The Energy Island: Israel Deals with Its Natural Gas Discoveries
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POLICY PAPER Number 35 February 2015 The Energy Island: Israel Deals with its Natural Gas Discoveries NATAN SACHS TIM BOERSMA Acknowledgements This report, and the larger project of which it is a We are also very grateful to Ibraheem Egbaria, part, benefited greatly from the insight and assis- Ilan Suliman and Firash Qawasmi, who helped tance of a large number of people. facilitate our visit to the (East) Jerusalem District Electricity Company; to Ohad Reifen who helped For generosity with their time and insights we are facilitate interviews in Israel; and to Allison Good grateful to: Yossi Abu, CEO Delek Drilling; Con- for her helpful feedback on a draft of this paper. stantine Blyuz, Deputy Director for Economic & Strategic Issues, Israeli Ministry of National Infra- We would also like to thank our Brookings col- structures, Energy and Water Resources; Yael Co- leagues: Martin Indyk and Ted Piccone for support- hen Paran, CEO, Israel Energy Forum; Ariel Ezrahi, ing our work through the Foreign Policy Program’s Infrastructure (Energy) Adviser, Office of the Quar- Director’s Strategic Initiative Fund; Charles Ebin- tet Representative, Mr. Tony Blair; Michalis Firillas, ger, for his sage feedback on drafts and, along with Deputy Head of Mission, Consul, Embassy of the Tamara Wittes, for guiding us and providing won- Republic of Cyprus in Israel; Nurit Gal, Director, derful places within Brookings in which to work; Regulation and Electricity Division, Public Utilities Kemal Kirisci and Dan Arbell for their assistance, Authority of Israel; Dr. Gabi Golan, Deputy Gov- collaboration and multiple discussions throughout ernment Secretary, Office of the Prime Minister of the duration of this project; to Khaled Elgindy for the State of Israel; Mr. Hani Jhosheh, the Jerusalem help in arranging meetings in the West Bank; and District Electricity Company; Prof. Eugene Kandel, to Rangano Makamure for continued support with Head of the National Economic Council, Office of finances. the Prime Minister of the State of Israel; Ambassa- dor Michael Lotem, Special Envoy for Energy Af- Jennifer Potvin, Colleen Lowry, Lauren Mellinger fairs, Ministry of Foreign Affairs of the State of Is- and Heather Greenley provided valuable and rael; Member of Knesset Erel Margalit; Noam Segal, greatly appreciated support in arranging the re- Head of Policy, Israel Energy Forum; Prof. Brenda search in Israel and the West Bank and in keeping Shaffer, University of Haifa and Georgetown Uni- us on track. versity; Member of Knesset Stav Shaffir, Prof. Eytan Sheshinski, Hebrew University, Chair, Sheshinski Finally, we are again grateful to Heather Greenley Committee; Dana Tabachnik, Director of Econo- and Lauren Mellinger for their excellent research my & Environment Department, Adam Teva Vadin assistance and valuable substantive contributions (Israel Union for Environmental Defense); Gide- to the written products; they deserve much credit on Tadmor, CEO Avner Oil and Chairman, Delek for the better parts of these papers. Drilling; Shaul Tzemach, former Director General of the Israeli Ministry of National Infrastructures, Despite the generosity and contribution of all these Energy and Water Resources, Chair, Tzemach people, any errors remain solely our own. Committee; and Harry-Zachary Tzimitras, Direc- tor, PRIO Cyprus Centre. Brookings recognizes that the value it provides to any supporter is in its abso- lute commitment to quality, independence, and impact. Activities supported by its donors reflect this commitment, and the analysis and recommenda- tions of the Institution’s scholars are not determined by any donation. THE ENERGY ISLAND: ISRAEL DEALS WITH ITS NATURAL GAS DISCOVERIES FOREIGN POLICY AT BROOKINGS i Table of Contents Introduction . 1 Background . 2 Ownership and Revenue: “The People’s Gas” vs . “Retroactive Taxation” . 8 Energy Security and Export . 11 Monopoly and Pricing . 14 Maritime Security and Environmental Concerns . 17 Conclusion: Regional Cooperation and Israeli Interests . 19 Authors . 21 THE ENERGY ISLAND: ISRAEL DEALS WITH ITS NATURAL GAS DISCOVERIES FOREIGN POLICY AT BROOKINGS ii I NTRODUCTION n recent years, major natural gas fields were dealing with the large discoveries of natural gas in found in Israel’s exclusive economic zone (EEZ). its EEZ. In each stage of this process, Israeli policy- IThese discoveries have the potential to transform makers have faced a challenge of balancing energy the Israeli energy outlook, enabling the country to security (both in terms of maintaining adequate diversify its energy sources. Moreover, the discov- national reserves and in terms of the accessibility ered volumes of natural gas could theoretically of these reserves), public and private interests in enable regional energy cooperation in the Eastern taxation, pricing, environmental well-being, po- Mediterranean. Yet, it is still uncertain whether tential export, and the long-term reputational ef- these gas finds can effectively benefit Israeli and fects of changes to the business environment for regional stakeholders. Since the initial discovery of foreign investment. In addition, a country like Is- the gas fields, Israel has revised its royalty and en- rael must prepare for emergency scenarios, includ- ergy export policies and continues to debate regu- ing crises where energy supplies could be cut off. lation of the energy market. The length and tenor of this process has been detrimental to investment. The process tells a story of a country overwhelmed, The substance of these debates, however, reflects at times, by the complexity and relative magnitude valid concerns, and suggests a need for robust reg- of the policy challenges it faced. The outcome has ulation by Israeli authorities. been a healthy debate over difficult policy dilem- mas, often carried out in an unhealthy way. One major challenge confronting Israeli policymak- ers is that the country’s energy sector is not a perfect In this paper, after outlining the political context of market, subject to normal market forces. Natural gas the energy finds, we discuss five related challeng- production is dominated by one consortium, and es that Israeli policymakers confronted in dealing electricity generation is dominated by one mostly with the new energy discoveries. First, we turn to state-owned company. Market domination, on both the overhaul of the tax environment enacted by the supply and demand sides, can be dealt with, so the Israeli authorities after some of the discover- long as there is effective and strong regulation. Cur- ies were made. Second, we discuss the debate in rently, however, the consortium that discovered the Israel over limits to the export of natural gas and offshore gas fields and the regulatory authorities con- the considerations of energy security in this de- tinue to negotiate over how best to design safeguards bate. Third, we discuss the issue of monopoly and against market power abuse. In our view, an effective monopolistic pricing that plagues the Israeli mar- monopoly requires robust regulation, even while in- ket today in a yet-unresolved debate. Fourth, we vestors require certainty and regulatory predictabil- turn to security concerns and, fifth, the environ- ity, assuring that they can earn a reasonable rate of mental considerations that still require concerted return for a sustained period of time. attention from policymakers. We then conclude by discussing the regional context of the process in This paper will discuss the policy dilemmas Israe- which Israel is dealing with its energy finds. li policymakers faced—and continue to face—in THE ENERGY ISLAND: ISRAEL DEALS WITH ITS NATURAL GAS DISCOVERIES FOREIGN POLICY AT BROOKINGS 1 B ACKGROUND A MOMENT OF CRISIS A second development seemed to offer the per- fect solution. Beginning in 1999, a partnership of In the summer of 2012, three developments con- private companies, notably Houston-based Noble verged to force Israel to overhaul its long-term Energy and members of the Israeli Delek Group, energy strategy. The first development came from found significant deposits of natural gas in Israeli Egypt, to Israel’s south, where repeated attacks on economic waters with the initial discovery of the a pipeline in the Sinai halted the supply of gas to Is- Noa and then Mari gas fields in 1999 and 2000 re- rael and Jordan.1 The future resumption of supply spectively, the latter with some 1,100 billion cubic seemed unlikely; after the collapse of the regime of feet (bcf) of natural gas. More importantly, in 2009 Hosni Mubarak the previous year, and faced with significant gas reserves were found in the Tamar an increasing gas shortage in the Egyptian domes- field, with proven reserves of at least 11 trillion cu- tic market, the deal to provide gas to Israel had bic feet (tcf), enough to sustain the Israeli domes- 3 become a focal point of popular criticism against tic market for decades. The following year, the Le- the old regime.2 The deal, critics claimed, was a viathan (Hebrew for “whale”) field, with perhaps corrupt pact to sell the country’s strategic energy twice as much gas as Tamar, was discovered by the reserves cheaply to Israel. same partnership farther offshore. Thus, in the summer of 2012, Israel faced an im- Israel’s lack of energy security has long troubled the mediate energy shortage. Israeli energy consump- country’s strategic planners. With very little domestic tion peaks during the hot summer months and the production, Israel has always been dependent on en- Egyptian gas supplies failed to make it to the mar- ergy imports. In 2012, only 13.4 percent of the Israeli ket. The Israeli government was forced to scramble energy balance (24,277 thousand tons of oils equiva- to stave off a crisis and the potential of having to lent ktoe) was domestically produced, while imports severely overpay for substitute fuels. The govern- included primarily crude oil (49.3 percent of the total 4 ment officials in charge also faced a daunting spec- energy balance), and coal (35.4 percent). An “ener- ter of repeated energy shortages in the future, with gy island” with no diplomatic relations with any of no prospect of a return of Egyptian gas.