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Russia’s March to the East

Vladimir Putin’s meeting in Shanghai with Xi Jinping, China’s president, was the culmination of a ten-year gas negotiation carried out between Russia and the Middle Kingdom. As recent history shows, Russia specialises in long negotiations. Conversations with the World Trade Organisation took nearly 17 years; talks with the OECD lasted ten; and the new gas contract with Beijing was just as long.

June 13, 2014 - Grzegorz Kaliszuk - Articles and Commentary

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Putin’s visit to China was also very well utilised from the PR point of view. The icing on the cake was the meeting of Vladimir Putin with members of the “Asian OSCE” – or as it is commonly known as the Conference for Cooperation and Confidence Building Measures in Asia. This is proof that the Russian president is seeking to strengthen ties with his Asian partners than European counterparts. The sanctions, warnings and threats of the European Union, NATO and the OSCE have no effect on the outcome of Russia’s Asian relations.

The value of the historic Russian-Chinese agreement can justify the length of the negotiations. It is estimated that during the next 30 years, as this is the tenure of the contract, Russia will supply China with gas worth 456 billion US dollars. Annual deliveries are expected to reach 38 billion cubic metres (30 billion less than declared by Gazprom last year). It is speculated that the price of 1,000 cubic metres contained in the contract fluctuates around $350 to $380. It is therefore at the European market level. Three years ago, China’s National Petroleum Corporation (CNPC) regarded the price of $250 per 1000 m3 as the fairest. The contract is therefore apparently at least 40 per cent higher than what CNPC had earlier stated. However, according to James Henderson, an expert from the Oxford Institute for Technology, the $360 price should be satisfactory for both sides.

It is true that the Russians were willing to reduce their price under the condition that China will grant a credit worth $40 billion for pipeline construction, supplying raw materials to China. The Chinese, however, rejected this proposal, learning their lesson through past experience with the Rosneft and Transneft corporations. In 2009, China lent these Russian firms $25 billion to build an oil pipeline to China. In practice, however, the money was invested in Russian banks and the companies earned on interest rates between the deposit rate and the Chinese loan rate – no pipeline was built.

This time, China submitted a counteroffer: a loan in exchange for a share in the Siberian deposits of its “blue fuel”. Moscow expressed no desire to develop that concept further. It is symptomatic, because we must remember that Gazprom exchanges the shares of German companies such as BASF and E.ON in return for a partial acquisition of the German gas transmission system.

Nevertheless, the contract with China is a reason for Moscow’s double satisfaction. The Russian budget, addicted to the hydrocarbons market, will gain a significant cash injection while the European partners embrace for even greater frustration that their sanctions have no effect. To Beijing, Putin took a record number of businessmen who have entered into hundreds of contracts, agreements and memoranda with Chinese companies. The President of the Russian Federation, during the two-day meeting in China, initialled 43 agreements. This is a very clear signal to the EU and the United States that Russian trade and foreign policy is largely becoming Sino-centric. Over time, the relationship between Moscow and Brussels and Washington will become increasingly looser in favour of Beijing; which means that the West should also reconsider the effectiveness of its foreign policy towards Russia.

In the current year, the trade turnover between China and Russia will likely reach $100 billion (last year it amounted to nearly $89 billion). For comparison, trade between Russia and the US was worth less than $28 billion in 2013, one-third of the Russian-Chinese trade. According to Russian Deputy Prime Minister Igor Shuvalov, the ambition of the Russian Federation is to redirect 50 per cent of foreign trade to the Asia-Pacific region by 2020. Even today, however, it seems quite an unrealistic goal. Trade with the Asia-Pacific region accounts for only around 25 per cent of foreign exchange for Russia. Thus, to achieve its goal, Russia would have to double its trade with the region in just six years.

Russia’s 2030 Energy Strategy, developed by the Russian government, assumes that Asia would receive up to 25 per cent of exported crude oil and 20 per cent of exported natural gas. According to the Kremlin, the assumption is that the gas sold to Asia will come from eastern Siberia, where production capacity is expected to increase to 130-150 billion cubic metres per year by 2020. At the same time, the production of oil from eastern Siberia is expected to rise 80 million tonnes per year.

But the historic agreement between Russia and China will only be “live” in 2018. In order for Beijing to receive Russian gas, there needs be a proper infrastructure, which will cost about $90 billion. Raw materials will flow to China via the pipeline pompously called “The Power of Siberia”. This pipeline connects deposits in east Siberia, in the same vicinity where the Vladivostok LNG terminal will be built which will further expand the export of liquefied gas to the Pacific countries. The length of the pipeline is 3,500 kilometres. The Eastern Siberia-Pacific Rating pipeline (also called ESPO) which transports 15 million tonnes of crude oil to China runs a similar course. Russia sells to Asia about 45 million tonnes of crude oil a year, which two-thirds are from eastern Siberia and a third from the Sakhalin deposits.

Signing the contract which includes the construction of a new pipeline is a fight against time. Russia fears two scenarios. First, the actual partial decoupling of Europe from Russian supplies; and second the strengthening of China in Central Asia as an administrator of gas transmission networks. The Central Asia Gas Pipeline (CAGP) system transports about 27 billion cubic metres of gas a year from Turkmenistan resources to China. The Chinese, like the Russians, use energy as an economic and political bogeyman. The CAGP has now expanded its network through the “D line”, running from Turkmenistan, Tajikistan and Kyrgyzstan (bypassing Kazakhstan on the way) to China. Beijing particularly wants to show the authorities in Astana its energy independence and economic sovereignty. However Russia is indirectly involved in this project as well, since Gazprom became the owner of the Kyrgyz gas operator Kirgizgaz.

Moscow’s attitude to independent power projects in Asia is not so permeated by ideology or a will of domination as it shows in Europe. The Nabucco Project failed some time ago and the fate of the Russian-Italian South Stream will now be decided at the European Commission. The construction of the “Power of Siberia” pipeline will certainly become a weapon in the hands of Moscow to fight for exclusive Asian transmission. Now the question is whether the Chinese will be as submissive as the Europeans?

Undoubtedly the contract between Gazprom and the CNPC is a historic step in the further construction of Russia as a power giant, but it also signifies the growing economic cooperation between Russia and Asia. This is important for Europe since a change of direction in Russia’s trade development weakens any role Berlin and Brussels can have on the growing importance of Beijing or even Tokyo.

Grzegorz Kaliszuk is an economic analyst with a PhD from the Warsaw School of Economics. He is an author of over 80 articles devoted to Russia, the CIS countries and energy issues and currently works for the Allianz Group.

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