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Home / Issue Archive / 2006 / June #6 / Russian Gas Tap Turns to China

№ 6 (June 2006)

Russian Gas Tap Turns to China

In the 15th century, Russia (then Moscovy) adopted the double headed eagle as the symbol of its imperial state power. This symbol has endured more than 500 years, its use interrupted only by the Soviets from 1917 to 1993. The eagle's heads look simultaneously East and West in acknowledgement that Russia straddles both Europe and Asia.

By Pat Davis Szymczak, Sergei Korobov, Vlad Konstanza

And so it should have come as no surprise that when Europe attempted to frighten Moscow with a "security of energy supply" doctrine suggesting the EU might want to cut back on energy imports from Russia; Russian President Vladimir Putin responded by changing not just the rules, but the game itself. The Kremlin issued its own doctrine of "security of energy demand" and asserted that it would look to Asia to find that security.
Thus, the EU-Russia summit in Sochi in May ended rather uneventfully; with insincere expressions of mutual appreciation and the signing by smiling diplomats of documents that were, for the most part, insignificant. Behind the smiles lurked a growing misunderstanding that seems to be driving a wedge between Europe and Russia.

Who Knows Who's Right, Who's Wrong?

The EU finds it perplexing that Russia would prefer to shift its oil and gas exports to Asia rather than ratify the European Energy Charter. In turn, Russia finds it odd that Europe expects access to both Russian oil and gas reserves and to Russian pipelines for the purpose of importing oil and gas from Central Asia, but at the same time is reluctant to offer anything in return. As Putin told a news conference at the summit: "If our European partners want us to let them into the holy of holies of our economy, namely the energy sector, and if we do this as many would like it to be done, then we expect something in return regarding the most critical and important areas of our development."
Both sides talk of "energy security" but each perceives it in its own way. And if the May summit with the EU in Sochi was a rehearsal for the July meeting of the G-8 in St. Petersburg where Russia will put energy security as item No. 1 on the agenda, the growing mistrust between Russia and the West with regard to oil, gas and electrical power, suggests it will be even harder to proffer solutions for more global issues.
Russian officials, among them Putin himself, continue to chant the mantra that by choosing China as Russia's strategic energy part in the East, Moscow has not undermined its reliability as a supplier to the West. To gauge the seriousness of that commitment, one need only look to the Russian-Germany venture between Gazprom, BASF and E.ON, headed by former German Chancellor Gerhard Schroeder, that is building the North European Gas Pipeline (NEGP), from Russia to Germany under the Baltic Sea. Schroeder is CEO of the NEGP.

Waters Run Deep Between Germany and Russia

For geopolitical and historical reasons, Germany is, defacto, Russia's European partner when it comes to energy. Much of the infrastructure that ties Russia as an energy supplier to Europe dates to Soviet times and connected with West European energy distribution systems via Germany. Moreover, in the last decade business relationships seeded years ago have taken root as the Russian economy liberalized.
But however good its relations with Germany, Russia needs to have more than one best friend in the world. Thus, as one head of the Russian eagle seems to focus on the Rhineland, the other peers East towards the Great Wall. By choosing the People's Republic of China as a strategic partner in implementing its energy policy in Asia, Russia has, from the point of view of its own national interests, scored points in two areas: it has prudently diversified its own oil and gas exports while also balancing political pressure from the West.
It seems that the old Cold Warriors in Russia spooked the old Cold Warriors in Europe around the New Year when Moscow temporarily cut off natural gas deliveries to Ukraine in a dispute over prices. But while Russia might not have been entirely correct in its handling of the situation, neither was the EU. Amid a growing sense of paranoia, fueled by the world media, Europe seemed to turn a blind eye to Russian evidence of Ukrainian theft of gas intended for Europe. Europe also threw up barriers to Russian power supply companies desiring to enter the gas distribution networks of EU countries. 
The danger for Europe is that if it pushes too hard, Russia's westward-looking eagle might start getting distracted and more interested in what its other half is doing. The memorandum signed by Russia's President Putin and China's President Hu Jintao in Beijing in March to establish a Russian-Chinese energy alliance was without a doubt a clear response from Russia to being talked down to by Europe. Russia's chairmanship of the G-8 this year is Moscow's chance to reassert itself as a global power broker. It is also Putin's chance to make his mark in the history books as a statesman. With this at stake, Russia will not be kept on the back foot by European quibbling. It is in fact probable that Russia will attempt at the G-8 meeting to elevate the question of energy security to a UN level so as to place things in a global context.

Soviet-Sino or Russia-China, Moscow's Been There, Done That

At the same time, it would be naive to think that Russia is rushing headlong into convergence with China. Two thousand years ago, the Chinese military strategist Sun Tzu advised that one should keep their friends close but their enemies even closer. Russia needs the Chinese market and China needs Russian energy. But Russia, which shares a border with China longer than it feels comfortable with, also fears China - and it is a fear that goes back to Soviet times and before.
It is no secret that for the last five years Russia had an unofficial ban on Chinese companies gaining access to Russian subsoil resources. Chinese companies sought to acquire licenses by participating in practically all serious tenders but it was not until April of this year that a Chinese company finally won a license; this for reserves in a polymetallic ore field in Tuva.
With Russia starting construction of the East Siberia - Pacific Ocean (ESPO) oil pipeline to China and to Japan, the Chinese will probably increase their efforts to acquire licenses for oil and gas fields. It is doubtful, however, that Russia would become dependent on those Chinese investments.  Regardless of the political situation, in the foreseeable future China will not be able to consume or resell Russian gas in amounts large enough to create problems for power supplies to Russia's European partners. And the fact that Russia plans parallel construction of oil pipeline branches to Japan as well as to China, can be taken as an indicator that in Asia also, Russia wants to diversify its risk. 
Thus, it can be argued that Russia's energy policy is pragmatic. Cooperation with China in the energy sector, and through China - with other prospective consumers of Russian oil and gas resources in the Asia-Pacific region such as Japan - is not an ideological or political maneuver. It is a pragmatic policy in that it advances the economic development of Siberia and the Far East and attracts new investment into the Russian oil and gas sector. 

The Spirit is Willing but the Investment is Weak

Whether Russia looks East or West, it needs big investment to grow its production and to transport that production reliably to market. This relates to geological exploration, the opening of new fields, to infrastructure construction, and to the development and purchase of new equipment and technologies. And production isn't everything. Experts suggest that Russia loses about 30 bcm of gas a year during transport because of deteriorating pipelines. 
To the west, German money is financing construction of the North European Gas Pipeline (NEGP) and banks will be paid back by Russia's throughput guarantees. As for East -  bound gas pipelines, Russia has pledged deliveries to start by 2011 from two pipelines which will eventually deliver a combined 80 bcm of gas a year to China. One of those pipelines, the Altai Pipeline, will be fed by gas produced at yet to be developed fields in West Siberia. The other would originate in the Far East from Sakhalin Island or from East Siberia from the Kovykta gas field in Irkutsk.
At the moment, all three have their problems: Altai is plagued by environmental issues and disputes with native people who allege the route crosses ancient burial grounds. The Sakhalin gas pipeline is underdeveloped conceptually. And Kovykta is in the hands of a subsidiary of TNK-BP, a private company with foreign interests, much to the distaste of Gazprom. Given the importance of Kovykta (which the Soviets studied in the 1980s as their best shot at supplying gas to China) and the current atmosphere in Moscow, it would be unthinkable from the Russian State's point of view for the project to proceed until Gazprom - and by implication the State - is in control. 

Who Will be the Owner of Kovykta Gas?

TNK-BP has offered Gazprom a 51 percent interest and may yet succeed in finding a compromise with Gazprom on the best terms for the government. Meanwhile, BP-TNK is being threatened with the actual loss of its license to develop Kovykta on legal grounds that the company is required under the license terms to supply volumes of natural gas to the Irkutsk region which the region is not able to take.
The latter is hardly the fault of TNK-BP but whatever the outcome, Gazprom, with or without TNK-BP will without a doubt gain control of  Kovykta gas to China and the gas pipeline that carries the supply will be built with Chinese money. The inclusion of TNK-BP, however, as a partner in the venture with state-owned Russian and Chinese companies is also a very likely part of the scenario. How much of a part remains though to be seen.

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