No. 1, 2005

Prof. Vladilen Kashchavtsev,
Dr. Sc.


Russia and China are entering a new era of energy cooperation

The development of China's energy sector over two centuries is largely associated with active involvement of Russia. Following the successful visit last year by Russian President Vladimir Putin to the People's Republic of China (PRC), cooperation between the two countries in the fuel and energy sphere has reached a new level and is becoming a key factor in the two countries' foreign policies.

Tried and tested

The economic and cultural ties between China and Russia go back a long way. Their cooperation in the energy sphere began back at the beginning of the 19th century, when a trade in petroleum products started between Russia and China. The Russian Empire, alongside the United States, was at that time the biggest supplier of kerosene to China. Russian "lamp oil" in tins featuring the two-headed eagle was one of the most welcome cargoes to arrive at China's biggest ports of Hong Kong and Shanghai.

The Trans-Siberian Railway, the construction of which was completed in 1901, was to play a tremendous role in shipping kerosene from Russia to China. Over a century has passed, but Russian oil is still being carried to the PRC via this vital shipping route.

Cooperation between the two countries in the exploration and development of oil and gas fields began in the 1950s. It should be noted that, by 1949, only two small fields, providing annually 120,000 tons of crude oil, had been developed, yet China was the first country to discover how oil could be used. Historical documents testify that, back in the 7th century B.C., in the province of Sechuan in the south-west of China, oil was extracted from shallow wells using bamboo pipes.

In 1950, the Sino-Soviet expedition to the Xinjiang-Uigur Autonomous Area in the north-west of China discovered significant hydrocarbon reserves ? and since then oil has been produced there for over half a century.

In 1963, national oil production reached almost 6,500,000 tons, which not only satisfied the country's domestic requirements for petroleum products, but also allowed it to export part of the oil. The rapid growth of the Chinese economy since the end of the 1980s was largely based on the sufficiency in energy resources. However, soon oil production growth rates have begun to lag considerably behind the rate at which it was consumed.

Since 1993 China has been a net-importer of oil, even though it has been producing 1,025 million barrels a year itself. The country's dependence on imported hydrocarbons is steadily growing and has now reached 120 million tons per year, that is, more than 40% of the Chinese economy's domestic requirements. The Chinese requirements today stand at 250 million tons per year, but the forecast by the International Energy Agency (IEA) is that this figure will rise to 350 million tons by 2010, only a third of which will be covered by the country's own resources.

In recent years, imports of oil to China have mostly come from the countries of the Middle East, the Asia-Pacific Region and Africa. The PRC is, however, interested in diversifying supplies of this vital raw material and, under these conditions, the export potential of one of China's closest neighbors ? Russia, is acquiring increasing importance. Moreover, Russian exports have grown of late. In September 2004, for instance, Russia took first place among suppliers of oil to China. The problems of JSC YUKOS, which until recently used to be the main exporter of Russian oil, have, of course, caused a temporary cut in the supply of hydrocarbons to China. Even so, the current situation indicates that the export of oil from Russia to China will grow rapidly.

The possibilities for further expansion of cooperation between Russia and China in the oil and gas sector are enormous. The interests of the two countries are not limited just to supplies of hydrocarbons.

Common interests

There are several joint projects that are being successfully implemented by Russian and Chinese companies.

A major component of bilateral cooperation in the oil and gas industry is scientific research. It was Russian scientists who recently used a unique technology for remote sensing of the Earth from space to reveal large reserves of hydrocarbons in China.

Research performed by Russian scientists at the request of the CP-Credit Prive, Swiss-headquartered financial and fiduciary house, and the Hong Kong Pacific Mineral Resources corporation made possible a provisional estimate of still unexplored geological reserves in China and South-East Asia amounting in total to about 1.5 trillion m3 of gas and over 7.3 billion barrels of oil.

However, the export of Russian oil currently remains the main area of cooperation between Russia and China in the energy sector. Shipment of Russian oil to China is based on an intergovernmental agreement signed at the end of the 1990s, under which the PRC annually received over 36 million barrels of Russian crude oil to a total sum of more than a billion U.S. dollars. Today, Russian oil is transported to China mostly via the Trans-Siberian Railway.

Traditionally, the main supplier of Russian oil to the PRC has been the YUKOS company. In October 2004, owing to its financial difficulties, the company stopped shipping crude to Sinopec, while it continued supplies to the China National Petroleum Corporation. A way out of the situation was found with the participation of JSC LUKOIL, which assumed responsibility for discharging the Russian Federation's obligations.

In November 2004, LUKOIL launched its oil deliveries to China by sending initially 100,000 tons of hydrocarbons. In December, this figure reached 150,000 tons, bringing the total volume of supplies of Russian crude back up to their previous level. According to the results for 2004, exports of Russian oil by rail amounted to 6 million tons.

Under the agreement between JSC Russian Railways and LUKOIL, the volume of oil transported by rail to the PRC is to rise in 2005 about 30% per month. Thus, by the end of 2005, LUKOIL crude exports to China will constitute at least 3 million tons. The total volume of oil exported by Russia to the PRC will, according to provisional arrangements between the countries, amount to 10 million tons in 2005 and 15 million tons in 2006.

A worthy alternative to transportation of oil by rail would be a pipeline running from Eastern Siberia to China, but this is, to be realistic, a project for a longer term.

The partners' pragmatic approach

The energy balance of China is today clearly dominated by coal, with a share of over 60%. Even so, the growth of the country's economy is largely associated with an increase in the consumption of oil and gas. In China, there are about 320 oil and 80 gas fields. The largest oil-producing region is North-Eastern China, the basin of the Songhuajiang and Liaohe river basins, where the biggest group of oil fields is concentrated near Daqing. It is from Daqing that pipelines run to the country's major industrial centers. A decade of intensive exploitation has considerably depleted the reserves here and the main petrochemical plants in this region are beginning to experience a serious feedstock shortage.

This is why China attached such major importance to the project for constructing the 2,500-kilometer-long pipeline from the Irkutsk Region to Daqing. Even so, the Russian Federation finally decided to project the Tayshet-Nakhodka export pipeline. This pipeline route was supported by Japan, which agreed to finance its construction to the tune of $7 billion. In spite of this, it would be wrong to think that the Tayshet-Nakhodka pipeline will export oil exclusively to Japan, since it also gives Russian oil access to the markets of the other countries in the Asia-Pacific Region. This routing of the pipeline is conditioned by exclusively pragmatic considerations, particularly a reluctance to target exports on a monopoly consumer, which would then be able to dictate its own price terms.

The construction of a leg of this pipeline to China may become necessary in the future, since, in the long term, exports of Russian oil by rail will not be capable of fully satisfying the PRC's growing market for energy resources. In the medium term, however, construction of the 1,000-kilometer Atasu-Alashankou oil pipeline from Kazakhstan, the first stage of which is planned to be completed by the end of 2005, will help satisfy China's "thirst for oil".

The Russian-Chinese pipeline is intended to pump oil from Western and Eastern Siberia. The Tomsk Region and the Khanty-Mansi Autonomous Area will be the pipeline's resource base. In the southern part of Eastern Siberia, several fields have been discovered to date with commercial oil reserves of over 800 million tons, in particular, the Yurubcheno-Tokhomskoye field. Construction of the pipeline will, moreover, prompt further development of hydrocarbon fields in the region.

According to forecasts made by Russian geologists, a substantial part of the increase in reserves of Russian oil and gas will, in the near future, come from Eastern Siberia. Chinese companies are fully aware of these prospects, so they are showing interest in participating in their development. For example, the biggest Chinese government companies, China National Petroleum Corporation (CNPC) and Sinopec (SNP), are holding talks on the joint development of the Chayanda gas field in Yakutia, as well as the Kovykta gas field, located in the Irkutsk Region. The Chinese government, moreover, supports participation by its companies in developing oil at the Talakan field in Yakutia.

Strategic plans

The cooperation between Russia and China in the energy sphere is becoming one of the key foreign policy lines of the two states. The purpose of reciprocal visits made in 2004 by the country's leaders was primarily to further the bilateral energy dialogue.

Russian President Vladimir Putin timed his October 2004 visit to the PRC to the 55th anniversary of the establishment of diplomatic relations between the two countries. During the visit, the two heads of state signed a number of agreements, in particular the Plan of Action for implementing the provisions of the Agreement on Good-neighborliness, Friendship and Cooperation between the Russian Federation and the People's Republic of China for the period from 2005 to 2008. The document focuses particularly on questions of energy cooperation between the two countries.

It was decided on the interstate level that Russia and China would assist in the implementation of Russian-Chinese projects in the oil and gas sphere, such as the joint development of oil and gas fields on the territories of the two countries and construction of the Tayshet-Nakhodka oil pipeline leg from Russia to China.

In the course of President Putin's visit to China in last year's October, an agreement was also signed on strategic cooperation between Russian JSC Gazprom and the Chinese National Petroleum Corporation.

Within the framework of partnership agreements between the two countries, relevant government agencies of Russia and China were also entrusted with appraising the prospects for implementing a gas project in the Irkutsk Region, envisaging the construction of a 5,000-kilometer export gas pipeline from the Kovykta gas-condensate field to China. The reserves of this field are currently estimated at 2.13 trillion m3. The gas pipeline project envisages annual supplies, for a period of 30 years, of not less than 20 billion m3 of natural gas, including 10 billion m3 intended for China and the remainder for the Republic of Korea and Japan.

Today, the share of gas share in China's energy consumption is relatively small (3-4%), but the demand for it is growing and, in this connection, the PRC is looking hopefully toward Russia. In particular, the Chinese oil and gas companies are showing an obvious interest in supplies of gas from the Sakhalin-2 field. Moreover, given the intensive growth of China's gas industry, Russia can offer its expertise in building underground gas storage facilities, gas distribution systems and gas and chemical industry facilities.

These projects can raise the partnership between Russia and China to a new and higher level. In recent years, oil and gas have been acquiring growing significance in the sustainable development of the economies of both these neighboring countries, so the further expansion of energy cooperation has excellent prospects and fully meets the strategic interests of the two states.

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Oil of Russia, No. 1, 2005
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