Russia took a firm step eastward last month completing a timely, though long awaited natural gas deal with China. The 30-year agreement – estimated at $400 billion – is a mild victory for both parties and concludes nearly a decade-long pricing standoff. Per the terms of the agreement, Russia will supply China with up to 38 billion cubic meters (bcm) of natural gas annually beginning in 2018. The planned $55 billion Power of Siberia pipeline has a maximum annual capacity of 61 bcm per year, or nearly half the total of Russian gas exports to Europe. Aside from the economic impact, there’s an obvious geopolitical component that demands a closer look. Posturing, both political and commercial, is only set to increase as the race to secure a spot in the coveted and rapidly growing Asian LNG market heats up.
Russia’s courtship of China is not a recent development and has in fact been on the Kremlin’s to-do list for over a decade. Until recently, the relationship, or lack thereof, had been a nagging reminder of Russia’s minimal influence in the region. Former Yukos chair turned political prisoner, Mikhail Khodorkovsky, came very close to concluding his own energy deal with China in the early 2000’s only to be stopped short by President Vladimir Putin. Subsequent attempts by the Kremlin stalled, largely because of their insistence on European-level gas pricing, or around $430 per thousand cubic meters (tcm). China, with no shortage of suitors, could afford to wait. With Central Asian gas going for $350 per tcm and the European price recently falling to $380 per tcm Russia was forced to act, likely settling somewhere between the two.
The exact sum is not clear, but Russia expects to net approximately $13 billion per year in added income. The eyes-only document also includes such Gazprom staples as oil-indexation and take-or-pay clauses, minimizing Russia’s long-term risk. Beyond that, the contract is not particularly economically stimulating for Russia. As previously noted, the new deal still represents only a fraction of Russia and Gazprom’s business in Europe and an even smaller fraction of the country’s $515 billion annual revenues from oil and gas exports combined. Furthermore, the Kovykta and Chayanda fields are far from operational and there are reasonable doubts that Russia will meet its self-imposed deadline of late 2017.
Still, the coupling is seemingly an ideal match. On one side, ham-handed and hydrocarbon-rich Russia relies heavily on its energy exports to prop up its static economy. China, on the other hand, has soared to new heights since the turn of the century with a robust economy and swiftly spreading sphere of influence. Along the way, in 2010, China surpassed the US as the world’s largest energy consumer. Consumption has continued to grow, especially natural gas, which has benefitted from China’s push to reduce its coal-related pollution. Moreover, the country has placed a premium on diversifying its supply portfolio and is not afraid to cash checks in developing countries. In fact, over the last five years, China spent approximately $23 billion per annum on acquisitions and investment across the globe. The risk in post-sanctions Russia is no different and China has already pledged a $25 billion loan to kick-start production in the Russian Far East.
Does the arrangement foreshadow a greater geopolitical shift? Probably not. The contract certainly comes at an interesting time as both Russia and China test the patience of Western leaders with their actions in Crimea and the South China Sea respectively. However, coincidence aside, the deal is more material, rather than political in nature. Distrust is high between the two parties and both are openly competing for influence in the Central Asian arena. Currently, China maintains the higher footing as the Russian-led Eurasian Economic Union appears set to fall flat. Still, forced as it was, Russia’s signing was a positive step towards their long-term energy goals. Next on the docket is Japan – who, while warming up to increased trade, will have to face its G7 partners.
The strategy changes little for the US who will still face heavy competition from Australia and Qatar to name a few. Opportunities still abound in China – who may have to wait until 2030 for Russia to hit the agreed upon benchmark levels. Prices are more appealing in the Asian-Pacific, but Europe, seeking a reprieve from Russian pipelines, presents a more interesting case. Is there a premium to be paid for such relief? If so, is it enough to pry volumes from more lucrative markets in Asia? In any case, the picture still remains unclear stateside; recent policy changes by the US energy Department and Federal Energy Regulatory Commission have sparked concern among prospective exporters.