No. 2, 2009

Maria Belova ,
Senior Expert of the Energy and Finance Institute


The Russia-China energy dialogue is in the stage of strategic development

Since the 1980s, the Chinese economy has been developing at unprecedentedly high rates. By 2006, the country had become the world's third biggest oil consumer. In the future, the gap between the falling oil production in China itself and its fast growing demand for oil will be but widening. Russia may become a major exporter of hydrocarbons to the "Celestial Empire".

Energy diplomacy in action

While the People's Republic of China (PRC) has substantial reserves of coal (33% of the world total), its oil (2-3%) and gas (1%) reserves are really modest and lagging far behind its growing demand.

With limited traditional energy sources and growing demand the Chinese leaders have to follow a multi-aspect energy strategy comprising three basic components. These are, first, energy sector reform aimed at raising production and attracting direct foreign investment; second, smaller share of coal in primary energy consumption mix and emissions reduction; and third, diversification of imports to lower dependence on one or a limited number of supplier regions.

The PRC leaders expect the reforms to promote the energy diplomacy line announced by Li Peng back in 1997. The strategy keeps under pressure all Chinese diplomats across the world: they make use of every means, including lobbying, financial aid and information exchange, in their search for new energy sources. Beijing has established serious contacts with Libya, Saudi Arabia and even Syria over the last decade to secure 60% of oil coming to the PRC from the Middle East. Similar efforts were also targeted at Africa, Central Asia, Latin America, Malaysia and Australia. Russia and Central Asia account for a mere 6% of China's total imports of energy resources, despite their geographical proximity to China and its fast growing demand for hydrocarbons.

Beijing is well aware of the need to have streamlined the supply of Russian hydrocarbons produced close to Chinese industrial centers. The first visit abroad of the Chinese leader Hu Jintao was made to Russia in March 2003, and energy was among the key items on the agenda. In addition, during Vladimir Putin's visit to the PRC in March 2006, four agreements were signed on cooperation in the field of fuel and energy (oil, gas, electricity and nuclear energy). In March 2007, Hu Jintao paid another visit to Russia to sign 21 partnership agreements worth a total of $4.3 billion. In their joint statement, the two leaders pledged strengthening collaboration in the sphere of trade, energy and investment.

But, whatever the arrangements, Russia has yet to appear on the list of major oil exporters to the PRC. Russian deliveries to China account for a mere 3% of crude oil imported by Beijing. Until now, the main reason was the absence of a developed transport infrastructure that would link the two countries. Some 80% of crude oil is delivered to China from Russia by rail the capacity of which is limited.

A promising project

If a big-diameter trunkline is built, Russia may become the biggest oil exporter to China, with the latter's dependence on oil deliveries from the Near and Middle East considerably reduced. At present, intensive construction of the Eastern Siberia - Pacific Ocean (ESPO) pipeline is underway, from the city of Tayshet to the Kozmino Bay in the Pacific. According to Transneft, the first phase of the project is to be completed by the end of this year. The Chinese side earlier announced its intention to invest $1.1 billion in an ESPO branch pipe to link the border city of Skovorodino with Daqing. Its crude oil supply is expected to reach some 600,000 barrels a day (30 million tons a year) by 2010. According to analyst estimates, this pipeline is capable of meeting up to 20-30% of China's import requirements.

Implementation of the ESPO project second phase - crude oil delivery to the Pacific coast to be then transported by tankers to Japan, South Korea and other countries of the APR - should be completed by 2015. However, the JSC Russian Railways spent a lot on upgrading its infrastructure and hopes that oil deliveries by rail would be continued even when the pipeline is in place. In addition, since August 2006, Rosneft and the Chinese state corporation Sinopec have been engaged in the prospecting works on the Sakhalin shelf.

Given deliveries from Sakhalin, Russia may increase its share of the Chinese oil market from the current 3% up to 30 % by 2020. According to the Russian Academy of Sciences Institute of Geology, the volume of Russian oil exports to China (including its transit through Kazakhstan) will reach 32 million tons in 2010; 80 million tons in 2020; and 90 million tons in 2030.

In March 2006, the Chinese CNPC and Rosneft, which currently accounts for 70% of Russian oil exports to China, signed a protocol on cooperation. Two joint ventures have been set up under the agreement. One of them will be selling Russian petroleum products in China, and the other will be involved in oil production in Russia. JV Vostok Energy is another example of successful collaboration, and it expects to produce 9 to 10 million tons of oil annually by 2009-2010. The company won a tender on July 31 to develop two hydrocarbon fields in the Irkutsk Region, and on August 1, 2007, it announced its intention to acquire additional assets in the region. Relying on these joint ventures Russia may count on Chinese capital investments and China on Russian hydrocarbons in its market.

Natural gas: next on the agenda

As regards the natural gas situation, expert believe that China will require up to 68 billion m3 of Russian gas by 2020. So far, Russia has displayed its willingness to meet the demand. In September 2006, Deputy Minister for Industry and Energy Andrey Reus stated that Russia intended to raise its gas deliveries to APR countries up to 55 billion m3 a year.

Currently, four Russia-China pipeline construction projects are under consideration. The first project (Irkutsk - Daqing) provides for transportation of 30 billion m3 a year. The second (Novy Urengoy - Lunnan), the so-called Altay Project, 2800 km long, will be also able to pump through 30 billion m3 a year. The third and longest Sakha Project has a capacity of 38 billion m3 per year. The fourth Sakhalin-China pipeline project (15 billion m3 of natural gas a year) is to be built by 2010. Gazprom will use these trunk lines to deliver up to 80 billion m3 of gas annually to China.

In assessing the Russia-China energy dialogue one should make a distinction between actual steps and transactions, on the one hand, and formal declarations of intention, on the other. Many agreements have been signed by the two governments in order to sound out the world community's response. Pipeline negotiations have dragged on and been accompanied by innumerable feasibility studies and environmental impact assessments. At the moment, both countries could benefit from continued cooperation but for emerging mutual mistrust. Moreover, potential reserves of Russian hydrocarbons are located far away from major markets, in areas with difficult natural and geological conditions (for instance, northern sea shelves). Therefore, in order to develop them, Russia needs sizable foreign investment and Western technologies. That is why some experts believe that natural gas deliveries to China may be commenced with a three to four year delay.

Cooperation between the two countries in the field of energy requires further strategic development. It is absolutely clear that commercial implementation of joint projects is a matter of commitment on the part of both countries' leaders, time and effort.

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Oil of Russia, No. 2, 2009
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