Kovytka gas field, with proven reserves of 2 trillion cubic meters and the capacity to produce 36 billion cubic meters per year, to Blagoveshchensk on the Chinese border, a distance of almost 2,000 kilometers.

Russian planners see eastern Siberia, with known reserves of 6.6 trillion cubic meters, as rapidly becoming the gas center of Russia, with regional production in 2020 reaching 110 billion cubic meters per year.

The first deliveries of 20 billion cubic meters annually of natural gas to China are scheduled to begin in 2010 along with 10 billion cubic meters to South Korea.

Projections, of course, are susceptible to sudden revisions and rely upon political stability in both Beijing and Moscow. The Yukos affair can serve as an example of how unexpected Russian domestic policies can disrupt projected oil deliveries to China. How such factors might influence China's growing need for Russian gas is difficult to forecast, but a downward revision of the quantity of such shipments is certainly not impossible.

Commenting on the rising demand for energy in China and the impact this might have on the world, Britain's "The Guardian" wrote on 27 December: "Whatever production arrangements OPEC might agree to, stronger demand will push up the cost of crude and other commodities. Research by Alliance Bernstein found that China was responsible for 79 percent of the increase in global steel production in 2003, and consumed 37 percent of the world's cement. It is installing 150 gigawatts of electricity generating capacity, double the U.K.'s total capacity. Every global downturn of the past 30 years has been associated with soaring energy costs, so watch the price of crude carefully."

If the Russian government is betting on rapidly growing Chinese demand to drive up prices of oil in the future, then it could be in for a surprise. Recent reports that Saudi oil reserves could increase by 77 percent and top 461 billion barrels in a few years might work against Russian hopes of reaping the profits of China's burgeoning energy market.

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