Russian Eastern Oil Policy and ESPO Oil Pipeline

Dynamic growth of China as an economic power raises the question about Russo-Chinese relations, and especially Russian energy policy towards China. This topic is up-to-date especially because of recent disputes about transit tariffs on the Chinese side, which appear to pay the prices decided exclusively by China itself, regardless of previously signed documents. Apparently, the main question is whether or not it is profitable for Russia to build energy cooperation with China under the current conditions?

According to the Russian Energy Strategy, approved by the government in 2009, until 2030 Russia will raise its share of eastern oil export from the contemporary 6 % to 20 – 25 % over the next 20 years. But a lot of questions about eastern oil policy haven’t been answered. Russian political elites seek to strengthen Russian presence in Eastern energy markets and, at the same time, to limit its dependence on European markets (about 90 % of Russian oil export is currently going to Europe). The key project in this area is the oil pipeline Eastern Siberia – Pacific Ocean (ESPO) and developing accompanying oil fields, especially in the Irkutsk region. Exploitation of these fields is also vital because of the expected extraction decline in the Western Siberia and Volga region oil fields. Diversification of energy supplies sounds quite logical and is vital for the Energy security of every country, but are the costs for this kind of diversification acceptable for Russian Economic (and, of course, Political) Security? Russian state leadership is also interested in Chinese investment in the Far East and Eastern Siberia for the purpose of energy sector development. Russia, with its huge natural resources, and China with a dynamic economy together with growing demand for energy supplies, seem to be natural partners for energy cooperation. The building of the ESPO oil pipeline was possible mainly due to a Chinese loan-for-oil of 25 billion of dollars in exchange for guaranteed supplies of 15 million tons of oil annually over the next 20 years and also (probably) for lower oil prices.

Doubts on Profitability

Prices of Russian oil to China are estimated at about 60 dollars per barrel, which is half that of global prices. Except for that the Chinese side tries to negotiate lower transit tariffs. Thus, in the first half of last year, the Chinese side paid the price, considering it reasonable, and owed Russia tens of millions of dollars. According to some sources, “China doesn’t respect legal documents and practically ignores international legislation. In addition to that, Beijing sought to lower the already very low oil prices.” ESPO has an ambitious goal to supply 80 million tons of oil until 2030, but many experts oppose it as an unreal requirement. Some of them are convinced that ESPO will not be fully loaded and oil transport capacity will be moving from 50 to 80 million tons: The oil pipeline will be profitable only if it transports more than 50 million tons of oil. If not, the more profitable option is railway transport (Director of Russian Railways Vladimir Yakunin lobbied for this method of transport several years ago).

The main risk of the Chinese oil pipeline branch from Skovorodino to Daqing is the orientation to only one consumer, which has, in this case, a very strong negotiating position. Undoubtedly, it was confirmed by Chinese efforts to revise transit tariffs, considered as unprofitable to Beijing. A majority of experts believe the current transit of oil to China is unprofitable, especially for the Russian state company Transneft. To be more specific, a transit tariff is fixed to around 57 dollars per ton, but presently transit costs almost 140 dollars for the same amount of oil. From an economic point of view, transit is subsidized by the Russian state, because Transneft has to transport oil through almost the whole of Siberia from the main oil field Vancor (in Krasnoyarsk region) to ESPO, which is very expensive. According to some analysts, Transneft loses about one billion dollars annually on transport through ESPO. Other expert opinions try to confirm that the project is clearly loss-making for Transneft, but for the Russian economy as a whole, it can bring profits because of the new energy infrastructure, for example the special port in Kozmino, the sole Russian port accessible for the heaviest tankers. Kozmino offers the opportunity to transport Russian oil anywhere to the world in relatively huge amounts. There are also concerns about small oil fields in Eastern Siberia and their extraction profitability. Extraction will be profitable if the prices reach at least 80-90 dollars per barrel. Overall, we can say that the ESPO project is now unprofitable and costs the state budget a huge amount of money. In this stage, the political aspects of diversification from European markets and geopolitics prevail, especially when the oil transport and extraction are unprofitable. On the other hand, the rentability of oil diversification in the future is not excluded, if the oil prices are high and energy infrastructure in the entire region is fully developed. Currently, there are a lot of undeveloped oil fields, which expect extraction to start no earlier than 2016.

Is there enough Oil for China?

Many experts are worried that in Eastern Siberia there is not enough oil to fill the ESPO and say that if there is a decline in the extraction of traditional oil fields and a new market is opened, it means nothing less than abandoning the old markets and their substitution for the new ones, which are far from being as profitable as the old markets. According to them, Russia should absolutely export oil to China, but in other, more advantageous, conditions. Exploitation of Eastern Siberian oil fields are now in their first stages and the level of their extraction last year was only several million tons, quite a little for ESPO, with a maximum future capacity of 80 million tons. Notwithstanding the high potential of natural resources in Eastern Siberia, they are almost untouched because of geographic isolation and a harsh climate. Weak infrastructure in this region complicates transport of both necessary equipment and production export. Various optimist prognoses show that Eastern Siberian oil fields can produce approximately 45 million tons until 2020, but new taxation on these oil fields can slow down their exploitation. Current taxation system makes these oil fields unprofitable. The National Energy Security Fund proclaims that the Russian eastern energy strategy concentrates on the doubtful presumption of steady oil exploration growth, which should secure preservation of European markets and “conquest” of the new Eastern ones. Extraction in Eastern Siberia proceeds very slowly and therefore, the whole system of Energy Eastern policy focuses on transferring oil from Western Siberia (Vancor oil field) to China. The economic sense of these steps is also not very clear.

Russian Eastern Strategy as a whole is based on the rational presumption that the sooner Russian energy supplies will be delivered to Chinese market and strengthen its position, the more money and political potential Russia can earn from these exports. However, from point of view of many experts, this policy should be realized under better conditions, in order to be more advantageous for Moscow.