Russia Looks East for New Energy Consumers

5 MINS READJan 23, 2013 | 11:30 GMT
Russia Looks East for New Energy Consumers
Russian President Vladimir Putin (R) on Dec. 25, 2012, watching the unveiling of the Eastern Siberia-Pacific Ocean oil pipeline's second leg

With its oil and natural gas exports to Europe declining, Russia is expanding its energy export networks to Asia. Russia has long relied on Europe as its primary customer, but over the past two years Moscow has worked to build out its energy infrastructure to the east as a way of diversifying its customer base. Today, it has enough capacity to divert about half of its oil exports to eastern markets. Because oil and natural gas are the chief sources of revenue for the Russian government, the Kremlin wants to ensure it has the flexibility to shift routes and destinations as demand in different regions rises or falls, somewhat insulating the country from volatility in energy markets.

Russia is among the top oil producers and exporters in the world. In 2012, the country's oil production reached a post-Soviet high of 10.4 million barrels per day, up from a low of 6.2 million bpd in the 1990s. Russia currently exports about 5.3 million bpd, mostly to Europe. However, demand for oil in Europe is in decline, falling overall by 1.4 million bpd (including 800,000 bpd from Russia) over the past five years. This has been due primarily to economic stagnation in Europe stemming from the financial crisis, as well as some shifts in importing oil from other regions and diversifying to other energy sources.

Lessening demand from Europe — which previously purchased about 80 percent of Russian oil exports — could cripple Russia if the trend continued. The Kremlin depends on income from oil and natural gas exports for about half of the government's revenue, by far its largest source. Of that energy revenue, oil exports make up about 80 percent, with natural gas accounting for 20 percent. Even before it faced the current problem of dwindling European demand, Russia dealt with threats to its oil revenue stemming from fluctuations in oil prices. For example, the Russian government's budget was dependent on the price of oil remaining above the Brent crude oil price of $119 a barrel for 2012. Since the price of oil is currently well below that, the Kremlin was forced to revise its future budgets to account for oil at $91 per barrel and include emergency contingency plans to draw from its financial reserves if the rate falls to $78 per barrel or lower.

  Falling prices combined with lessening demand would make an already difficult situation even more challenging for the Russian government. Consequently, the Kremlin has moved to compensate for weakening demand in Europe in recent years by opening up new markets, particularly in Asia. As recently as the mid-2000s, Asia purchased only about 4 percent of Russia's energy exports, but today it accounts for more than 17 percent. With Europe's future appetite for Russian energy uncertain while demand is rising in China and Japan and holding steady in South Korean, Russia has set a goal of sending about 30 percent of its energy exports east instead of west within the next two years.

New oil infrastructure stretching across Russia to Asia that was brought online between 2010 and 2012 has made this shift possible. Currently, Russia has four export methods for sending its oil and natural gas east. The country uses its established rail lines to export from Russian oil fields to either the Pacific coast or Chinese border. In 2007, the Sakhalin oil project came online, allowing Russia to pump additional crude directly into its Pacific export routes. However, these two methods have only allowed Russia to export about 250,000 to 500,000 barrels of oil per day to Asian markets.

In recent years, Russia has finished work on major projects started in the early 2000s that greatly expanded its export capability. The Eastern Siberia-Pacific Ocean pipeline runs from Russia's West Siberian oil basin, located in central Siberia, some 4,800 kilometers (about 3,000 miles) east to the Pacific port of Kozmino. The first stage was completed in 2010, and a major expansion was finished at the end of 2012. A large spur off the pipeline called the Russia-China crude pipeline runs 964 kilometers directly south to the Daqing oil refineries in northeastern China. Altogether, these projects increased Russia's export capacity to Asia from 500,000 bpd via rail and Sakhalin to 2.1 million bpd with the two pipelines.

With the ability to export higher amounts of crude to Asia, Russian supplies to the region have quadrupled over the past two years. In addition, Russia still has enough spare export capacity to double such supplies should demand in Asia call for it. The oil Russia is piping to the region comes primarily from the West Siberian oil basin — fields that have traditionally supplied Europe as well. Production at the basin has increased to ensure a sufficient supply in both directions, but since Europe's demand for Russian oil is declining, that excess oil is being diverted east — a sign of Russia's added flexibility with the new infrastructure.

Russia is now able to divert half of its exports to the east, but it is not clear that the Kremlin will do so. The European market is much more comfortable for Russia, since Moscow has had extensive dealings with European countries in the past and has been able to use its energy contracts as a political tool across the Continent. Moreover, the Asian markets have traditionally used different suppliers that they too are more comfortable with, specifically in the Middle East and Africa. Still, this supply chain cushion opens up new opportunities for Asian countries and Russia when they see their respective supply or demand moving in an unfavorable direction. For Moscow, this cushion is could be particularly valuable, since oil markets, which are critical for ensuring Russia's stability, continue to be volatile. The new infrastructure has added another measure that the Kremlin can use to buffer against dramatic changes in prices or demand.

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