Post a Comment On: China Matters

According to Asia Times, in the jostling over the eastward movement of Russian crude oil “China beats Japan in Russian pipeline race”

Declarations of Chinese victory are perhaps premature.

After all, in January 2005, the headline read:

Russia orders oil pipeline to the pacific

Some background:

Russia originally considered two alternative eastern outlets for its crude oil surplus, China via an overland pipeline and Japan via pipeline and a Pacific Ocean terminal at Nakhodka.

The China pipeline would be cheaper, quicker, and fit well with the current disposition of Russia’s oil reserves. As such, it was championed by the Khodorkovsky-era Yukos as a “good for stockholders” transaction.

The Japan via Nakhodka option would require a much longer and more expensive pipeline. Its primary economic attraction was that it would in theory give Russia flexibility to export its oil to Japan, South Korea, and China via sea at the best free-market price, instead of locking Russia into a single-customer/preferential price deal with China.

Aside from that, Nakhodka is a big geopolitical boondoggle with dubious economics and suppliability. Since the numbers are big (maybe $18 billion for oilfield development and pipeline construction) and the reserves iffy, the Japanese government would step in and arrange the financing.

On the surface, this project looks like a throwback to the heyday of the 1960s and 70s, when the Japanese negotiated huge resource projects throughout Asia on a government-to-government basis, arranged preferential financing, and let Japanese contractors and trading companies enrich themselves by building the projects and marketing the output.

Viewed more closely, it looks more like a tactic I once heard described by a Japanese gentleman as “spitting on the cookies” i.e. getting involved in a project solely to deny a rival—in this case, China--the opportunity to participate. In order to tie up the project, extravagant promises would be made, subject to feasibility studies and imposition of-- possibly intentionally--onerous terms concerning consortium structure, government guarantees, and the price of the output from the project that might lead the project to come to naught a few years down the road.

Proceeding with the Nakhodka pipeline would require extensive feasibility studies to ascertain whether or not sufficient Siberian reserves existed to keep the pipeline filled; negotiation of Japanese participation in those fields; and volume and price guarantees for Japan once the pipeline was completed. Particularly, Japanese insistence on getting most or all of the oil according to some preferential price formula would remove the only attraction of the line and be a kiss of death for the project from the Russian point of view.

Transneft had vehemently opposed the Yukos China pipeline project in the past and voiced support for the Nakhodka pipeline. However, Transneft was mainly concerned with asserting national control over petroleum transportation and export—a sentiment that Putin heartily endorses. Now that Yukos is out of the way, Transneft might be re-examing the economic basis for the China line and finding it more feasible than the Nakhodka line.

Indeed, a report by John Daly of Jane’s Intelligence stated in 2003:

Russia's pipeline monopoly Transneft concluded that the [Nakhodka] project would be unprofitable. Transneft CEO Semyon Vainshtock said the company's feasibility study for a 2,361 mile (3,800 km) proposed pipeline "left no room for doubt."

Even so, I suspect that Putin is loath to abandon the Nakhodka pipeline. He would love the flexibility, selling power, and regional clout a pipeline to the Pacific would give Russia, if the Japanese would pay for it.

And only if the Japanese would pay for it, since the pipeline looks like economic suicide and makes sense only as a desperate act of geopolitical will by Japan (possibly with Washington’s encouragement).

The path for the first stage of the eastern pipeline has been swung to the north, to the inland terminal of Skovorodino, away from China, to preserve the feasibility of an extension to Nakhodka—an indication to me that Transneft is planning to keep its options open, and both China and Japan on the hook.

So the backgrounders Transneft gave to the Asia Times Moscow correspondent are probably just a case of admonitory cage-rattling, alerting Japan that Russia is not foreclosing its China option and Japan had better start making good on its engagements if they hope to obtain access to the 50 million tons per year of oil that is supposed to flow to Nakhodka—and keep it from going to China.