reflections

Russia Courts China as an Energy Market

5 MINS READApr 14, 2014 | 22:56 GMT
(Stratfor)

Russia is intent on clinching the long-awaited natural gas deal with China before Russian President Vladimir Putin travels to Beijing in May, Deputy Prime Minister Arkady Dvorkovich said April 14. Dvorkovich wrapped up a visit to China last week and made this statement while briefing a government meeting chaired by Prime Minister Dmitri Medvedev. Russia has been holding negotiations with China over energy for a while. But with Russia's position in the West under threat, Moscow's strategic interest in selling more energy to Asia has developed into a strategic necessity.

As one of the world's largest oil and natural gas producers, Russia considers energy one of its primary foundations. Proceeds from energy production make up a quarter of the country's gross domestic product and nearly half of government revenues. Russia also uses its vast energy connections to shape its foreign policies — particularly with Europe, which is Russia's largest block of customers. In the past, Russia has granted energy discounts to European countries with which it has favorable relations and punished souring relations with supply cutoffs and price hikes.

Moscow's politicization of its energy supplies has led many European customers in the past decade to attempt to diversify their energy suppliers, with varying degrees of success. For most Europeans, piped Russian natural gas, however politicized, still is preferable to expensive liquefied natural gas projects and dealing with political tumult from the Middle East. The Europeans' desire to decrease their dependence on Russian energy grew more urgent in recent months as tensions escalated between Russia and the West over Ukraine. Moreover, the Europeans have discussed increased trade sanctions on Russia, which could affect energy supplies.

What is a Geopolitical Diary? George Friedman explains.

Although Moscow knows that Europe has few options for alternative energy supplies in the short term, Russia cannot be assured that its position in Europe's energy landscape will remain the same in the long term. This means that Russia must either find other customers or face eventual financial and economic collapse. And it just so happens that one of the world's largest (and growing) energy consumers is on Russia's eastern flank.

Historically, Russia has sent little oil and natural gas eastward. China has largely relied on importing energy supplies from the Middle East and Africa via sea routes. The primary reason for the disconnect is that Russia's energy production is mostly in western Russia, and China's population centers are mostly in the country's east, leaving thousands of kilometers between the source and the consumer.

In the past decade, Moscow and Beijing have been reassessing their energy policies, as Russia wants to diversify its energy exports and China's energy consumption is growing. However, neither party has felt any urgency to make progress. China has already built extensive land routes to tap into Central Asia's vast oil and natural gas resources. Russia's oil exports to China have begun growing slowly, rising from 4 percent of Russian oil exports to nearly 20 percent in a decade.

However, Moscow and Beijing have not been able to come to an agreement on natural gas, which is more technically difficult to export. The proposed deal thus far is for Russia to export 38-68 billion cubic meters to China annually for the next 30 years. Russia's total natural gas exports are currently 152 billion cubic meters a year. Of the exports to China, 38 billion cubic meters would be exported via the not-yet-built Power of Siberia pipeline, which would stretch 2,800 kilometers (1,740 miles) from the Western Siberian fields to the Pacific Coast and down to China.

The main sticking point in the deal is the price. Russia reportedly has offered to export natural gas to China at $350 per thousand cubic meters, and China has reportedly countered with a price under $300 per thousand cubic meters. Russia's average price for Europe is $387 per thousand cubic meters, and China paid nearly double that amount for its liquefied natural gas imports this past February. In the past year, Russia has backed down from asking for $450 per thousand cubic meters.

Russia and China previously disagreed on other aspects of a natural gas deal, such as how to index the price in the long-term contract and export duties, but Moscow has given in to Beijing's demands during the past year in order to get the deal moving. In recent months, Moscow has also sweetened the pot by awarding China a stake in the Yamal liquefied natural gas project alongside Russia's Novatek and France's Total, which also gives China the preferred right to at least 20 percent of Yamal's liquefied natural gas exports. The problem is that Russia can only lower its price for natural gas going to Asia via Power of Siberia so much, as the pipeline will have some of the world's highest transit costs.

Previously, Russia and China could have dragged out this debate for another decade, but now, Moscow needs a deal as soon as possible. Russia knows that it will take another three years to even have the technical infrastructure in place to move large natural gas supplies to the east. As sentiments in the West increasingly harken back to the Cold War, Russia cannot be assured that Europe will not diversify its energy suppliers by that time.

China, too, has shown that it could be ready to strike a deal to address its growing energy needs. However, China has many options outside of Russia — albeit more expensive options — such as increased imports from Central Asia, growing domestic production and liquefied natural gas. These options give it leverage in the increasingly important negotiations with Russia.

This is why Putin is going to Beijing in May. The Russian leader's travel schedule has been slow in the past year, but this issue involves more than just energy exports or relations in Asia. It is a chance to secure a safety net for Russian energy and thus for Russia itself.  

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