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Analysis & Opinion
07.07.08 Natural Partners?
By Sergei Balashov

China is currently positioned as the fourth largest economy in the world. In 2007, its nominal GDP was over $3.4 trillion. This number naturally puts China in the second spot on the list of the largest energy consumers trailing the United States. The International Energy Agency has projected that China and the United States would swap places after 2010, with China taking over as the global leader. Its influence on the global and regional energy market will only grow stronger.

“China is one of the countries that are reshaping the energy map of the world today,” said Valery Yazev, deputy speaker of the State Duma and President of the Russian Gas Society. “This is the single most important driving force of the economy of East Asia and the Pacific region.”

Looking to fuel China’s driving force is neighboring Russia, which happens to be the global leader in energy production. With the two countries being so close and possessing exactly what is needed to serve each other’s demands, such a partnership would only seem natural.

“China is our most important partner in the Asian-Pacific region and this trend is only growing stronger,” said Yazev. The trade between the two countries reached $48 billion last year, while this year it increased to over $60 billion. Fifty-four percent of the exported goods are energy commodities.

Despite the impressive numbers, a closer look at the big picture suggests that China isn’t as dependent on Russian energy resources as one might imagine. According to Yazev, China’s annual oil consumption amounts to 360 million tons, while Russia provides just 16 million tons, or less than 10 percent. “The share of our oil is insignificant at the moment,” he said. “Soon, our oil exports will be increasing.”

The East Siberia-Pacific Ocean pipeline, which is currently being built, will be transporting about 30 million tons to China annually, bringing the total number of Russian oil shipped to China to over 45 million tons for an almost threefold increase.

The situation with natural gas seems even more encouraging for Russia’s gas export monopoly Gazprom.

“As of now, coal is the prime energy resource in China,” said Vladimir Matveev, senior research fellow at the Institute for Far Eastern Studies of the Russian Academy of Sciences. “But, due to the ecological concerns, the shift from coal to gas will be making the latter replace the former. Russia will be playing a key role as both a producer and an exporter.”

Presently, the natural gas from Central Asian countries, such as Kazakhstan and Turkmenistan, is being imported via Russia. “It would be more feasible for China to ship the gas directly from these countries, but building a direct pipeline would be so expensive that it would make such a project commercially unviable due to the small quantities of gas that can be imported this way. Russia will continue selling the Central Asian gas along with its own and ship it the same way as before.”

“We have a concept of gas exports to China,” said Yazev. According to it, the gas exports to this country will amount to 68 billion cubic meters by 2020. The total gas imported by that date is projected to reach anywhere between 80 and 160 billion cubic meters.

The lack of import diversification means less flexible prices, which makes for another concern for China. While the price is expected to grow to over $400 per 1000 cubic meters for European customers next year, China might have to pay $10-15 more due to the length of transportation routes to China.

The changes in the policy of Russia and Kazakhstan toward limiting foreign investors’ participation in oil and gas companies to only minority shareholders and the increasing stakes of the state in the industry could also turn out negative for China. “The governments will have more leverage in setting prices and these prices will be high,” commented Matveev.

Matveev offers a recipe for China to sustain high prices and stable oil and gas trade with Russia. “Instead of worrying about the high prices, the Chinese could come up with more convenient ways of paying their bills,” said Matveev. “For example, they could offer their assets in return for gas to let Russian companies enter the Chinese market. This deal would be good for both sides.”

Russia is also important as a reliable exporter beating out countries like Myanmar, which, despite the availability of gas resources, are unstable politically and, therefore, any partnership with them would be problematic. With all those factors heavily favoring Russia, China could be not so keen on giving in to the trends and relying too much on its western neighbor.

“As of today, China is already using alternative sources of natural gas in the Persian region and Africa,” said Matveev. “These people are cunning and, while the numbers might tell one story, the future of our cooperation with China in the energy sector is quite unclear.”

Both Russia and China are members of the Shanghai Cooperation Organization (SCO), which will possibly soon include an energy club – an organization within the organization that will set the regulations for the economic cooperation between the participating countries in the energy market.

“Unlike other regional organizations, such as the EU and Mercosur, the SCO unites the biggest energy resource producer and transit country in Russia and the world’s second largest energy consumer in China,” said Yazev. “The SCO Energy Club could be a pioneering project setting fair rules for energy trade in this region, with the prices being set based on fundamental economic principles between neighbors and partners in energy trade. We’ll have to set up an Asian gas network that would regulate shipments of gas from the Western part from countries like Iran, Saudi Arabia and Iraq to the Eastern part to the main consumers – China, Korea and Japan.”

“The establishment of a unified energy market is already underway,” added Yazev.
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